Thursday, March 29, 2007

Silly Notions and Real Markets

The byeline is “Hard Hat Investor" writing a piece called: ’“Ethanol Hangover? The USDA's Planting Report Should Confirm” in the Blog: Seeking Alpha: Energy Stocks, 29 March, presumably to investors choosing to buy, hold, sell their stocks in Ethanol.

By the time you read this article, the whole ethanol/corn/soybeans landscape may have changed dramatically. But heading into the USDA’s March 30 prospective planting report, the whole ethanol thing is just too close to call. It all comes down to Adam Smith's invisible hand.

The truth with corn – and this is what makes agriculture commodities different from others – is that we are a long, long way from running out of arable land. If Smith was right, we should expect farmers to bring new supply into the market in droves, hoping to cash in on the almost two dollar-a-bushel price increase we’ve seen on corn over the past two years.

This is why investing in softs can be such risky business. Unlike, say, gold, new supply in agriculture can be brought online in a comparative blink of an eye. All it takes is a handful of farmers plowing new land, or switching from soybeans to golden maize. How quickly that supply comes on line, and whether it overshoots the mark, are the questions
.”

Comment
It has nothing to do with Smith’s invisible hand. It’s how markets work, as he shows clearly in Books I and II of Wealth of Nations.

Some farmers plough some extra land, others plough the same as last time, and the rest cut back on what they did last time. Necessarily the effects on output are lagged by the growing season. Before that experts calculate as best they can how much has been planted, how much is expected to be harvested, weather details, and anticipated prices on the basis of this information. Final prices shift upwards or downwards depending on actual quantities produced.

Which invisible body parts have a role in this? What do they do? How do they know in advance to switch farmers from plowing to non-plowing? The metaphorical body parts don’t, nor do the real brains of humans (they're guessing according to hoped for returns).

Aligning all this with Adam Smith, who referred to ‘an invisible hand’ once and in reference to something else in Book IV is one of the lesser atrocities committed by Chicago economists in the last century on his legacy. It also is a pretty silly notion too.

[Read Hard Hat at: http://energy.seekingalpha.com/article/31047]

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