DP481 | Market Solutions to the Problem of Stabilising Commodity Earnings

Publication Date

01/11/1990

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Abstract

This paper examines and compares the effectiveness of hedging and buffer-stock strategies for stabilizing the revenues of individual producers who face different supply conditions in a market with uncertainty about prices and output. The results are obtained in a model-free framework, with arbitrary probability distributions and potentially inefficient markets. This approach avoids any dependence on particular parameter estimates, specific distributional assumptions, or restrictive assumptions about the market structure and information patterns, The analysis examines how far storage and transaction costs limit our ability to stabilize commodity earnings, to what extent the stabilization strategy followed by one producer would conflict with the strategies chosen by other producers in the same market, and whether those conflicts could destabilize the revenues of some producers. The results are illustrated with data from five primary commodity markets.