We should celebrate the end of the commodity supercycle

The daily news about falling oil prices is the beginning of a major shift in the global economy: the end of the “commodity supercycle”, the idea that the rise of emerging markets led by China would continue to drive up prices for oil and other commodities, from copper to corn. Its end spells trouble for the many companies and countries, such as Brazil and Russia, that have prospered in the past decade from the sale of raw materials to China. It also spells relief for commodity importing countries, from the US to Turkey.

The mania for oil bore striking similarities to the dotcom mania of the late 1990s. At the height of the dotcom bubble, tech stocks comprised 25 per cent of global markets. After the bust, commodity stocks – energy and materials – rose to replace tech stocks and, by the end of the last decade, accounted for 25 per cent of global markets too. The next shift comes none too soon.

Analysts attempting to justify irrational prices promoted both the dotcom and oil manias. Dotcom gurus explained astronomical prices for companies with no profits as the spawn of a digitally networked economy in which prices “want to be free” and profits would materialise somehow. The oil bulls build their forecasts on the assumption that the mass, rapid rise of the big emerging markets will continue for another decade or two. But their boom was unprecedented – almost freakishly unusual – and is now breaking up, with Brazil, Russia, India and China all slowing markedly.

Over the past 200 years, real commodity prices have declined along a predictable path: one decade up, two decades down. We have just finished one decade up. The path of oil (and copper) is an exception, but real prices have stayed broadly flat, with no evidence of supercycles. It never made much sense to predict a supercycle based on demand from factories in China – because rising oil prices will ultimately slow factories everywhere. In general, when prices reach the point that spending on oil equals 6 per cent of gross domestic product, demand falls and growth starts to stall; the world economy hit that point just before the recent fall in commodity prices.

The commodity mania spawned a new industry of investment funds that allow even lay people to trade in commodities. The total invested in commodity funds has more than doubled over the past five years to more than $400bn in 2011. The daily volume of trades in energy futures is now a staggering 25 times higher than daily global demand for energy. Speculators rule the markets and many are suffering as prices fall. Their loss is a gain for consumers around the world. The commodity bubble has had a larger impact than the dotcom boom. While rising stock prices generally boost the economy, high prices for staples such as oil impose costs on businesses and consumers, and act as a drag on the economy. If anything, the impact is understated: 10 of the past 11 US recessions have been preceded by a significant rise in the price of oil. The price spike acts like a big tax, and the coming slide will feel like a big tax cut.

Commodity bubbles are the worst kind, because when they pop, capital is simply destroyed and society is left with no more gold, diamonds, or fine wines than when it started. At least the tech bubble helped wire the world, creating new internet tools and companies that have grown in value since. The commodity mania put fortunes in unproductive hands. The dotcom billionaires were truly creative people, many of whom are still advancing the tech revolution. Today’s billionaires make money by digging stuff out of the ground. In 2001, the world had 29 billionaires in the energy industry, 75 in tech; by 2011, the numbers had reversed, with 36 in tech and 91 in energy, mostly in oil. These tycoons contribute only in so far as they inspire competitors to devise alternatives to oil.

A sharp decline in commodity prices boosts western economies that spend heavily on importing raw materials, and frees capital to flow to more productive industries. It would not be surprising if US technology again becomes the mania of the next decade – mirroring the 19th century, when the US had two railroad booms in three decades. The end of the oil bubble could set up a tech comeback.

The writer is head of emerging markets at Morgan Stanley Investment Management and author of ‘Breakout Nations’