NEW$ TO U(SE)

Strewth it’s hot. Australia is disproportionately affected by the El Niño phenomenon. So when its weather forecasters predict a growing probability that El Niño will return this year, commodity traders sit up in their chairs. El Niño, a warming of the Pacific ocean in the tropics, has multiple effects. It has even been suggested that the calm waters it brings to the Pacific helped Ferdinand Magellan circumnavigate the globe in 1520. More usually, it causes drought in south east Asia and Australia – which can ravage harvests. It also lowers the incidence of hurricanes in the Gulf of Mexico.

This has two counterveiling effects on commodity markets. Fewer hurricanes mean fewer oil plant shutdowns in the Gulf – which is helpful for supplies and prices. But droughts can boost the price of soft commodities such as sugar, wheat and corn. Indeed, there is a rough correlation between past agricultural price spikes and recent El Niño years in 2006-7, 2002-3 and 1992-3. A particularly large price effect came during the strong El Niño year in 1997-8.

The policy implications are complex, but potentially large. Droughts have already devastated Argentina’s wheat crop, possibly turning the world’s fourth largest exporter into an importer this year. US plantings have risen, but farmers still need good weather to deliver their harvests. Potential food riots are again a worry in parts of the emerging world.

Another concern is a spurt in inflation. Food, for example, accounts for a sixth of the US consumer price index. Generally, investors are already worried about future inflation, and central banks increasingly talk about formulating exit strategies from low interest rate and money-printing policies. Although deflationary forces abound, a food-induced spike in inflation, even if only temporary, could prompt a premature tightening. Global economic recovery may yet be blown off course by a weather phenomenon that Peruvian fishermen first named in the 19th century after the Christ child.

Full FT article