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Economic Role of Storage for Different Types of Products Storage Cost Components & Returns to Storage Inventory and Price Patterns for Periodically Produced.

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Presentation on theme: "Economic Role of Storage for Different Types of Products Storage Cost Components & Returns to Storage Inventory and Price Patterns for Periodically Produced."— Presentation transcript:

1 Economic Role of Storage for Different Types of Products Storage Cost Components & Returns to Storage Inventory and Price Patterns for Periodically Produced Storable Commodities Two Period Storage Models - Graphical Framework Theory of the price of storage Chap 13 Storage Decisions & Temporal Relationships

2 Economic Role of Storage Physical facilitating, value adding activity Future utility > Present utility Reduced price fluctuations Links markets through time like transportation links markets over space Of interest to economists anticipated changes in prices affects storage decisions how storage decisions affect prices in the future

3 Types of commodities 2 - Periodically produced OR Continuously produced => necessity for storage Perishable? Frequency of production 1 - Feasibility of storage – cost of storage grains/oilseeds, livestock, fruit & vegetables Periodic Storable Commodities Role of markets – price signals

4 Returns to Storage Decision to store Expected return to storage Costs (relatively certain) Future Prices (forecast) Financial (interest, opportunity cost of capital) Labour, other variable costs (fumigants) Changes in quantity & quality Handling losses Deterioration - humidity, temperature, insects pests Some goods improve with age Expected Future Prices (uncertain) (P – Costs) > 0 to encourage storage Price risk => incentive to use forward contracts Cantango - necessary condition

5 Inter-harvest Price & Storage Patterns Periodic – Storable Commodities Expectations: Prices Stocks Reality may be different No guarantee of positive return to storage Lowest at harvest Rising over time, reflecting cost of storage Falling again at the next harvest Highest at harvest and declining over time Rising again at the next harvest Unexpected changes in demand & information about expected production

6 Expected Price and Stock Holding Behaviour. Time Harvests Stocks Prices

7 CBOT Corn Prices - ( ) Relative to September Low Source: CME Group; 2009 Moore Research Report

8 Two Period Storage Model Prices & storage adjust to determine two period equilibrium Differences from interregional trade Product movement occurs in one direction Uncertainty about future prices based on expected demand and supply in next period Period 1: Decisions regarding current consumption and storage Period 2: Supply - based on storage decisions in period 1 Demand – based on forecast

9 Graphical Analysis of Storage Decisions Four Models 1 - Harvest and postharvest periods 2 - Two postharvest periods (same as 1) 3 - Preharvest and harvest periods (same as 1) 4 - Continuous production Storage Costs - same role as transport costs

10 1 - Two Period Model: Harvest & Postharvest + storage costs Harvest Period – Period 1 Post Harvest – Period 2 Quantity S1S1 D1D1 Price D2D2 ES 1 ED 2 Storage Market

11 Pre-harvest Period & Harvest Period Model Pre-harvest PeriodNew Crop Harvest PeriodStorage Market

12 Pre-harvest Period & Harvest Period Model Current Price > Future Price Pre-harvest PeriodNew Crop Harvest PeriodStorage Market

13 4 - Continuous Harvest Model: Two Periods: With Storage Cost Period 1Period 2 Storage Market Excess Supply Excess Demand Demand Supply Anticipated Demand Supply

14 Price of Storage Question: What determines the inter-temporal relationship between prices at two future locations in time? In April, what determines the futures price spread between March and Sept? Holbrook Working - AER, Current S/D conditions determine the spread NOT expectations for future S/D Changes in expectations: affect both prices in the same direction & proportion

15 Price of Storage September - March futures price spread = price of storage Economic role: Price = economic incentive to store OR sell now Index of the returns to storage Futures market -facilitating function economic distribution of a commodity over time Question: What determines the price of storage?

16 Theory => Price spread = cost of storage services Observation => Spread = f(size of crop in relation to storage capacity) Question: What determines the price of storage? Very large crop- spread (price of storage) > cost of storage Small crop- spread (price of storage) < cost of storage Conclusion: spread = necessary return to storage Problem: Storage can be substantial when the spread is negative September > March How do you explain that ? Price of storage = f(opportunities to store other commodities) Short Run - most costs are fixed

17 Supply of Storage Curve Price of Storage Current Quantity of Storage Supplied 0

18 Negative price of storage Large suppliers of storage - also processors/merchandisers Storage cost is joint to storage and processing businesses Grain stocks are necessary to the processing business convenience yield (CY) Hold stocks when CY > (Mar - Sept) CV can be large following a short crop


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