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what influences commodity prices? a practical overview

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Wednesday, June 11, 2025

What Influences Commodity Prices? A Practical Overview

By Century Financial in 'Blog'

Introduction

Commodities affect everything from food and energy prices to the economic health of entire nations. Falling wheat production could affect the supply and price of food, and rising oil prices could affect the cost of transport globally.

What Are Commodities?

Commodities are raw materials or primary agricultural products that can be bought and sold, such as crude oil, gold, wheat, and natural gas. They are broadly categorized into two types:

Hard commodities

Natural resources like metals (gold, silver, copper) and energy products (crude oil, natural gas, coal).

Soft commodities

Agricultural products like wheat, coffee, cotton, and livestock.

These essential goods are traded on global markets, and their prices fluctuate based on several economic and geopolitical factors.

Key Drivers of Commodity Prices

Various elements contribute to the volatility of commodity prices. Understanding these factors is vital for traders and investors looking to capitalize on market movements. Here are the primary factors affecting commodity prices:

1. Supply and Demand

At the most basic level, commodity prices are set by supply and demand balance. Prices normally rise when supply is restricted, or demand rises. A poor harvest, for example, may reduce the supply of grain or soybeans, while a rising appetite for electric vehicles increases the demand for metals such as cobalt and lithium.

Example: In 2024, Brazil experienced a severe drought that significantly reduced coffee production. As a result, the price of Arabica coffee surged to its highest level in nearly 50 years, impacting global coffee supply chains and increasing costs for consumers worldwide.

Impact: Reduced supply led to higher prices, forcing coffee retailers to adjust their pricing and consumers to pay more for their daily cup of coffee.

2. Geopolitical Events

Supply chains for commodities are frequently disrupted by events like trade disputes, wars, and sanctions. commodity markets are volatile due to production based out of politically sensitive regions. For instance, restrictions imposed on major producers or turmoil in the Middle East frequently affect oil prices.

Example: The Russia-Ukraine war in 2022 disrupted wheat exports from both countries, which together accounted for nearly 26% of global wheat exports. Following Russia's invasion of Ukraine on Feb. 24, the price of May wheat on the Chicago Board of Trade (CBOT) jumped 54% in just nine trading days.

Impact: Countries reliant on wheat imports faced higher costs, leading to increased food prices and economic strain in developing nations.

3. Inflation and Interest Rates

Investors frequently use commodities as a store of value during inflationary times. The demand for commodities like gold and oil rises as a result. However, borrowing becomes more costly when central banks raise interest rates to combat inflation, while interest rate hikes can strengthen currencies and lower commodity prices.

Example: In the first quarter of 2023, U.S. inflation reached 5%, Fed raised interest rates by 25bps setting the target range to 4.75%–5.00%. This led to reduced borrowing and lower demand for industrial commodities like copper.

Impact: Commodity prices for metals fell temporarily, affecting mining companies' profitability while reducing costs for manufacturers.

4. Currency Fluctuations

The price of commodities is usually expressed in US dollars. These commodities become more costly in other currencies when the dollar appreciates, which may lower demand.

Example: In 2024, the Indian rupee weakened against the US dollar due to domestic inflation and global uncertainty. Since agricultural commodities like wheat and rice are priced in dollars, Indian exports became cheaper and more competitive. Demand surged, especially from Africa and the Middle East, boosting export volumes and benefiting farmers. However, this also drove up local prices, straining domestic consumers and contributing to food inflation.

Impact: The weaker rupee supported higher agricultural exports and revenues but raised domestic food prices, showing how currency shifts create both opportunities and challenges for producers and consumers.

5. Weather and Natural Disasters

Markets for agricultural commodities are heavily influenced by weather patterns. Events that affect crop yields or energy infrastructure, such as hurricanes, floods, or droughts, can result in short-term supply shortages and price volatility.

Example: Hurricane Katrina in 2005 caused significant damage to oil refineries along the Gulf Coast at its peak reducing, over 25 percent of U.S. crude oil production, 20 percent of crude oil imports, and 10 percent of domestic refinery capacity.

Impact: crude oil prices rose briefly to over $70.00 per barrel, up more than $4.00 in less than 48 hours, but in less than a week had fallen below their pre-storm levels.

6. Government Policies and Regulations

Environmental rules, export prohibitions, trade restrictions, and subsidies can all affect the supply and demand for commodities. These choices frequently result in abrupt price changes because they might alter production incentives or reroute trade flows.

Example: Indonesia, the world’s largest palm oil producer, imposed a temporary export ban on palm oil starting April 28, 2022, to address domestic shortages and soaring local prices. This move sharply restricted global supply and led to a significant increase in global palm oil prices, contributing to volatility and upward pressure on edible oil prices worldwide.

Impact: The export ban by Indonesia, which supplies the majority of the world’s palm oil, led to higher prices for edible oils globally. This contributed to food inflation and affected both consumers and food producers, as palm oil is a key ingredient in many food products and a substitute for other edible oils

How Commodity Prices Affect the Global Economy

Commodity prices have an effect that extends well beyond the markets. They have the following effects on the global economy:

1. Inflation

When the cost of essential commodities such as fuel or food rises, it can lead to overall inflation. This affects consumer spending, squeezes household budgets, and often prompts central banks to raise interest rates to stabilize the economy.

Example: In 2022, the United States experienced its highest inflation rate in over 40 years, with the Consumer Price Index (CPI) peaking at a 9.1% annual increase in June. This surge was driven by sharp rises in essential commodities: energy prices jumped by 33.3% and food prices rose by 6.1% compared to the previous year. As a result, the average U.S. household had to spend approximately $3,500 more in 2021 just to maintain the same standard of living as in prior years

Impact: Budget Squeeze- Lower-income households were hit hardest, needing to spend about 7% more to maintain their consumption levels, compared to a 6% increase for higher-income households. For example, the bottom 20% of earners saw their expenditures rise by $2,064, while the top 5% faced an $8,326 increase, though as a smaller percentage of their total spending

2. Trade Balances

High commodity prices are advantageous to exporting nations because they increase income and economic power. On the other hand, import-dependent nations would find it difficult to keep up with growing prices, which could result in trade deficits and put pressure on their currencies.

Example: During the Russia-Ukraine war in 2022, India benefited from discounted Russian crude oil prices, improving its trade balance by reducing import costs.

Impact: India saved an estimated $25 billion in foreign exchange on crude oil purchases in the fiscal year ending March 31, 2024, compared to the previous year. This was achieved despite importing nearly the same quantity of crude oil, due primarily to lower average import costs and the acquisition of discounted Russian crude oil

3. Stock Markets

By increasing profit margins and stock prices, rising commodity prices can help industries including mining, agriculture, and energy. Conversely, sectors like manufacturing and transportation that rely significantly on raw materials may experience decreased profitability and increased input costs.

Example: January & February 2025, rising gold prices (up by 15%) boosted the stock value of mining companies like Barrick Gold Corporation by over 10% within this month.

Impact: Investors flocked to gold mining stocks as demand for safe haven gold rose during economic uncertainty, while sectors reliant on raw materials faced profit margin pressures.

4. Economic Growth

Booms in commodities can stimulate economic expansion in exporting countries, which frequently results in increased government revenue and the creation of jobs. A sharp drop in prices, however, could lead to economic instability, slower development, and budget deficits, especially in nations that depend heavily on a small number of exports.

Example: Saudi Arabia’s economy shows how commodity price cycles drive growth. In the mid-2000s, soaring oil prices boosted export earnings, enabling heavy investment in infrastructure, services, and new sectors—fuelling strong GDP growth and job creation. But when oil prices later plunged, the country faced budget deficits, spending cuts, and slower development, exposing the risks of relying heavily on a single commodity.

Impact: Oil booms fuelled rapid growth and upgrades, while price crashes triggered fiscal tightening and economic instability, highlighting the dangers of commodity dependence.

Ways to Trade Commodities

Here are some well-liked strategies for investing in commodities:

Futures contracts

Agreements to buy or sell a commodity at a specific price and date.

Spot market trading

Immediate buying or selling of commodities based on current market prices.

Exchange-Traded Funds (ETFs)

Funds that track the performance of commodity prices or related sectors.

Options trading

Only Long positions provide the right, but not the obligation, to buy or sell at a given price.

Commodity stocks

Investing in companies that extract or produce commodities, such as energy or mining firms.

Each approach comes with its own set of risks and opportunities, so it’s important to stay informed and apply sound risk management strategies.

Conclusion

Global politics, economic policy, natural disasters, and supply-demand dynamics are just a few of the many variables that affect commodity prices. Even while nobody can foresee every price change, businesses and investors can make better judgments by being aware of these fundamental factors.

Global events, nature, and economics all intertwine with commodities. Because of their unusual placement, they are both intriguing and challenging to follow. Anyone who trades or depends on raw resources must monitor important trends, such as trade regulations, central bank decisions, or climate patterns, in order to confidently navigate these markets.

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