Paper detail

Modelling the impact of financialization on agricultural commodity markets

We propose a stylized model of production and exchange in which long-term investors set their production decision over a horizon τ , the "time to produce", and are liquidity constrained, while financial investors trade over a much shorter horizon δ (<< τ ) and are therefore more duly informed on the exogenous shocks affecting the production output. The equilibrium solution proves that: (i) long-term producers modify their production decisions to anticipate the impact of short-term investors allocations on prices; (ii) short-term investments return a positive expected profit commensurate to the informational advantage. While the presence of financial investors improves the efficiency of risk allocation in the short-term and reduces price volatility, the model shows that the aggregate effect of commodity market financialization results in rising the volatility of both farms' default risk and production output.