The Effect of Futures Markets on the Stability of Commodity Prices

Tinbergen Institute Discussion Paper 2019-028/II

44 Pages Posted: 10 May 2019

See all articles by Johan de Jong

Johan de Jong

University of Amsterdam

Joep Sonnemans

University of Amsterdam - Amsterdam School of Economics (ASE)

Jan Tuinstra

University of Amsterdam - Department of Quantitative Economics (KE); Tinbergen Institute

Date Written: April 10, 2019

Abstract

Do futures markets have a stabilizing or destabilizing effect on commodity prices? Empirical evidence is inconclusive. We try to resolve this question by means of a learning-to-forecast experiment in which a futures market and a spot market are coupled. The spot market exhibits negative feedback between forecasts and prices, while the futures market is of the positive feedback type, which makes it susceptible to bubbles and crashes. We show that the effect of a futures market on spot price stability changes non-monotonically with the strength of the coupling between the spot and futures markets. This coupling depends positively on the number of speculators on the futures market and negatively on storage costs, speculator risk aversion, and the volatility of futures prices. In the end we observe a stabilizing effect on spot prices for weakly coupled markets and a destabilizing effect when the coupling with the futures market is strong.

Keywords: price stability, expectations feedback, commodity futures markets, experimental economics

JEL Classification: G41, D84, G13

Suggested Citation

de Jong, Johan and Sonnemans, Joep and Tuinstra, Jan, The Effect of Futures Markets on the Stability of Commodity Prices (April 10, 2019). Tinbergen Institute Discussion Paper 2019-028/II, Available at SSRN: https://ssrn.com/abstract=3370656 or http://dx.doi.org/10.2139/ssrn.3370656

Johan De Jong (Contact Author)

University of Amsterdam ( email )

Spui 21
Amsterdam, 1018 WB
Netherlands

Joep Sonnemans

University of Amsterdam - Amsterdam School of Economics (ASE) ( email )

Roetersstraat 11
1018 WB Amsterdam
Netherlands
+31 20 525 4249 (Phone)
+31 20 525 5283 (Fax)

Jan Tuinstra

University of Amsterdam - Department of Quantitative Economics (KE) ( email )

Roetersstraat 11
Amsterdam, 1018 WB
Netherlands

Tinbergen Institute ( email )

Burg. Oudlaan 50
Rotterdam, 3062 PA
Netherlands

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