Boom, Bust, then Boom Again?

The milk market’s swings are a sour reminder of boom and bust cycles that are pervasive in commodity production.

High prices encourage producers to invest in expanding operations, which leads to rising production and, eventually, an oversupplied market. Excess supplies cause prices to collapse lower, encouraging producers to cut back on production, but those who expanded too fast or took on heavy debt loads can find themselves facing bankruptcy. These cutbacks and bankruptcies cause supply to shrink too much, creating a shortage and high prices, starting the cycle again.

This pattern is especially pervasive in industries with a long lag time between investment and production, like mining operations or oil drilling, where there may be years of exploration, development, and construction before the commodity is produced. Similarly, it can take multiple years for livestock or dairy producers to expand a herd before the oversupply is recognized. Even grain producers, who have a relatively short six-month lag between planning and harvesting, can fall victim to this pattern.

As a result, it is especially important for commodity producers to manage their long-term risks with careful budgeting and utilizing the futures markets where appropriate to offset risk.