Sustained periods of economic upturns and downturns lead to economic cycles. Economic contractions and expansions are not new phenomena, and they occur cyclically. In a business cycle, there are periods of expansion due to growth in demand, and then there are recessionary periods when demand is low.
The price of any good in the economy is derived from its market demand and supply functions. A surge in the price may indicate growth in demand or a lack of supply. Similarly, commodity price booms are due to increased demand in a given period. Over a sustained period, this growth could lead to a supercycle.
Understanding the concept of commodity supercycles
Commodity supercycles occur when there is growth in demand over an extended period for commodities such raw materials, energy products and finished goods. Such cyclical events also occur in other sectors, but the commodities sector is more cyclical than others. This is because it takes considerable time to increase the supply of commodities in response to growing demand, as many commodities are hard to procure.
What happens during a commodity supercycle? Initially, there is growth in commodity demand owing to infrastructure development and other economic activity on a broader scale. Producing additional units to accommodate this demand requires increasing the production capacity. The temporary supply shortage leads to an increase in commodity prices, and commodity suppliers are left with surplus cash.
Suppliers respond by increasing their production capacity. However, demand has likely decreased by this time, leading to more supply than demand and causing commodity prices to crash.
What changes a commodity boom to a supercycle?
Economic cycles in the past were due to increased urbanisation and industrial growth. For example, the supercycle in the 1900s was due to rapid industrialisation in the US. The supercycle in the 1930s was due to the war and the rise of Nazi Germany. Infrastructure development in Europe and Japan in the post-World War 2 era led to a new supercycle.
A full-fledged commodity supercycle requires something more substantial. The pandemic required government intervention to revive economies. Such economic stimuli have worked before. However, growth in demand has increased prices of a number of commodities. Furthermore, new changes such as the shift to renewable energy sources have contributed to growth in demand, and all these factors could lead to a commodity supercycle.