Buffer stock
Buffer stock is a reserve of commodities held by governments or international organizations to stabilize market prices. When prices fall below acceptable levels, the buffer stock operator purchases surplus goods. Conversely, stocks are released when prices rise too high. The concept traces back to the first century BC in China, where grain was stored during abundant harvests and distributed to regions experiencing shortages.[1]
Origins and historical development
The "ever-normal granary" concept originated in ancient China as a mechanism for managing food supply. This idea resurfaced in American agricultural policy during the 1930s. Henry A. Wallace, who served as U.S. Secretary of Agriculture, discovered the term in a Columbia University dissertation on Confucian economic practice around 1926.
Benjamin Graham proposed an expanded version in his 1937 book Storage and Stability, written during the Great Depression. He suggested that overproduction of commodities could be offset by storing goods until periods of underproduction. The proposal aimed to preserve jobs and stabilize prices during economic turbulence.
The concept attracted considerable attention after World War II. John Maynard Keynes and F.A. Hayek, economists who rarely agreed, both supported variations of buffer stock systems. This represented what scholars called "a rare agreement" between the two influential thinkers.
How buffer stocks operate
A buffer stock scheme functions through intervention in commodity markets. The operator establishes a price corridor with ceiling and floor values. Prices within this range require no action.
Price defense mechanism
When prices approach the floor:
- The operator purchases commodities using contributed funds or borrowed capital
- Purchases continue until prices stabilize within the acceptable range
- Accumulated stocks are stored for future release
When prices approach the ceiling:
- Previously accumulated stocks are sold into the market
- Sales continue until prices return to normal levels
Taking wheat as an example: during bumper harvest years, prices fall and the government buys surplus. During poor harvests, stored wheat is sold to prevent price spikes. Consumers and producers both benefit from reduced volatility.
International commodity agreements
Several international organizations operated buffer stock schemes during the twentieth century. The International Tin Agreement ran through six successive iterations from 1956 to 1985. The International Cocoa Organisation managed cocoa stocks from 1980 to 1993, particularly benefiting farmers in Cote d'Ivoire.
The tin crisis of 1985
The International Tin Council collapsed on October 24, 1985, when it announced inability to pay debts to banks and metal brokers. The Buffer Stock Manager had defended floor prices through cash purchases and broker loans totaling approximately 900 million pounds sterling. The floor price had remained fixed at M$29.15 per kilogram since 1982.
When the agreement collapsed, tin prices plummeted and numerous mines closed. Legal actions followed, with the ITC facing claims from creditors. This failure demonstrated the financial risks inherent in buffer stock operations.
The International Natural Rubber Agreement, operational since 1979, also ultimately failed. When global demand collapsed, INRA could no longer maintain adequate stocks. The agreement ended in December 1999.
Economic rationale
Wide price fluctuations create significant economic distortions. Sugar prices on the free world market illustrate this volatility: prices rose from 3 cents per pound in 1968 to 56 cents in 1974, then fell to 7 cents by 1977.[2]
Such instability leads to inefficient resource allocation. High prices stimulate investments that cause overproduction years later. Low prices then create shortages that push prices up again. Buffer stocks theoretically break this cycle.
Advantages and disadvantages
Benefits
Stable prices help farmers maintain consistent incomes. Price predictability encourages long-term agricultural investment. Food supplies remain more reliable, avoiding sudden shortages. Countries dependent on commodity exports gain protection against international market volatility.
Drawbacks
Storage costs, insurance, and spoilage create substantial ongoing expenses. Capital tied up in inventory carries opportunity costs. Minimum price guarantees may encourage overproduction as farmers know any surplus will be purchased. Excessive use of chemicals to maximize yields becomes tempting when markets for surplus exist.
Financial sustainability remains the fundamental challenge. The tin crisis showed how buffer stock operations can accumulate unsustainable debts when market conditions move persistently against the scheme.
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References
- Graham, B. (1937). Storage and Stability: A Modern Ever-Normal Granary. McGraw-Hill.
- Gilbert, C.L. (1996). International Commodity Agreements: An Obituary Notice. World Development, 24(1), 1-19.
- International Monetary Fund (1978). The Use of Buffer Stocks. Finance and Development, 15(4).
Footnotes
- Ancient Chinese granary system documented in historical records of Han Dynasty agricultural policy.
- International Monetary Fund commodity price data, 1968-1977.