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In the search for answers, pundits have attempted to pin the blame on the usual suspects: rising demand from China and India, bad crop conditions and booming ethanol production. Yet one major culprit behind these gyrating markets and unprecedented price spikes has been largely overlooked: the deep-pocketed pension and index funds upon which most Canadians and Americans depend for their retirements. These funds have plowed tens of billions of dollars into agricultural commodities as a way to diversify their assets and improve returns for their investors. The amount of fund money invested in commodity indexes has climbed from just $13-billion (U.S.) in 2003 to a staggering $260-billion in March, 2008, according to calculations based on regulatory filings. Michael Masters, a veteran U.S. hedge fund manager, warned a Senate hearing this month that this number could easily quadruple to $1-trillion, if pension funds allocate a greater portion of their portfolio to commodities, as some consultants suggest they are poised to do. Because agricultural markets are small - relative to stock markets - the amount of cash pouring in gives these funds substantial clout. Mr. Masters estimated that that these big institutional investors control enough wheat futures to supply the needs of American consumers for the next two years, and blamed the "demand shock" from these recent entrants to the commodities markets as arguably the primary factor behind the sudden take-off in food prices. "If immediate action is not taken, food and energy prices will rise higher still," he told the hearing. "This could have catastrophic economic effects on millions of already stressed U.S. consumers. It literally could mean starvation for millions of the world's poor." The massive influx of cash has only occurred in the past few years. But its roots stretch back to the Reagan era, when a court battle over oil price manipulation set off a domino effect that would ultimately transform the arcane world of commodities trading. Beginning with the energy market, regulators made a series of far-reaching decisions that gradually loosened oversight of complex commodity derivatives and created loopholes for large speculators, allowing them to trade virtually unlimited amounts of corn, wheat and other food futures. Only now, nearly two decades later, are the full consequences of those decisions being felt. Any more For months, governments and international bodies have been struggling to avert catastrophe. The United Nations created a special task force on food security and called for emergency donations. Leaders of the world's wealthiest countries are expected to make the food crisis a priority when they gather for a G8 summit in July. And the U.S. Congress has convened hearings into the matter, as have various other governmental and regulatory bodies around the world, all in an attempt to understand how markets and prices careened out of control. They would do well to ask Fowler West. At a pivotal moment almost 20 years ago, Mr. West warned that a series of rapid-fire moves to deregulate commodities trading could wreak unintended - and perhaps calamitous - effects on these markets. His alarms went unheeded. In the early 1990s, Mr. West held a seat as a commissioner on the Commodity Futures Trading Commission, the U.S. regulator charged with overseeing trading in hundreds of staple items, from corn and wheat to oil and cotton. Mr. West was a lifelong Democrat; his boss, CFTC chair Wendy Gramm,
was a devout Republican and a believer in the laissez-faire, free-market philosophy espoused by president Ronald Reagan, who once described her as his "favourite economist." In the fall of 1990, the two clashed over the CFTC's response to a New York court decision involving a little-known Bermuda energy company called Transnor Ltd. Long forgotten by most, Transnor paved the way for wide-ranging deregulation of commodities trading, an effort that helped to spur the rise of Enron Corp. and which has enabled the stampede of large fund speculators into food markets. In the winter of 1986, Transnor filed suit against some of the world's largest oil companies, alleging that they manipulated prices on the Brent market, an informal oil trading system that at the time determined the daily price of oil. At first, few paid attention to the lawsuit. That all changed on April 18, 1990, when Judge William Conner delivered a stunning ruling midway through the trial. The case hinged on drawing a key distinction: Were the 15-day oil contracts that traded on the Brent market "forward contracts" or "futures contracts"? In a forward contract, the buyer and seller agree to the price of a commodity and a fixed date for delivery. A farmer enters into a forward contract with a food company by promising to deliver a certain amount of grain on a certain date at a certain price. Lawmakers have shied away from regulating forward contracts under commodity trading laws because they are a fundamental part of how farmers and food companies do business - and each agreement is unique. A futures contract is the same basic agreement, but it trades on an exchange, and the buyer rarely - if ever - takes delivery of the commodities. Instead, futures contracts are used mainly by farmers for hedging and by investors for speculating. These contracts have historically been regulated. In the Brent case, the difference was crucial, since the Brent market contracts did not trade on any exchange and, in the U.S., were not regulated by the CFTC. The oil companies, hoping to protect their cozy market, and avoid the red tape and transparency requirements of regulation, argued they were forward contracts. Judge Conner ruled against the companies, effectively rendering all Brent trading in the U.S. illegal. Within days, international oil companies stopped trading with U.S. companies and the entire Brent market was verging on collapse. In Washington, oil industry lobbyists descended on the CFTC, seeking to get the regulator to mitigate Judge Conner's ruling. They found a receptive ear in Ms. Gramm, the commission chair. Ms. Gramm served as a director at the Office of Management and Budget, spearheading a variety of industry deregulation efforts before President Reagan placed her in charge of the CFTC in 1988. She arrived with other political credentials: her husband, Phil, who is now a senior economic adviser to presidential candidate John McCain, was a Republican senator from Texas. Even before the Transnor case, Ms. Gramm had started pursuing a deregulation agenda at the CFTC. A year earlier, in 1989, the commission quietly issued a policy statement on swap transactions, deals in which a buyer of commodities such as a pension fund acts through a middleman or a swap dealer - usually a bank. The CFTC declared that it wouldn't regulate swap dealers. The Transnor case represented another crucial win for financial speculators such as swap dealers. When the court decision was handed down, Ms. Gramm moved quickly to soften the blow to the
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