International Commodity Agreements (ICA), International trade in certain primary commodities is governed by international commodity agreements allegedly designed to stabilize the world price of the commodity in question or dispose of surpluses.
Nations and Agreements
It is usually the producing nations that press for such agreements, claiming that when the response to price change on the part of consumers and producers is low, the market mechanism is too sluggish and cumbersome and needs to be modified by some central direction.
After all, the performance of the price system as an allocation mechanism is contingent upon reasonably strong and prompt responses to price change.
When the response is weak and tardy, violent price fluctuations frequently occur. If the commodity, it takes a huge decline in price to induce consumers to take even part of that increase.
Likewise, a shift in consumer demand, for any reason produces a large price change because producers cannot respond with sufficient. Speed and vigor to the new situation.
Such circumstances may simply large fluctuations in the earnings of growers and in the terms of trade of the countries that produce the primary materials.
International Commodity Agreements (ICA): If a country’s economy is largely devoted to the production and exportation of one or two primary products, as economies in many developing countries are, then the entire level of economic activity tends to fluctuate along with these prices.
ICA’s involve both the producing and the consuming countries. They take one of three forms.
Export Restriction Schemes
Export restriction schemes call for control over the quantity marketed internationally by means of national quotas for the production or export of the supplying countries.
Buffer stocks set minimum and maximum prices for the commodity to be maintained respectively by purchases or by sales from central stocks of the commodity in question.
In this case, the objective is to maintain the price within a predetermined range.
In this diagram, PE is perceived as the long-run equilibrium price. The buffer stock management decides to limit price fluctuations to a range PF-PC where is PF is the floor price and PC is the ceiling price.
Should supply rise to S1 in panel (a), price PF is maintained by the buffer stock buying quantity ab, the excess supply at the price.
Conversely should supply decline to S2 the buffer stock maintains the ceiling price Pc by selling out of stock quantity cd of the commodity the excess demand at that price.
On the panel (b), when demand rises from D to D1, Pc is maintained by the sale of quantity cd out of stocks. When demand declines from D to D2 PF is maintained by the purchase of quantity ab.
Over time, the stabilization operations are expected to narrow the range of price fluctuations.
Multilateral contracts specify a maximum price at which producing countries are obliged to sell stipulated quantities to consuming countries and a minimum price at which consuming countries are obliged to purchase stipulated quantities from producing countries.
The operations of the contract in each depend on its provisions.