The market for commodities is particularly susceptible to sudden changes in conditions of supply conditions, called supply shocks. Shocks such as bad weather, disease, and natural disasters are largely unpredictable, and cause commodity markets to become highly volatile. In comparison, markets for the final products derived from these commodities are much more stable.
As with petrol pump prices, the prices of finished goods rarely reflect changes in the prices of basic commodities from which they are derived. For example, cocoa and sugar prices fluctuate considerably as harvests vary from year to year, but the prices of confectionery rarely change from year to year. There are many reasons for this, including the following:
The cost of the commodity input, such as cocoa, represents a small proportion of total costs of the final product, such as a bar of chocolate. The price of chocolate is largely determined by the refining, manufacturing, and packaging costs of the manufacturer, and the retailer’s costs including labour, rents and marketing costs.
Indirect taxes, like VAT, often form a larger proportion of the price than commodity costs, and such indirect taxes tend to remain stable of time.
The existence of stocks of commodities act as a buffer against sudden changes in commodity prices, so manufacturers will be using old stocks purchased at the old prices.
Futures contracts help reduce some of the underlying volatility in commodity markets. In the case of cocoa, the large confectioners, such as Nestle and Cadbury-Schweppes, agree cocoa prices in advance by fixing contracts with suppliers, such as those based in the Ivory Coast and Ghana, the two largest cocoa exporters.
Manufacturers and retailers may choose not to pass on cost changes following commodity price changes for a number of reasons, such as a preference for stable prices, or the need to remain price competitive.