Inventories and the Short-Run Dynamics of Commodity Prices

Competitive producers hold inventories to reduce costs of adjusting production and to reduce marketing costs by facilitating scheduling and avoiding stockouts. Using data for copper, heating oil, and lumber, I estimate these costs within a structural model of production, sales, and storage, and I study their implications for inventory and price behavior. Unlike earlier studies, this work focuses on homogeneous and fungible commodities. This avoids aggregation problems, and it allows the use of direct measures of units produced, rather than inferences from dollar sales. Also, I estimate Euler equations and allow the marginal value of storage to be a convex function of the stock. This fits the data better, and helps explain the role of storage. Finally, I use futures prices to directly measure the marginal value of storage. I find a production-smoothing role for inventories only for heating oil, and during periods of low or normal prices. A more important role is to reduce marketing costs.