Now You Can Trade Black Sea Wheat

After Russia’s ruinous 2010 drought, Leo Melamed read a newspaper story that quoted Vladimir Putin saying he wished there had been a way to insure the wheat harvest. “I said, ‘Wait, I know how to insure a crop,’?” recalls Melamed, chairman emeritus of CME Group (CME), the world’s largest futures exchange. That was the beginning of CME’s 18-month effort to develop its first futures contract on an Eastern European crop.

When negotiations with Russian officials stalled, CME Group shifted its efforts to Ukraine. In May 2011, the exchange signed memorandums of understanding with the Ukrainian government and the Ukraine Futures Exchange. “The Ukrainians wanted to be first, they were ready to move,” Melamed says. On June 6, CME Group will start trading in a Black Sea wheat contract on its electronic network, giving investors, producers, and companies that buy grain a chance to lock in prices or speculate on them.

With the new wheat contract, CME Group, the company whose predecessors introduced commodity futures to the world in 1848, is expanding its reach and playing some defense against its much younger rival, Intercontinental Exchange (ICE), the nation’s second-largest futures market. Intercontinental, known as ICE, began trading corn, wheat, soybeans, and soy oil contracts on May 14. While it might seem a quixotic effort—CME Group accounts for 98 percent of all U.S. futures trading—ICE has beat daunting odds before. In 2006 it took 30 percent of the U.S. oil futures market from the New York Mercantile Exchange. CME Group bought Nymex in 2008. “We think we’re in as good a position as any to be successful,” says Benjamin Jackson, chief operating officer of ICE Futures U.S., ICE’s New York exchange, where the grain contracts trade. “At a minimum we’re responding to what our customers want, and if it doesn’t work, they owe us one.”

CME Group is not dismissing the challenge. “We take everything seriously as a competitive issue, even though I don’t think they will succeed,” says Melamed, who adds a note of skepticism: “This is a little crazy.”

Photograph by Liu Jiansheng/Xinhua Press/Corbis

Melamed has a long history in the Black Sea region, starting with fleeing the Nazis with his parents across the Soviet Union in 1939. Fifty years later, in 1990, he got a call from Mikhail Gorbachev, during the waning days of the Soviet Union. The leader persuaded Melamed to help the Russians set up the Moscow Commodity Exchange, which was meant to show the world that the country was changing. After Melamed cut the ribbon to open the market, the first trade was 1 million Marlboro cigarettes in exchange for a computer, he recalls. “It was not free-market at all, it was just a prearranged trade, which I explained to them is not exactly what I had in mind,” he says. “We laughed all the way home.”

Ukraine will export 23 million tons of wheat and other grain in the 12 months through June. So CME Group’s interest in a futures contract is understandable, says Rodion Rybchinsky, head of business projects at agriculture consulting firm APK-Inform in Dnipropetrovsk in Ukraine. Yet he wonders whether it will take hold. “There are very few market players who are familiar with futures” in the region, he says. Producers and traders will be wary of futures because local corruption could block possession of grain bought via the contracts, according to two grain merchants in Ukraine who asked not to be named for fear of government reprisal. Ukraine also has a long history of government intervention in the grain industry, which discourages customers, says Terry Reilly, an analyst at Citigroup Global Markets in Chicago. “How it starts out will determine if it’s going to be successful,” he says. “Is there going be enough trading volume? Are investors willing to bear risks that local government could intervene and set export restrictions?”

To reassure customers, CME Group is planning as many as four delivery points. When contracts expire, customers who wish to take delivery will be able to pick up their grain in Russia, Ukraine, and Romania, CME Group has said. And it may add a port in Varna, Bulgaria, according to David Lehman, the managing director of commodity research and product development, who spent the last year and a half traveling monthly to Ukraine to set up the contract. “There’s always a risk when you design a new contract,” he says.

The expansion to the Black Sea also fits with CME Group’s larger strategy of partnering with international markets in Brazil and China. “The potential is enormous, and that includes Russia and it includes Kazakhstan” as well as Poland, Melamed says. “They all want to become important market economies, and we are part of that.”

The bottom line: The CME’s new Black Sea wheat contract is aimed at fending off competition from a rival with a record of snatching market share.

Leising is a reporter for Bloomberg News. Ustinova is a reporter for Bloomberg News in St. Petersburg. Tony C. Dreibus is a reporter for Bloomberg News.

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Bernanke Opens the Black Box

By Peter Coy

Federal Reserve Chairman Ben Bernanke is looking rather Swedish these days. Before entering government, Bernanke was a leading academic exponent of inflation targeting as practiced in Sweden, New Zealand, Britain, Canada, and the European Central Bank. It’s a transparent approach to monetary policy that steers interest rates to keep the long-term inflation trend within an announced range. Bernanke set aside his plans for inflation targeting during the financial crisis, when he adopted heroic, ad hoc measures to save the big banks and rescue the global economy.

Now the quiet, circumspect chairman is going back to the commitment to transparency that he developed during his days teaching and researching economics at Princeton University. For the first time ever on Jan. 25, the 17 Federal Reserve governors and bank presidents will state their views on the appropriate course of the federal funds rate, the short-term interest rate that the Fed controls. Those forecasts will be collected and published, albeit without names attached.

“This is Bernanke getting away from the Greenspan model, the oracle, the guru,” says IHS Global Insight U.S. Economist Paul Edelstein. In a note to clients, Edelstein called it “a giant step toward enhancing the clarity and transparency of monetary policy.”

To fight the economic slump and financial crisis, the central bank lowered the federal funds rate to a rock-bottom 0 percent to 0.25 percent at the end of 2008 and has kept it there, saying economic conditions “are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013.” Markets are now betting that the rate won’t go up until sometime in 2014. The new communications strategy will give dovish Fed voters a way to express their determination to keep rates tied to zero even past 2013.

The big idea is to fill a blank in the way the Fed makes its quarterly economic forecasts. (All 17 top officials participate in the forecast, even though the rate-setting Federal Open Market Committee has only 10 members—the five governors in Washington and five at a time of the 12 regional bank presidents.) The officials are currently instructed to assume “appropriate monetary policy” when they forecast economic growth, unemployment, and inflation. That is, they’re told to assume what should happen, not what they think will happen.

That can lead to confusion. For example, a Fed official who favors higher interest rates might predict inflation will stay mild—but only because he’s basing it on the (unrealistic) assumption that the FOMC will side with him and raise the federal funds rate substantially to chill the economy and keep prices from spiking.

Starting with the January meeting, the public will actually be told what Fed officials assumed about “appropriate monetary policy” when they made their economic forecasts. They still won’t be told who made which forecasts. Some participants in the December meeting worried that the new information “could confuse the public,” according to the minutes released on Jan. 3. “They have been pretty naive about how they’ve approached this whole communications policy,” says a frequent Fed critic, Robert A. Eisenbeis, chief monetary economist of Cumberland Advisors, a Vineland (N.J.) investment firm.

On the whole, Bernanke’s quest for transparency is a plus for investors and economists. It could cause headaches for the chairman. Now that Fed officials are asked—nay, required—to divulge their preferences on the long-term path of the federal funds rate, those who disagree with Bernanke may find it harder to swallow their pride and vote with him for the sake of unanimity.

Bernanke isn’t likely to lose a vote—this isn’t the Supreme Court, where Chief Justice John Roberts often finds himself in the minority—but “it could complicate his life a bit,” says Jan Hatzius, chief economist of Goldman Sachs. To Bernanke, still a professor at heart, that’s a small price to pay for a more predictable central bank.View From the Fed

Fed officials forecast GDP, unemployment, and inflation. In January they will reveal the “appropriate monetary policy” they assumed in making these forecasts.

The bottom line: Revealing Fed voters’ preferences for interest rates fills an important blank. But it could make it harder for Bernanke to enforce discipline.

Coy is Bloomberg Businessweek's Economics editor.

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Black Swans of 2011

The St. Louis Cardinals credited this squirrel with their World Series win. This rodent is a totem for a year filled with statistical improbability.

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