Weather shocks, traders' expectations, and food prices
Marco Letta, Pierluigi Montalbano, Guillaume Pierre
Abstract
Abstract The empirical literature on the impacts of weather shocks on agricultural prices typically explores post‐harvest price dynamics rather than pre‐harvest ones. Inspired by the intra‐annual competitive storage theory, we empirically investigate the role of weather news in traders' anticipations on pre‐harvest price fluctuations in India's local markets. Using a panel of district‐level monthly wholesale food prices from 2004 to 2017, we leverage the time lag between a weather anomaly and the corresponding supply shock to isolate price reactions caused by changes in expectations. We find that drought conditions significantly increase food prices during the growing period, that is before any harvest failure has materialized. These results suggest that markets respond immediately to expected supply shortfalls by updating their beliefs and adapting accordingly and that the expectation channel accounts for a substantial share of supply‐side food price shocks. A direct comparison with the effects of the same weather anomalies on the prices of the first harvest month reveals that expectations anticipate more than 80% of the total price impact.