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Commodity Prices and Investment in Structures

Nonresidential fixed investment in structures managed to (nearly) tread water in the third quarter, falling only 3.6 percent compared to a 13.5 percent drop over the previous four quarters. This is a curious development given that the typically largest componont—commercial structures, which includes office buildings, health care facilities, retail space, amongst others—continued its now two-year long plunge, falling another 15.5 percent (annual rate) in the third-quarter. In fact, four of the five main sub-components fell at double-digit paces during the quarter. The only gainer, structures used in mining exploration, for mining shafts, and petroleum and natural gas wells, increased a whopping 64.4 percent—a third consecurive outsized gain. Over the past four quarters, this component of spending is up 45.7 percent.

The top line of nonresidential investment in structures is becoming increasing difficult to interpret. The rapid rise of China, India, and other emerging-market economies has driven world commodity prices higher and with them, the return to investments in oil, gas, and mineral extraction. Commodity demand naturally fell back some during the last recession, but it is once again booming. As a consequence, investment in structures associated with these activities is now the largest of the five components having recently overtaken the lead from commercial structures now accounting for nearly one-third of the total. The chart below displays the shares of structures investment contributed by each of the components. It also shows that commodity extraction component to be the most volatile of the shares.

Figure 1. Fixed Investment in Structures

The volatility of the mining and drilling structures has much to do with the underlying variation in world commodity prices. The chart below reveals the rather tight relationship between oil prices (in 2005 dollars) and investments in mining and drilling structures. The subsequent chart depicts a similar, but less tight, relationship with these invesments and metals prices. At first glance, it may seem puzzling that these investments respond so quickly to price changes. But unlike most other components of business investment in structures, most of these investments are not in buildings, per se. Here, a hole in the ground is quite literally considered a structure. Not only is a new petroleum or natural gas well counted as a structure, but so is the investment undertaken by drilling further into an existing well. A similar convention applies to mines. Thus when oil, natural gas, and other commodity prices fluctuate, these expenditures can, and do, respond quickly.

Figure 2. Fixed Investment: Mining, Shafts, and Wells
Figure 3. Fixed Investment: Mining, Shafts, and Wells

Should one expect further rises in the relative importance of these investments? After all, the first chart above shows that investments in oil, gas, and mineral extraction contributed a slightly larger share, albeit briefly, to structural investment at the outset of the 1980s, but then fell quickly back. But then was different than now. Oil, and OPEC’s tight grip on its supply was the story then. And, as a political phenomenon, it quickly caved to other nations’ efforts to economize on oil and find new supplies. Today, the developing world has much farther to go, and will continue to do so in rapid fashion. The currently phenomenal global demand for basic commodities should not give way any time soon.

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