San José State University

Department of Economics

applet-magic.com

Thayer Watkins

Silicon Valley

& Tornado Alley

USA

Onions and the Futures Markets

The History of the Market for Onions

Onion prices are quite volatile because of the limited storability of onions. Typically onions are planted in late April and harvested in September. Growers store the onion harvest and market it over the course of the winter. At onion growers cooperatives the onions are graded and put into fifty pound sacks. From there they are sent to markets like Chicago.

The onion market is subject to sharp fluctuations in price because of the large stored inventories held by the growers after the September harvest. If the growers a current price is mostly likely the best price that can be expected they all may try to market their inventories at the same time. But there is a time lag between when the growers decide to ship and when the onions arrive on the market and affect price. Thus an unusally high price for onions may be followed by a flood of onion shipment and subsequently extremely low prices. Likewise unusally low prices may lead to shortages and subsequently high prices.

As with any agricultural product it is difficult at planting time to judge what the price will be after harvest. The futures market provides a way for the onion grower to know what price his crop will bring and thus the grower can decide to plant more less than usual. Onion futures trading developed in the 1950's and came under the regulation of the Commodity Exchange Administration (CEA) in 1955. The story about how that regulation developed is unique.

The Collapse of the Onion Market in 1956

On August 1, 1955 the futures contract for Golden Globe onions opened at $2.40 for a 50 lb bag. Soon the price was up to $2.75, whereas normally onions traded at about $1 per 50 lb bag. This high price signal drew in an avalance of onions to Chicago. Organized market often have limits on how much a price can change in one day. The idea behing this daily limit is to prevent panic from driving the price to rediculous extremes. But there are drawbacks to the daily limits. It means that the stated price is no longer a market price and relevant for making decision about marketing. As the onions started arriving the price dropped each day by its 50 cent limit. But it did not drop fast enough to cut off the flow. By the end of the contract period in March the price dropped to 10 cents per 50 lb bag and closed at 15 cents. This was about the price of the bag that held the onions so onions were virtually worthless. The owners could not give them away. Much of the supply was dumped into Lake Michigan.

Instances of Manipulation of the Price of Onions

Vincent Kosuga was a physically diminutive man but a larger than life character. He went into onion growing in New York on a five thousand acre farm. He became fascinated with the onion market in Chicago and began trading onions. Soon he developed ploys for manipulating the expectations of the onion traders and hence ultimately the price of onions. For example, he once bribed a local weather bureau to issue a frost warning. The traders then expected the supply of onions to be diminished and they bid up the futures price of ohions futures.

Another time Vincent Kosuga allied himself with Sam Siegel to corner the onions market. The onions market is a more vulnerable market to manipulation because of the limited storability of onions and the total value of the crop is much smaller than that of something like wheat. In the fall of 1955 Samuel Siegel and Vincent Kosuga managed to gain control of 98 percent of the onions that were going or would be going to Chicago. They did this by buying up onions or getting contract for the future delivery of onions. The brought in the onion growers on the scheme, but double crossed them by starting to sell without telling the growers. This is what drove the price of onions down to ten cents per 50 lb. bag.

Those who were hurt by wide fluctuations in onion prices tended to blame those fluctuations on futures trading. The National Onion Association called for a ban on futures trading in onions. In 1958 Gerald Ford, then a Congressman from Michigan, proposed a law which banned futures trading in onion. It was enacted by Congress. It was challenged as unconstitutional but the courts upheld it.

When economists have compared the volatility of onion prices during the period of futures trading with the volatility during the period before futures trading they found that the volatility was higher before futures trading. But when futures trading in onions was banned the volatility did not go up again. So economic theory is generally but not perfectly supported by the experience of the onion market.