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Food and the Spectre of Malthus
Tuesday 26 February 2008
February has been the month for revisiting old and unpleasant economic concepts. Last week, financial markets experienced that 1970s feeling, as a combination of rising inflation and unemployment in the US triggered unwelcome memories of the decade of stagflation that ended the postwar golden age and the Keynesian consensus. Then came this week's report that the United Nations' world food programme might have to ration food aid. Set against a backdrop of rising food prices worldwide - global food prices have now risen by more than 75 per cent since their lows of 2000, jumping more than 20 per cent in 2007 alone - the news revived fears from a much earlier era, conjuring up the Reverend Thomas Malthus.
Soaring food prices have also revived some more contemporary worries. When China's annual inflation rate spiked to an 11-year high in January on the back of an 18 per cent increase in food prices, China-watchers found themselves casting their minds back to the food price rises of 1988 and the social disturbances, protests and civil unrest that followed. Inflation is often cited as one of the factors behind the major demonstrations in 1989.
This rise in prices is a consequence of both demand and supply trends. On the demand side, the key factor has been the strong consumption growth in emerging markets, which in turn has been powered by those countries' impressive income gains. China, for example, has accounted for up to 40 per cent of the increase in global consumption of soyabeans and meat over the past decade. At the same time, a series of supply-side disruptions in key commodity markets ranging from drought to disease have been at work.
Perhaps the most important drivers of price gains over the past year are developments in world energy markets. High oil prices have encouraged a policy focus on biofuels, including lashings of generous financial support. Production has responded quickly to these incentives: the World Bank reports that the US has used 20 per cent of its maize production for biofuels and the European Union 68 per cent of its vegetable oil production. This change in usage has boosted prices, reduced the supply of these crops available for food and encouraged the substitution of other agricultural land from food to biofuel production.
This is not the first time in modern economic history that the Malthusian spectre of global food shortages has stalked the world economy. Surges in food prices in the 1970s and then again in the mid-1990s both prompted warnings that agricultural capacity was failing to keep pace with a growing world population. Each time, the prices jumped it proved to be temporary as supply responded. There are good reasons for believing that this latest bout of market disequilibrium will ultimately reach the same resolution. That said, however, there are two important caveats to set against such an optimistic reading of current circumstances.
First, the lag in supply response to the stimulus provided by higher prices may prove to be of greater duration than its predecessors, to the extent that the current changes in world energy markets - and hence the associated demand for biofuels - are likely to be lasting ones. With climate change and environmental degradation threatening agricultural capacity in several key regions, the elasticity of past supply responses may prove to be a poor guide to the future.
Second, during the extended period in which supply continues to lag behind demand there are likely to be significant social and economic costs. Three in particular stand out.
Most important, a period of protracted higher food prices will be bad news for many of the world's poorest people and its poorest economies. While the share of food in the consumption basket of a rich country such as the US is relatively low, at about 10 per cent, it averages about 30 per cent in China and more than 60 per cent in sub-Saharan Africa. Those countries that are most vulnerable are the low-income net food importers. Higher food prices add more strain to import bills that have often already been stretched by higher energy prices. Several of the poorest economies fall into this category and are heavily dependent on food aid to meet their needs. But the worldwide volume of such aid has stagnated for the past two decades and, what is worse, the quantity of aid delivered tends to fall as prices rise, given that a large proportion comprises a fixed annual dollar amount.
Next, there are important social strains to be managed. These may be particularly problematic for those emerging markets that are already struggling to deal with the consequences of growing inequality. Granted, higher food prices are something of a two-edged sword here, since higher agricultural earnings could reduce rural-urban income disparities. But the big losers are likely to be the urban poor, typically a politically volatile group, while many of the rural poor will also suffer.
Finally, higher food prices will call for tighter monetary policy. Given the disparity in the share of food in consumption baskets, and the fact that rich country central banks tend to exclude food prices from their core inflation measures, the policy reaction will tend to be greater in developing economies. Authorities may also be tempted by price controls and other direct measures. However, rich country central banks will also have to keep a close watch on any spillover effects that tighter monetary policy could have on non-food prices.
The writer is director of the international economy programme at the Lowy Institute for International Policy in Sydney.
"Panic" Wheat Buying Across the US
Tuesday 26 February 2008
In the wheat price surge this week, the leading wheat contract in Minneapolis, US, has risen by more than the entire worth of the contract just months ago.
Prices rallied by $5.75 a bushel on Monday, being up by nearly 30pc at one point compared with Friday's close.
Eight months ago on June 19, the lead Minneapolis wheat contract settled at over $US5.00 a bushel.
Panic over commodity shortages continues to emerge as the dominant factor in the global markets, with both end user and speculative buyers of corn, soybean, cotton, rice and a host of other commodities taking note of what's happening in the wheat pit.
While US has made improvements to increase crop production efficiency in recent years, the world hasn't really put sufficient investment into production agriculture for several decades.
The net result has been declining stocks at the same time that expanding global wealth has demanded more raw commodities.
The net result on Monday was new all-time record high prices for corn, soybeans and wheat on the same day.
Sentiment in the marketplace is changing from, 'buying just-in-time' to one of, 'buy what you need at any price' and then to 'buy even more to restock the shelves'.
In other words, there's evidence to suggest that we're beginning to enter the hoarding phase of the inflationary cycle.
Along that line, commodity traders are attempting to hoard land on which to produce their respective commodities by bidding up prices in an acres war.
The market should remain in this phase until supply reaches surplus levels and everything collapses, similar to what was seen in the late-90s.
However, there's little evidence at this point that the market will begin that collapse anytime soon, especially with the US growing season still weeks away and weather being as large as it's ever been this year.
That doesn't mean that there aren't risks and that there won't be large price swings similar to what have been seen in the wheat pits over the past six months.
But it does mean that end users and speculators alike, remain anxious to buy those price breaks when they occur.
Corn was largely a follower on Monday, reacting to sharply higher wheat and soybean prices.
Demand remains good, but most of the focus was with the above two commodities that are facing immediate supply shortfalls.
The real strength in corn is in the fear that other crops will rob too many acres from the feed grain, rendering it short in supply in the next marketing year that begins September 1.
Solid demand for soyoil and soybeans, especially from China, continues to fuel buying interest in the oilseed complex.
China is said to be buying both to fight food inflation and to build inventories ahead of this year's Olympics.
Supply fears created by adverse weather in China's rapeseed belt earlier this month, simply reinforced the sentiment.
The outright panic seen in the wheat pits today sent additional tremors through the oilseed market, where traders couldn't help wonder if a similar scenario could be in its future.
The panic buying came on the day that Minneapolis lifted all daily limits on the March contract, hoping to ensure that the contract would enter into its delivery period in an orderly fashion on Friday.
Nobody wanted to be a seller in this environment, causing the lead contract to quickly surge above $23/bus.
The Minneapolis March contract eventually reached $25 per bushel, before correcting lower to $24 at the close, up $4.75 on the day.
The deferred Minneapolis contracts locked the expanded 90c daily trading limit higher for much of the day.
Limits on those contracts will expand to $1.35 tomorrow, beginning with electronic trade this evening (US central time).
Chicago and Kansas City contracts locked the 60c daily trading limit higher today, with those limits expected to increase to 90c.