We were so enthusiastic about this tool that instead of just adding it to the sidebar (we’ve done that too) we wanted to highlight it for everyone to see.


Gapminder was founded in 2005 and is a non-profit organisation bringing FACTS to the discussions about development and economic growth – subjects near to our hearts. Click here for a quick link to their About page.

Agrimarkets is fascinated by charts and statistics that so often are able to cut through the chit-chat and help us understand what’s really going on.  We’ve just added a page (see page bar above) where we collect and display whatever interesting chart data we come across.

Gapminder Agriculture is based on 700 UN FAO indicators that lets you create charts at will.  You can also access the raw data in tabular form.

Here’s a chart that took less than a minute to create that answers one important question about agricultural productivity:

The chart shows cereal yields/ha. measured against incomes. It shows conclusively that the rich countries produce more cereals per hectare than the poorer ones.

Another chart gives a hint why:

 

It shows per capita incomes against the proportion of the labour force working in the agricultural sector.  The relatively richer nations have a LOWER proportion of their labour force employed in agriculture because they are able to use available capital (that gets invested in farm technology and agricultural knowledge) instead of unskilled labour (yes, they also subsidise agriculture while insisting that the developing world reduces subsidies – another story).

These charts are great!  For a final bit of fun look at these two:  the first chart shows the world (by the social measures of life expectancy and child birth) when the Editor of this blog was born in 1949.  The gap between the developed and less-developed countries was HUGE!

The second chart shows the same country data for 2010.  The difference is nothing less than astonishing.

Two points to note: the massive catch up by the Asian countries and the way Africa has been left trailing.  We still have work to do! so stop playing live roulette and start solving the problem

Today I threw away the end crusts of a loaf of bread because they were a little stale; if the price of bread rises by a lot my wife might take these end pieces and make rusks. In Pakistan during the mango season fruits litter the road;  even when the price of “ata” (flour) is through the roof South Asians still insist on eating their bread fresh and warm and throwing away the cold left-overs, and in the USA there are businesses built on taking restaurant waste and re-cycling for the homeless. Meanwhile in Somalia famine remains a concern of tens of thousands.

We mention these different elements of the food economy to illustrate that the way food raw materials are used is complicated and highly dependent not only on price, but on cultural habits and the mechanisms for processing and distributing food – the so-called “farm to fork” value chain.   The agriculture and food economy is not like making cars or refining crude petroleum oil or making computer chips but is instead hugely diverse and determined by interactions of the environment, climate and human psychology.  Many of the raw materials are used in conjunction with each other;  if the price of wheat rises because of adverse weather in North America, the production of cookies might fall reducing demand for sugar and cooking oil, even those these materials might be in reasonable supply.

In this case generalizing about the food industry, let alone making accurate forecasts is extremely difficult.  We try to avoid it, instead taking an approach that tries to explain why prices are where they are currently, that takes a longer term view than the very erratic short-term changes in specific futures contracts (though we report these too) and when things are going one way, we try and explain why they could go another.

Hence the subject of this post: how are high food prices affecting demand for agricultural raw materials and what might happen to take the steam out of the markets?

It may come as a surprise to some that food demand, even in developed, high income countries, can and does adjust down.  My anecdote about turning stale bread into rusks (for those that don’t know, having never had the need, stale bread baked in a hot oven turns in delicious crunchy biscuits – try them!) is relevant –  Americans slashed their food expenses more during 2007 to 2009 recession, by an inflation adjusted 5 percent— the largest decrease in at least 25 years according to a report from USDA’s Economic Research ServiceIn 2006, before the recession began, total food spending by all US households peaked at $726 billion. By 2009 it dropped to $690 billion – $36 billion out of the food economy right there.

However there is more to the story:  the drop in consumption came from food bought in commercial establishments – restaurants, fast-food places – and the folk changing their consumption pattern were the middle-class; typically one expects that food is a relatively small part of middle class income earners overall household expenditure; indeed so it may be, but going out to dine is still considered by many as something of a treat.  People are not actually eating less, but they are paying less for the food by consuming it at home. This may not reduce the demand for raw materials, but it may e.g., drop the demand for industrial-sized packages of foodstuffs.

There is another lesson to be had from the data in the chart. The top line represents real total food expenditure from 1990.  Despite the (actually quite minor) adjustments down during recessionary periods, the overall trend is slightly upwards and this does reflect somewhat the overall long-run increase in prices; equally, apart from the change just discussed, overall the trend had been towards eating outside the home – more expensive and more highly processed foods.

Think about what constitutes restaurant food: food raw materials that have been grown commercially on a large-scale, processed by large commercial operators, packaged and shipped. In developed countries, of which this US data is representative, this trend suggests the growth of major industries,many not included in “agriculture”, along the value chain to the dining table in that expensive restaurant.  Agriculture and even primary processing no longer hold the real keys to food demand in such countries but rather provide raw materials that have enormous value added to them before reaching the final consumer.  Changes in raw material supply and price certainly affect demand, but through the filter of this much more complex value chain.

Another feature is that the chart lines show little dramatic change or disturbance.  The headline writer at USDA makes much of the recent downwards adjustment – indeed we all have to write articles hung on a certain story.  But the real truth of food expenditure and demand in the developed world is that it is a remarkably stable demand whatever the circumstances. Your local high-end restaurant may see a fall off in custom and have to lay off some waiters, but the customers can still afford to cram down their 4,000 calories at home and still worry about obesity.

This is NOT the case for the rest of the world, and it may help to get some handle on what I mean by this. World average per capita GDP is roughly $10,000 (IMF data). There are 81 countries (out of 183) where incomes are higher than that figure and we might use these as indicators of where there might be a significant middle class. This is a VERY rough way to look at things because a country like Pakistan has a large population, a large middle-class, but a per capita GDP of only $2,721.

The majority in the >$10,000 group are actually countries which have some kind of significant resource advantage such as Qatar which holds the Number 1 spot with a per capita GDP of over $88,000.  But don’t expect Qatar to account for much by way of food demand! In fact we count only five countries in this top end group that have both large enough populations and a very significant middle class (USA and Canada – taken as one –  UK, France, Germany) to really impact food consumption.  So who does?

We might usefully look at a recent report on the emerging middle class by OECD.Note 1 A key finding is as follows, “Today’s rich countries accounted for 22 per cent of the world’s people in 1965, but only account for 15 per cent today, and their share is forecast to shrink to 13 per cent of the world total by 2034 (Ed. my bold). Overall, the world will add 1.6 billion people by 2034. But the population in today’s rich countries will grow by only an estimated 90 million. Ninety-five per cent of the population increase (excluding migration) will be in developing countries.

Similarly in 1965 the global centre of the world was Europe, with the USA and Japan being the two growth super-powers.  In the next 20 years this centre of gravity will have shifted to Asia, with India and China producing the largest number of middle-class. The report goes on:

Globally, the size of the middle class could increase from 1.8 billion people to 3.2 billion
by 2020 and to 4.9 billion by 2030. Almost all of this growth (85 per cent) comes from Asia. The size of the middle class in North America is expected to remain roughly constant in absolute terms………. Europe enjoys some early growth in the numbers of the middle class, but then sees a fall as populations decline in Russia and elsewhere.

So there you have it: right NOW, a fairly small proportion of the world’s population actually accounts for the bulk of food industry demand – commercialized agribusiness and processed food; that population, concentrated mainly in the mature (stagnant?) developed countries, can change the kind of food it eats and where it eats it, but is unlikely to much reduce consumption overall – nor will it increase it – hey, 4,000 calories/day is an obscene amount of food!

By contrast most of the world’s population is simply outside this market. Going forwards (if the OECD and other commentators are to be believed) while the proportion of middle-class falls, the total size of this market grows driven by newly rich folk in Asia.  These people will switch from rice and vegetables to meat and (probably farmed) fish.  These items require much greater supplies of feed and hence a higher push for staple commodities (corn, wheat, soybeans, barley, sorghum etc.).

And of course in the future the issue of feeding the (larger) majority gets more critical.

This blog attempts to be action oriented, and future posts will look at  how these dynamics will affect investors in agribusiness and those interested in developing agriculture.

For the moment we can say this: the fact that demand can adjust very rapidly as knowledge circulates in the developed world certainly affects specific sectors and segments of the market. Witness the rapid growth in demand for “super fruit juices” and a slackening in demand for milk and sugar as the population ages and folk become (slightly) conscious of Metabolic Syndrome (or Type II diabetes) as they pass 40 years if age. In this case it is the composition of the food basket that is of real commercial interest.

Raw material costs affect processor margins, so while chicken farmers may benefit from a dietary preference for white meat, they lose from higher feed costs and chicken processors have work to maintain their margins as these costs get passed on. Simply because on-farm agriculture is seen to be doing well from higher prices does NOT mean that agribusiness is benefiting – and we’ll be looking at the fortunes of the big publicly-owned food businesses in the next post.

For the majority non-middle-class world, caring little for what they eat or where they do so long as they DO eat (something), the issue is latent demand.  Most people on the planet simply do not begin to approach the dietary standards of the middle-class.  This demand is notional or “stored’ in the sense that it cannot be calculated into the balance sheets of the commercial food industry.  However it can be considered by investors capable of tackling frontier economies and building a food supply that is cheap and available. Yet another story in the pipeline.

Note1: This is a highly academic report based on a specific model; treat it with some scepticism.  What is noted here is only part of the document which should be read in full to get the complete picture.

The markets are in a turmoil, Wall Street is a roller-coaster, gold hits over $1,700/oz as Asians flee to a known safe haven, Europe (according to one Irish politician) is “run by a bunch of mad people in Brussels” and the Swiss are concerned because their currency is another safe place to be, so making their watches unaffordable. Where do we go next?

Even agricultural commodities, historically more stable and rising for the last few years, have shown uncertainty and a drop off in investment values from the peak at the start of the year (Chart 1, a comparison of the S&P 500 with RJA-Agri, is discussed later in this piece).

Disclaimer: we economists are story-tellers, and we can tailor a story to suit your needs just like the augurs of old, looking at signs and portents and building the story to make folk feel happier.  Of course the real answer is,  nobody knows and we don’t even know what we don’t know.

But disclaimers and caveats aside here we go anyway following a tried and trusted method which is looking at the individual parts of the puzzle and seeing if we recognize a pattern – not so different from the ancient Chinese seers who shake the sticks or divine the I Ching from the patterns on a turtle shell.  We’ll also ask, what can change things as we see them? Looking for the counter-argument or the absence of information is always helpful dealing with uncertainty.

First the fundamentals:  stocks of food commodities are tight, so tight that it will not take much to push prices up yet again. The weather in key North American production areas for corn and wheat has been record hot and the USDA has just adjusted its area estimates down. Rice crops are good, but for the international market a lot will depend on policy in Thailand (see our previous post on August 1st and this piece in Agrimoney).  So the supply side of the equation does seem to imply upward price pressure.

What can turn the pressure down?  Black Sea Grain reports that grain crops in the Ukraine will be larger and this is confirmed by USDA estimates.  This goes some way to compensating for any short-term decline in the USA. In the longer term, the supply side will react (our markets are at least free to do so) in a conventional way: more resources will be drawn into production and prices will react accordingly. Let’s look at this in more detail.

There is huge interest in investment in agricultural land.  Every day emails come in to our FoodWorks office  bearing news of this scheme or that scheme, from wheat farms for sale in Australia to more exotic jatropha (bio-fuel) projects in Indonesia.  An excellent Bloomberg article describes the returns people have been expecting on agricultural land (16% annually!) to get an idea of how resources get pulled into production.

Two things: investors have to understand that unimproved land without the water supply, fertilizer, seeds, farm access roads, labour and machinery needed to grow crops is also unproductive land. Equally energy costs are pushing up inputs (fertilizer prices that have soared with the price of crude oil) and the wise investor should see if the gross margin he makes on the crop can really be achieved – it’s NOT the farm-gate price that motivates the farmer, any more than it is the price at the check-out that bothers your grocer, it’s the difference between production costs and the sales price that counts and that is not as clearly seen as the pure price level . We’ll be looking at farm gross margins and profitability in a later post.

If investment does go into productive land, and we hope it will do via improved technology and market infrastructure, the supply may just turn around and go up, crashing prices.  Managing farm returns to make a long-term sustainable profit within the agricultural cycle is actually something that requires years of experience and we wonder if the hedge funds or their agents have it? We’re not being patronising – after 30+ years in this business, we’ve probably LOST more money than we’ve made in risk-based agriculture (by which is meant agriculture in emerging countries).  So we understand just how difficult this industry can be.

The other side of the market equation is demand.  In this case we can point to consumption increases from China and India and other emerging economies where a middle class requires more sophisticated products and a wider mix of foods. In these countries the high rate of economic growth implies a rapid growth of the middle class and a consequent rise in demand (indeed this is implicit in GDP growth) for processed foods. As people get richer they substitute basic staples (cereals and starches) for dairy, meat and fish. As we shall see, the issue is not simply the absolute number of people on the planet needing to be fed, but the increase in the number of people who can pay, and pay well, for their food.

For fish the market situation is clear: world fish stocks are declining and farmed fishery (aquaculture) is struggling to keep up with demand (check out our page on Fishery for more detail). With regard to staples, livestock consume large amounts of animal feed to produce our desired dairy and meat products and the conversion rate from cereal grain to meat is pretty poor.  So there is considerable upward pressure on demand (and price) for the raw materials of animal feed as the rich world requires more milk, meat, cheese and eggs.

But that can go the other way just as rapidly.  As the world struggles with what seems to be an impending economic implosion (read new recession), inevitably consumers will restrict their demand for these expensive products or (where they can) revert to traditional diets. Here’s news that Tyson Foods, the largest meat company in the US, has just reported third quarter profits down by 21%: Tysons warn of “sluggish demand for chicken, pork and beef as consumers face higher gasoline prices. The company has focused on streamlining operations as a weak economy dampens consumer demand and as feed costs continue to soar, forcing Tyson to also raise its prices.” (quote from Market Watch)

Result: more corn and other feed ingredients left in inventory and a downward pressure on prices. Of course it isn’t that simple. Newly urbanised populations in emerging markets have less opportunity to escape the mega-city cash economy and young people (the majority of the expanding population world-wide require energy foods based on carbohydrates and sugar, but the principle of saving on the food budget is there.

We’ve made the point before: the world’s food markets are currently finely balanced and which way this goes is not at all certain. 

Let’s consider a couple of other frequently discussed elements: Demand for bio-fuel is consistently cited as a reason for high food prices.  We think it’s more complicated than that.  Sugar cane and palm oil are both major sources of bio-fuel.  Neither is grown on land that is primarily suited for food crops.  Oil palm plantations in particular are grown on former forest areas in tropical countries. In the case of Malaysia, many of these plantations have been in place for probably 60 years; in Indonesia there is much new planting and to the extent that it depletes rainforest that is environmentally of concern, but does not immediately impact food crops, although here is an impact (so far unquantified) via climate change.

Climate change may indeed affect e.g., Sub-Saharan Africa, reducing food supplies, but this sector of demand is not what drives the current high market prices. As our recent post on Somalia indicates, population growth is occurring in those countries which are (a) very low incomes – so they cannot afford to buy on the international market – to use economist’s jargon, this segment represents “notional” demand based e.g., on FAO or WFP benchmarks for what people should eat rather than what they can afford and do eat (or not in the case of Somalia) – “effective” demand, and (b) in many cases the poorer countries are largely agricultural and grow their own foodstuffs; China, India and Indonesia are by-and-large self-sufficient in rice.

So the driver for commercialised agricultural produce is NOT the 3 billion people at or below the poverty line (it is estimated that 3.4 billion persons live on less than $2.5/day), but as we have said the new middle class in countries like China and India that might just withdraw their demand for commercialised agribusiness products if another recession hits. One more point to remember: currency changes impact the food markets; a weaker US dollar makes US-produced food attractive to international buyers (especially given the rapid drop against the Chinese RMB) but it makes input costs (especially energy) higher reducing farm margins.

To return to bio-fuels argument for a moment.  In the USA, the expansion of the corn area has been driven by the ethanol subsidy. But to the extent that corn is grown with wheat and soyabeans as a rotation crop, we suggest that by adding to farmers’ overall revenues it has actually enabled food production e.g., through the acquisition of new machinery. In general we believe that a search for renewable energy is the right (only) way to go and that the impact on the food security situation needs considering and analysing unemotionally and in depth. Overall, so long a bio-fuel competes with crude oil we think this will support agricultural investment.

So much for the fundamentals of supply and demand.  The truly shocking fact is that with the world’s population hitting 7 billion, only a relatively small proportion can actually afford marketed food, i.e., the agriculture and food-based industries reflected e.g., in the exchange traded funds.  But this proportion is growing rapidly at a rate exceeding population growth and, recessions aside, can be expected to continue to grow – The World Bank estimates that the global middle class is likely to grow from 430 million in 2000 to 1.15 billion in 2030!

In this case, investing in industries that feed those with money to buy food seems like a safe enough bet. Of course what happens to the rest of the world, the majority who are poor, is critically important but a subject for another day. Let’s now turn investment and the actuality of how the markets have behaved.

Take a look at the chart at the head of this article (Chart 1).  It compares the Rogers International Commodity Index for Agriculture (22 ag commodities) with the S&P 500 index of stocks (the black line is the RJA, the red line the S&P 500) since 2008 (as the peak ag prices started to decline).  Without getting too technical (and we are not technical specialists) it is clear that agricultural investments have done better than stocks.  The peaks are higher and the valleys less deep, the recovery more intense.
It is however true that since January the RJA has been going down or sideways but  it is also true that as the current decline has set in, agricultural investment has held up better than stocks (see Chart 2). So not only is there less long run volatility in agricultural investment, but the data shows the returns are indeed also better.

Another interesting point from the data  is the volume of contracts trade in the market. Look at the red and green bar chart. Note the greatly increased volume of trades since January, creeping up since the previous September. Volume is an indicator of where people are putting their money and the build up of interest in agriculture is significant.

What’s do we conclude? From our perspective agriculture is a long-term safer bet than stocks because despite it’s dependence on biology and the environment and the obvious fact that it has large cycles, the fundamentals are more understandable than stocks and the market is overall less inclined to panic. We also think that investment in emerging markets is the way to go; first such markets often offer lower production costs and second, we think this is a way that the problem of the lower income demand for food can be satisfied. But we hasten to add: agriculture has VERY nasty ways of catching one out and the supply-demand equation is a lot more complicated than many expect.  So be careful and be prepared for the unexpected!

While the weather still keeps us on our toes in North America, let’s take the opportunity to look at the rice industry.  Above all we need to understand the serious downside impact the ridiculous policy proposals of the incoming populist Pheu Thai government]will have on international supplies.

Rice represents 23 percent of the world’s supply of major cereals and is the preferred staple food of much of Africa and most of Asia – in other words the regions of the world where the population is growing the fastest (a recurring theme in this Bulletin).  Although many Asian do consume wheat or corn products, in almost all these countries the word “rice” is synonymous with eating – the Thai will say, “gin khao mai?”  – “eaten rice?”when she asks if you’ve eaten a meal and it is an equally common greeting.  The Japanese word for cooked rice “Gohan” is synonymous with “meal”.

Seventy-eight percent of the world’s supply of rice is produced in China, the Indian sub-continent, the Mekong Sub-Region and Indonesia, while demand is similarly concentrated – 67 percent is consumed in China, the Indian SC and Indonesia.  Partly because of the deep-seated cultural importance of the crop Asian countries want to be self-sufficient and largely they are. Indonesia has been an exception switching from being an exporter to an importer depending on the harvested volume. The operations of the Indonesian government’s procurement agency BULOG are important to watch.

This means that the international trade in rice is very “thin”, i.e., the volume is a small proportion of the overall amount of rice in the market.   Exports represent just 7 percent of the total supply, and about half of that comes from just two countries, Thailand and Vietnam (Cambodia and Laos also contribute, but much of their rice is actually taken through the two main Mekong countries).

The small volume of internationally trade rice (relative to the overall supply) means that prices can swing rather dramatically depending on the volume available for export and the fact that there are few sources with a surplus to buy. For example, when BULOG enters the market on the buy side, rice process can jump by $100/ton.  Similarly a reduction of supply will raise prices dramatically.

So what happens in Thailand and Vietnam is critically important to those who DO import rice – many African countries and Europe. Countries like Ghana, Senegal and Tanzania (which actually do grow their own rice) have relied on cheap Thai and Vietnamese to meet growing demand.

Let’s review the situation in Vietnam first: there are two main rice growing areas, in the north the Red River Delta (surrounding Hanoi) and in the south, the Mekong (Viet. Cuu Long) Delta are both intensively cultivated.  From being just self-sufficient in the early 1990s, Vietnam has raised production to the extent that it now exports the world’s second largest volume of rice (6.4 million tons) and competes equally on quality with Thai white rice.

The issues for Vietnam are (a) paddy land is being lost to industrialisation, (b) industrial pollution is damaging yields that have hitherto been driving the production increase, and (c) the water in the Red River and the Mekong is being limited by dams built upstream by other riparian countries.  Vietnamese experts say they expect that rice exports will peak at around 7 million tons and may well come down.

And now for “Amazing Thailand” (those familiar with Thai tourist advertising will get the allusion).  Thailand has dominated the international rice trade both in terms of volume of exports (up to 10 million tons at the peak) and quality.  Thai “fragrant” or “jasmine” (Th. khao hom dork mali) is a premium product that sells for over $1,200/ton in e.g., Hong Kong.  The issue for this variety is that it grows only on  dry land in the North-east so overall production is limited. But Thai white rice is grown extensively throughout the central areas of the country  supported by an extensive and relatively well-managed irrigation system. Weather, soil, water, experienced and hard-working farmers, available seed, technical expertise and a sophisticated export trade.

What could possibly go wrong?

The answer is (as is often the case in developing countries – Thailand is “emerging”  – but one wonders what it will emerge as?) GOVERNMENT.

Of course all governments interfere in agriculture and the Thai government is no exception.  However the proposal of the incoming (elected by a huge majority) Pheu Thai government to establish a monopolistic farm-gate price for white rice of 15,000 Baht (about $517) per ton and more for fragrant/jasmine rice amounts to sheer unadulterated lunacy.

The current price paid to farmers by hundreds of millers is roughly half that amount; production costs amount to (at a guess) $400/acre, with a yield of, say 2.5 tons/acre and a farm sale price of the current $241/ton, the farmer gets a gross margin of roughly $200/acre.  About 60 percent of farmers have holdings of  less than 10 acres. But even at this level, with three crops a year under irrigation the farmer’s gross income is around $6,000/year.  Although not large by western standards this is considerably more than the minimum wage.

So the average Thai rice farmer is not poor (by world standards). But of course he would like to be richer and the rural population voted almost exclusively for the Pheu Thai party and for a government-subsidised farm gate price about double what he or she gets now. Nice if you can get it, but unfortunately one of the basic rules of economics (not a subject well understood in Thailand, at least not in official circles) is “there is no free lunch”.

At the subsidised price for paddy rice, millers and exporters estimate (see article in The Nation newspaper) that the F.O.B price would have to rise to over $800/ton – when Vietnam is exporting comfortably at $545.

The Thai government (we should say, the Royal Thai Government – RTG – to be correct) proposes to use its food security warehouses to buy all the paddy. It will become (that lovely word) a monopsonist – the sole buyer of farmer’s paddy.  This will be milled on consignment and then packaged and sold ONLY from the government warehouses, it is said on “government-to-government” arrangements.  Official stocks are forecast to rise to well over 6 million tons for the current 3 million.

They could be even higher, because rice will flood into Thailand from, you guessed it, Vietnam, Laos and Cambodia. Hey folks, it’s called arbitrage – absent effective border controls (and I can assure you they ARE absent) a commodity will simply follow the money.

So now we have the very real prospect because of this daft politician’s promise, made for no other reason than to get elected, that not only will Thai rice – hitherto available competitively for export at a reasonable price relative to other cereals – back up in government warehouses, but export availability will be reduced in Vietnam and other neighboring countries.

One wonders what the WTO will make of this flagrant abuse of anything resembling free trade, and one is SURE that the prospect of “government-to-government” deals without the benefit of the current competition between dealers, will lead to rampant corruption.

In the end who will be the loser?  Unfortunately the very person the policy is intended to benefit, the Thai rice farmer, who will have priced himself out of the market. And the consumer, now without a supply of reasonably-priced rice. With rice removed from the thinly traded export market, prices will sky-rocket.

What could change the situation?  An outbreak of common-sense in Thailand is never a likely prospect. But India is set to lift a ban on rice exports and this may relieve pressure on the international price.  So then the RTG will be the proud owner of millions of tones of rice that it has bought for considerably more than the world price; you can keep  rice, but not forever:)

As we who live in Thailand  say, “TIT” – This is Thailand, and as the Thais say, “mai pen rai” – Never mind!

For years famine has haunted the Horn of Africa.  Remember “Live Aid” in 1985?  Celebrities like Bob Geldorf and the egregious Bono have made careers out of pushing famine relief so very unfortunately it has almost become a cliché.  The South Park cartoon series actually has a hilarious episode deriding Bono; we get inured to the awful pictures on the BBC and CNN.
Get used to the fact that famine is not unusual, it will increasingly become the norm, and that Somalia (and Ethiopia and Northern Kenya) represent the tip of an enormous iceberg.

Let’s deconstruct what’s happening.  And for those wondering why this is relevant to the commodity markets, the issue of famine is at the very sharpest end of demand for food, so it is essential to understand this aspect of the supply-demand equation that determines prices on the international markets.

In the 18th Century one Very Reverend Thomas Robert Malthus pointed to the problems of population growth within a space of finite resources.  Subsequent experience in the 1960s and ‘70s showed that the resource boundary can be pushed back through innovation and technical change.  The Green Revolution is a classic example in agriculture with increasing yields and understanding of how to grow crops in adverse conditions (e.g. zero till).

So everyone went back to sleep.  The EU produced literally mountains of grain and butter and the US had its PL480 program to giveaway grain.  We monetized Canadian grain to start the famous Dairy Development Board in India and a myriad other schemes to help the disadvantaged. Never mind the impact on local farmers or on incentives to actually invest in productive areas.

By the way, the industrialized countries insisted that while we could subsidize and otherwise protect our agriculture developed countries had to de-regulate, abolish subsidies and open their trade.  So the terms of trade turned unequivocally against those poorer countries where the most investment in agriculture and food production was needed. And all was right in the best of all possible worlds.

But now we re-awake to the fact that innovation in agriculture, by its nature a slow process, has been further slowed by a lack of investment (especially by governments in the poor countries), incompetent development agencies, NGOs that love the local people but fail to understand agricultural systems (which – God forbid – require agribusiness and capital and traceability and international hygiene standards), and concerns  about poor margins of profitability by the private sector investors.

The latter are slowly revising their models based on the highest prices we’ve seen ever, but for the rest the best they can do is make warning sounds, write reports and issue ineffective communiqués (e.g., G20 recently).  Needless to say the NGOs wring their hands and the bureaucrats (as they are wont to do) do nothing except siphon off the funds into salaries, study tours, “fact-finding” missions and lots of other goodies.

Yes, Dear Reader, this is the reality of agricultural development.

So with some modification it could be that Malthus was right after all.  Ironically the highest rates of population growth are in the least wealthy countries and in those countries where the ratio of persons to domestic food supply is the highest.  These are the countries where domestic agricultural capacity has been systematically undermined and whose ONLY hope now relies on private sector investment.

Some hard numbers will make the point:  even with the current disaster, outmigration and other woes, the Somali population is growing at 1.6% (2011 estimate). This implies a doubling time of 43 years.  Ethiopia, population grows at 3.2%, doubles in just 21 years; Kenya – 2.5%, doubles in 28 years.  Africa has the highest fertility rates in the world (for some countries the norm is up to 8 children per family). Sub-Saharan Africa  – including the poorest and most dysfunctional countries – held 800 million people in 2007 and was growing at 2.3% – so by 2038 (27 years from today) we can expect a population in this region alone of 1.6 billion people.

Do any of my readers seriously believe that agriculture can catch up? The author has been working in agricultural development for the last 30 years in many of these countries.  There has been no indication whatsoever that our approach has the slightest hope of feeding even the current Sub-Saharan population, let alone double that number of people.

According to the UN’s Food and Agriculture Organisation (FAO) growth rates in agricultural production are the lowest since 1960. The growth rate for 1994 to 2001 was just 1.5%. FAO (which in this case may be regarded as an authority on the subject) says, “Growth (or decline) in total factor productivity (Auth. i.e, for agriculture) results predominantly from public investment (or lack of investment – Auth. my italic) in infrastructures (irrigation, electricity, roads) and in agricultural research and extension, and from efficient use of water and plant nutrients”.

It is true that FAO goes on to say elsewhere that it believes agriculture can keep pace with population growth, but ONLY on the assumption that demand drops! Good grief! FAO also says this will be, “provided that the necessary national and international policies to promote agriculture are put in place” (Ed. my italic).
Is there any reason to believe that they will be?

The irony is that some of our most successful development projects have been in the area of health, specifically tackling HIV/Aids.  USAID’s budget for the Health Sector was (FY 2010 obligation to programs) US$5.95 billion, for agriculture (including their nicely named but more or less ineffectual “Feed The Future” Program) the obligation was only US$1 billion.

Health programs save lives and do so rather rapidly with the minimum of innovation (malaria nets, for example) and we welcome that.  But agricultural innovation even when we do it right takes years to succeed. And for the most part unfortunately and despite some people’s best efforts (usually those working in the field and not behind a desk) we do it wrong.

So we are successful at increasing the population growth but singularly unsuccessful at feeding the very people whose lives we have saved in infancyResult! 

And USAID and the other donor agencies are staffed by PhDs paid with YOUR tax money and YOUR national debt.

We estimate that any single innovation in agriculture takes a minimum of five seasons to be fully adopted (and a lot longer in some places where traditional agricultural systems prevail).  So even if fully successful, that leaves just under 6 project cycles to come up with technologies and related infrastructure to feed double today’s population of Sub-Saharan Africa.

Does anyone out there believe it can be done with present approaches?

We should mention climate change (as one has to do these days in every consulting report to the donors).  The fact is that we really have no idea of the long-term effects of climate change and even less what to do about it. But it does seem from an anecdotal perspective that many areas are becoming warmer and drier (drought is the basis of the current Somalia crisis). We do have technology that copes with changing environments (water management systems, adapted crops) but again what is needed is not more hot air from the lips of governments, but coherent action across a wide range of disciplines. Judging from the programs we’ve looked at, none of that coherence exists, so we face the prospect of decreased productivity where increases are most needed.

The fact is that famine and starvation in Africa (and maybe elsewhere) are unfortunately going to remain the norm unless we radically change our approach.  

To an extent the same logic and calculations will apply in other parts of the world; India still has the largest single group of persons below the poverty line of any country, Pakistan’s agriculture is under-performs by a huge degree and countries like Burma (we insist on not calling it Myanmar) and Bangladesh will also struggle with the problem.  Indonesia is rapidly approaching the limits to its agricultural potential.  In China population growth may be under control (though with enormous but necessary costs in human rights and in distortions of the male-female ratio) but income growth rates will equally suck in food.

Our analysis concludes as follows:  for a very significant part of the world’s population – perhaps 2 billion persons – food scarcity will remain the norm (remember – this is the basis of FAO’s assumption that overall agricultural production will keep pace with population growth!).  There will be increasing incidents of famine.  Agriculture development will largely fail to tackle this problem not because of a lack of natural resources but because of a failure of policy and decision-makers to grasp what needs to be done.  Bureaucrats will not change their spots because the sociology of bureaucracy is such that it prevents radical change and effective action “outside the box”.

For other parts of the world (e.g., China, South-east Asia) income growth will push diets towards the Western obesity model.  Food demand will be for processed products high in sugar and fat, Starbucks (expensive) coffee, “organic” (i.e., high cost) fruit and veg, meat and dairy products and high-value fish (stocks are in decline).  In this segment of the market, i.e., the growing middle class transitioning from a basic diet of products grown on their own smallholding to sophisticated products which they now consume as urban dwellers, food will be available but at a high cost (not least in terms of the energy needed to process and transport it).

Is there any hope in what we have to say on this subject? There is perhaps some.

We believe firmly in markets and that high crop prices (and more particularly good margins) will bring in the investment, innovation and technology that is required. It will come from the private commercial sector aimed at making money (anathema to many in the development community).

  • NGOs have to stop whining about GM crops and the depredations of large-scale farming and start making positive suggestions that lead to the development of integrated systems that include smallholders and agribusiness.
  • Developing country governments have to step out of the way if they cannot facilitate this investment.
  • Donor agencies need to clue in to what’s happening rather rapidly or else hand the money back to the taxpayer and go out of business.
  • Private investors should look very seriously at LONG TERM investments in agriculture and agribusiness that are sustainable and integrated with the local community and stakeholders.

Or  else we will undoubtedly live in a world where a very significant minority lives as our ancient ancestors did, ill-fed, short and brutish lives.  I find that quite unacceptable – and probably they will too with consequences we can only wonder about.
Geoffrey Quartermaine Bastin

Bangkok, July 2011

The author’s views are his own and do not reflect the opinions or policies of any of the companies or agencies or clients with which he is associated or has been associated.

Let’s take a very careful look at what’s going on with the fundamental market indicators in the cereal grains market.

Prices dipped in the last couple of weeks and then recovered somewhat, the G20 gave birth to half-hearted ideas with the French sounding their usual ineffectual trumpet. The Russian lifted an export ban on wheat, US corn was thought to be in greater supply as the USDA reported perhaps prematurely on area. The Thai election, bringing in a radical pro-poor government, heralded price subsidies that could price Thai rice out of the market, and in the last few days, China has been buying corn.

That prices are historically high there is no doubt. We will not labour this point; the market dips and the media rush about saying that the food crisis is over. It isn’t. Looked at over the last 10 years, prices are not at their peak, but they aren’t far off it.

We should be looking at long–term, aggregate supplies of cereals in this market – perhaps not if you are a daily trader, but certainly if your interest is investment in agriculture or agribusiness where you would expect a 3 to 5 years payback period (perhaps a lot longer if the investment was in a more challenging country than Australia or North America.

Our aggregate supply-demand-stock balance shows that while supply and demand have crept up with demand inching slightly ahead of supply, stocks have dropped off sharply. Overall we think that major cereal grain stocks will be 20% of demand in the coming year; this is sharply lower than 26% for 2010/11 and lower again than the previous year. Only in 2007/08 when prices skyrocketed was the proportion lower still (18%). The market is very finely balanced with only about 5 million tones between supply and demand. This is a better projection than the negative 34 million tons last year that has drawn down stocks so sharply, but still with little room for production difficulties.

Corn has performed well over the period driven by the demand for bio-fuel and livestock feed – as the world’s economy has begun to recover, so have people consumed more high value meat and dairy products. Assuming the recovery continues, this demand isn’t going away. Wheat, of course had a bad year in 2010/11 and although production has recovered it still isn’t back to where it could be. As for rice, despite efforts to raise yields, it has shown the slowest rate of growth of the three majors.

Where does this leave us? Economic recovery presupposes more demand for carbohydrate, for humans, animals and to turn into fuel. Wheat has some capacity to expand supply and is a good investment. There seems no reason to believe that corn will get substantially weaker.

Rice presents a problem, however. The larger producers, China and India basically cover their own supply, so the internationally traded market is very thin – about 7% of production. The main exporters are the Mekong region countries (Thailand, Vietnam and Cambodia) and they have been having a bumper crop. However expansion of the Viet crop is limited by land area and Thailand’s new government may introduce policies that simply mean Thailand is priced out of the export trade. So rice is a critical variable in carbohydrates to watch going forwards.

A couple of weeks ago the markets were agog that we would see $9/bushel corn.  Now it’s all disaster as some frankly weird data from the USDA suggest that corn stocks are higher than expected and so is the acreage. 

Corn December futures dropped to $6.58 while wheat dropped below corn to $6.33 – the first time wheat has been below corn since 1984.

In its inimitable way the popular media are now forecasting cheaper food prices. Wow! The G20 only had to meet and prices came down!  Those of us talking about a serious world food crisis? Well it look like we have egg on our faces, or at least a lot of  corn.

But wait a minute, folks, before you get carried away by the bears.  You’ll notice from the futures price chart that we’re only back at around May, and the $9 hype was exactly that.  Corn has never reached $9 and probably wasn’t going to given that we’d already seen that wheat was substituting for corn, the crude oil price was coming back into the $100/barrel range and that Russian was already planning to re-export wheat.  Nothing here the real smart ones didn’t know about.

The other point to make is that corn and wheat over $6/bushel is still a good price for farmers and a tough one for consumers.  The decade 2000-10 average price for corn is $2.78; at a previous peak in  2008 it reached $5.48 in June of that year.  So corn is historically expensive even with the sell-off.

Wheat is in a slightly different situation.  The 2008 peak was $8 and since then the price has slumped somewhat.  But even so the decade average is $4.74 so current wheat prices are not particularly cheap either. A glance at the chart shows that the actual case (unless you are a short-term trader) is that both commodities have trended upwards in the last few months based on some basic fundamentals.

What’s interesting is that USDA has reported not on the overall world supply demand situation for either crop, but only on corn stocks and acreages.  USDA may well have over-estimated the area at 92 million acres (4 million more than last year and the highest on record since 1944) by not including areas flooded since the survey was completed; next month will see an up-date so be prepared for that.

USDA also said that stocks were 3.67 billion bushels, actually 15% down on this time last year, but 11% higher than the trade itself was saying.  So the price correction comes purely from the statistical inaccuracy of the analysts rather than the basic underlying data.

Of course the USA dominates the world corn market, so these detailed numbers are critical and are the basis for trading.  But for those interested in a wider perspective, both for planning projects and looking at investments, here’s what the supply-demand balances say:

For corn, the old crop supply has increased but so has demand both in North America and China.  World corn trade has remained somewhat flat because the largest importers (in Asia) have done better with their own production.  Even Africa has had some productivity successes. But the old crop stock:demand ratio is at it lowest for some time, so we think the market has over-reacted to the USDA report.  Equally by far the largest volume of corn is in China and it remains to be seen whether floods there have damaged physical stocks.  Overall on the world scene while stocks will probably build in the next 12 months there is no room for complacency. even re-built stocks will still not reach the levels of a couple of years ago, and a great deal will depend on the demand for ethanol and hence ultimately the crude price.

Turning to wheat, the key feature is the re-emergence of Russia as an exporter, but that fact is already built into the price. Nevertheless, the supply side look better though for this year it remains behind demand.  Stocks are being pulled down with the price competitiveness against corn and longer-run a normal price premium will be re-established. Wheat is finely enough balanced that a lower than expected harvest will firm prices.

Our bottom line is that we should treat the current dip with some skepticism and look overall at the world grain supply situation. It is by no means dire, but neither is there so much grain around that everyone can relax and pat themselves on the back for solving the food crisis.