Risk Of Food Crisis Creeping Back?

In a recent article Whatever happened to the food crisis?, The Economist drudges anew over the enigma of conflicting developments: rising food prices in a recessionary environment.

Nonetheless like us they see the risks of a food crisis creeping back.

(bold emphasis mine)

``If this was happening during a boom, it might be understandable. But recession would normally dampen down price rises. So what explains the return of food-price inflation? And does it mean that the so-called world food crisis is returning?

``There are two clusters of explanation: cyclical factors—features of the farm cycle and world economy that fluctuate from season to season—and secular, long-term factors. Cyclical influences include re-stocking: cereal stocks were run down as prices spiked and need to be replenished. In 2006 and 2007, stocks fell below 450m tonnes, about 20% of consumption; now they are back up over 520m, or 23%. That is one source of new demand. Another comes from ethanol. As oil prices rise, ethanol starts to be competitive again (as a rule of thumb, ethanol is profitable when petrol costs $3 a gallon in America, a level it has just reached in California). The fall in the dollar and in freight rates has also kept the local-currency costs of importing a tonne of cereals lower than dollar-denominated world prices. This has encouraged many countries to buy more.

``Lastly, it is possible that the widespread hunger brought about by soaring prices—the FAO says a billion people will go hungry this year—may have reached a peak and the poor may be back in the market for grain again. This may sound unlikely, as traditionally poor consumers have had little influence over world food prices, but economic growth has continued in the largest emerging markets (notably China and India) and governments in much of the developing world have been expanding aid programmes for the poor, such as conditional cash-transfer schemes. That may be boosting demand; it would explain why prices of grain, which everyone eats, have been rising this year while prices of meat—the food of the rich and aspiring middle classes—have continued to fall."


My comment: So cyclical factors of restocking, rising oil prices (transmitted via the ethanol channel) and low prices could have contributed to a demand boost, although the Economist admits that government programs-such as aid expenditures could have also been key variables.

And as we have long mentioned inflationary policies impact prices relatively. It affects sectors that are the primary beneficiaries of government programs- in this case, aid spending which could have resulted to the disparities between meat and grain price trends.

However, sustained government fiscal spending is likely to cause a diffusion of increases consumer which means that even meat prices will likely increase over time.

The Economist adds some important secular trend dynamics,

``But the world food crisis of 2007-08 showed that food prices are not influenced solely, or even mainly, by cyclical factors. They soared in large part because of slow, irreversible trends: population growth; urbanisation; shifting appetites from grain to meat in developing countries. There is no sign that these trends are abating."

Finally, the Economist imputes regulatory and political obstacles as substantially distorting the marketplace.

``The failure of farmers in poor countries to respond to price signals does not mean they are deaf to them. Rather the signals they get are often scrambled or muted. Farmers were frequently not paid the full world price for their crops, because governments were determined to keep local prices low in order to relieve hard-pressed consumers. Some governments also banned food exports.

``Even in rich countries, farmers are responding to many things other than food markets. Take oil prices, for example: these (and government subsidies) determine how much maize is planted for ethanol. That in turn influences how much land is planted to soyabeans, which for American farmers are interchangeable with maize. Growers are also responding to the flow of investment capital into farming as a result of the global financial meltdown. Food is recession-resistant, and farming has been one of the sectors least affected by the worldwide slump. The FAO’s Abdolreza Abbassian argues that increasing links between farming and other parts of the economy are making it more difficult for farmers to calculate in advance the profitability of any one crop, so the area they plant is tending to fluctuate more sharply from year to year. Farming—as the past two years have clearly demonstrated—is becoming a more volatile business, both in terms of price and area planted."

``On the face of things, markets last year were adjusting exactly as economic theory predicts they should: prices rose, drawing investment into farms; supplies then rose sharply, pushing prices down. But that was not the whole story. The price fluctuations of 2007-09 suggested that uncertainty in the world of agriculture was deepening under the influence both of oil prices and capital flows. The fact that prices are still well above their 2006 average, even in a recession, suggests that the spike of 2008 did not signal a mere bubble—but rather, a genuine mismatch of supply and demand. And this year’s price increase suggests that there is a long way to go before that underlying mismatch is eventually addressed. “I don’t see that anything has fundamentally changed,” says Mr Abbassian. “That means we cannot go back to where we were in 2007.”

While the Economist alludes to capital flows as another variable in passing, it didn't dwell on the influence of global monetary policies -where zero bound interest rates and a loosened credit policy environment have sparked credit booms in emerging markets as China and may have added further pressures on the demand side.

At the end of the day, the growing risks of a food crisis all boils down to extensive government intervention that has deadened market price signals, and severely distorted the balance of supply and demand.

Aside, this could also possibly signify a flight to commodities or the crack up boom phase of our Mises moment.