Is this another crisis like the one we had in 2008?
Not quite. Maximo Torero of the International Food Policy Research Institute (IFPRI) in Washington DC notes that oil, the real driver of food prices and of the 2008 crisis, is relatively cheap, at around $75 a barrel, not over $100 as it was in 2008.
In 2008, both immediate grain prices, and the prices offered for future grain purchases in commodities markets, climbed steadily for months, whereas now they are spiking and dipping more unpredictably, which economists call volatility.
“The market fundamentals – supply and demand – do not warrant the price increases we have seen,” says Torero. Not all harvests have been bad, and after 2008 countries rebuilt grain stocks. “There are enough stocks in the US alone to cover the expected losses in Russia.”
The food riots in Mozambique were not due to world grain prices, he says, but because Mozambique devalued its currency, making imported food more expensive.
So what has been happening this year?
Markets are responding nervously to incomplete information. First there was a series of shocks: Russia’s export ban, lower maize forecasts, then, days later, a US ruling to allow more bioethanol in fuel which seemed likely to further reduce the maize – the main source of bioethanol – available for food. Meanwhile there was no reliable information about grain stocks, which is strategic information that most countries keep secret.
The result was nervous bidding and sporadically surging prices in commodity markets. And that attracted the real problem: investors wielding gargantuan sums of speculative capital and hoping to make a killing. When speculation exacerbated the price crisis of 2008, Joachim von Braun of the University of Bonn, Germany, then head of IFPRI, predicted that it would continue causing problems. “We saw that one coming and it came,” he says. “Food markets have new design flaws, with their inter-linkages to financial markets.”
Volatility also makes it harder to solve the long-term, underlying problem – inadequate food production – by making farmers and banks reluctant to invest in improved agricultural technology as they are unsure of what returns they will get. “Investment in more production alone will not solve the problem,” says von Braun. As long as extreme speculation causes constant price bubbles and crashes, either farmers will not get good enough returns to continue investing in production, or consumers will not be able to afford the food.
“Without action to curb excessive speculation, we will see further increases in these volatilities,” he says.
FAO says that Food price volatility a major threat to food security:
Concluding a day-long special meeting in Rome the experts recognized that unexpected price hikes “are a major threat to food security” and recommended further work to address their root causes.
The recommendations, put forward by the Inter-Governmental Groups (IGGs) on Grains and on Rice, came as FAO issued a report showing that international wheat prices have soared 60-80 percent since July while maize spiked about 40 percent.
The meeting said that “Global cereal supply and demand still appears sufficiently in balance”, adding, “unexpected crop failure in some major exporting countries followed by national policy responses and speculative behaviour rather than global market fundamentals have been the main factors behind the recent escalation of world prices and the prevailing high price volatility.”
Among the root causes of volatility, the meeting identified “Growing linkage with outside markets, in particular the impact of ‘financialization’ on futures markets”. Other causes were listed as insufficient information on crop supply and demand, poor market transparency, unexpected changes triggered by national food security situations, panic buying and hoarding.
The Groups therefore recommended exploring “alternative approaches to mitigating food price volatility” and “new mechanisms to enhance transparency and manage the risks associated with new sources of market volatility”.
In a recent IFPRI discussion paper, Recent Food Prices Movements: A Time Series Analysis, Bryce Cooke and Miguel Robles analyze the food price spike of 2008. They asses multiple proposed explanations (from biofuels, oil prices, weather, trade barriers, and speculative markets) using econometric time series analysis. They conclude that financial activity in futures markets and proxies for speculation can best explain crisis. They write:
Results of our rolling windows Granger causality tests show the following:
(1) In the case of rice prices we find weak evidence that for few 30-month intervals between 2004 and 2007, the U.S. dollar depreciation rate has marginally Granger-caused the growth rate of rice price; and also the growth rate of real world money holdings seems to be more important in explaining the growth rate of rice prices after 2004, but this evidence is not really statistically significant.
(2) When we analyze the price of soybeans we find that, starting in mid-2005 (which implies a 30-month period ending December 2007), the growth rate in the world exports of soybeans shows evidence of Granger causing the growth rate of soybean prices.
(3) In the case of corn we find that starting in the second half of 2004 the growth rate of oil prices shows evidence of Granger causing the growth rate of corn prices, but with a negative relationship.
(4) When analyzing our speculation proxies we observe that the ratio of monthly volume to open interest in futures contracts indicates that for the case of wheat and rice, starting in 2005, it has influence in forecasting price movements.
Also we find that for the case of rice, the ratio of noncommercial long positions to total long (reportable) positions has an effect on prices, starting in 2004. When we analyze the same ratio for short positions we find additional evidence for speculation affecting the growth rate of corn and soybean prices. In the case of corn there are signs of causality between March 2004 and September 2006, and during the 30-month span from May 2005 to November 2007. In the case of soybeans we find weak evidence, in particular for the 30-month period ending February 2008.
Interestingly as the rolling samples include 2008 and 2009 data, picking the decrease of grain prices since mid 2008 and the adverse effects of the global financial crisis, the evidence of speculation activity affecting spot prices vanishes in all cases. This supports the view that during the food crisis agricultural grain markets were operating under a different regime in which speculation activity played a role in spot prices formation. The overall evidence points to the following interpretation: before and after the food crisis speculation activity had no effect on spot prices formation while during the crisis it did. This is not to say that before and after the crisis speculation was not present, it was (probably to a less extent) but didn’t granger cause spot prices.
Overall, we conclude from our time series analysis that when taking the four commodities analyzed here there is evidence that financial activity in futures markets and/or speculation in these markets can help explain the behavior of these prices in recent years. Other explanations are only partially supported for the particular case of one agricultural commodity or not supported at all. We do not claim, however, that these other explanations should be disregarded; all that we can say is that in using the variables considered in this study and the particular time series models herein, we do not find such evidence.
Frederick Kaufman wrote a Harper’s magazine in July 2010 The food bubble:
How Wall Street starved millions and got away with it that reports on finance and the food crisis. The Harper’s version is behind a paywall, but Kaufman was interviewed on Democracy Now.
More academic takes on the food crisis and the possible future of food price volatility are in:
C. Gilbert and C. Morgan’s article Food price volatility in Proc Royal Soc (DOI: 10.1098/rstb.2010.0139 ). They conclude:
We have highlighted the extensive evidence demonstrating interconnection of financial and food commodity markets as the result of speculative activity. Nevertheless, this contention remains controversial and, until the mechanisms are better understood, the policy debate will remain confused.
C. Gilbert’s How to Understand High Food Prices in Journal of Agricultural Economics (DOI: 10.1111/j.1477-9552.2010.00248.x) whose abstract states:
Agricultural price booms are better explained by common factors than by market-specific factors such as supply shocks. A capital asset pricing model-type model shows why one should expect this and Granger causality analysis establishes the role of demand growth, monetary expansion and exchange rate movements in explaining price movements over the period since 1971. The demand for grains and oilseeds as biofuel feedstocks has been cited as the main cause of the price rise, but there is little direct evidence for this contention. Instead, index-based investment in agricultural futures markets is seen as the major channel through which macroeconomic and monetary factors generated the 2007–2008 food price rises.
Agriculture and Climate Change: An Agenda for Negotiation in Copenhagen by Gerald Nelson, a new report from IFPRI, argues that due to the substantial impacts of climate on agriculture and agriculture of climate, agricultural policy should be coupled to climate policy. SciDev.net reorts Put agriculture at heart of climate talks, says report
Mark Rosegrant, director of the Environment and Production Technology Division of IFPRI, said that the effect of climate change on agriculture was “uncertain and variable around the world. But one thing is very clear: that the poor and developing countries are more vulnerable.”
Developing countries have less rainfall, are more dependent on agriculture and face greater obstacles to adaptation, he said.
IFPRI has made provisional estimates that the global yield of rain-fed maize will decline by 17 per cent and the yield of irrigated rice will drop by a fifth by 2050 as a result of climate change. Sub-Saharan Africa and South Asia will be the worst hit, according to the new data.
But the way agriculture will suffer as a result of climate change is only half of the story, the report argues. Its role in influencing climate change is also being ignored, despite the “huge potential to cost-effectively mitigate greenhouse gases through changes in agricultural technologies and management practices”.
Agriculture contributes about 14 per cent of annual greenhouse gas emissions. But by changing the types of crops grown, reducing land tillage and switching from annual to perennial crops — as well as changing crop genetics and improving the management of irrigation and fertiliser use — greenhouse gas emissions could be cut.
The report suggests several potential negotiating outcomes (for more information see the report):
- Fund cost-effective mitigation in agriculture and research on promising technologies and management systems
- Fund low-cost systems for monitoring agricultural mitigation
- Allow innovative payment mechanisms and support for novel institutions for agricultural mitigation
- Allow funding mechanisms that recognize the connection between pro-poor development policies for sustainable growth and sound climate change policies
- Allow funding mechanisms that recognize and support synergies between adaptation and mitigation
- Provide funds for agricultural science and technology
- Provide funds for infrastructure and institutional innovations
- Provide funds for data collection on the local context of agriculture