Wednesday, 23 July 2008

More on food prices

When it comes to world food price an often asked question is What has caused the increases in the price of food? Several culprits have been blamed.
  1. Newspapers have cited an internal World Bank document as having found that 75% of the price increase was due to biofuels
  2. Several governments and commentators see speculation as a major driving force.
  3. Widely held view has it that rapidly growing food demand in the emerging economies is pushing up global food prices.
Stefan Tangermann in an article at asks What's causing global food price inflation? The column aims to ask the question What contributions have the above, or other factors, made to rising food prices?

Tangermann makes the point that
The OECD has carefully looked at market developments and analysed the implications of biofuel support policies. The analytical framework used is a large-scale partial equilibrium model of agricultural commodity markets in all major countries and at the international level, with detailed representation of the multitude of policy instruments affecting these markets, including those targeting biofuels.

Results were published recently in the OECD-FAO Agricultural Outlook, a paper on the causes and consequences of rising food prices, and a report on the economic assessment of biofuel support policies. The evidence is pretty clear.
That evidence?
Food demand in China, India, and other emerging economies is rising as their incomes grow. However, domestic food production in most of these countries is growing in parallel. China, for example, has been a consistent and growing net exporter of cereals (including rice). The Agricultural Outlook expects China’s net cereals exports to decline only very gradually in the coming decade. For India, the picture is similar, though there was significant variability in its net trade position in the past. In short, growing food demand in the major emerging countries cannot be held responsible for the rise in world market prices for cereals.
Yet, there is no hard evidence that “speculation” has added much to the price increase on spot markets. After all, it is only when “speculators” actually buy produce on the spot market that they can drive up the price, and this would have to be reflected in growing stock levels – but stocks appear to have declined throughout the period of rising prices
So where is the problem?
A different type of panic, though, has without doubt contributed to food price inflation – the barriers to exports that some food exporting countries have imposed in order to keep domestic food prices under control.
OECD analysis clearly shows that two factors external to agriculture and food have had, and will continue to have in the years to come, a significant impact on the rise of global food prices.
  • The rapid increase in crude oil prices and energy prices more generally has significantly raised the costs of producing and shipping agricultural products.
  • The weak dollar has contributed to driving up dollar-denominated commodity prices in international trade.
But Tangermann goes on to say
... there is also one policy-made ingredient in the story – the high and growing level of support provided to the production and consumption of biofuels.
He continues
The use of agricultural products, in particular maize, wheat, and vegetable oil, as feedstock for biofuel production has expanded dramatically in recent years. Between 2005 and 2007, i.e. in the period when food prices began to explode, nearly 60% of the growth in global consumption of cereals and vegetable oils was due to biofuels. Global output of cereals and vegetable oil did not decline during that period, but just grew slower than the rapid expansion of use.

In a situation of depleted stocks and very low demand and supply elasticities, this gap between use and output growth has pushed prices up very strongly. As a large part of the use expansion was due to biofuels, there cannot be any doubt that biofuels were a significant element in the rise of food prices. More specifically, in North America and Europe biofuels cannot be produced, and would be very little used, in the absence of government support through subsidies, tax breaks, tariffs, and use mandates. In other words, biofuel support policies have contributed greatly to the rise in global food prices.
His conclusion is
In summary, several factors are behind the recent dramatic increase in food prices. But one of them is clearly a result of deliberate policy decisions, i.e. to support the expansion of biofuels production and use. The OECD’s recent report on the economic assessment of biofuel support policies has clearly shown that their effectiveness is disappointingly low, with public support costing between $960 and $1700 per tonne of greenhouse gas emissions saved. In a situation like that, governments have good reasons to reconsider their biofuel support policies if they want to help to calm food prices down.
Thus we find that there cannot be much in the way of doubt that biofuels are a significant factor in the rise of worldwide food prices. Add to this the fact that other research suggests that biofuel support policies are disappointingly ineffective on environmental grounds, then it should be clear that governments need to reconsider their support for biofuels. But many governments, including New Zealand's, seem to want to push ahead with such policies despite the kind of evidence Tangermann brings to bear on the issue.

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