Grain Price Volatility and Its Economic Interpretation Brian Wright - PowerPoint PPT Presentation

Grain Price Volatility and Its Economic Interpretation Brian Wright Department of Agricultural and Resource Economics College of Natural Resources University of California, Berkeley. DEC World Bank March 11, 2011

Post- “ Inside Job ” I perceive a need for disclosure: Recent or current grant support: • Energy Biosciences Initiative (UC Berkeley. UIUC, LBL, BP, funded by BP) • USDA • NIH • NSF • USPTO

Disclosure (contd.) • Current consulting relationships: – World Bank – FAO • No recent positions in commodity markets • No investments in agricultural input or service providers, or significant commodity market or energy market participants

Food Price Volatility: Resurgence of Concerns of 2008 • Recent high prices have focused world attention on global food security • Poorest market-dependent consumers are the most vulnerable • Widespread urban unrest, political pressure • Longer-run question: a new regime of scarcity?

Current situation Claimed similarities to 2008: ① Higher oil prices impacting commodity prices ② Dollar depreciation contributing to higher prices ③ Financial investment in commodities remains high

Claimed differences from 2008: ① International price increases more widespread across commodities, suggesting demand in emerging countries is more important this time ② Weather induce production shortfalls are more of a factor now ③ Policy responses have been less adverse than in 2008

Focus of Study: Market Volatility ① Facts past and present ② Arithmetic of commodity balances ③ Supply, demands, shocks and perceptions

Focus of Study: Market Volatility Preliminary Questions: Prices When was the last time real (US CPI-deflated) maize prices were as high as they were in 2008, and currently?

Focus of Study: Market Volatility Preliminary Questions: Were the circumstances in 2008 a “near-perfect storm” for grain markets?

Focus of Study: Market Volatility Preliminary Questions: Is the relative amplitude of grain production variation increasing?

Focus of Study: Market Volatility Preliminary Questions: 1) Which year had the largest global downturn in aggregate production of wheat, rice and maize since WWII? 2) What was the % drop?

Focus of Study: Market Volatility Preliminary Questions: 1) Which of the major grains had the greatest year-on-year production drop since WWII? 2) In what year? 3) What was the % drop?

Focus of Study: Market Volatility Preliminary Questions: Were the three great commodity booms post WWII energy-led?

UN FAO food price index deflated by US CPI

Deflated Monthly Food Price Index Source: FAO. Note. All indices have been deflated using World Bank Manufactures Unit Value Index (MUV) rebased from 1990=100 to 2002-2004=100

Real maize prices Source: USDA. Note. Deflated using U.S. CPI, 1982-1984=1.

Real wheat prices Source: USDA. Note. Deflated using U.S. CPI, 1982-1984=1.

Real rice prices (Thailand, 5% broken, white milled) Source: IMF. Note. Deflated using U.S. CPI, 1982-1984=100.

Long run movements of normalized commodity price indexes deflated by the US CPI

Effects of Oil?

How can oil price affect grains? • Via fertilizer market? – Fertilizer prices rose – is that sufficient? – Did fertilizer use decline? – Did fertilizer corps make more profit?

Source: Calculated using Data from PSD Online, USDA. Note. World grains = wheat + maize + milled rice. All quantities converted into Calories assuming, for wheat 3338Kcal per Kg, for maize 3650 Kcal per Kg, and for milled rice 3656 Kcal per Kg). 2010/2011 is projection.

Where is 1972/3? Source: Calculated using Data from PSD Online, USDA.

Spikes happen when there are: 1. Unpredictable (negative) surprises 2. Minimal starting stocks

Illustration: Effect of two low harvests : 1. Starting with average harvest, and price at mean :

Effect of two low harvests: 1. starting with average harvest, and price at mean : 2. starting at zero stocks

Source: Calculated using production data from PSD Online, USDA.

U.S. maize energy availability Source: Calculated using supply and use data from Feed Grain Database, USDA. Note. Annual supply-use statistics provided by USDA are on a marketing-year basis.

Global consumption of energy from major grains Source. Calculated using data from USDA. Note. Quantities are converted into Calorie content assuming, for wheat 3338Kcal per Kg, for maize 3650 Kcal per Kg, and for milled rice 3656 Kcal per Kg).

US share of caloric production of maize, wheat, rice and soy Source: Roberts and Schlenker

Characteristics of Grain Prices • Long downward trends • Generally moderate, smooth movements around trend, interspersed by occasional steep spikes • Recent real spikes not unprecedented

Theory of storage implies: • Storers smooth out troughs in price and low- value consumption after high harvests by “ buying low to sell high ” • Storers smooth expected shortages if cash is available: – invest in stocks, raise current price, reduce expected shortage

Theory of storage implies: • After unexpected shocks, storers smooth out peaks, but only until their stocks run out • When stocks run out, shocks must be matched by imports, drops in consumption of animals, biofuels processors, or (poor) people

Effects of Storage on Prices • Storers smooth out troughs in price after high harvests by “buying low to sell high” • Storers smooth rises caused by expected shortages if cash is available to invest in stocks

Why price is much more sensitive to shocks when stocks are minimal? Price Demand for consumption Without stocks When stocks are low, price becomes very sensitive to disturbances in supply Different impact on prices Market demand, inclusive of stocks With stocks Quantity Equivalent shocks

The problem with allocating the blame: • The response is very nonlinear • What does nonlinearity mean for allocating the “blame” for recent price spikes?

World market prices show effects of storage. • Storers smooth out peaks after unexpected shocks, but only until their stocks run out • When stocks run out, price spikes are required, to force consumers to respond one-for-one to shocks SPIKES OCCUR ONLY IF STOCKS ARE MINIMAL - is this true?

Maize, stocks to use ratios Source: USDA. Note. The 2010/2011 data is projection.

Calories from major grains, stocks to use ratio Source. Calculated using data from USDA. Note. World grains (wheat + maize + milled rice) ending stocks to use ratio with and without China (all quantities converted into Calories assuming, for wheat 3338Kcal per Kg, for maize 3650 Kcal per Kg, and for milled rice 3656 Kcal per Kg). 2010/2011 is projection.

China’s stabilizing export jump in 2002/03 Source: Dawe (2009)

U.S. maize used for fuel vs. World maize ending stocks World maize ending stocks World maize ending stocks U.S. maize used for fuel (excluding CHN) (including CHN) Marketing Year Million bushels 1000 Metric tons 1000 Metric Tons 1000 Metric Tons 2003 1167.55 29188.75 105245 60393 2004 1323.21 33080.25 131752 95197 2005 1603.32 40083 124652 89397 2006 2119.49 52987.25 73521 110123 2007 3049.21 76230.25 91962 131356 2008 3708.89 92722.25 147824 94655 2009 4568.16 114204 145156 91842 2010 4950 123750 62399 122513 Accumulative use: 22489.83 562245.75 Change from 2003: 2006 17268 140000 • Conversion factor: 120000 – 1 metric ton = 1000kilograms=2204.6 pounds; – Maize: 1 US bushel = 56lb, 25kg; 100000 – Wheat: 1 US bushel = 60lbs, 27kg; 1000 MT U.S. maize used 80000 – 1 barrel = 42 gallon; for fuel 60000 1 Btu = 0.25 kcal; – World maize – 1 lbs. = 454 gram. 40000 ending stocks (excluding CHN) 20000 0 2… 2… 2… 2… 2… 2… 2… 2…

Global constraints on resources spread effects of biofuels • Indian wheat shortage rice export “ban” • Rice production displaces sugar • Next year, India announces huge sugar imports • Now China appears to be using corn for syrup corn demand rises

“Bubbles,” obviously • After it bursts, speculative bubble is “obvious?”

Price “bubbles” and “crashes” in a deterministic model with variable supply

Arithmetic • Available supply –Stocks = Consumption • In short run supply is fixed (in agriculture, not minerals incl. oil). • Price is a function of consumption • If speculators affect price, they must affect consumption , so they must change stocks • Where are the extra stocks?

Global consumption of energy from major grains

US Corn Ethanol Policy • $500 B subsidy extended by congress • Currently at Blend Wall • US is exporting ethanol

US Corn Ethanol Policy: The Danger • Corn farmers are very powerful now • If they can, they will make the current price the floor • Ethanol can be expanded faster than yields can rise • Already the policy may be costing global consumers $120B. (See Roberts and Schlenker 2010) • How does that compare to World Bank aid?