Wheat panic raises spectre of food crisis

August 6, 2010

The fires that are scorching Russia’s earth are of more immediate concern to Vladimir Putin than the situation on world commodity markets. The Russian prime minister’s decision to “temporarily” ban wheat exports is an emergency measure he hopes will help shield his people from food inflation or shortages.

But there’s no doubt it will add to the market distortions and to the panic that has gripped operators in the last weeks, as the extent of the Russian drought became clear. This all adds up to a highly dangerous situation. Wheat markets fundamentals remain sound for this year. But look beyond, and the spectre of a repeat of the great food crisis of 2008 cannot be ruled out.

Wheat prices are up 90 percent since early June and hadn’t risen so fast in more than thirty years — when ironically, they had also rocketed after poor crops in the then Soviet Union. They are still 30 percent lower than their peak of March, 2008. Furthermore, market fundamentals shouldn’t be cause for panic. World wheat stocks remain abundant — although shrinking fast, and big wheat-growing countries like the United States, Australia or France should deliver as expected. Better news might even come from Russia next month, since crops from Siberia shouldn’t be affected by the current heat wave.

But there are ample reasons to worry about the longer-term consequences of the current panic. First, it will take a couple of years for Russia to recover from the damage caused by this summer’s heat and fires to its agricultural base. Second, the current stampede comes on top of a steady trend of rising commodity prices, with long-term causes — among others, changing food habits in emerging countries. Third, contagion can quickly spread to other food prices. Finally, market speculation has major consequences in the real world regardless of fundamentals — with hits to be expected among the poorest countries that import most of their food.

Back in 2008, food riots took place in more than 30 countries. Two years later the risk is that once again, in Africa or Latin America, the non-emerging and ever-submerged will bear the burden of the latest food scare.

Comments
 

While developed economies fret about Japanese style deflation it is worthwhile to remember the inflationary pressures that were occuring prior to the financial meltdown. Those inflationary pressures weren’t an illusion, they were the result of developing markets getting their share of the global pie. Now since the the crisis we have had a spate of over capacity due to a roll back in demand, still the tipping point is there and could be quite dramatic when it happens, we could easily move from worrying about deflation to having strong inflation in the blink of an eye. This is especially troublesome for economies that are struggling to find their economic footing after the crisis.

This also illustrates a shortcoming of free markets in that while they are very good at setting prices and allocating resources they only create what current demand requires. This means in times of production shortfalls there is little spare capacity to draw on. The lack of wheat wont be due to a lack of arable land, it will be due to a lack of utilization, or preparedness for a production disruption.

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