Wednesday, July 30, 2008

The upside of rising global food prices-- Is there any?

An interesting debate is going on about the impact of food prices in positive direction-- actually trying to find out "an upside for humanity in the rise of food prices".

Here is the proposition posed by The Economist :

"There is an upside for humanity in the rise of food prices."

Here is an excerpt from an email I got from Lauryn Nicasio on behalf of the ongoing debate:

Although we can never overlook the grave situation posed by rising food prices, we hope to dissect the issue and view it from fresh perspectives to see if it can have a positive impact. For example, do rising food prices benefit farmers? Can they lead to development of safe, genetically modified foods which in turn can help developing nations with marginal farmlands become self-sustainable? And are the shorter-term pains of creating biofuels worth the longer-term gains of reduced transportation costs? 

Here is the debate hall

Here is Joachim von Braun (I agree with him!)

Here is Homi Kharas

Here is Papa Abdoulaye Seck

I think the answer is "it depends"...some farmers can gain from it but in the long run many more will suffer...we have to look at the net effect, especially from the perspective of farmers in the developing countries. Some initial thoughts:

  1. I think the moderator is asking a wrong/misplaced question, because the impact of global rise in food prices cannot be answered in plain black and white; the options cannot be either 0 or 1.
  2. Switching production from low price food products to high price food products will not be as easy as has been assumed. Especially in the developing countries, farmers are too poor to buy new seeds, local development banks are reluctant to offer a reasonable line of credit for such activities because of moral hazard problems. Development aid for agriculture has fallen from a high of 17% of total aid to just 3% today, with some international donors demanding that fertilizer subsidies be eliminated, making it even more difficult for cash-strapped farmers to compete. Paul Collier puts it in this way: "Unfortunately, peasant farming is generally not well-suited to innovation and investment: the result has been that African agriculture has fallen further and further behind the advancing productivity frontier of the globalized commercial model. Indeed, during the present phase of high prices the FAO is worried that African peasants are likely to reduce their production because they cannot finance the increased cost of fertilizer inputs. While there are partial solutions to this problem through subsidies and credit schemes, large scale commercial agriculture simply does not face this problem: if output prices rise by more than input prices, production will be expanded because credit lines are well-established."
  3. The big producers from the West would definitely benefit as they shift production to high priced corps, which earns them higher marginal revenue. These farmers can offer the technology needed for large scale production.
  4. Obviously, #2>#3 in terms of population...hence, the farmers in the developing countries will lose...(But if #2 is not a problem, then there might be upsides benefiting most of the people-- as of now a highly unlikely case...keep reading for some reasons!)
  5. About technology transfer: Even if higher food prices would trigger development of new technology and innovation in the West, the new technology might not transfer to developing countries as easily as we have been thinking. Have we seen a sea change in technology in the oil sector, even though prices skyrocketed during the 80s? Also, did the oil price rise change consumption patter? (Also, was there a change in consumption pattern after high global food prices during the 80s?)
  6. Moreover, transfer, adoption, and right use of new technology depends on institutional constraints, governance, culture, education, transportation, and communication, among others. How would my parents-- who entirely depend on agriculture for livelihood and live in an area where there is just one single lane, unpaved road--constructed in 2006/07, thanks to donors!--be able to use, in our small farm, a new technology made in the West? Also, would my parents be able to afford it? (Ans: No!)...Moreover, would the new innovation in the West, where farming is done in a large scale, be suitable for farmers in the developing world who hold small, fragmented land? Obviously, the transfer of technology would be too slow, if any. We have not seen high mobility of technology, one of the foundations of successful economies, from the West to Africa in the past couple of decades. Technology transfer argument is easier said than done!Confused
  7. People argue that markets clear itself and we will have an equilibrium price soon? Well, this argument is based on the assumption that there already is a free market in this sector-- which is not true! For instance, the subsidies given by the West and also by the developing countries like India and China to its farmers have been creating a situation where price stabilization towards an equilibrium is just not possible. There will be high degree of volatility and fluctuation, depending on many environmental variables. It should be noted that the subsidies in the US and EU alone in crops used for producing biofuels is driving 60% of the rise in food prices. Will this stop? As of now, it won't-- the protracted WTO talks collapsed just because of some of these thorny issues. See here how Japan alone can distort price of rice in the global market.
  8. Along the veins of the preceding argument, free market-- interpreted in conventional terms-- is not possible in this sector. No country would be willing to put its population under threat of a certain product and shift production pattern. For instance, India, where 70% of the population prefer rice and chapati (made from wheat) two times a day for meal, would not be willing to shift production from rice and wheat to say soybean, just because its price is rising in the international market. The very survival of millions of farmers and households depend on the agriculture sector (rural households spend more than 70% of their household budget on food). This sector is too vulnerable to let it freely flow along with the free market principles. We have already seen how deep we ran in troubled waters (in fact, the depth is still not reached) after the housing market and banking sector was let free flow according to the principles of free market. There is already a backlash-- more regulatory power given to the Fed and government administrations. As one of my Romanian friend used to say, "Free market cannot sustain in very vulnerable sectors because it is not a matter of losing an asset if anything goes wrong--it is a matter of life and death." Free market in sectors where survival is not in line-- like auto industry, airline sector, etc-- is good but not in sectors which have a direct bearing on the survival of poor people...(that said, I do believe in the power of market if things are as they should be!). Governments do not want to let their population fall prey to increased volatility and uncertainty in global food market, which is beset with demand and supply shock--there seems to be no end to it! Collier argues, "The sharp increase in the world price of staple foods is an inconvenience for consumers in the rich world, but for consumers in the poorest countries, especially in Africa, it is a catastrophe."
  9. The final effect would depend on whether households are net buyer or seller (or in a country level, whether countries are net importer or exporter). As of now, poor households are net buyers, which means that higher prices not only put too much strain in their household budget, any upside benefit would only go to the farmers in the West who can invest large sum of money. Also, poor households in the developing countries do not enjoy economies of scale as they own small pieces of land. Unlike them, the farmers in the West own large farmlands, enabling them to reap economies of scale--thus, making sure that their over the long run price of their product is always lower than the price of similar product produced by the poor country farmers.
  10. Any change in consumption and production patterns has to be global to ensure that upsides are fair to all. As Joe Stiglitz argues, Only new patterns of consumption and production – a new economic model – can address that most fundamental resource problem." Note that, we need a completely new economic model. The present model will not solve the problem.
  11. Well, follow The Economist's Debate Hall, which will feature expert views...I will spill some more thoughts in the coming days, especially on the incentive factor... I will also discuss why production in Lanao del Sur, which is one of the most fertile regions for rice production in the Philippines, is not done in the way it should have been to reduce pressure of rice demand in the Filipino economy, one of the most high rice consuming nations...incentives do come in play here???...that discussion is for later date...Sleepy

Here is a good summary of the implications of rising global food prices. A more extended discussion from a variety of sources on this issues here. Also see this.

image image