Food Price Rise is Inevitable

The price of food, I and you (the consumers) pay at the retail store is ultimately dependent upon the interplay of production and demand factors. The factors which impact the market price of a product are numerous and are beyond the scope of this article. At any given time there are factors which tend to drive the price upward and there are other factors which tend to drive the price downward. Ultimately the balance between the upward forces and downward forces set the price of the given product.

IF you wish to know the factors which are bringing about the current rise in the costs of food then please jump to, “Factors contributing to the current cycle of rise in food prices”. On the other hand if you wish to understand the market dynamics which operate normally in all markets then you are requested to read the following paragraphs.

In theory if a person could control any one product then he could dictate whatever price he wants for that product. Since he is the sole supplier then he could ask any price in exchange for the product. He could refuse to sell the product for anything less than the asking price. However, this is not a real situation. In the global market there are many producers and many consumers. Therefore this sort of situation, called a monopoly, is not likely to arise. Fortunately there is not a single nation or a single individual that controls one or all products. So global monopolies are rare. However, there are one or two examples which need to be mentioned here. Historically many attempts have been made to control prices of different products. Petroleum and diamonds are two key examples.

OPEC the Organization of Petroleum Exporting Countries is one example of an attempt at controlling the supply of petroleum so that the producers can demand a higher price. A is an organization which is formed to promote the interests of any one group. OPEC promotes the interests of its members. Cartels most frequently arise in oligopolistic industries where there are few buyers and the product is uniform. Cartel members may agree on price fixing, industry output, market shares, allocation of customers and territories. The aim of such cartels is to increase individual member profits. This is often done by price fixing, market share allocation, bid rigging and collusion - these practices are illegal in many countries. Also, some countries have enacted competition laws which forbid the formation of cartels and monopolies. cartel

In regulated economies governments encourage and participate in the formation of marketing boards, unions and create other tools which appear to have functions which are similar to cartels and monopolies. For example, in Canada, it is illegal for anyone to operate a private fee paying hospital even though there are customers who are willing to pay for such services.

Cartels are illegal in many countries but they are known to exist in modified forms. Farmers often form unions to sell their products collectively in order to optimise their incomes. The Wheat Marketing Board of Australia was blessed with official “bribing powers” to advance the interests of the Australian Wheat Producers. From a legal perspective proving the existence of a cartel is extremely difficult as most firms do not put agreements to collude on paper.

International diamond trade was controlled by the De Beers group of companies until very recently. It was for this reason that diamonds were so expensive. This company has now shifted its marketing strategy and policies. This was the result of legal pressure in the US and elsewhere.

Numerous international studies and legal findings of antitrust authorities have demonstrated that the median price increase achieved by cartels in the last 200 years has been around 25%. Many private but international cartels (those with participants from two or more nations) had an average price increase of 28%. Domestic cartels averaged 18% price increases. These studies also showed that fewer than 10% of cartels failed to raise market prices. In conclusion it is fair to say that cartels are illegal but continue to thrive nationally in internationally.

Factors Contributing to the Current Cycle of Rise in Food Prices

At any given time there are many market forces which are in operation to drive food prices up or down. When all is said and done there is the balancing effect and the price is adjusted upward or downward. Right now there are several forces which are driving food prices up. I have identified the following for analysis and discussion.

1. According to Angola's Oil minister Desiderio Costa the oil price instability is due to the action of speculators and permanent depreciation of the US Dollar. Let's analyze this.

The number of speculators has not increased. There is no evidence that their activity has increased drastically. My conclusion is that speculators have always been there. They do not alter the demand or supply equation appreciably. Therefore speculator action is unlikely to have a drastic effect on food prices.

My analysis is that the value of the US dollar has declined recently. Since many of the oil transactions are paid for in US $ the decrease in the value of the US $ will force buyers to pay more for their petroleum. In depth analysis shows that this is not a recent phenomenon therefore it is not the major contributor to the sudden increase in food prices. Yes, it has a minor role in increasing food prices because the buying power of the US $ has decreased.

2. The U.S. Government claims that increased demand for food from India and China had pushed up the demand and therefore the rise in food prices was natural and expected. Let's analyse this.

The increased demand for food from the populations of India and China has been a continuous process. The higher than usual growth of these two economies have been noticed for more than three years. My analysis is that these growths have put an upward pressure on the price of food but this does not explain the sudden increase in food prices.

Further, the World Bank reports that "Rapid income growth in developing countries has not led to large increases in global grain consumption."

3. On Friday 4th. July 2008 the European Union announced that it would continue to push ahead with plans to see bio fuels account for at least 10 per cent of energy used by the bloc's huge transport sector by 2020.

The higher price of petroleum, increased demand for cereals by the populations of China and India are adding to the upward spiral of food prices. These are slow and cumulative effects. They were already taken into consideration by traders and speculators.

The higher price of crude is due to the political instability in the Middle East. Governments of different countries and OPEC are contributing to spiralling price of crude, global inflation and the costs of food production and transport costs. .

The decision by the EU countries to push ahead with their plans to see that bio fuels account for 10 per cent of energy used by the giant transport sector will result in more agricultural land use shift from food to transport use - i.e. production of bio fuels. More production of bio fuels means the land which is currently used for the production of food will be used to produce bio fuels.

Bio fuels are more expensive than food. Therefore it is better for farmers to be producing more bio fuels and less food for human consumption. This shift by the EU and farmers is contributing to the sudden increase in food prices. As stated earlier, many factors have contributed to the rise of food prices but higher prices of petroleum have caused the production costs to go up. This effect is compounded by the higher demand for bio fuels.

4. God does not make land any more. The amount of land used for agriculture is diminishing.

The amount of agricultural land is decreasing due to urbanization. More land is being used for housing. Deforestation is bringing forests into agricultural usage. This would suggest that more land is being used for agriculture. However, this is not the case. Land which is close to cities and urban centres is being used to provide housing, roads and commercial sites.

The world's population continues to increase. New land is not being created. Therefore the price of existing land continues to rise. Cumulatively all these factors drive food production costs higher. Again, this phenomenon is not new. The food price increases due to these factors are ongoing but gradual. There is no new supply of land; agricultural land is being used for housing, road and commercial purposes.

Since April of 2008 all petrol and diesel in Britain has had to include a bio fuel component of at least 2.5 per cent. This component is not small. Each day Britain consumes 1.699 million barrels per day. The figures are much larger for the EU and the US. This is what is driving up the price of food.

5. The World Bank estimates that food prices are going to double (100 % increase) over the next few months

It is reasonable to estimate that food prices will increase partly due to higher petroleum costs. Eventually food growers have to pass production and transport costs to consumers. Studies show that higher energy prices and higher fertilizer prices account for only 15 per cent increase in food prices. It is concluded that 75 percent of the price increases are due to the introduction of bio fuels as additives into fossil fuels in the US and in Europe. The increase is recent, is backed up by legislation and has an effect on food production costs both directly and indirectly.

Since the increase is recent and is large therefore the impact is significant. The 100 % increase in food prices will affect global economies and long term strategic planning of many countries will be impacted. America and Europe are the largest consumers of petroleum based products in the world on a per capita basis. Even small increases in the use petroleum will have drastic effects on global food prices. The proposed increase of 10 % more bio fuels will result in more agricultural land and infrastructure being used for the production of bio fuels instead of human foods.

North America and the EU are gradually increasing the use of bio fuels because there is the need to reduce carbon emissions into the atmosphere. This has benefits in relation to green house effects. However, production of bio fuels takes up agricultural land, labour and production spaces. It is this one factor which is contributing 75 % to food price increases.

6. On Saturday 28th. June 2008 Carey Gillam a Reuters Reporter stated that Levees on the cresting Mississippi River has held steady. He stated that the worst U.S. flooding in 15 years contributed to multibillion-dollar crop losses may boost world food prices for years.

It is reasonable to believe that lots of production was lost but it is unreasonable to assume that the land will remain out of production for a long time particularly considering the fact that the levees held.

Conclusions

1. My conclusive view is that food prices would have raised by about 10 to 15 % if it were not for the legislated enforcement of bio fuel usage in Europe. This has shifted agricultural productivity to bio fuel production. Hence the 100 % increase in costs of food prices is actually just the beginning of the competition between human food and bio fuels. Hence, the price increases will not stop at 100 %.
2. In the not too distant future agricultural communities are going to become important bio fuel producers. This will be followed by a decline of the Middle East in strategic importance as bio fuels replace fossil fuels. When bio fuels are produced in agricultural countries then agricultural countries will become strategically important. This prediction has a historical parallel. This is what actually happened when synthetic rubber was discovered.
3. Malaya, now Malaysia, used to be the top producer of rubber and was strategically important. Following the discovery of synthetic rubber Malaysia lost it's strategic importance and it's source of income. A similar fate awaits the oil producing countries. When natural rubber became more expansive, slowly but surely, it became unaffordable. When synthetic rubber was discovered it quickly started to replace natural rubber, initially synthetic rubber was very expensive but it became cheaper as the number of uses and users increased. Hence, I am predicting a similar fate for fossil fuels. The rubber estates of Malaysia have gradually been replaced by palm trees and golf courses. Could bio fuel efficient plants be next in line? This is a real possibility.
4. Prices of foods will continue to rise until there is a new balance between food production, bio fuel production and a new price balance. There will be many casualties in this process.