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| | Wheat: a strategic market on which prices could become more and more volatile ________________________________________________________________________________ Wheat, a staple food for humans, is one of three main cereals, with maize and rice.
There are many wheat varieties but only two have significant economic importance:
> Hard wheat, used to make semolina and pasta, is grown mainly in hot, dry areas.
> - Soft wheat, which is more widespread, is grown more often in high latitude areas. It is used to make flour destined mainly for bread products and to a lesser extent for beer and alcohol.
World wheat production has greatly increased over the last fifty years. In the past, production was concentrated in certain regions, but now production and commercial flow is spread more evenly over the world thanks to the emergence of new high-quality players.
The increase in the number of consumers in the world is also the reason for extended wheat distribution and as a result there is an increase in demand and a change in eating habits.
However, this evolution has not improved price stability and in 2006 wheat prices remained highly volatile. The wheat market is therefore a perfect illustration of the specificities of agricultural markets and of the dangers of liberalizing international exchanges without safeguard to combat price volatility.
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I. A constantly growing market but with reserves that are becoming increasingly low.
A. World wheat production has increased since the 1960s because of yield increases.
1. World wheat production multiplied by 2.8 between 1961 and 2005…
LWorld wheat production has constantly increased over the last forty years, even though there have been minor fluctuations in trends. World wheat production was 626 million tonnes in 2005. It multiplied by 2.8 between 1961 and 2005.
|  Source : UNCTAD - FAO |
2. … because of yield increases
After a peak at the beginning of the 1980s, there was a strong drop in the number of areas allocated for wheat production in the world. Levels in 2005 were therefore the same as at the beginning of the 1970s. Considering the decrease in surface areas, the reason for the increase in world production is mainly yield increase (multiplied by 2.7 between 1961 and 2005), as a result of technical progress and innovations in production methods.
|  Source: ICC – ONIGC (French national office for field crops) |
3. where ten countries grow 80% of world production
The world wheat market is a concentrated market in which new producers are emerging.
In fact, since the beginning of the 1960s, a group of five countries (China, India, USA, Russia and Europe) have grown more than two thirds of the world’s production. But there are now new competitors for these five countries because of the emergence of a second group, including Canada, Australia, Pakistan, Turkey and Argentina, which is exerting a determining influence on world prices. These two groups of countries today grow 80% of the world’s wheat production.
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B. There is no “dominant” production model in the world
The structure of wheat farms varies considerably and there is no “dominant” production model in the world.
However, we can isolate three types of productive models, in which production is either extensive or intensive, highly capitalistic or not.
> Intensive and highly capitalistic production: the case of the EU
Within the EU, a little more than a million cereal farmers grow wheat (36% of all European cereal farms).
The majority of these farms are highly mechanized. The expansion that took place in May 2004 and January 2007 did not bring about radical changes in the appearance of agricultural structures in the European Union, because, except for the Czech Republic and Slovakia, the farms belonging to new members are small1.
> Extensive and highly capitalistic production: the case of the United States
The profile of American farms is very different from the European profile. Although there are fewer cereal farms than in Europe (approximately 400,000), they are much larger, with an average surface area of between 400 and 800 hectares. American farms are also, as in Europe, highly mechanized.
> Micronized and to some extent capitalistic production … for the moment
Although these two production models are dominant on a world scale, a third has appeared, characterized by very small farms with at most a few hectares and very limited unequally-distributed technical means, but growing rapidly in number. This is particularly the case in India and China.
China has thus become the second largest world wheat producer, increasing from 14.3 Mt in 1961 to more than 96 Mt in 2005 (an increase of more than 500% in 40 years)! This increase in production is above all the result of a marked improvement in yields per hectare (multiplied by 7 over the same period).
The graphs below show these three types of production models, illustrating yields per hectare and national production obtained.
|  Source : UNCTAD - FAO |
From the respective evolutions of the major producing countries we can identify two trends:
> Chinese, Indian and EU productions have experienced considerable growth because of yield increase. They have also been more volatile since the end of the 1990s.
> The United States productions increased considerably between 1961 and 1982, but have decreased since then, notably because yields have remained unchanged.
C. World wheat consumption continues to grow at the expense of world reserves.
1. World wheat consumption multiplied by 2.6 between 1961 and 2005…
World wheat consumption also confirms the theory of an increase in the distribution of wheat over the entire planet: it has multiplied by 2.6 since 1961. From 235 million tonnes in 1961, it reached 617 million tonnes in 2005.
| | This increase in consumption is due to a combination of five major factors:
> Wheat is a staple food for humans, and can be replaced by very few other products in terms of quantity and nutritional quality.
> Strong demographic growth in emerging and developing countries.
> Population migration from the country to the town where wheat is eaten more often.
> The development of food aid from industrialized countries to developing and emerging countries.
> The increase of non-food demands (particularly biofuels).
2. … because of an increase in demand in emerging countries…
During the 1960s, most of the wheat produced in the world was consumed by industrialized countries. Since then, the trend has been reversed and the countries that are emerging or are in transition of Africa, Latin America and Asia today consume 60% of the world’s wheat production, which highlights a rapid change in their consumption habits.
Bread therefore has become an increasingly important commodity at mealtimes. For example in Brazil where bread consumption has more than doubled over the last ten years.
3. … and an increase in non-food demand…
A growing proportion of wheat production is used for the manufacturing of biofuels (bioethanol). Because of the necessity to diversify sources of energy supplies, this non-food use of wheat could expand rapidly in the short-term even though its long-term possibilities are debatable.
The EU’s objective therefore is that by 2020, biofuel will represent 10% of all fuel used by vehicles.
To do this, tax incentive policies have been implemented and the price of wheat to produce ethanol, which is becoming much more attractive than the price of wheat for food purposes, is increasing world demand even more.
4. … and world wheat reserves continue to decline
World wheat production is insufficient to meet the demands of rapidly growing food and non-food requirements. Because of this, world wheat stocks are constantly declining and are at their lowest level since 1997.
This decline is particularly pronounced for the five major exporting countries that hold more than a third of the world’s stocks.
The stock ratio as a percentage of consumption is considered to be an indicator that is particularly revealing of the state of the market. The FAO has set a critical threshold at 17%. However, according to American agricultural statistics departments, the percentage will drop below this threshold in 2006 and 2007, which would correspond to its lowest level since 1960.
|  Source : AGPB (French Agency for the Environment and Energy) |
D. Commercial exchanges are increasing and becoming stronger
The world wheat trade multiplied by three between 1961 and 2005 and today represents 20% of world production with almost 110 million tonnes in 2005. Wheat therefore is reinforcing its position as “the most traded” cereal in the world.
Although at the beginning of the 1960s the group of five leading wheat producers produced 90% of world exports, this percentage dropped to 76% in 2004.
Over the same period, the number of exporting countries practically doubled and the number of countries with exports exceeding a million tonnes also doubled.
The countries of the former USSR, China, Japan, Brazil, Iran and Algeria are amongst the traditional wheat importers. These countries imported 61% of world production until the middle of the 1980s. Now they import only 47%.
This evolution is the result first, of an increase in the number of importing countries and second, of the quantities imported by a large number of countries. At the beginning of the 1960s, a little more than 8% of importing countries imported more than a million tonnes of wheat, compared to 19% in 2002. And no country imported more than 5 million tonnes of wheat at the beginning of this period, whereas there were 6 in 2002.
II. High price volatility, which could worsen in the absence of world regulation.
A. Wheat prices are highly volatile.
The evolution in American wheat prices since the beginning of the 1960s highlights high price volatility (from 1 to 4!), just as for most other agricultural productions.
|  Source: UNCTAD - FAO |
This high volatility in wheat prices is mainly linked to the decline in stock levels in the five main exporting countries, the largest of which is the United States, which alone holds a sixth of world wheat reserves. This preponderance within the sector was particularly felt during the 1981 – 1986 period, then during the year 1988 – 1989.
During the first period, wheat prices decreased from $176 per tonne to $115 per tonne within 5 years, which represented a decrease of about 35%. Stocks multiplied by 150%.
In 1988, the opposite occurred. Production was insufficient to meet growing demands (deficit of about 30 million tonnes) and stocks could not meet the demand. Prices therefore rose and reached $146 per tonne at the Chicago Board of Trade.
World prices then fluctuated enormously: exceeding $200 per tonne in May 1996, then dropping below the $120 per tonne mark in 1999, a drop of 40% in three years. Since 2000 there has been a steady increase, culminating at more than $150 per tonne at the end of 2006.
This increase can be explained by a combination of three factors:
> The drop in world production since 1998, mainly because of a decrease in supplies in North America and Australia.
> The increase in world demand, for both food purposes (numerous purchases and orders from Egypt) and non-food purposes such as biofuels.
> The radical decline in world stock levels since 2000 (- 50%), which by dropping below the critical threshold of 17% of world consumption cannot accomplish their role as stabilizer of world prices.
Globalization of the wheat market, which is characterized by the increase of exporting and importing countries and the intensification of exchanges, and the gradual liberalization of international exchanges should, logically, lead to the stabilizing of world prices.
However, this is not what we are experiencing at the moment. 2006 was marked by high volatility in world prices affecting developing countries as well as most developed countries.
This implies that the climatic factor, which is generally put forward to explain the volatility of wheat prices, must not be considered as the only cause, and that factors resulting from internal malfunctioning of the wheat market are the primary causes of this volatility.
Farmers, particularly wheat farmers, are faced with three types of risk that cause permanent imbalance between supply and demand, and therefore price volatility:
> quantity risk: wheat producers cannot know in advance the quantity that will be finally harvested.
> quality risk: wheat producers cannot know the quality level of the wheat they will produce.
> price risk: wheat producers cannot determine the price at which they will be able to sell their production.
Although climatic factors influence these three variables, they cannot totally explain price volatility. There are two other endogenous determining factors that explain the non-adjustment of supply and demand: the behavior of different players in the market (producers and States) faced with the risks (quantity, quality and price) and the imperfections of the world wheat market structure.
B. The behavior of producers and States is the cause of disturbances on the world wheat market.
The risks facing wheat farmers are the cause of price volatility and they influence supply as well as average price levels.
And they can be the reason why many world farmers make a “bad” decision which, instead of redressing the balance between supply and demand, can aggravate the situation, as Jean-Marc Boussard, Françoise Gérard and Gabrielle Piketty demonstrate in their book “Libéraliser l’agriculture mondiale: entre théories, modèles et réalités” (Liberalizing world agriculture: between theories, models and realities).
“Let us imagine that wheat prices double suddenly after a long period of stability. Farmers can draw two conclusions from this:
> either they base their calculations on the average price level, which makes them increase their production in response to market signals.
> or they consider it to be a long-term insignificant change, and that price volatility has suddenly increased, which causes them to decrease production of a product that has become too “dangerous”.
Of course, although the first type of behavior can “redress the market balance, this is not the case for the second, which will on the contrary aggravate the shortage”.
However, farmers characteristically have a strong aversion to risk, and this will continue to increase if markets are liberalized and regulation tools dismantled. They prefer to grow crops that have low price volatility because the risks are limited, so in most cases farmers’ reactions will cause an increase in price volatility.
And this increase will be even greater because world stocks are so low that they can no longer act as a “shock absorber”.
In the same way, the behavior of States on the world wheat market affects price volatility, as the two recent examples of Australia and India demonstrate:
> Australia, the 7th largest wheat producer, is today the most competitive country in wheat production. When the Australian government announced a few months ago that its wheat harvest would be less than forecasts had predicted, there were strong speculative movements on world markets, causing increased price volatility.
> India, the third largest wheat producer in the world, recently opened an invitation to tender for three million tonnes of wheat, which caused strong price variations.
Here again, price volatility increased because world stock levels are low.
C. … aggravated by an imperfect world market structure.
The world wheat market is an imperfect market characterized by internal malfunctions that alter the quantities grown and exchanged on international markets and the prices at which they are traded.
In fact, state export monopolies such as the Australian Wheat Board, which defines world prices and benefits from disguised subsidies, are one of the causes of wheat price volatility.
In the same way, substantial government aid systems, particularly American systems, whether they are food aid, marketing loans or export credits, cause decreases in wheat prices.
Food aid is in fact a disguised export subsidy, which enables American stocks to be sold at a price that defies all competition, by creating artificial demand, which only the United States can meet.
And marketing loans and export credits constitute a direct subsidy to American farmers, which enable them to sell their products at a price that is lower than the world market price.
The existence of endogenous factors as explanations for the volatility of world wheat prices makes the WTO’s strategy, consisting of liberalizing international agricultural exchanges and dismantling the latest regulation tools, ill adapted and even dangerous.
Although the liberalization of agricultural markets enables us to combat price volatility when it is due to exogenous factors via risk mutualization and the application of universal law, it is incapable of doing this when a market faces endogenous risks because:
> universal law does not apply if market structures are imperfect and have a large number of players, as is the case for the wheat market.
> the endogenous risks linked to the behavior of players on the market (producers and States) cannot be mutualized or assured on a world level.
However, liberalization will increase price volatility because the gradual disappearance of the latest regulation mechanisms and the decline of world stock levels will exacerbate the speculative behavior and the effects induced by errors of anticipation made by the different players.
This is why it is essential to create world governance for agriculture, which will regulate the liberalization of international agricultural markets and first and foremost, the main one, the wheat market.
By Bastien Gibert and Jérémie Bianco
| 1 In the 10 countries that joined the EU in 2004, 73 farms out of 100 have an economic dimension of less than 2 European dimension units (EDU), which is the equivalent of 3 hectares of wheat. 80 % of farms in Rumania and Bulgaria have a surface area of less than 5 hectares.
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Advocating for
agricultural market
regulation and global
food governance | |
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