Sunday, January 16, 2011

What is causing food price volatility?


Changing petroleum prices, crop yields, food stock levels, and exchange rates are the main culprits, but trade policies and a lack of reliable, up-to-date data are also driving the volatility.

In what is potentially an even more worrying trend, implied volatility—which represents the market’s expectations of how much the price is likely to move in the future and can only be inferred from the prices of derivative contracts such as options—has been increasing steadily since the mid-1990s. The implied volatilities of three key staple foods—soybeans, maize, and wheat—show a clear upward trend, indicating a steady increase in uncertainty.


So argues Hafez Ghanem, Assistant Director-General of the Food and Agriculture Organization. Specifically, volatility in four variables—petroleum prices, crop yields, food stock levels, and exchange rates— significantly increases food price fluctuations.

Causes:


First, petroleum price volatility—which tends to be high—translates to food price volatility through transportation costs and fertilizer prices. The link has become even stronger with the advent of biofuels, which require food crops as inputs and can therefore change food prices.

Second, because the demand for food is inelastic, small changes in supply can lead to big changes in prices, meaning that even limited crop yield volatility can have large effects on food price fluctuations. The role of crop yield variability is only expected to rise as extreme weather events become more common.

Third, food price volatility is inversely related to the level of food stocks—as stocks fall, price volatility rises. Both public and private actors have lowered stocks in recent years. This trend may be reversing itself, however, as countries are revising their reserves policies in response to recent bouts of volatility.

Finally, changes in exchange rates, especially of major exporting countries, translate to changes in international food prices. Thus, as macroeconomic factors lead to more volatile exchange rates, food price volatility also rises.

[…]an additional cause of price volatility: the lack of reliable, up-to-date information on crop supply and demand, stocks, and export availability.

[…]it is possible to argue that increased speculation contributed to higher food price volatility.

[…]real factors such as production shortfalls in key exporting countries—and not speculation—triggered the two recent bouts of volatility (in 2007–2008 and 2010).


Solutions:

  • Yield-enhancing investments (R&D in infrastructure that promote irrigation as well as drought-resilient crops and their hybrids)
  • Trade policies (completion of the Doha Round of negotiations so that trade distorting subsidies can be reduced, and perhaps include tighter rules on export restrictions)
  • Improving market transparency (information about both the real market and related financial transactions)
  • Reforming policies for grain-based biofuels (introducing call options for biofuels—a market-compatible instrument—would guarantee that producers shift grain from producing biofuels to providing food during crises—a mutually beneficial outcome)
  • Review stock policies (adequate emergency food stocks, or strategic reserves, must be maintained at the national, regional and global levels)
  • Financing instruments (institutions need to act ex ante and provide import-financing or -guarantees to alleviate credit and foreign exchange constraints)
  • Commodity exchanges (regulatory frameworks governing commodity exchanges must also be reviewed to reduce speculative behavior and thus limit volatility)

Chinua Achebe on Africa’s hope


AFRICA has endured a tortured history of political instability and religious, racial and ethnic strife. In order to understand this bewildering, beautiful continent — and to grasp the complexity that is my home country, Nigeria, Africa’s most populous nation — I think it is absolutely important that we examine the story of African people.

In my mind, there are two parts to the story of the African peoples ... the rain beating us obviously goes back at least half a millennium. And what is happening in Africa today is a result of what has been going on for 400 or 500 years, from the “discovery” of Africa by Europe, through the period of darkness that engulfed the continent during the trans-Atlantic slave trade and through the Berlin Conference of 1885. That controversial gathering of the leading European powers, which precipitated the “scramble for Africa,” we all know took place without African consultation or representation. It created new boundaries in ancient kingdoms, and nation-states resulting in disjointed, inexplicable, tension-prone countries today.

During the colonial period, struggles were fought, exhaustingly, on so many fronts — for equality, for justice, for freedom — by politicians, intellectuals and common folk alike. At the end of the day, when the liberty was won, we found that we had not sufficiently reckoned with one incredibly important fact: If you take someone who has not really been in charge of himself for 300 years and tell him, “O.K., you are now free,” he will not know where to begin.

This is how I see the chaos in Africa today and the absence of logic in what we’re doing. Africa’s postcolonial disposition is the result of a people who have lost the habit of ruling themselves, forgotten their traditional way of thinking, embracing and engaging the world without sufficient preparation. We have also had difficulty running the systems foisted upon us at the dawn of independence by our colonial masters. We are like the man in the Igbo proverb who does not know where the rain began to beat him and so cannot say where he dried his body.

People don’t like this particular analysis, because it looks as if we want to place the blame on someone else. Let me be clear, because I have inadvertently developed a reputation (some of my friends say one I relish) as a provocateur: because the West has had a long but uneven engagement with Africa, it is imperative that it also play an important role in forging solutions to Africa’s myriad problems. This will require good will and concerted effort on the part of all those who share the weight of Africa’s historical albatross.


More by Chinua Achebe here. He is the author of an awesome book Things Fall Apart.