Presented by
Hartwig de
Haen
Assistant Director-General
Economics and
Social Department
Welcome to this special consultation on commodity prices which has been organized by the Commodities and Trade Division of FAO.
The Consultation was prompted by the interest expressed in different FAO fora, notably the intergovernmental groups, and elsewhere in the various international organisations involved with agricultural commodity production and trade, to take a closer look at the current depressed levels of most agricultural commodity prices.
The annual average prices of all basic foodstuffs except dairy products have declined steadily from peaks reached in the mid 1990s to levels not seen for nearly two decades. More dramatic has been the decline in prices for tropical products: coffee and cocoa prices had fallen by 2000 to their lowest levels for more than thirty years, although tea prices had held up until 2001. Among raw materials, cotton prices are at their lowest level since 1985.
The coincidence of low prices across many commodities has perhaps attracted more attention than would a depressed market for just one commodity, reviving interest in 'commodity problems'. However, this coincidence may mask a range of different causal factors affecting individual commodities, making it difficult to define clear-cut and over-arching solutions to the problems. For a number of years, discussion of world agricultural commodity prices has been dominated by the issue of trade liberalisation and the negotiations on improvement of market access and limitation of export subsidies. But, there remains a 'commodity problem' over and above what trade liberalisation can address, and which has its origins in market fundamentals rather than policy-induced market distortions alone.
Those developing countries exporting agricultural commodities, especially beverages and raw materials, have obviously been particularly concerned by recent low world price levels and, given the inelastic nature of demand for their commodities, the consequent decline in their export earnings. The value of agricultural export earnings of developing countries declined since the mid-1990s to current stable low levels. Developing country export earnings from beverage crops fell by 18 percent between 1999 and 2000. Overall, their export earnings actually increased by one percent, but their food import bills increased by 10 percent.
The problem is obviously most severe where countries are dependent for a significant share of their export earnings on one or a few agricultural exports, notably in the case of developing country exporters of coffee, cocoa, sugar, bananas and cotton. Forty-three countries, concentrated in Sub-Saharan Africa, Latin America and the Caribbean, earn more than twenty percent of their total merchandise export revenue and more than fifty percent of their total agricultural export revenue from just one agricultural commodity. Thirty-two of these countries are least-developed countries or small island developing states. In countries with high dependence, there can be a clear and direct link between commodity trade performance and economic growth and food security. This has rekindled interest in the possibilities for some form of international action to curtail export volumes and at least slow the rate of price decline.
On the other hand, lower international prices for basic foodstuffs such as cereals and oilseeds should slow the growth in the food import bills of the importing developing countries which include many of the poorest countries in the world. Clearly, the implications of current low agricultural commodity prices are different depending upon whether the perspective is that of an commodity exporter or a food importer.
I would like to group my comments in relation to the three basic issues around which the consultation is structured. The first is the nature of the current depressed state of commodity prices, and whether this indicates a departure from past patterns of market behaviour. The second is the implications of lower commodity prices and their impact upon commodity exporting and food importing developing countries - essentially the question of whether lower commodity prices should be grounds for concern. The answer to this question leads to the third issue which is whether actions to redress lower commodity prices should be considered and if so, what those actions might be.
Are current commodity prices too low?
It is important to be clear as to what perceived commodity price problem we are talking about, and to distinguish clearly between three features of commodity prices - secular decline, volatility and the current trough. Discussion of any of these aspects requires a long-term perspective. The Commodities and Trade Division has put together information and analysis on commodity price levels and variability over the past thirty years as background.
It is also necessary to distinguish clearly between short-term volatility and longer- term trends in prices. There is no doubt that commodity prices are volatile, as the course of cereal prices or coffee prices over the past decade indicates. However, there seems to be little evidence to support the view that price volatility has increased in general. Indeed, it appears from the analyses undertaken by the Commodities and Trade Division that for many commodities prices were more stable in the 1990s than in the 1980s. The particular current concern is with the levels of prices rather than volatility.
In general, world commodity prices are at historically low levels, and also in general the short term prospects do not indicate a return to higher average levels. Perhaps the most widely-publicized cases have been those of coffee and cocoa whose prices have trended downwards from their peaks in the mid 1970s to levels lower even in nominal terms than those of thirty or more years ago. The course of most raw material prices has been less dramatic, and there has been greater diversity between individual commodities, but a broadly similar pattern emerges. Cereals and oilseeds prices have been rather more variable but they too had in general reached historically low levels by the end of the 1990s.
Depressed price levels are, of course, not a new phenomenon, and neither are the questions they provoke about underlying causes, whether they mark a departure from previous market behaviour, and whether there is a case for remedial action. Secular relative decline in agricultural commodity prices is expected as technological progress reduces costs and induces supply expansion at a faster rate than population and income growth expand demand. These forces and the tendency for resources to shift only slowly away from agriculture because of social, economic and institutional factors are the background to long-term relative decline in agricultural commodity prices and the familiar agricultural adjustment problem.
The apparent co-movement of prices within different commodity groups over the longer term, and the coincidence of almost all commodity prices falling together since the late 1990s prompts the question as to whether there are common explanations for the recent price falls. Over the years there have been a number of exogenous shocks - the 1970s oil price hikes, el Niño, the Asian crisis, for example - which have impacted on all commodity markets and prices. However, there are no obvious similar exogenous factors at work more recently.
At a more general level, all commodity prices are obviously affected by the same basic factors, namely the market fundamentals of demand and supply. However, the nature, strength and driving forces of these demand and supply factors varies from one commodity to another. In the case of natural fibres, for example, competition from synthetics is an important demand shifter while for livestock products income growth is important. Major impacts on demand and supply on world markets for particular commodities are also affected by the entry and exit of countries as importers and exporters. A move towards self-sufficiency decreases import demand, and there are a number of instances of major importers becoming major exporters - China and cereals or India and sugar, for example. The emergence of new low-cost suppliers can also disturb market balance - Viet Nam and coffee, for example. Explanation of the reasons for commodity price decline, and by implication any actions proposed to ameliorate it therefore need to be commodity-specific. The basic facts concerning production and consumption of the various commodities are summarised in the commodity profiles put together as background information.
While market fundamentals continue to explain commodity price movements these can change through time as a result of changes in technology, consumer preferences, market structures, policies or institutions. There are a number of current trends which should be highlighted in this context. With respect to technological change, wider adoption of biotechnology may boost the rate of increase of yields and production of some crops leading to increased downward pressure on prices impacting differently on countries depending upon the rate of uptake of the new technologies. Technical change can also lead to pressure on prices from the demand side: improved efficiency of raw material use in processing can mean a declining share of the raw commodity in the finished product. With respect to consumer preferences, there is increasing evidence of globalisation in food consumption one facet of which is increasing livestock products consumption in developing countries in particular, though this might be offset to some extent by lower consumption in the developed countries. With respect to changes in market structures, increasing concentration and specialization of production and vertical integration change supply-price relationships, while increasing concentration in processing, marketing and distribution modify commodity demand-price relationships. In relation to the latter, the increasing market power of the transnational trading and processing companies and of multiple retailers in consuming markets have changed the market relationships with developing country suppliers. With respect to policy changes, the Agreement on Agriculture marked the beginning of an ongoing process of agricultural trade liberalisation and policy reform which will change the policy and institutional context of the operation of agricultural commodity markets. The import restrictions and export subsidies used by some OECD countries, notably the EU and the US, have been blamed for low international prices of, for example, cereals, sugar and livestock products, and reform of those polices is expected to raise world prices. I will return to the effects of trade liberalisation in my comments on possible actions to improve commodity prices. However, the limited extent of reform to date has arguably had little significant impact on falling prices.
It has been suggested that the recent commodity price decline may reflect changes in market relationships between demand, supply and price as a result of the kind of factors just mentioned. However, econometric analysis for several commodities by the Commodities and Trade Division indicates no significant changes thus far in the relationship between prices and consumption and stocks. That analysis therefore seems to support the view that market fundamentals have continued to be the dominant influence on agricultural commodity prices and that the nature of that influence has not changed. In that sense we are still facing the same type of 'commodity problems' as in the past.
So in answer to the question as to whether commodity prices are too low we can certainly say that prices for most commodities are low by historic standards, but it is not so certain that they can be said to be too low given current market conditions of demand and supply.
Should we be concerned about low agricultural commodity prices?
If we accept that commodity prices are unusually low by historic standards, then the next question to ask is whether this should be a matter for concern and hence whether some kind of remedial action is warranted. Unfortunately, the answers to these questions are not straightforward since there are both winners and losers from low prices.
For food importing developing countries, low world food prices mean lower food import bills, and provided that low world prices are transmitted through to consumer prices then consumers gain. If, as suggested by the forthcoming FAO study Agriculture: Towards 2015/30, the agricultural trade deficit of developing countries will increase significantly over the next thirty years, then the benefits of lower food prices become more pronounced. The agricultural imports of the least developed countries are already twice as much as their agricultural exports, and their trade deficit is expected to grow in real terms by four times, over the next thirty years. Higher food prices on world markets can only serve to worsen this situation.
However, there may be some qualifications to that view, notably concerning the impact of lower prices on the domestic agricultural sector and food production. Even in the case of food importing countries, sustained low prices may not be desirable if they prejudice future food production through failing to provide adequate incentives for the maintenance of production levels. Seventy percent of the world's poor live in rural areas, and most depend directly or indirectly on local agriculture not only for their incomes, but also their food supplies. A prosperous agriculture therefore provides the basis for overall rural growth and is a necessary foundation for overall poverty reduction. This is not to say that agriculture in the net food importing countries can only generate sufficient income to the often poor farmers through higher prices. It is important that investments are made in, for example, infrastructure, more efficient technologies, and product quality improvements. This could also be achieved under low world market prices if the gains from them were appropriately channelled into pro-poor investments in rural areas.
In the case of developing countries which are agricultural exporters, especially of tropical products and raw materials, the benefits of higher commodity prices are clear. Remunerative prices are needed if production and exports are to be sustained and developed, and again provide a platform for broader development. In cases where exporting countries are highly dependent on commodity exports but import food, significant losses of export earnings due to lower world prices threaten food security and compromise the pursuit of development goals.
So, the question of whether low commodity prices are a good or bad thing is more difficult to answer unequivocally than might be expected. Low prices are presumably immediately beneficial to consumers in importing countries, particularly low income food deficit developing countries, but they are presumably not to the advantage of commodity producers/exporters. There is therefore a dilemma in how we should regard low commodity prices. This dilemma is further complicated by the fact that in practice who wins and who loses is not a simple matter of food importers versus commodity exporters. Other factors such as national strategic goals, the competitiveness of the importers and exporters concerned, and the time period under consideration also need to be taken into account.
What could or should be done?
Over the years many different actions have been proposed or tried to cope with lower prices in world agricultural commodity markets and enhance food security in exporting countries or to limit or compensate for price variability. These actions have included measures to reduce price variability and to increase mean price levels through specific interventions to control the supply or expand the demand for particular commodities as well as more general progress towards trade liberalisation for all commodities. As an alternative to more direct market interventions, actions have also been proposed to compensate for price depression and/or variability or to encourage withdrawal from production of particular commodities and diversify into more potentially profitable lines of production. Again, it is important to be clear just what problem we are trying to address - secular decline in commodity prices, volatility, or the current trough (if that is seen as a something other than a manifestation of volatility). Different actions are appropriate to each of these perceived problems. It has to be said that the record is not generally one of success, and why that is so is one of the issues this consultation needs to address.
Discussions of commodity price problems usually recall the international commodity agreements (ICAs) with economic clauses which were widely seen as a solution in the late 1970s. These involved market interventions to influence prices with the objective of price stabilisation either through export quota arrangements or stock management. The record of the ICAs' success in these areas was not altogether encouraging, and today existing ICAs focus on measures to improve the functioning of markets. Nevertheless, there has been a recent revival of interest in supply management through export retention schemes, or diversion of low grades into alternative uses, although again, the experience has not been encouraging. It seems difficult to maintain the continuing commitment of the parties to the discipline of the agreement, while free rider problems persist with those suppliers outside.
The difficulties of sustaining co-operative market interventions as a response to volatility and short-term adverse price movements has led to interest in price, revenue or income compensation schemes to compensate for export earnings shortfalls or import costs surges.
The idea of a revolving fund to assist food importing countries meet increases in food import bills is being considered in the context of the continued reform of agricultural trade policy under the WTO. Interest in risk management and market based tools to reduce the adverse impacts of variable prices has been kindled by the World Bank, but the feasibility of the widespread applicability of such techniques needs to be established.
Market interventions, compensation schemes and risk management might be used to address the problems of price volatility and short-term price troughs. However they cannot be used in a one-sided way to counter the tendency for relative commodity prices to decline in the long-run. This can only be achieved by an improved balance between supply and demand. Permanent reductions in supply require the exit of resources from production of the commodity concerned. Diversification has frequently been discussed as an escape from low prices for specific commodities, especially where dependency rates are high and where exports are not competitive - due to a loss of trade preferences, for example. But again the record is not good: countries uncompetitive in one commodity are often also not competitive in the agricultural alternatives; and niche products such as organics which have often been suggested as diversification opportunities cannot compensate in terms of income and employment for the loss of bulk commodity trade. The result under these circumstances may be a further acceleration of rural-urban migration.
Co-operative international actions to stimulate demand - generic promotion, consumer education programmes, for example - have also been used to counter secular price decline. FAO's Tea Mark is an interesting example. The difficulty, as with supply-side co-operative actions, is to find an institutional manager for such programmes and a means to finance them which minimises free-rider problems. For some commodities the scope for expansion of demand through product and market development is potentially huge: hard fibres and jute have significant unexploited potential in geo-textile and automotive uses, for example. The Common Fund for Commodities (CFC) has an important role in product and market development, but its procedures constrain it from being more pro-active in identifying projects which meet international commodity market priorities.
Discussions of international agricultural commodity markets have been dominated for some years by the issue of trade liberalisation. Trade liberalisation is not specifically geared towards raising commodity prices but that is supposed to be a result. The agricultural policies of certain countries, notably of some OECD countries, have supported domestic prices at higher than world price levels through market price support bolstered by high import tariffs and or quotas while the excess production thus engendered was exported on to world markets with the aid of export subsidies. The result was to reduce world prices, and arguably to increase price variability. The process of liberalisation is therefore generally seen as one which will lead at least to higher commodity prices in the short-run. However, there are a number of qualifications which need to be stressed. The first, as I said before, is that while for food exporters higher world prices are beneficial, this is not the case for food importing countries. In practice, the effects of liberalisation on commodity prices so far following the Uruguay Round is apparently small. The second point to note is that liberalisation also erodes trade preferences enjoyed by certain developing country exporters of certain products - sugar and bananas, for example. Finally, while liberalisation in the sense of improving market access is important for food products, tariff levels for tropical products and raw materials at least in their less-processed forms are in any case typically not high. Market access is not a major issue in most cases. A more significant issue is that of tariff escalation which can discourage developing country exporters from capturing value-added and hence greater export earnings. This problem has received relatively little attention and needs to be addressed more seriously in trade negotiations.
Objectives of the Consultation
I have tried to identify some of the issues which we expect this consultation to address. There are three basic questions in relation to the current situation of many commodity markets. Are prices unusually depressed? If so, is this grounds for concern? And if so, what could or should be done?
In terms of specific outcomes of this consultation, we would like to see:
a definitive review of the recent history of commodity price movements and the evidence concerning the factors affecting them in an attempt to dispel some of the uncertainty and misconceptions concerning the current situation and remedial actions
a detailed assessment of the implications of depressed commodity prices and a balanced view of the interests of food importing developing countries and commodity exporting developing countries
a reasoned consideration of the case, if any, for international action to reverse short term declines in prices and to slow the rate of secular decline
specific recommendations, based on a review of past experiences and current proposals for effective forms of international action compatible with the current international trade regulatory framework and including workable and sustainable funding and coordination mechanisms.
We have gathered a wide range of interests and expertise to participate in this consultation and are grateful for your interest and participation. Although we do have distinguished speakers presenting their views on different topics related to commodity prices, the meeting should emphasise discussion rather than formal presentations. We would like to see a widening of the discussion of agricultural prices and commodity markets away from a focus on trade liberalisation alone to address commodity problems based in market fundamentals. We hope that this consultation will be a first step in this process.
