The ten most Frequently Asked Questions about the recent rise in food prices
(January 2008)
1. Why are food prices rising?
2. Has there been a structural market change?
3. What is the role of biofuels?
4. What is the role of climate change?
5. What is the role of “emerging economies”?
6. Is there a reversal in the long-term decline of real prices of agricultural commodities?
7. What is the impact of high world food prices - who benefits and who loses?
8. What is the short to medium term price outlook?
9. How are governments responding?
10. What is FAO’s response?
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1. Why are food prices rising?
Prices of most agricultural food commodities have risen sharply during the past two years. Several factors have contributed to this development: (1) low levels of world stocks (especially for wheat and maize) following two years of below-average harvests in Europe in 2006 and 2007; (2) crop failures in major producing countries like Australia in 2006 and 2007; (3) rapidly growing demand for grain-based biofuel production supported by subsidies; (4) gradual changes in agricultural policies of the OECD countries, where reduced levels of subsidies have led to lower surplus production; (5) strong economic growth in developing countries and expanding world population. In addition, agricultural markets are becoming increasingly intertwined with non-agricultural markets (energy, manufacturing, finance, etc.). Climate change and resource constraints (water supply in particular) are also influencing overall food supply and demand.
2. Has there been a structural market change?
After decades of decline, agricultural commodity prices (in real terms, that is relative to general price inflation) are showing signs of an upward trend. What distinguishes the current state of agricultural markets from previous situations is that price rallies are lasting longer and they are affecting nearly all major food and feed commodities, not just a few. However, some of the forces that are shaping the current market situation may still prove to be short-lived. For example, while the role of biofuels as a sustainable alternative to fossil fuel remains uncertain, it is evident that, in a competitive setting, if prices of agricultural feedstocks were to rise faster than energy prices, they would lose their competitiveness in the energy market. Thus, it is still premature to conclude that a structural change is occurring.
3. What is the role of biofuels?
Biofuels tend to allocate productive resources (e.g. land, labour, capital) away from the production of food crops into the production of feedstocks for biofuels. Biofuels may reduce the availability of food for nutritional use, because ‘effective’ demand for grains, sugar or oils and other basic food staples as feedstock for fuel production is able to outbid that for food. This new source of demand has been playing an important role in influencing prices. Among all major food and feed commodities, additional demand for maize (a feedstock for the production of ethanol) and rapeseed (a feedstock for the production of biodiesel) have had the strongest impacts on prices. For example, out of nearly 40 million tonnes increase in total world maize utilization in 2007, almost 30 million tonnes were absorbed by ethanol plants alone. Most of this expansion occurred in the United States, the world’s largest producer and exporter of maize. It explains the steep rise in international maize prices observed since the beginning of 2007. The intensity of the price reaction was also related to the fast pace (mostly within 2-3 years) in which this new demand materialized and to its concentration in the United States (more than 90 percent). Globally, some 12 percent of total world maize utilization was used for ethanol in 2007, compared to 60 percent for animal feed. In the United States, maize utilized to produce ethanol represented around 30 percent of its total domestic utilization.
4. What is the role of climate change?
Climate has always played a decisive role in agriculture. Weather can boost production levels but it can also be destructive. In 2007, the United States harvested a record maize crop due to a significant increase in plantings and very favourable climate conditions during the growing season. By contrast, a persistent drought reduced production in Australia for a second consecutive year. Australia is a major grain exporter. While scientists are warning about climate change as a result of global warming, it is not clear whether its effects are being already felt. So far, farmers have been able to cope with, or adapt to, different climatic shocks. But it is unclear how they might cope with more persistent climatic changes that may increase the frequency and severity of extreme weather events.
5. What is the role of “emerging economies”?
Emerging economies, particularly China and India, are playing an important role in global demand and supply of agricultural commodities. However, recent high commodity prices do not seem to have originated in these emerging markets. For example, in the current season (2007/08) neither China nor India are playing a major role as cereal importers on world markets. In fact, China continues to export maize while India’s wheat imports are relatively small, especially if compared to its total consumption. With rising incomes, diets in emerging economies are expected to shift from starchy staples to livestock products (such as meat and dairy). At the same time, economic growth is often accompanied by strong urbanization, with people moving from rural areas to cities, where demand for labour is strongest. In addition, rural land is being converted for non-agricultural purposes (industrial, residential, etc.). With these developments occurring gradually, their impacts on world markets and prices may not be as significant as when markets face acute supply shortages; this may allow farmers to adopt agricultural technologies that can reduce or nullify the effects of increasing demand on prices.
6. Is there a reversal in the long-term decline of real prices of agricultural commodities?
After several decades of surpluses and low prices, international prices of most agricultural commodities seem to have moved to high or even record price levels. High price levels could stay with us for several years to come. Nonetheless, it is important to put these higher price levels into perspective. In real terms, current commodity prices are similar to the highs experienced during the Asian crisis in the mid 1990s and are much lower than the levels observed in the 1970s. The large subsidies granted to agriculture by OECD countries are the main reason for previous low world prices. A move away from such policies, together with resource constraints, such as water scarcity and a slower diffusion of existing and new technologies, could restrain growth of food supplies, while world demand continues to expand. Against this background, it seems to be unlikely that food commodity prices will return to the lows of the previous two decades.
7. What is the impact of high world food prices - who benefits and who loses?
The global cost of imported foodstuffs has jumped by at least 20 percent since 2006 to the highest level on record. It is evident that, when food prices rise, consumers are the first to suffer. Especially in low-income and food-deficit countries, rising food prices translate into hefty increases of food import bills with negative impacts on the balance of payments. For several years, consumers around the world have benefited from low food prices. In many countries, farmers could only grow agricultural crops thanks to strong government support. Most developing countries could not afford to provide such support measures. As a result, investment in agriculture has declined and many poorer countries became increasingly dependent on imports to meet their domestic food requirements. If today’s high prices really trickle down to the farm level in developing countries, they could have a very positive impact on food production and convert agriculture into an engine of growth and employment, especially in rural areas.
8. What is the short to medium term price outlook?
In FAO’s view, the current market conditions are a cause for concern because world food supplies are critically low and the global food balance is tight. High prices are likely to boost plantings of several crops in 2008 which, under favourable weather conditions, may stimulate production and eventually cause prices to decline. However, given the limited possibility of a major expansion in agricultural land in the short-term, any increase in plantings of one crop would need to occur at the expense of another. Thus, while prices of some commodities could decline, the prices of others may still increase. Precise short-term price forecasts are difficult to make because world food markets are closely linked to other markets, including energy and financial markets. A joint FAO/OECD medium-term outlook for major agricultural commodities, published in July 2007, projected higher prices for the 2007-2016 period compared to the 1990s.
9. How are governments responding?
High international prices have prompted major intervention policies by many countries, mostly to avert sharp price rises in domestic markets. In 2007, several importing countries have reduced or suspended their import restrictions while many exporting countries have limited exports, as they feared large exports could create shortages at home and consequently result in higher domestic prices. Some countries have released stocks in order to stabilize prices. Countries with a potential to expand output have raised procurement prices to encourage plantings for the next season. FAO provides information about these important policy initiatives and other market developments through its regular publications and reports, in particular Food Outlook, Crop Prospects and Food Situation, and Rice Market Monitor.
10. What is FAO’s response?
Through its Global Information and Early Warning System (GIEWS), FAO monitors global markets continuously. FAO issues updates on the world food situation and provides early warnings on emerging food crises in most affected countries. FAO/GIEWS and the World Food Programme also carry out joint assessment missions in countries facing food emergencies, providing timely information to governments, donors, non-governmental organizations. FAO is also in the process of formulating the Initiative on Soaring Food Prices (IFSP), which will target vulnerable farmers in a selected number of countries by improving their access to inputs, such as seeds and fertilizers, as well as helping to support more appropriate production practices. Steps are underway to implement the IFSP in a handful of countries prior to the May planting season. Additional measures, such as elaborating policy recommendations to help support Governments confronted with the challenge of soaring food prices will also be important elements of the IFSP.
