Uncertain Times

Higher food prices for Canada are here to stay. That was the consensus at a recent conference at the MaRS Collaboration Centre in Toronto, called Rising Food Prices: Global Dynamics & Canada’s Responses. Four panelists representing a bank, an investment firm, academia and farmers concluded that, if current economic conditions persist, food prices will continue to climb for at least the next three to possibly 10 years. And they all pointed at the same culprit – global food demand exceeding available supply.

So it’s all a matter of Economics 101. For those seeking numbers, the Conference Board of Canada forecasts a three- to 3.5-per-cent rise in overall food prices in 2009 or about the same figures from 2008. At the same time, 2009 meat prices will increase 4.1 per cent after dropping 4.2 per cent in 2008. “Recently, the supply of meat has exceeded demand, so prices fell,” says Michael Burt, the Board’s Ottawa-based, associate director of Canadian Industrial Outlook Services. “But next year, prices will rise after farmers finish culling their herds to reduce supply.”

But it’s not just food prices that have been spiking. Energy, metals and most other commodities, with the exception of forestry products, are all on the same upward spiral. “Food commodities tend to lag price increases in others,” says John Johnston, a conference panelist and Toronto-based chief strategist for The Harbour Group. “Food is now playing ‘catch up.’ The major pressure behind rising food costs comes from currency fluctuations, increased demand, higher input costs – especially energy – government policies and hoarding. Part of it is also cyclical. For almost 20 years, agricultural commodity prices have been in a slump. The market is brutally efficient; brutal to some and efficient to others.” No wonder they call economics the dismal science.

Uliana Haras, Ottawa-based associate economist for Agri-Food & Emerging Europe/Central Asia, Export Development Canada (EDC), offers various insights on how different trends and events have made food prices front-page news. “A major contributor is continuing competition between crops for use as food for humans or livestock and feedstock for alternate fuels such as ethanol,” she says. “In recent years prices for crude oil and corn have become closely correlated. And as the price for corn increases, livestock farmers have substituted other grains such as barley, wheat, soy and canola causing their prices to rise as well. One way farmers can moderate increases is to boost acreage.”

On the flip side, if demand for crude drops, pushing prices down, that should cause farmers to shift away from using food crops for bio-fuel production. However, that’s no sure thing since many governments, including the U.S., Brazil, the EU and even Canada, offer subsidies to promote the expansion of biofuels.

Government policies also disrupt economic fundamentals in other ways. “Some countries have banned food exports to boost domestic supplies to feed their own people,” says Haras, “while others hold back food to build up strategic reserves.” In some Asian countries, consumers are hoarding rice, fearing price hikes or lack of supply. Most observers, however, consider it only a temporary blip that will disappear after prices and supply start to stabilize.

Still, global demand for food continues to rise. Part of it comes from increasing population. But emerging markets such as India and China are undergoing a fundamental shift in eating habits – as those economies prosper, people are eating more meat than grain. However, substituting protein for carbohydrates puts added upward pressure on crop prices. It is estimated that it takes three to seven times more grain to produce a kilo of meat than an equivalent amount of plant protein.

In 2009, we should expect to see gyrating prices. “Tight inventories and high demand lead to greater price fluctuation and volatility,” says Haras. “Often, minor events can trigger wide price swings. Speculation plays a part but it is not a major cause.” In fact, a recent Conference Board of Canada report, Is Food Commodity Securitization Worsening the World’s Food Problem? concluded that, “… [L]ittle evidence indicates that the securitization of commodities has compromised the real economy of agricultural supply and demand by forcing prices up, reducing the amount of food being produced, or cutting the supply available for world markets.”

Most food products, except for corn and wheat, do not trade on commodity exchanges like many metals and minerals, something that results in less efficient international sales of food items such as meat. For example, earlier this year pork prices spiked in China after disease ravaged its pig population. Around the same time, Agriculture Canada actively encouraged farmers here to cull their sow herds to reduce production capacity, as pork prices barely covered the cost of feeding the animals. Since there were no relevant international market mechanisms in place, Canada and China could not solve their mutual problems.

Nevertheless, emerging overseas markets offer hope for innovative exporters who can develop products to meet their changing needs. “Chinese demand for Canadian agricultural exports is moderate, in particular the crop segment,” says Haras. “They aren’t buying as much of our wheat. But China is the number three export market for processed foods, representing four per cent of current export sales in that segment, with strong growth trends reflecting increased demand from consumers with higher per-capita incomes.” In such markets, food exporters need to focus on developing value-added niche products such as corn-fed beef rather than traditional, commodity-type products that are more price sensitive.

An overlooked benefit of rising food prices is that, after many lean years, farmers are starting to enjoy better incomes. Still, their margins are being squeezed because of higher input costs – fertilizer, energy and new equipment – as well as currency swings. At present some banks predict that the Canadian dollar could fall as low as US$0.90, which would benefit exporters since proceeds from U.S.-dollar denominated contracts would increase. Domestically, their products would be more competitive since the price of imports would rise. Now considered a petro-currency, the Canadian dollar will rise and fall with the price of crude.

Over the long-term – 10 to 15 years – the increasing value of agricultural assets will increase supply and ultimately help moderate future price rises. The first step involves attracting greater investment, which in turn will lead to more research and development to create higher productivity, better quality and healthier products such as organic foods. That translates into greater supply since farmers will boost acreage, and when combined with improved yields will deliver higher production.

On the business side, food-sector consolidation may start to accelerate. Belgian brewer InBev SA’s recent acquisition of Anheuser Busch is a sign that global ambitions in the beverage industry are hurtling forward. In Canada, beer stalwarts such as Labatt Breweries, Molson and even Sleeman Brewery Ltd., are now owned by foreign companies. Such empire building is starting to emerge in other segments as well. A recent Wall Street Journal article cites the example of Brazilian meat packer JBS SA, which, despite falling worldwide beef prices, has been buying up competitors in Italy, the U.S. and Australia. By picking up out-of-favour meat producers at bargain prices, JBS hopes to cash in on the eventual price increase from higher demand in Eastern Europe, Russia, India and China. That strategy may affect Canadian exporters since JBS will become the largest meatpacker in the U.S., controlling about 30 per cent of the market if the U.S. Justice Department approves its plans to purchase National Meatpacking and Smithfield Beef. Skeptics, however, wonder if JBS has deep enough pockets to survive until meat prices turn around.

Similarly, the New York Times recently profiled U.K.-based Emergent Asset Management and its plans to raise US$450 million to US$750 million to invest in farmland in sub-Saharan Africa. There it will consolidate small plots into more productive holdings and introduce better equipment to farm jatropha. Investors believe that jatropha, an oil-seed plant used for biofuels, offers a huge potential as both a cash crop and a source of farm-operations fuel since it grows in sandy soil unsuitable for food production.

Innovation and imagination may yet solve the problem of supply and demand.