Food-crunch 'fix' won't work

By Jim Jubak

Starve thy neighbor.

It leaves something to be desired as moral advice. It's pretty bad economics, too.

The recent decisions by Argentina, Russia, Vietnam and others to limit exports of wheat, rice and other grains won't stop runaway food inflation in those countries. It will, in fact, prolong today's global food-supply crunch. Speculators, however, are cheering because the less grain there is on world markets, the more hoarding and panic buying will drive prices higher.

The only long-run solution to the global shortage of grain and other foods is to increase supply. That's going to take lots and lots of fertilizers and other agricultural chemicals and new varieties of higher-yielding seed. Investors can count on an additional decade of good times for stocks such as fertilizer maker Potash of Saskatchewan (POT, news, msgs) and herbicide and seed giant Monsanto (MON, news, msgs).

If investors are very lucky, the current bear market might even deliver a sell-off in these shares that would provide a good entry point. But, unfortunately, share-price action of the past few months suggests that's unlikely.

Inflation by the slice

The likelihood that starve-thy-neighbor policies are going to drive up the price of grains and other foodstuffs isn't exactly good news, coming on top of stunning increases in grain prices.

On April 3, corn for May delivery closed at $6 a bushel; a year earlier, May corn closed at $3.46. That's a jump of 73%. In the same period, the price of a contract for soybeans for May delivery climbed to $12.57 a bushel from $7.63, an increase of 65%, and wheat soared to $9.35 a bushel from $4.20, a 123% gain.

No wonder my neighborhood pizza guy has raised his price for a plain cheese slice twice in the past two months by a total of 50% -- or that a baguette at my local bakery goes for 16% more than it did a month ago. Come to think of it, looking at the jump in prices on the commodities market, it's amazing that a slice costs only 50% more.

But while a jump in price like that is painful to me, food inflation is literally life and death for hundreds of millions in the world's developing countries. In February, food prices in China were up 23% from February 2007. In a year, the price of pork climbed 63%, vegetables 46% and cooking oil 41%.

That's a huge hit to the budgets of the 300 million Chinese who, according to the World Bank, live in poverty. For these families, food makes up 50% of the household budget. In contrast, the average U.S. family spends a little less than 10% of its household budget on food.

China isn't the only country experiencing runaway food inflation. India, Argentina, Egypt, Vietnam, the Philippines, Mexico, Cambodia and others are caught up in a global trend. With incomes rising in much of the developing world, and with biofuels such as ethanol eating into grain supplies in the developed world, global grain production isn't keeping up with demand. And that's pushing up the prices of everything from soybeans to chicken, pork and beef.

The grain-price elevator

The first response by many of these countries has been to slap on export controls. On March 28, for example, Vietnam, the world's second-largest rice exporter after Thailand, cut rice exports by 22%. (China is the world's largest rice producer, but it keeps most of its production at home.)

Inflation hit 16.4% in Vietnam in the first quarter of this year, and food prices soared 21.5%. On the same day, India set a new minimum price of $1,000 a ton for its rice exports, well above the global price of $700 to $750 a ton for most grades of rice. That ensures very little rice will be exported from India. Cambodia has halted rice exports. Egypt's ban went into effect on April 1.

Same story in other grains.

Within the past year, Ukraine, Russia, Kazakhstan and Argentina have all at times restricted wheat exports. (The American Bakers Association has urged Congress to restrict U.S. exports.)

At the same time, many of these countries have lowered or done away with tariffs on imported grain in an effort to attract more of the world's limited supply. India, for example, eliminated its tariffs on edible oil on March 31, and Saudi Arabia has jettisoned its 25% import tax on wheat.

Of course, with so many countries reducing what they export, there isn't much grain out there in world markets for these lower tariffs to entice into hungry markets.

The export restrictions have made thin markets thinner by reducing global supplies, and that has increased the power of speculators to move these markets. Even before the latest export restrictions from Vietnam and India, the global rice trade had just about come to a stop because there simply wasn't much rice for sale.

What was for sale was often controlled by speculators who wanted to hold on until they saw how high prices would go. Government efforts intended to reduce grain prices instead keep them climbing.

Soaring subsidies

But the governments of these countries are desperate to be seen as doing something. Keeping food prices relatively low is a matter of political survival. That's why governments from Egypt to China to Indonesia to Venezuela subsidize the cost of food. As food prices have soared, the cost of these subsidies has climbed, too.

India spent $600 million on rice and wheat subsidies in fiscal 2005. Projections for fiscal 2009, which started last month, see spending climbing to the neighborhood of $2 billion. The Philippines will spend about $520 million subsidizing rice prices this year, the Asian Development Bank projects. In Indonesia, this year's food subsidies are likely to climb to $2.2 billion.

Continued: Subsidies share blame for crisis

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