The sudden onset of a serious drought across much of the US has caused a major spike in food commodity prices. This is the third spike in food prices in four years. If it continues, there are concerns that it could threaten food security in some countries, with destabilising effects on society, as was the case with the last two price spikes in summer 2008 and early 2011. Much will depend on the quality of harvests elsewhere in the world, according to QNB Group.

The US is one of the world’s largest food producers, particularly of corn where it grows about 40% of the global crop, and is a major exporter. This is why a poor harvest in the US can have serious global consequences.

Concerns about the US drought briefly pushed three key foods—corn, wheat and soy—to record prices on July 20th, of USD 8.28, USD 9.44 and USD 17.77 per bushel, respectively. Most prices have eased slightly from that peak in the last few weeks, but remain elevated, although corn remains around the peak level. At the end of July, futures contracts for September delivery of wheat and corn were nearly 50% above their levels at the start of June, while soy was about 25% higher.According to QNB Group, the high prices are exacerbated in many countries by the strength of the US dollar. The benchmark index of the dollar against six major currencies is about 15% higher than it was in July 2008. This makes the cost of food commodities even higher in countries whose currencies have depreciated against the dollar.

 

Food prices (% change since 1 June 2012)
(Closing prices for September 2012 futures contract

The problems with the US harvest have been brewing for some time, as the entire 2011-12 agricultural year has been unusually dry. Conditions had been expected to improve during the summer growing season. However, by late June it was becoming clear that this was going to be an extremely hot and dry summer, as also evidenced by the large number of wildfires across the country.

The drought, centered on the nation’s Midwest food basket, is now thought to be the worst in over half a century. It currently affects 60% of the country, including 78% of the corn-growing regions, according to the weekly US Drought Monitor. As a result, 30% of the corn crop is in poor or very poor condition.

Moreover, 55% of land used for animal raising is in poor or very poor condition.

The markets have been fluctuating in recent weeks on the basis of rain forecasts. However, even if there was substantial rainfall, it is now probably too late to revive the corn crop, as it has passed its pollination stage, although the soy crop might yet be revived.

Elsewhere in the world, the important wheat growing regions in Russia and Ukraine are facing a second dry year, adding to the upward pressure on prices. Meanwhile, floods in parts of Asia have been threatening the rice harvest, although the key Chinese harvest looks healthy.

A recent poll of commodity analysts suggests that prices are expected to increase to new highs in August and September. Thereafter, prices are expected to ease off after the US harvest as attention shifts to the southern hemisphere, particularly Brazil, which harvests at a different time of year. A positive factor that may put a brake on prices is that global cereal stocks are around 515m tons, about 23% higher than they were during the 2008 food price spike, according to FAO estimates.

So far, the spike in certain food futures prices has not yet been fully reflected in actual sales prices, nor has it spread into other types of food. Indeed, the global food price index produced by the UN Food and Agricultural Organisation (FAO) was at its lowest in nine months in June, and well below its peak level. However, the price rises should feed through into the cereals component of that index in the next few months. Moreover, high crops prices will increase the prices of meat and dairy, after a lag time, because of the higher costs of animal feed.

QNB Group argues that the experience of recent years suggests that high and volatile food prices may be the new normal. This is a result of a range of factors including growing demand from an increasingly affluent global middle class, as well as the substitution of some crops from food to biofuels. On the supply side, the instances of both droughts and floods appear to be increasing as a result of climate change. Speculation in the futures markets may also be a factor, although its significance is debated.

The world needs to find new mechanisms to adapt to the changing food situation, increasing production, developing strategic reserves and providing assistance to the poorest and most food insecure countries.

ABOUT THE AUTHOR
Aparna Shivpuri Arya is Senior Editor, Trade and Export Middle East, CPI, Dubai. Before joining CPI, she was working with UNESCAP in Bangkok. She has a Masters degree in International Law and Economics from Switzerland and a Masters degree in International Studies from National University of Singapore. Aparna has worked with think tanks across countries on international trade issues.