Corn harvest in Manitoba, Canada. Corn prices have been affected by worst drought in United States in more than 50 years (photo: Reede/Corbis)
FOOD AND FUEL PRICES
In an interview with IMF Survey, Samya Beidas-Strom, senior economist in the IMF’s Research Department, explains why the recent spikes in food and fuel prices are not as severe as in the last crisis.
IMF Survey: Are we heading towards a food crisis similar to that of 2008?
Beidas-Strom: In 2007 and 2008, the food crisis was exacerbated by many forms of export restrictions by major food exporters, but we have not seen these policies in 2012.
Also, in the past crisis, all the four major crops—corn, wheat, rice, and soybeans—were affected by the price spike, but this time around rice prices have remained relatively stable, and wheat prices increased only recently.
Another issue is energy prices. Energy prices played a big role in the last crisis when they shot up alongside food prices. This time around energy prices declined in the first half of the year, and they have only recently gone back up to those highs.
A final issue is countries are not overheating right now because of weak economic growth, and this has contained it.
IMF Survey: How have food prices evolved since the crisis of 2008?
Beidas-Strom: At the IMF, we have a food index which tracks 22 prices of the most commonly international traded agricultural food items. It has increased 15 percent during the past eight months of this year, whereas in the past crisis food prices shot up 23 percent. You can already see that it is a different magnitude.
For oil, the price increase in the past crisis was 36 percent. This time around, although prices fell after the 2008 crisis, they went back up and we have got used to higher prices.
IMF Survey: What are the reasons for the sharp increase in prices this year, especially for the basic crops?
Beidas-Strom: There are three reasons. The first one is there have been some world supply disruptions. The second is due to robust demand. And the third is because buffers are low.
On the supply side, the price spikes were driven by concerns of weather-related supply shocks. For example, there was the worst drought in the U.S. in over half a century, and earlier in the year there was the La Nino weather pattern that led to drought in South America.
It hurt corn and soy crops in Argentina, Brazil, and Paraguay. Wheat crops are also estimated to have been downgraded in the Black Sea region, which comprises Kazakhstan, Russia, and Ukraine. That is for the supply side.
On the demand side, food demand has remained really strong despite weakening economic activity, and that comes mainly from emerging and developing countries, with China being the single largest driver in the market.
Finally, while there has been a significant improvement since the past food crisis in terms of food buffers, we are still below the long-term averages, and therefore we are leaving the global food market vulnerable to supply setbacks.
IMF Survey: What impact does food and oil price volatility have on countries, especially middle- and low-income countries?
Beidas-Strom: There are three main effects of food and oil price volatility from the macroeconomic perspective. The first is on the trade balance. The IMF estimates that about 15–20 percent of a price increase for some of these key crops would deteriorate the trade balance of vulnerable regions.
The effect on the trade balance is somewhat ambiguous. It depends if you are a net importer or a net exporter. But there is another factor that hurts the terms of trade: falling mineral prices because of weak economic activity and high energy costs due to geopolitical risks. These are all negative terms of trade on importers and will hurt their trade balance.
There is also an impact on inflation. Rising food prices translate into high headline inflation which erodes consumers' purchasing power. The good news is that these temporary supply shocks do not typically have a persistent impact on inflation.
Finally, there is a fiscal impact. The past crisis showed that responding to food price pressures through subsidies and removing certain taxes has an impact on the GDP. It is estimated to be about 1 percent of GDP for sub-Saharan Africa. However, this time since it is concentrated in a few crops, it should be smaller.
IMF Survey: Traditionally, drought regions such as the Horn of Africa and sub-Saharan Africa in general are particularly vulnerable to such hikes. Is it still very much the same or are there other countries that are also very vulnerable to these hikes?
Beidas-Strom: The current food spike is less severe than the 2007 and 2008 crisis because it has not affected all key crops uniformly. Moreover, it has not been aggravated by trade restrictions and very high energy import costs.
However, there are regions that are vulnerable. These are regions who import corn, soybeans, and wheat. We know that low-income countries in particular spend somewhere between 30–50 percent of their income on food.
So, reflecting these issues, there are a few vulnerable countries in Africa. They are Lesotho, the Democratic Republic of Congo, Malawi, and Zimbabwe. There are also some in Central America, some in the Caribbean, the Middle East, and the Pacific Island countries.
IMF Survey: What can these countries do to protect themselves and, most importantly, their populations from these hikes in prices?
Beidas-Strom: In terms of food, in the short term, we recommend affected countries to scale up their safety nets to the poor, and accommodate spikes in headline inflation.
There are two types of inflation, core and headline. Core inflation is inflation from a consumption basket that is not affected by volatile prices such as food and fuel. In headline inflation, you include everything in the consumption basket, and that could be volatile.
We recommend allowing headline inflation to be volatile, and we are asking central banks to do this since we expect the shock not to be persistent. They should allow the exchange rate to move so that it can absorb the shock and use fiscal space if available to reduce taxes on food, and if needed draw on external finance to support the balance of payments and international reserves.
On the other hand, food producers should bolster agricultural investment and avoid export restrictions.
For oil, demand needs to become more responsive to prices. By that, I mean policies could encourage higher fuel taxes in some advanced countries, for example, and targeted cash transfers in place of fuel subsidies in developing countries. In the longer term, increased investment in the oil sector is also crucial for oil price stability because capacity has actually only risen modestly despite these high oil prices we have been seeing.
And over the even longer term, policies should aim to transition away from crude oil to other sources of energy such as natural gas and renewables.
IMF Survey: Is it possible at all to estimate what food and oil prices will be in the next few years, to protect ourselves against future hikes?
Beidas-Strom: I am afraid not. At the IMF, we rely on futures markets, and we do not forecast commodity prices.
Futures are markets that aim to deliver oil in the future at a price agreed today so they are future contracts.
Futures tend to perform quite well for well-traded commodities such as oil and, at the moment, they indicate that prices are expected to moderate toward the end of 2013. So what we are saying is that risks are tilted to the upside.
