Shale gas to drag world agro prices lower

Aug 19 2014, 01:54 IST
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SummaryDiminishing ethanol demand will trigger a fall in corn prices and also lead to lower wheat/rice values.

The “gale of shale” is hitting the US and the world with surplus energy. In 2000, shale was 2% of natural gas supply; in 2012, it was about 37%; and will be about 65% within the next two decades. The US is poised for shipping out shale gas in liquefied form as net exporter of energy. According to some analysts, crude oil prices may be clipped by 30% (say, from $100 to $70 per barrel) in the foreseeable future. American motorists are consuming less gasoline, thereby limiting the blend of biofuels like ethanol. The “energy security” lobby of the US is no longer supportive of biofuels.

Ethanol is produced from corn in the US. (Brazil and India produce ethanol from sugarcane.) Apart from human consumption, corn is extensively consumed by livestock as animal feed. About 970 million tonnes of corn is produced worldwide—the largest single crop in the world. Wheat is around 700 million tonnes, rice is 470 million tonnes and soybean about 300 million tonnes.

The US’s maize output, the highest among all countries, is about 360 million tonnes. Out of this, 36% (130 million tonnes) of corn is consumed for ethanol. With sufficiency and viability of shale gas, the future demand of ethanol will shrink, resulting into demand compression of corn, especially in the US, and its price will move southwards in the coming years. As of now, corn and wheat are trading, respectively, at $190/200 and $240 per tonne FOB—lesser by 20% from last year.

There exists an empirical equation of corn with other agro commodities. For easy understanding, if corn is priced at $200 per tonne in any future exchange, wheat will be around $250-260 and soybean will be traded at $450-500. Barring unforeseen conditions, trade tentatively assumes ratio of 1:1.25-1.30 for corn versus wheat and 1:2.25-2.5 for corn versus soybean.

Rice of Asian origins is not traded at future exchanges so corn versus rice ratios cannot be established directly but can be inferred from “price/demand” elasticity of 39 countries of Sub-Saharan Africa. This region imports about 11-12 million tonnes rice annually, out of 35 million tonnes of non-Basmati that is traded worldwide. If rice becomes expensive, say about $600 per tonne FOB, as in 2008, there would be significant shift to corn till rice values drop to about $350-400 levels.

Bearish corn means lower food and feed prices

Corn, wheat and soymeal are active ingredients of feed compound ingested by live stocks. In bearish corn market, a feed miller applies more corn and curtails blend of high priced wheat or soymeal and thereby trims demand of wheat or soybeans. Thus, price movements of wheat and soybean are largely governed by corn prices. Probability of corn price being higher than wheat is remote except in drought-like conditions in the US in 2011-12.

The US as an exporter of non-biofuel energy can make corn terribly bearish and may drag down world’s grain complex. GM crops can further discount grain values. With such an evolving situation, India cannot afford to hike MSP of wheat and paddy arbitrarily—as a one-way street going up always with no calibration to market. Apart from seed, fertiliser, electricity, diesel subsidies, farmers are doled out additional dose of subsidy by FCI through MSP with open-ended procurement. Then the cereal is expected to be subsidised up to 90% of the cost under the Food Security Act. Buy at the high of the highest and sell at the low of the lowest cannot be the governing principles of Indian food and agricultural reforms.

Policymakers must consider these “glocal factors”, otherwise the government will be saddled with unsold grains as usual. Exports from open market will also become unviable. The recent example is Thailand where 18 million tonnes of high priced paddy is lying partly damaged and unsold while pilfered tonnage is unknown.

Poverty is diminishing

A recent World Bank report demolishes the Indian claim of rising poverty highlighted at the WTO. The World Bank puts the Indian poor reduced to 100 million in 2011 from 400 million in 2005 based on PPP of $1.25 per person per day. Even if this report is questionable, no one can doubt improved standards of living of all sections of Indian society. For the last 10 years, the average GDP growth—adjusted with inflation deflator—is about 6.5%. Can we still harp that poverty is not coming down? GDP growth and the rise in poverty do not gel. How can farmers owning land—even small holdings as an asset class—be classified as poor and whose income is exempted from tax? If poverty is diminishing, then gifting larger subsidies are discordant policy signals.

Let us not follow the policies of “povertarianism is my birthright”, as rightly highlighted by Shekhar Gupta, the former editor of this paper, in July 2013 (http://goo.gl/jxOuCC). The need is to anticipate the winds of change in the energy environment and agro complex to eliminate trade distorting policies for efficiencies in local and international business. If the WTO controversy can be resolved by cash transfers, let this be implemented by 2017 under the peace clause.

Tejinder Narang

The author is a grains trade analyst.

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