331) Geopolitcs of Commodities

Global Market Brief:
The Geopolitical Importance of Commodities
Stratfor, April 24, 2008

Commodities are the mother of all global markets. They represent strategic assets from a geopolitical point of view, since the entire fabric of the international system can be reshaped by the cost and availability of energy, metals and food. Therefore, the events of the past few weeks could be profoundly unsettling to the geopolitical system, since they can cause not only internal instability but, potentially, changes in the balance of power.
Everyone has had their eyes focused on the energy markets -- particularly oil, as it persistently moved to new highs. Less noticed by the Western public, but at least as significant, was the persistent rise in the price of grains -- the foundation of global food stocks -- and the intensification of that price rise over the past few months.
We need to begin by considering the origins of the rise in grain and other food prices. The first long-term reason has to do with a critical reality in the grain markets. Most of the developed states are actually net exporters of many foodstuffs. Rich countries -- particularly the United States and the European Union nations -- maintain lavish subsidies for agricultural products as a consequence of the political power of their farming lobbies. The United States and the European Union have been unable to reach meaningful agreements on eliminating these subsidies, which has had two effects.
First, it has stalled progress on a new World Trade Organization round. Second, it has forced the United States and the European Union to find ways to reduce their massive agricultural surpluses without totally upending the international commodities system by simply dumping the extra on the international market. The United States used some (roughly 5 percent of the total American cereal harvest) for food aid, and the Europeans destroyed some of theirs. But both agreed to pay their farmers to let land lie fallow, thus whittling down the total amount of land they had under till. Agricultural policies have resulted in a substantial amount of farmland being pulled off the market. This can be reversed, but not quickly, for both bureaucratic and natural reasons -- it takes a while to grow food once you are permitted to.
The second reason for the rising prices is that, as has been regularly mentioned, the rapidly rising standards of living in South, Southeast and East Asia have greatly increased demand for foodstuffs. In poorer countries such as Indonesia and India, this just means that the number of meals eaten per day has increased from one or two to two or three. In China, the increase is a dietary shift from grains to meats. It requires roughly 10 times the amount of grain to feed a person meat as it does to feed a person grain. This factor will persist unless economic growth crashes in the region. Even slow growth would allow this trend to persist; there is less land for growing food and more people eating more food.
Third, there is increasing urbanization -- again particularly in South, Southeast and East Asia. This has reduced the amount of high-quality farmland under till in that region, putting pressure on production and, thus, prices. There is no way to reverse this trend without first reversing population growth, which fuels urbanization. And while birthrates are falling all over the world, in much of this region they are still far from reaching zero population growth.
Fourth, the newfound Western obsession with biofuels is not only pulling large amounts of foodstuffs off the market, but encouraging farmers to switch crops to fuel the biofuels boom, removing yet more food inputs from the system. By 2010, roughly 30 percent of the American food crop is expected to serve as ethanol feedstock. Unless there is a change in how biofuels are created (cellulosic production, perhaps) or the political mood in the West shifts, this trend is locked in, too.
Fifth, there is a range of restrictive government policies compounding the problem. Argentina's mix of populist export and price policies has gutted that country's normal contribution to international food security. And many states that normally export foodstuffs -- Egypt, Kazakhstan, Ukraine, Cambodia, India, etc. -- have greatly restricted their food exports to manage the social impact of rising prices. This has been the proximate cause of grain supply disruption. As the price rises, governments move to control exports.
Sixth, exogenous impacts such as drought (Australia) and African rust (East Africa and Iran) are threatening crops. These change year by year and season by season. These are relatively short-term events, but when they take place in the context of long-term multigenerational processes, they dramatically disrupt the international commodity system.
A Different Sort of Market
Ultimately, food trades differently than other commodities. An overwhelming amount of oil is held by countries that do not need it. So when prices rise, those who need to import oil "simply" need to pay more. Should they be unwilling, they will suffer economic hardship -- but only rarely will the states themselves crack.
However, when food supplies are interrupted, people starve and then riot -- and then governments shake to their core. The price of food is even more fundamental to political stability than the price of energy. Thus, as food prices spike, governments intervene to maintain domestic social stability, grain is pulled off the global market and redirected to the domestic market to maintain price stability, and markets break down, leading to the lack of availability of grain at any price. Long-term high prices will lead to permanent disruption by countries that cannot afford the domestic cost of higher food prices. This will create dangerous shortages.
None of this is a particular problem if you happen to be a rich country that is a large exporter of foodstuffs. Your people will not starve, and their disposable income is much better able to handle the price shock than that of the developing world's citizenry. Countries that can do these things and also increase output in the midterm -- that is, the United States and the European Union -- massively increase their global leverage.
In the long run, this will lower prices. But in the short- and midterm, it will give the Americans and Europeans a lever against other countries that are short of food. The United States particularly has surplus capacity -- even in the face of ethanol mania -- which means that it will have leverage over many oil-producing countries that, until now, thought they held all the cards.
The situation could play out as it did between the United States and the Soviet Union in the 1970s and 1980s. Periodic grain shortages in the Soviet Union caused them to turn to global markets to supplement domestic production. The United States eventually intervened in the market to prevent Soviet accumulation of grains on the open market, compelling them to deal directly with the U.S. government in acquiring wheat. The United States was able to use this leverage effectively to extract concessions in other areas from the Soviets and to discourage aggressive action. In some ways, the Soviet grain shortages were the beginning of the end of the Soviet Union.
When prices are high and markets disrupted, whoever holds marketable surpluses can do more than make money. They can redefine the global balance of power. Oil never quite worked that way because the producers were as eager to sell as the buyers were eager to buy (save for a short period in 1973). But food in the current situation is both oligopolistic and held by strong hands -- nations that can produce and withhold grains without undue stress on themselves. That means that countries that must buy grains can be pressured dramatically. Think of the U.S.-Soviet grain negotiations, substitute oil producers short of grain, and think how the balance of power shifts.
In grains, the winner is the United States and Europe, assuming that they can develop a common policy and do not become competitors. As everyone starts discussing a global food policy, the subtext will be whether America and Europe can define a joint food policy, effectively creating an Organization of Petroleum Exporting Countries for grains and other food products.