Wednesday, February 9, 2011

Inventory? What inventory?

Does the lack of movement in published grain stocks invalidate any claim of a connnection between monetary policy and food price inflation?

New York journalist and one-time economist - Paul Krugman - thinks so. He doesn't see an "accumulation of inventory." Higher inventory would suggest hoarding, an important "signature" or marker of speculation. This point about inventory is mostly directed towards wheat, which has seen an extremely sharp run-up in prices.

Since Krugman lives in New York, it is perhaps understandable that his knowledge of farming is a little limited. There is no such thing as data on inventory. The USDA produces a time series called grain stocks.

This number is not the same as inventory, at least not in the sense used by Mr. Krugman. This stocks number has very limited coverage, focusing mainly on government holdings of grain. The USDA produces these estimates largely by looking at grain reserves in the US and reading reports produced by other governments.

Most countries run strategic grain reserves, and there is some limited data for what governments are holding. However, these reserves are disbursed across many sites across the world. Often there is wastage, theft, and misreporting. To put the issue in perspective; does anyone really think that the grain supply numbers coming out of say, Chad are accurate? Undoubtedly, the Chadian authorities are doing their best, but gathering comprehensive data on grain storage is not as easy as New York journalists might think.

In some parts of the world, grain markets are subject to government intervention, and price controls. This increases the incentives for corruption and misreporting. In more than one country, grain reserves have mysteriously disappeared, especially when food prices have suddenly accelerated. We should never forget there are some very powerful incentives at work here.

To make the point more forcefully, does anyone really think they know how much grain the private sector are holding? If private wholesalers are hoarding grain, I doubt very much that are reporting their stocks accurately to government officials. If prices are going through the roof, the incentives to hide grain are very potent.

Just to be clear, I am not saying we know nothing about grain stocks. I am sure the numbers coming out of the US, the EU and Canada are reliable. But strategic grain stock numbers from Russia, Kazakhstan and Ukraine? There I pause for a moment and wonder. Maybe, these numbers might be in the ballpark of the truth, but I would treat them with caution. As for private sector holdings of grain, only the Almighty knows that number.

There are estimates of production, which are partly taken from satellite imaging, and assumptions about yield per hectare. There is an obvious relationship between amounts produced last year and likely stocks this year. It is helpful, but I would feel uncomfortable about relying on those numbers.

Furthermore, when I hear that the USDA project a 5 percent decline in production, I am inclined to believe it. Nevertheless, reported harvests have been very good over the last few years. Even a five percent decline still puts the projected 2011 harvest up there in the top five years over the last two decades or so. However, none of this tells me very much about the true underlying level of world inventories.

Nevertheless, we shouldn't take too seriously any argument suggesting that speculation in food markets is implausible, simply because there is a lack of inventory build-up. It is the sort of argument that city folk make. Country people know better.

We must rely on what we can see; prices. We need to make a judgement about whether prices have deviated from long run fundamentals. As my last post indicated, prices seem to have jumped a long way from trend. To me, this smells of speculation..


  1. Inventories may be hard to measure, but I'm also seeing only a few months of contango in most of the agricultural futures. This would seem to imply that, if there is heavy speculation, it is only speculation about what will happen this year and not about the general direction of food prices. Otherwise people would be buying the distant contracts, which in many cases are cheaper than the near ones (and only slightly more expensive to finance given the relatively flat short end of the yield curve).

  2. Andy,

    I would be curious to hear your ex-post explanation for the oil/food price hike of 2008. I suspect you might have some interesting insights.

    BTW, I like your blog....


  3. Andy,
    inventory is a really, really grey area. For example China insist that it has 41% of the world grains inventory - I do not trust China more than Chad on that. USDA is in my opinion less than sincere also - if you look at their behavior they are very quick to up-write expected numbers than down-write them. I'm far from disagreeing with you about the possibility of serious private interest driving the prices up, however please do not underestimate the really serious government incentive to drive the prices down. Also you have to consider the paper markets (grain that exist just on paper) and it's implications on the markets.(quite a lot of the speculative interest move just in the paper market- it's just easier to manage)
    Thank you for you blog - i really like it.