Bad Biofuel Policy Boosts Asian Inflation

What has long been predicted – that the US decision to push the use of corn to make biofuel would be a costly mistake – is starting to come true, especially for Asia, where inflation is spiking with an ugly force.

China reported on Tuesday that the increase in its Consumer Price Index hit 7.1 percent annually, driven partly by food, which accelerated to 18.2 percent annually in January from 17.7 percent in December.

China’s disastrous cold spell gets the immediate blame for blocking thousands of kilometers of roadway and cutting power and transport links to tens of millions of people, collapsing more than 350,000 homes and causing direct economic losses of 111 billion yuan (US$15.5 billion) while damaging as much as 40 percent of the country’s rapeseed crop, the major source of cooking oil and animal feeds, which is driving up food prices.

Obviously there is more to Asian inflation than food prices. China’s Purchasing Price Index of raw materials rose by 8.9 percent year-on-year in January, with energy up 15.5 percent annually and power up 15.2 percent; ferrous metals rose 14.8 percent. But beyond that, world edible-oil and animal-feed prices have skyrocketed, with edible oil prices up overall by 63 percent for reasons that have nothing to do with China’s weather. Soybean oil is leading the price rise after soybean futures for May delivery on the Chicago Board of Trade rose to US$13.87 per US bushel last Friday, the highest price ever. Soybeans have surged by 85 percent alone in the past year. Palm oil is also up 71 percent annually.

Along with other culprits, including rising fuel use, the heart of the problem is the decision by the US government and other western governments to subsidize the production of ethanol and bio-diesel in an ill-considered strategy to cut greenhouse-gas emissions. Thomas Tanton of the Pacific Research Institute in San Francisco was quoted as saying that by 2012 ethanol producers will receive as much as US$93 billion in subsidies, accounting for up to 65 percent of the market value of the product.

That has caused a precipitous decline in the amount of soybeans planted in the US as farmers switched to more lucrative crops. Some 16 percent of agricultural land formerly planted in soybeans and wheat is now being planted in corn, according to the US Department of Agriculture. More corn – 86.7 million acres (35 million hectares) in 2008 – is being grown in the United States today than at any time since World War II ended 63 years ago. There is a full 600,000 acres (242,800 hectares) more now than in 2007.

Because of it, environmentalist Lester Brown of the Earth Policy Institute wrote on January 24 that “the world is facing the most severe food-price inflation in history as grain and soybean prices climb to all-time highs. Wheat trading on the Chicago Board of Trade on December 17 breached the $10-per-bushel level for the first time ever. In mid-January, corn was trading at over $5 per bushel, close to its historic high. And on January 11, soybeans traded at $13.42 per bushel, the highest price ever recorded. All these prices are double those of a year or two ago.” (A US bushel is about 35.2 liters.)

As a result, Brown wrote, everything from bread to tortillas, not to mention pork, beef, poultry, milk and eggs, is soaring in price. In Mexico, he wrote, cornmeal prices are up 60 percent, and in Pakistan flour prices have doubled.

The soybeans that corn is replacing are about as close as it is possible to come to a miracle crop. Domesticated during the Chou Dynasty perhaps 3,000 years ago, they were designated one of China’s five sacred grains along with rice, wheat, millet and barley. Their deep root system makes them resistant to drought. Growing in long green rows perhaps a meter high, they actually take nitrogen from the air instead of requiring nitrogen fertilizer – a growing problem for the United States. Corn takes so much nitrogen fertilizer that, according to the US-based Environmental Working Group, 210 million pounds (95.4 million kilograms) of nitrogen-based fertilizer is running off Corn Belt states and eventually into the Mississippi River, where it is contributing to what is being called a dead zone some 7,900 square miles (nearly 20,500 square kilometers) in area that is so depleted of oxygen that fish and crustaceans are suffocating.

Despite their use in such products as diverse as composite building materials, miso, fox and mink feed, magnetic tape, rubber, margarine, foam insulation and mayonnaise, soybeans’ biggest use is for edible oils and soybean meal, virtually all of which is used as an ingredient to feed poultry, hogs and cattle. The US Department of Agriculture in December projected consumption at 2.988 billion bushels (105.3 billion liters) against year-end 2007 stocks of only 185 million bushels, providing no surplus for consumption during the 2008-09 market year. Demand is expected to outrun supply for at least the next three years.

That is being felt in Asia, which historically has been the biggest destination for American soybean farmers. With the exception of soybeans, China has become a major crop exporter, with 2.85 million metric tons of foodstuffs exported in 2006, vastly increasing to 7.7 million metric tons through November 2007. Despite its exports, China, however, is the world’s largest importer of soybeans and vegetable oil.

At the other end of the supply chain are at least 20 million Chinese who are moving into cities each year, increasing their wages and improving their diets, which usually means increased meat consumption, particularly after annual incomes hit about US$3,000. With roughly half the price of a helping of meat determined by what the animal eats, that means prices are going up rapidly. Much of that meat is produced from soybean meal, not only in pigsties across China but on vast cattle ranches in South America. Brazil produces 28 percent of the world’s soybeans and is the largest exporter, sending 41 percent of its crop overseas. Argentina is the third-largest producer and consumer.

The United Nations Food and Agriculture Organization global food price index rose 40 percent in 2007, compared with 9 percent in 2006, spurring the FAO to warn of possible global food shortages for the first time since 1970. That is playing itself out across Asia. GDP across the region outside Japan is being revised down by about half a percentage point, while inflation is being pushed up from 4.2 percent to 4.6 percent or more, presenting central banks with the dilemma of responding either by cutting growth by using high interest rates, or allowing inflation to increase in an effort to keep growth going.

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