A new normal in the grains market

by Chris Lyddon
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Experts at the recent Global Grain Conference in Geneva, Switzerland took a close look at how the grains sector, and the wider economy, has changed in some of the most important producing and consuming regions. The Black Sea, including Russia and Ukraine, has become much more important as a source of grain and its rulers plan for it to become more important going forward. China’s growth has slowed, but it is going to remain a big customer, while it must remain a big producer of grains. Producers of commodities of all types struggle, while commodity buyers are boosted by the possibility of buying cheap raw materials.

Sergey Feofilov of UkrAgroConsult outlined how the role of the Black Sea region in the global grain market has grown.

“The countries of the Black Sea managed to increase grain production and export tremendously over the previous 20 years,” he said.

China has increased in importance as a buyer, especially for Ukrainian grain exports. Exports from the Black Sea region now account for around 20% of the global market.

“Grain exports become a more and more important source for hard currency,” Feofilov said, noting the effect of devaluations in Russia and Ukraine as well as high inflation rates. “Devaluation promoted bigger exports, but the domestic market is under pressure of lower population incomes,” he said. “Agricultural production is the result of a combination of two factors: financing and weather. Domestic prices for grain increased quite impressively, but prices for imports like fertilizer increased more. This resulted in an impressive drop in area fertilized in 2015. We estimate this drop at 10% to 15%,” he said, referring to Ukraine.

Margins for grain production, on average, have declined by 20%.

“Lower margins promote that farmers will change production structure,” he said. “They will expand area for the most profitable crops like oilseeds.”

He explained that larger-scale farms have better access to financing. Winter crop area has been reduced.

“A key factor is the dry weather seen in the autumn,” he said. “Export potential will be set not only by the production side, but also by quality. We register a gradual increase in quality for milling wheat. We also noted the growing number of inquiries for non-GMO soy.

“Sunflower oil production turns into a food item of premium quality. Demand for sunflower oil becomes more and more stable.”

Feofilov quoted ambitions from the region’s politicians for greater exports. “Ukraine will double its grain exports in five years,” Feofilov reported Aleksey Pavlenko, Minister of Agrarian Policy and Food of Ukraine, as saying. The ambition of Russia’s agriculture minister Aleksandr Tkachev is “to increase average yields by 0.2-0.3 tonnes per hectare during the next 5-10 years, generating additional production of 15-20 million tonnes and promoting both domestic consumption and grain exports.”

Irina Sarycheva of SGS also stressed the importance of the Black Sea area. “Of course, this region is very important for everybody involved in the trading system,” she said. “Russia and Ukraine, and all of the Black Sea region, have a good availability of quality wheat.”

Regarding the 2015 crops, she said in the Russian Federation there was an increase in the feed wheat percentage from the previous crop and a decrease in the proportion of high quality wheat. In Ukraine, there was an increase in the proportion of feed wheat from 47% to 59%.

New normal in China

Zhang Zhi Dong, senior researcher at the China National Grain and Oils Information Center, described a changed situation in that country. “It’s called the new normal period in China,” he said. “GDP growth is down from 10% a year to 7% now. Import and export has a negative trend.”

He noted that grain production is growing faster than consumption. “The surplus is very big,” he said.

“We import a lot of cheap feed grain,” he said. “The profits of planting corn are several times as (great as) planting soybeans. Chinese corn oversupply is a big problem for the market, but also for the government.”

He explained that China imports more soybeans than it produces and that farmers are planting fewer soybeans.

“It means China will import more soybeans,” he said. “China’s soybeans mainly come from the international market, so crushing enterprises are mainly concentrated in coastal areas. When the price is cheaper, the importers will import more. Why imports of wheat, corn and rice are not very big is because of import quotas. Barley and sorghum are different.”

He stressed the effect of having such a big population.

“No country can feed us,” he said. That makes domestic production vital, but he still expects China to be a bigger player on the world market.

Elwin de Groot, senior economist, financial markets research at Rabobank International, looked at the effects of quantitative easing on the world’s market.

“You could argue that we have simply exported our crisis to other parts of the world – in particular, emerging markets,” he said. “What we have seen is a large buildup of debt in emerging markets. We believe that emerging markets have become more vulnerable to interest rate hikes. What is the Fed going to do? Is it going to hike rates? The answer is yes. It does seem to be happening now.

“For 2016, we are projecting growth in the area of 2% for the U.S. economy,” he said. “It’s very reasonable to think that the dollar may have to strengthen further.”

A possible rise in rates is still not fully priced in. “There is still some residual risk that once the Fed does this we will have further knock-on effects,” he said. “That is one of the reasons why we are bullish on the dollar.”

He said high inflation is still one of the biggest problems in Brazil. “The fiscal deficit has increased quite a bit. The labor market is far from recovering.” Dong predicted further contraction in Brazil.

Russia’s situation is starting to improve but from a lower level, and it has to deal with weak oil prices, a weak ruble and high interest rates. “Russia will continue to face a very slow recovery into 2016,” he said.

The outlook for India is slightly more positive. “India is much less exposed to a rise in interest rates in the U.S. and the falling commodity prices we have seen in the last one and a half years,” he said. “Low commodity prices are positive for India.”

India is a major importer of commodities. “China’s slowdown could be India’s opportunity,” he said.

Dong suggested that China’s position is not as good as growth reports suggest. “The key point in our view is that there’s been a massive buildup of debt in China.”

Most of it is in the private sector. “We think it’s a risk,” he said. “We’re not saying China’s economy will collapse. Our growth outlook for China is 6.5 percent next year. Trust or confidence in China has been undermined. It has been undermined in particular by the interventions of the PBOC (People’s Bank of China).”

He played down the importance of large foreign-exchange reserves.

“China is still an emerging economy,” he said. “It needs those reserves.”

The money would go for paying things like import bills and external debts, but continued intervention in foreign exchange markets could burn through reserves.

“We see capital wanting to go outside China,” he said. “We have a net outflow of capital. Perhaps as early as 2016 they will come to the conclusion that this is not healthy to continue and they will really have to decide to let the currency float freely.”

That could mean a serious devaluation in the Renminbi.

Countries such as Germany are seeing exports to China reduced, but Europe as a major importer of commodities, like India, does benefit from a the current situation.

“You clearly see the shift that is going on,” he said. “Commodity producers are having a hard time. Commodity importers are doing well. The fall in commodity prices has caused a drop in inflation.”

In Europe, consumption is leading the economy out of the recession. “One of the main concerns of the European Central Bank is still low inflation or perhaps deflation. The market is still not entirely convinced that inflation will return. Real interest rates are still higher than when the European Central Bank started quantitative easing.”

He predicted that the euro will ultimately weaken further against the dollar.

“We are in a global forex war where countries try to steal market share from each other, but ultimately it’s a zero sum game. We are in a low-growth, low-inflation environment. Overall demographic challenges are significant. We see low productivity growth everywhere. Our response to the global financial crisis was to create more debt, not less. We could argue that quantitative easing policies make things worse because they cause misallocation of capital. Global growth is likely to remain lower than we have seen in the past.” We are in a new normal.”

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