Structural Change in Taiwan Flour Milling
June 01, 1997
by Teresa Acklin
Already suffering from overcapacity, Taiwan's flour milling sector is likely to encounter even stiffer competition from market and trade liberalizations.
By Hsing Ming Peng and Kyle Stiegert
Taiwan's flour milling industry has provided for domestic flour needs for the past 40 years, but today it faces tremendous structural change, particularly in the way millers compete for domestic market share and contracts for flour. These structural changes will be exacerbated by an extreme case of overcapacity in the milling industry.
Although opinions vary, most experts think capacity will shrink by at least 50% in coming years. Another possibility is that some of the excess capacity may be used to turn Taiwan into a flour exporter.
The Taiwan government traditionally has intervened in both the wheat import and domestic flour milling sectors for three reasons: national food security, economic stability and generating revenues for domestic rice subsidies. But domestic market and trade liberalizations that began in the early 1990s have reduced government involvement sharply and will force the milling sector to adjust.
Important historical events have shaped the Taiwan wheat milling industry since the early l900s and have contributed to its rapidly changing structure. Taiwan wheat milling began in 1907 and developed in three distinct periods.
In the first period (1907 to 1951), eight flour mills produced 55 tonnes daily. The industry used only domestic wheat, as wheat imports were not possible primarily because of tight foreign exchange constraints. Additional flour needs were imported from the United States under its P.L.480 food aid program.
The second period (1951 to 1966) marks a time of unprecedented growth in Taiwan's milling capacity, wheat imports and government regulation. In 1952, the Taiwan Flour Milling Association was established by the industry to provide significant regulation and control over many of the industry's activities. The T.F.M.A. initially was led by Y.S. Moui, who remains in power today.
Initially, the T.F.M.A. successfully negotiated with the U.S. government to import wheat instead of flour under P.L.480, which created an instantaneous need for milling capacity. Further, the T.F.M.A. decided to allocate wheat imports based on each mill's designed capacity.
As a result, milling companies found it rational to build excess capacity or capacity they had little intention of utilizing. Six mills were added from 1952 to 1954, and in 1955, 21 mills were added, which led to more than seven times the flour production levels of the early l950s.
The government limited new entry and expansion of existing mills after 1955, and by 1966, only six additional mills had been added to reach a peak of 41 (see Figure 1 on page 18). The wheat allocation formula based on capacity was abolished in 1966 after the U.S. food aid program ended.Overcapacity and Instability
The third period (1966 to the present) also had a significant influence in shaping the milling industry. A relaxed regulatory environment existed from 1966 to 1970, and the power of the T.F.M.A. in controlling the industry was significantly scaled back.
Entry limitations on new mills and expansion limitations on existing mills were removed, and mills were allowed to source their own wheat directly. Several factors led to highly unstable competition in the industry, including excess capacity, which was extremely high because of the past allocation formula.
In the late 1960's, conditions existed for milling companies to compete aggressively for market share, which they did. To further complicate matters, milling companies for the fist time faced prices that fluctuated according to market forces. Previously, prices were shielded from market influences because wheat was imported under P.L.480 terms.
Price uncertainty and excess flour production led to short term accounting losses for the industry, which were followed by periods of low wheat imports and flour supply. The unstable supply situation created general consumer and political unrest regarding the industry's structure, and a return to regulation took place in 1970.
Allocation of wheat imports was once again coordinated by the T.F.M.A. and based on individual milling capacity and market share. The evaluation of wheat allocations was adjusted every three years.
So once again, milling companies competed for these allocations by investing in additional capacity. However, because of the already severe surplus capacity problem, these investments tended to be coordinated with population and demand increases.
Based on recent interviews with several millers in Taiwan, the problem of excess capacity certainly began in the 1950s, but remains a significant problem because of the return in 1970 to the old allocation policies.
The Taiwan Council of Economic Affairs reports that only 40% of total milling capacity is being used, but interviews with industry insiders suggest that the problem may be much worse. With total industry capacity at about 3 million tonnes per year and demand for flour at about 1 million tonnes, capacity utilization currently is perhaps in the 30% to 35% range.Stabilization Efforts
After the 1966-1970 period of instability, the Council of Agriculture perceived wheat flour to be a daily necessity and its price stability to be essential to the general economy. Therefore, several instruments, including a “quota,” import subsidies, a stabilization program, import duties, a port duty and a specific import levy, were applied to stabilize imported wheat supplies and domestic flour prices.
Under one policy, the total quantity of wheat imported annually was indirectly restrained by the Taiwanese government's Board of Foreign Trade in conjunction with the T.F.M.A., in effect establishing a quota. For example, the target quantity in 1992 was 8.5 million tonnes. Subject to market demand, the target could be adjusted by the T.F.M.A. by up to 20% of the original limits.
Under this policy, the T.F.M.A. acted as a monopoly, with individual mills sharing the domestic flour market in a range of 0.5% to 4.89%. Also, non-members of the T.F.M.A. were prohibited from entering the market.
Because of unstable world wheat prices from 1972 to 1975, the government applied import subsidies for wheat, at a total cost of U.S.$105 million. The revenue generated by another new instrument, the stabilization program, eventually paid off this expenditure in 1985.
The stabilization program was designed to stabilize imported wheat prices and to subsidize domestic grain production. The basic idea of the program was to collect revenue from millers when world wheat prices were low and use that revenue to subsidize wheat purchases when world prices were high.
Under the program, wheat millers bought wheat through the T.F.M.A. at a single, standard price, which was set by the Council of Agriculture (C.A.) and several other agencies. Figure 2 shows the annual standard wheat price for the milling industry since 1979 compared with the average world price of wheat each year. As the table indicates, Taiwan's standard prices remained between U.S.$175 and U.S.$215 per tonne in all years except 1982, 1987 and 1995.
Note in Figure 2 that the standard wheat price was usually higher than world prices. In other words, millers generally paid more for wheat than what it cost the T.F.M.A. In those years, all extra revenue generated by the program was pooled in the Central Bank of Taiwan.
A secondary purpose of the stabilization program was to subsidize domestic rice production. Because the C.A. treated wheat flour as a substitute food for rice, revenues from the stabilization program were used to compensate rice producers. The equivalent of about U.S.$28 million has been used for compensated domestic rice production since 1970.
The government also controlled the price of wheat flour through the use of a price ceiling, whose goal was to control the flour market and protect consumers. Figure 2 shows the ceiling price for medium protein flour, which was correlated to the standard wheat price.
Other policies established in the early 1970s to stabilize wheat and flour prices included a 6.5% import duty, a 0.5% port duty and a specific import levy of U.S.$11.17 per tonne.Liberalization Steps
In 1992, Taiwan was the world's 12th largest exporter and the 14th largest importer of goods. Currently, Taiwan is an observer in the General Agreement on Tariffs and Trade and is applying for membership in GATT as a developed economy.
To conform to GATT rules, quantitative import restrictions and bans must be lifted. Therefore, setting a timetable for tariff reductions and decreasing import quotas have been the main considerations for Taiwan's trade policies in recent years.
The liberalization of the Taiwan wheat and flour markets is one result of these efforts. In 1993, Taiwan enacted its first set of general antitrust laws, which prohibited the monopoly power of the T.F.M.A. These laws assured direct access to wheat export markets for Taiwan's flour mills.
In 1994, flour imports equal to 3% of domestic use were allowed. In January 1996, the C.A. removed the quantitative limit on imported flour altogether and reduced the flour import levy to 15% from 30%.
At the same time, a change in the stabilization program was made. The program continues to subsidize imported wheat whenever world prices are higher than the standard price, but the government stopped collecting revenue from millers whenever world prices were less than the standard price.
When the fund is depleted, the stabilization program will be abolished. The aggregate revenue of the stabilization program now is about U.S.$14 million.
Since this change, the milling industry generally has purchased wheat at world prices because standard prices, currently at U.S.$245, have been higher. And even though mills now may import wheat directly, most still rely on the T.F.M.A. to purchase wheat, although each mill specifies quantity and vigor of the imported wheat.
For Taiwan's mills, buying wheat through the T.F.M.A. offers several advantages. As a buyer of larger quantities, the T.F.M.A. is in a better position to negotiate lower prices and reliable shipment schedules. Mills also benefit from transparent raw material costs and reduced price risk. Moreover, joint purchasing is necessary because most individual mills have insufficient silo capacity.
But the continuing need for T.F.M.A. functions may be doubtful, especially as the industry readies itself for the new competitive market over the long run. The first signs of greater mill autonomy will be seen in the extreme competition for market share and in a sharp increase in wheat imported directly by mills.
The competition for market share probably will force two of every three existing mills out of the market if no other changes in current government policy are made.
Under a free trade policy, Taiwan could use its current excess capacity to export flour; a subsidy program for export flour would provide incentives to use most of that capacity. Eventually, Taiwan possibly could become a major flour exporter in the Pacific Rim.Wheat Use and Flour Demand
Taiwan imports 100% of its wheat for human consumption. The small quantities of domestic wheat produced about 3,000 to 5,000 tonnes annually in the past 10 years have been used in non-food industries.
In the past, economic and political concerns encouraged the government in conjunction with the T.F.M.A. to import about 90% of wheat needs from the United States, but in recent years, Canadian and Australian wheat has made inroads into the U.S. market in Taiwan. That trend could expand as the milling sector restructures; with individual mills allowed to purchase wheat with their own capital, they now may seek desired wheats from any source in the international market.
From 1965 to 1993, per capita consumption of wheat products in Taiwan increased 50%, to about 30 kilograms from about 20 kg. At the same time, per capita consumption of rice decreased 50% to 69 kg from 139 kg. Four factors contributed to the increase in wheat flour consumption.
First, consumers have substituted wheat for rice because of a rapidly developing economy. Wheat based products provide better daily nutrition than rice and are more convenient for urban lifestyles. The rapid growth of the fast food industry since 1984 also has contributed to strong flour demand.
The second factor is a steadily growing population with increasing incomes. The current population of Taiwan is a about 21 million, with a 0.9% annual growth rate, and the average annual economic growth rate was about 7% over the past 10 years.
Per capita gross national product increased to U.S.$12,439 in 1995 from U.S.$3,993 in 1986. The increased population and income not only raised flour demand, but also increased consumers' purchasing power for higher quality bakery products.
The third factor is the improved quality of traditional processed wheat products and the availability of new wheat based products. As consumer income climbed, demand for new wheat products and microwave food, such as pre-cooked steamed bread and steamed dumplings, increased rapidly.
The final factor is the increased demand for wheat flour as a binder and nutrient in shrimp feed. The 39% jump in flour consumption from 1984 to 1988 has been attributed to increasing demand by the shrimp industry.
The Foundation of Taiwan Grain Development also has suggested that flour demand increases are linked to higher incomes and higher rice prices. Studies on price elasticities indicated that while a 1% increase in flour prices leads to a 0.39% reduction in flour demand, a 1% increase in rice prices leads to a 0.17% increase in flour demand. Similarly, a 1% income increase pushes up flour demand by 0.25%. The Foundation predicted that as long as population and per capita G.N.P. increased steadily, flour demand would increase continuously.
Two categories of wheat flour primarily are produced in the Taiwan market. Hard wheat flour, made from U.S. hard red winter, U.S. dark northern spring, Canadian western red spring and Australian premium hard wheats, is used for Chinese style wheat products, breads, buns, rolls, gluten foods, shrimp feed and instant noodles. Soft wheat flour, made from U.S. white wheat, is used for cakes and pastries production.
A survey of bakery products conducted by the Industrial Development Bureau of the Ministry of Economic Affairs in 1990 reported details of flour usage in the Taiwan market (see Figure 3). Imported wheat in 1990 consisted of 43.8% hard red spring, 30.9% hard red winter, 8.8% Canadian wheat and 16.5% U.S. white wheat. Seven types of flour were produced and were used in 15 bakery product categories.
Currently, the milling industry uses two techniques to produce specific flours. One is blending clean wheat prior to milling.
Blending wheat to meet specifications for the end product requires precise data from the experimental mill and also depends upon the ability of experienced millers. But milling performance may not be optimized because of the differing characteristics of wheat varieties.
The other method used by millers is flour blending. A single type of wheat is milled individually, and the desired flour is blended from different types of wheat flour.
This method provides more flexibility in producing various flours, but it requires more capital investment and operational space. A trend toward computerized flour blending systems is developing, with more companies planning to install such systems.
Demand for flour in Taiwan is seasonal. Figure 4 shows that strong demand occurs in August and from October to December. Demand is lowest in February, June, July and September.
The economic and political situation facing the Taiwan milling industry appears to be at a crossroads. Although we cannot be precise about how events will unfold, there are very strong signals that the industry will eventually move to a free market structure.
How the industry changes will depend critically on how fast the transition to a free market is allowed, export demand for wheat flour in the Pacific Rim and continued growth in domestic demand. These factors will also play a major role in reshaping the market share of wheat suppliers into Taiwan. As the move to a free market progresses, mills increasingly will be able to source wheat based on the prices and qualities that best fit their downstream customer needs for specific flours.
Hsing Ming Peng, who with his family owns and operates a flour mill in Taiwan, is a graduate student in agricultural economics at Kansas State University, Manhattan, Kansas, U.S. Kyle Stiegert is an assistant professor of agricultural economics at Kansas State.Figure 2 Wheat prices
in U.S. dollars per tonne
|Taiwan standard price||World pricea||Ceiling priceb|
Source: T.F.M.A. aSource: International Grains Council for U.S. No. 2 hard red winter, f.o.b. Gulf bmedium protein flour, in U.S. dollars per kg