Wednesday, July 27, 2011

Stabilizing the Pork Market: Not!

Using commodity reserves to stabilize prices is bad idea that just doesn't go away. Chinese officials are obsessed with building up larger reserves of every commodity so they can control and adjust the market. Last year, they even began a campaign to build up vegetable reserves.

This idea is a reflection of early-twentieth-century hubris when social scientists thought they could apply precise engineering systems to planning economic activity by employing clever bureaucrats equipped with mathematical formulas, reams of statistics, and sharp pencils. Most Chinese leaders were trained as engineers and the current party line is the "scientific outlook on development."

The pork market is an excellent example of misguided stabilization policies. According to an announcement by the government's Agricultural Development Bank of China (ADBC), the bank has been busy making loans to finance pork reserves. In the first half of 2011 the bank made loans totalling 2.34 billion yuan to manage national pork reserves. The loans went to 69 companies who sold a total of 100,000 metric tons of frozen pork into the market in five waves of sales.

Government bureaucrats can almost never time purchases and sales to stabilize prices. When prices are rising, everyone expects prices to rise forever, and they start to panic and hoard commmodities. The government panics and thinks they need even bigger reserves, so they buy up even more of the commodity.

The ADBC report notes that they have been busy this year building up local reserves in addition to the national reserve. They made additional loans totaling 1 billion yuan to build up local reserves of 60,000 mt.

According to the National Bureau of Statistics, meat and poultry output during the first half of the year totaled 37 million metric tons (they did not report a separate number for pork production). Meat production was up a measly 0.2% year-on-year. I calculate that to be an increase in meat and poultry production of 74,000 metric tons, about equal to the volume of the new local pork reserves.

Not mentioned in the article is that pork prices went to their highest level ever. Some localities have been selling pork reserves recently, AFTER pork prices already had peaked.

In a recent article giving a run-down on the "hog cycle" over the past 30 years, two experts said it's hard to stabilize the pork market since no one knows how many pigs are out there. One expert lauded the government's "information and warning mechanism" that was put in place in 2009, but says basic data collection is difficult and sampling has many errors since there are so many production units. He also cites tax collection (evasion?), disease information, and "red letter" policy notices as factors making collection of "truthful, accurate" data difficult (without explaining). He notes that, given the length of the production cycle, farmers need to get information 3 months in advance in order to make good decisions.

Another expert from the Chinese Academy of Agricultural Sciences said that the Ministry of Agriculture's monitoring system needs improvement. The system collects data from 6000 farms in 2000 townships in 200 counties, but "errors are relatively large." He claims the data collected from 100 production counties is relatively accurate, but the sample from 100 minor production counties is very small. He suggests that the system should sample 500 counties in order to reduce the error to 5% or less.

I calculate that a 5% error for an inventory of 450 million hogs (the estimated inventory for April) would be +/- 22 million. That would be a "confidence interval" of 428-to-472 million hogs IF the data were improved. If we suppose the current error is 10%, then the Ministry would estimate that there are somewhere between 405 and 495 million hogs.

The sampling error for Chinese hog statistics is close to the entire U.S. hog industry (inventory is currently estimated at 65 million head).

The Chinese government has been working hard at stabilizing the hog industry since the last round of pork price spikes in 2007. The result is exactly the same kind bullwhip pattern of prices that preceded the subsidies and price interventions.

The magazine article on the hog cycle points out that the length of cycles has actually gotten shorter. The government increases intervention when prices are high and withdraws support when prices are low, a pattern of “more intervention, more confusion.”

Chinese leaders are having to learn all over again that social and economic systems cannot be designed and manipulated like machines and bridges.

No comments: