Sunday, July 17, 2011

Why Peanuts Are Expensive

China's rising commodity prices are both a microeconomic and a macroeconomic phenomenon. A recent article on the soaring peanut market opens a window on the factors driving the price of a little-noticed commodity skyward.

According to the article, the price of raw peanuts has doubled in the past year and is at a record-high level. The price increased 44% from March to June. The increase in raw peanut cost has far outstripped the increase in final products. The peanut oil price is up 40% and the peanut meal price is up 16% over the past year. Thus, the rise in raw material cost has put peanut oil processors in serious loss-making territory. The article estimates that crushers lose 2200 to 2900 yuan for each ton of peanuts they process.

The article poses several reasons for the rise in peanut prices.

The first reason is microeconomic--the constant battle to determine what crops will be planted on a limited supply of cropland. There is a campaign to expand planting of peanuts to new areas in Henan and Liaoning Provinces, but plantings decreased in traditional peanut-growing areas last year as soaring prices of chili peppers and other vegetables lured farmers to switch some land to these crops. The article estimates that actual peanut production was flat or slightly down at the end of 2010.

The second reason is mainly macroeconomic. When last year's peanuts came on the market, traders were flush with cash due to easy lending standards. They anticipated prices would go up, so they bought up peanuts with borrowed money and stockpiled them in warehouses. The limited supply of peanuts on the market helped drive prices up.

The third reason is a rapid expansion of peanut processing capacity, another reflection of easy money and a government policy to build up the domestic peanut and rapeseed oil processing industry as a counterweight to the soy and palm oil industry. The large number of processors trying to utilize their capacity are chasing peanuts, putting more upward pressure on peanut prices.

The article suggests that prices may flatten or come down somewhat later in the year. Peanut prices were soaring at planting time this year, so many farmers returned their acreage to peanuts. Consequently, this year's harvest is likely to be a big one if weather is OK. Moreover, peanut oil prices are already high relative to soybean oil prices and it will be hard for peanut oil to remain competitive if prices go even higher.

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