Saturday, August 27, 2011

What's Up With Wheat? Cost!

A series of cost of production survey reports conducted by survey teams across China provide some on-the-ground insight about the inflation process in Chinese agriculture. This year's wheat crop was affected by last winter's drought to an uncertain degree that is hard to discern from these reports, but what is clear is that Chinese agricultural producers face rising costs across the board.

Chinese agriculture is rapidly industrializing, adopting chemical fertilizer, mechanization, and commercial seeds--raising productivity but also exposing Chinese agriculture to rising fuel and chemical prices. Rural land and farm labor--virtually free goods a decade ago--have now become scarce commodities with rising prices as urban development and demand for all kinds of agricultural commodities increases their opportunity costs.

It takes a year before complete national data from crop production cost surveys are published, but many local survey teams publish brief statistical reports on the Internet within a few months after the harvest. The reports are terse, based on small samples of farms, and from random regions, but they offer insights about what's happening on the ground.

The report for Henan Province, which accounts for one-third of China's wheat production, estimates the province's wheat output increased 1.3% in 2011. This year's report estimates the wheat yield at 390 kg per mu, up 2 kg from the yield in last year's report (which contained much more extensive data).

There are no other provincial reports on wheat costs of production and none from the major wheat-growing areas in Henan, Shandong, and Hebei. Most of the other reports are from a random collection of counties and they report widely varying yields. Reports from two areas in Hubei Province say that yields fell sharply, about 16% in Zaoyang. Two reports from Xinjiang give very different reports, one down, one up. Several other reports from Gansu, Anhui, and Jiangsu say yields either increased or decreased slightly.

A report from Wendeng, a district of Weihai on the Shandong peninsula, reveals some interesting details on this year's wheat production. The average yield was 390 kg/mu, down 3% from last year. The report also reveals that the farmers in its survey sample reduced their planting of wheat by 8% this year. There were two reasons. First, some farmers' land was taken over for a new industrial district created in two townships. Second, some farmers were not able to plant wheat due to drought conditions last fall which prevented them from irrigating the fields. Thus, the small decline in average yield does not take into account the land that wasn't planted in wheat at all (this land was planted in other crops in the spring).

What's clearly "up" in wheat production is the cost of production. The reports uniformly report rising production costs. Prices of fertilizer and fuel are up and labor costs are up since wages are rising rapidly. Several reports say land rents are up sharply as well.

The Henan report says wheat production costs rose a cumulative total of 132 yuan per mu over the past five years, an average of 7.9% per year. The increase was split almost equally over three components: material inputs (43 yuan), services (mainly mechanized ploughing and harvest, 43 yuan), and labor (46.5 yuan). The report worries that costs are rising at a faster rate than prices.

The Chinese government has been increasing subsidies on the premise that farmers need relief from rising production costs. In most places farmers get a fixed payment for each mu of land planted in grain, plus a general input subsidy that is linked to rises in fuel and fertilizer prices, and a payment per mu for improved breeds of seeds. Purchases of machinery are subsidized up to 30% but farm equipment is usually bought by entrepreneurs who plough, seed, and harvest fields for a fee of 40-to-60 yuan per mu. In Xinjiang, farmers get a subsidy of .4 yuan for every kilogram of wheat they sell to state-owned grain companies. In Baicheng farmers who lost their wheat crop got an insurance indemnity of 70 yuan per mu.

The subsidy strategy appears to be counterproductive. Some of the inputs explicitly subsidized--seeds and machinery--are increasing in cost. In Henan, the price of wheat seeds was up 20% this year. Machinery services costs were up 9% in and accounted for one-fourth of the increase in cost in Henan.

Rising land rents reflect the scarcity of land as well as increasing subsidies. In Henan, the average land rent went up 50% this year to nearly 200 yuan per mu. The report from Baicheng County, a remote area in Xinjiang near the Kazakstan border, says the land rent for wheat was up 8% this year to 121 yuan per mu (the land rent for the whole year is 200-to-300 yuan). Several reports cite subsidies and increased minimum wheat prices as factors increasing land rents.

When farmers receive subsidies to cushion them from costs, they increase their demand for factors of production that are limited in supply, thus driving up prices and production costs further. This prompts more subsidies and a vicious cycle of subsidies and cost increases.

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