Thursday, July 31, 2014

China's Water Choice: Grain or Coal?

An official of China's Ministry of Environmental Protection dared to think clearly about environmental and energy issues. Recognizing that both coal and grain production require large amounts of water, the official recommended that China could scale back grain production in Shanxi, Shaanxi, Inner Mongolia and Xinjiang to free up water for coal production. Instead, China could import more grain from overseas, the official suggested.

The daring proposal was made by an environmental assessment inspector  at the "2014 China international energy summit" held in Beijing July 28-30.

The official was inspired to think the "forbidden thought" of importing grain when he visited Italy and found farmers protesting outside the parliament over the cancellation of a plan to export grain that had collapsed because they couldn't find a market.

The environmental official notes that many people in China say the country should never import grain. But he doesn't see why "food security" should be elevated above "energy security", noting that China imports 60% or more of its energy. He argues that the "cold war mentality" [of grain self-sufficiency] must be broken to relieve pressure on the "precious water resources" of coal-producing areas and revive their "fragile ecology." Importing grain from Canada, France, or Italy, he says, would also reduce pesticide and fertilizer use "a little bit."

The official addressed the concern that "everything China buys gets expensive." He says if China starts importing modest amounts of grain, prices may go up at first. But the "law of the market" may make prices go down in the long-run (as other countries expand output).

This official's proposal does not appear to reflect official policy, but it is significant that someone has begun a public discussion of environmental choices. Of course, this is China and appearances can be deceiving. As the story acknowledges, importing grain has always been a taboo subject and this story's appearance on grain market web sites is unusual. It's possible the story was planted by top officials laying the groundwork to open the market to "reasonable imports" of grain--one of the key points of the new food security strategy.

Wednesday, July 30, 2014

China's Food Safety Meat Nationalism

China seems to be stoking food safety hysteria to undermine the dominant position of multinational fast food chains. The news media reports of use of chicken past its use-by date by Shanghai Husi (福喜) focus attention on the fast food chains it supplied such as McDonalds, KFC and Burger King, deflecting attention from pervasive problems in the broader domestic food supply.

China's latest food safety scandal broke on July 20 when Dragon TV network aired hidden camera footage showing alleged use of meat past its use-by date at a Husi Company plant. The scandal was prompted by broader concerns about meat safety, but the media's focus on multinational food service chains is allowing other perpetrators to stay out of the spotlight of scrutiny.

Virtually none of the media coverage acknowledges that the TV footage appeared five days after the China Food and Drug Administration ordered local authorities nationwide to carry out a special campaign to crack down on meat-related food safety abuses. According to the document, the order was prompted by rising public concerns about a rebound in illegal behavior related to meat production and concerns about spoilage during hot and humid summer weather. The document also raised concerns about rising illegal imports of meat and counterfeit Islamic (halal) beef and mutton which harms minority groups and threatens social harmony. Local authorities were ordered to carefully check processing plants, cold storage facilities, markets, supermarkets and food service establishments.

With hundreds of local food safety authorities carrying out careful inspections, how is it that problems were discovered in a single company by a TV network's hidden camera footage? The thousands of officials combing the country for meat problems--prompted by widespread concern over nasty and counterfeit meat--didn't find any other problems?

On July 21, after the scandal broke, China's FDA ordered another careful check, this time concentrating on the companies on Hushi's customer list, all of them "foreign" chains. The 21st Century Business News reports that Sichuan, for example, is investigating "112 KFC restaurants, 40 Pizza Huts, 49 McDonalds, 202 Dicos, and 96 others that include Starbucks and 7-11."

The 21st Century Business Herald subtly links the scandal to purported dangers of imported frozen meat by citing several incidents of problematic imported meat reported by China's inspection and quarantine authority going back to 2001.
A truck delivers imported meat to a processor in northeastern China

An opinion piece in the Guangzhou Daily develops the imported frozen meat safety canard more fully, reasoning that meat shipped across the ocean is likely to surpass its sell-by date. Moreover, the Guangzhou Daily author alleges that "U.S. inspectors find a certain proportion of bad meat, some of which they send to China." He cites Japan's toxic gyoza incident during the last decade as a warning, but he neglects to tell readers that the bad gyoza came from China. The Guangzhou Daily author intones, "If we don't pay attention as soon as possible, there could be even more incidents."

Already, China is imposing onerous food safety requirements on imported meats that are already produced in a much more carefully managed system than China's domestic meat. The requirements are burdensome, costly and surely far exceed the negligible risk-reduction achieved. Moreover, any risk reduction from the extremely strict requirements imposed on exporters is undermined by poor management in the supply chain after product reaches China.

Consider the following photos from an agricultural product wholesale market in a northeastern provincial capital in June 2014 (shortly before the Chinese FDA's order was issued).

Most Chinese pork is sold from chunks of meat displayed on a counter (below). This wholesale vendor says she sells about a dozen carcasses a day. She has a freezer at the back of her stall, but meat is out in the open for extended periods of time. The Guangzhou Daily commentator suggests that this "fresh" meat is safer than imported frozen meat.
The tile floors and walls in the meat and seafood section of the market were filthy. This motorcycle is loaded with bags of pork ribs in plastic bags to his restaurant or retail counter.
Nearly all products in the market were domestic, but one counter had a few boxes of imported pork products from the United States and the Netherlands. The box of pork kidneys shown below bears a sticker showing that USDA approved the product for export--a requirement of the Chinese government. It also bears a bar code which no domestic products in the market had.
More importantly, the box has two stickers that say "keep frozen." However, these boxes appeared to have been on the counter at room temperature for some time. It's wasteful to demand that foreign suppliers take costly measures to reduce the purported risk of their products if greater risks are introduced by poor management after the product arrives in China. Imposing excessive certification requirements on foreign exporters induces many of them to abandon sales to the Chinese market. The few remaining foreign suppliers can demand higher prices from Chinese customers. This reduces the supply of meat to Chinese consumers, raises prices and forces them to consume risky meat from dodgy domestic suppliers.

But since when do Chinese officials care about the interests of Chinese consumers?

Wednesday, July 23, 2014

Chinese Agriculture's Declining Competitiveness

A Chinese expert acknowledged the declining international competitiveness of his country's agricultural sector and advocated an emphasis on family farms and improvement of rainfed agriculture as critical steps to improve productivity and cut costs.

Dang Guoyang is a prominent researcher at the Rural Development Institute at China's Academy of Social Sciences. In an interview with Peoples Daily, Professor Dang observes that China's agricultural output has expanded at a remarkable pace since "reform and opening" (after 1978), but he is concerned that China's agricultural sector's international competitiveness has declined. Production costs are higher than those in developed countries, and Dang insists that this lack of competitiveness will affect Chinese agriculture's long-term development.

Ironically, the first problem Dang cites is high labor costs in Chinese agriculture. While daily wages paid by U.S. farms are 5 times higher than in China, U.S. labor productivity is 100 times higher on U.S. farms, says Dang. Consequently, the labor cost per unit of output is higher in China because so much labor is used.

Fertilizer and other inputs are another high-cost item in Chinese agriculture, says Dang. He attributes this to per-acre fertilizer application rates that are three times higher in China than in the United States.

Dang also cites China's lack of technological prowess. He says that 80 percent of new technologies are imported to China from developed countries.

Dang's prescriptions for improving competitiveness include:

  • changing the agricultural technology model to emphasize rain-fed farming methods
  • promoting family-operated farms as the foundation for a new model of organization for the agricultural industry
  • raising the efficiency of government policy support for farms.

Professor Dang calls for limits on commercial investment in large-scale company-operated farms. He thinks rural families need some breathing room to develop commercial-scale farms large enough to operate with their own labor. Such "family farms" will be large enough to exploit size economies, but not so large that they reach the point of diseconomies of scale.

Dang thinks an industry composed of family farms can form a foundation for successful development of farmer cooperatives. Dang is critical of recent efforts to develop farmer cooperatives, observing that farmers actually have little interest in joining them and most are poorly managed. Dang blames the disappointing results of China's cooperative campaign on the tiny scale of household farms and a misguided emphasis among rural officials of starting as many cooperatives as possible.

With larger-scale farms, Dang said, farmers may see greater benefit from forming cooperatives and stoke enthusiasm for joining them. Taking it slow in forming cooperatives will avoid another problem--the scarcity of management and technical personnel to operate cooperatives. He recommends exploring ways of integrating commercial investors with farmer cooperatives in a way that brings benefits to both parties. Prof. Dang thinks effective cooperatives comprised of "family farmers" will give them more bargaining power over prices of inputs and sale of commodities.

Dang also seems to recommend that agricultural officials shed their obsession with irrigation and focus on how to improve production in dry areas.

Historically, China's major farm production regions were in the well-watered southern provinces which exported rice to the north. Now the balance has shifted to the drier northern provinces which have more flat land conducive to mechanization. Most of the northern fields do not have irrigation systems and must rely on rainfall. Prof. Dang says it is critical to find methods to raise productivity on rain-fed land.

Dang says agricultural officials wrongly denigrate rainfed farming as "depending on heaven for food." Dang points out that farming in developed countries is largely rainfed. He says that irrigation accounts for about 30 percent of labor used in Chinese farming--another source of high costs. According to Dang, irrigation costs have increased a lot in recent years for many wheat producers in northern China.

He advocates paying more attention to disseminating techniques that raise productivity for farmers in dry regions. An example is a "plastic sheeting, dual furrow" technique used with good results in areas of Gansu and northern Shaanxi Provinces where annual precipitation is 400 mm or less.

Dang's call for improving competitiveness is even more urgent than he lets on. Prices of most major Chinese commodities have already climbed above international prices. A new OECD/FAO outlook report for the next ten years anticipates that global farm prices will remain low for the next several years after record harvests in multiple countries. Thus, to ensure profits for its high-cost producers China will struggle to keep its prices elevated above world prices for years to come and will need to erect more and more trade barriers to stop imports from flooding into its market.

Saturday, July 19, 2014

China's Subsidized Rice Glut

In a pattern being duplicated for many major commodities, Chinese authorities have been giving farmers subsidies and price supports to grow rice that can't be sold. Now authorities are having to subsidize construction of warehouses to store the subsidized rice.

According to Outlook (瞭望), a government-supported news magazine, rice-growing regions in southern China claim they don't have enough space to store the new rice crop. A big crop of early-season rice is expected this month. With abundant supplies of rice already in storage and downward pressure on prices from imported rice, officials anticipate that they will have to purchase significant volumes of the new rice crop and store it in reserves to prevent prices from falling.

The main early-rice provinces--Jiangxi, Hunan, and Hubei--still have a lot of early-season rice stored from last year, so there is not enough space for this year's anticipated purchases. Hunan's early-season rice harvest is estimated at about 8.5 mmt, with 5 mmt to be sold by farmers. They anticipate a 1-mmt storage deficit.

In 2013, China's rice production posted a tenth-straight increase in output. Yet supply exceeded consumption. Jiangxi and other southern provinces purchased a record amount of rice for reserves last year. Nationwide, Chinese authorities purchased 32.6 million metric tons (mmt) of rice to support prices--about 16 percent of the rice produced. This included 5.67 mmt from the early-season crop, 13.37 mmt from middle and late-season crops, and 13.57 mmt of japonica rice grown mainly in the northeastern region (plus Jiangsu and Anhui). Adding these quantities to the rice purchased in previous years, China has an "astonishing" amount of rice in storage.

In Yichun City, Jiangxi's largest grain-producing prefecture, state-owned companies have 1.5 mmt of grain in storage (about 600,000 metric tons have gone bad due to poor facilities), including a record volume of rice purchased in 2013. They only managed to sell 175,000 mt this year to clear out space for the new rice crop, but they anticipate having to purchase 675,000 mt this year.

The Jiangxi Agricultural Development Bank--which finances reserves--estimates that its customers are holding 11.25 mmt of grain. They estimate there is about 3 mmt of space left for the new crop--about half in granaries for reserves and about half in rice mills. They estimate that there will be a 2-mmt deficit if they have to buy rice to support prices.

The rice glut was reflected in Premier Li Keqiang's June 25, 2014 order to build more grain storage facilities, with special emphasis on rice-producing areas in southern and northeastern China. Storage was said to be seriously insufficient in some regions. Li called for making greater efforts to sell off existing reserves and old grain, building private and on-farm storage facilities, ensuring that grain-consuming regions hold at least a 6-month supply of grain in reserves, and checking granaries to verify they actually have the reserves they reported to authorities.

Premier Li's speech also ordered granaries to sell off old grain at a faster pace to make room for the new crop. However, injecting this old grain into the market is further depressing the market price.
In Hunan, the purchase price for early-season rice is now about 2400 yuan/metric ton, and old grain from reserves is selling for 2000-to-2300 yuan/metric ton. These prices are far below the minimum price of 2700 yuan set by authorities for 2014. Hunan authorities expect they will have to buy more rice this year to prevent the price from falling.

The Hunan branch of China's Agricultural Development Bank has allocated 8 billion yuan ($1.29 billion) to purchase an expected 3 mmt of early rice at the minimum price. This is 2 billion yuan more than in 2013.

The vice director of the Hunan Grain Bureau says they don't have enough space to store the new rice. He says farmers are having to line up and wait extended periods of time to sell their rice. This is the dreaded "hard to sell grain" (卖粮难) problem. Refusal of grain and payment with IOUs bred dissatisfaction among farmers during the 1990s and stability-obsessed authorities are trying to prevent it from recurring.

While the grain-storage alarm is partly aimed at getting subsidies to build new granaries, there does seem to be a serious rice glut. No one has pointed out the irony that Chinese officials have been heavily subsidizing production of early-season rice for the last three years, and all of this subsidized rice is going into subsidized government warehouses. Someone let me know when China has become a market economy.

Tuesday, July 15, 2014

COFCO's Golfing Sins

China National Oils Cereals and Foodstuffs Corporation (COFCO) has been fingered by the Communist Party's Central Discipline Commission as one of several corrupt government/business units in its 2014 report. The terse report accused COFCO of spending public funds on golf and other luxury items, a violation of Secretary Xi Jinping's "eight rules" which ordered government officials to cut back on excessive banqueting, travel, and car purchases. COFCO is China's largest agribusiness company and the largest importer of corn, so the agricultural implications of the censure of COFCO may be worth speculating about.

Over the last two years, the discipline commission has singled out local officials in a number of provinces, a mining company in Inner Mongolia, Fudan University, and the Ministry of Science and Technology for censure and possible legal action. COFCO seems to be this year's example of profligacy and lack of oversight over state-owned enterprises.  Other officials are accused of manipulating land auctions, skimming money from fake research projects, improper promotions, and other sins.

The corruption crackdown seems to echo Mao-era rectification campaigns with rhetoric railing against "formalism, hedonism, bureaucracy-ism", "ill winds," "mass lines," and posters plastered on every available wall reminding communist party cadres to follow 12 virtues, increase the party's value and achieve the "China Dream." The crackdown also seems to be calculated to address the Chinese public's fermenting anger over the privileges granted to officials and their abuses.

The COFCO censure reveals a fallacy of China's trade and industrial policy which assume that a Chinese company has the interests of China in mind. The government grants preferential trading rights, access to capital and other benefits to large state-owned companies on the presumption that such companies will do the State's bidding. These companies are helped as a means of preventing multinationals from gaining a dominant market share since they are presumed to be threat to China's interests.

For example, a recent book, Agricultural Trade Research 2009-2013 (农业贸易研究2009-2013), explains that China's WTO negotiators insisted on awarding most of the tariff rate quota to state-owned companies--like COFCO--as a means of controlling imports. COFCO has 60% of China's corn import quota and 90% of the wheat quota.  But does COFCO really pursue the interests of its owner--the State?

The presumption that COFCO is more reliable than multinational companies is based on the fallacy that a State-owned company pursues the interests of the State. In reality, managers of both COFCO and multinationals pursue their own interests. Managers of state-owned companies avoid paying dividends to the State and take advantage of their position to enrich themselves. Chinese consumers would probably be better off with multinationals competing for the market than if the market is handed to COFCO.

A prime example of corrupt managers pursuing their self-interest is Sinograin--China's grain reserve monopoly--where grain depot managers fled the country with millions of dollars, suspicious fires destroyed granaries, and grain was misused.

The scolding of COFCO could have another hidden motivation deriving from the company's favored position as designated dominant grain importer. Chinese officials are desperate to whittle down their massive corn stockpile before this fall's grain harvest--3 months away. They don't want cheap imported corn competing with the expensive domestic corn being sold from stockpiles, so they are doing whatever they can to keep a lid on imports. However, with U.S. prices dropping further and the import margin widening to 400-500 yuan per tonne, there are riches to be made by importing corn. COFCO is also a processor of corn, a feed miller and a pig and dairy farmer whose margins are shrunk by high corn prices. The temptation to sin by importing corn is strong.

The disciplinary commission's inclusion of COFCO on its bad boy list may be an implicit threat of prison if officials are caught importing or smuggling corn, with exoneration promised if they follow the party line on corn imports.

Monday, July 7, 2014

Auctioning Imported Reserve Corn

Chinese authorities are auctioning off old imported corn from their "temporary reserve" stockpile. The corn--bought from the U.S. several years ago--is attracting attention because of its price and quality.

China began importing significant volumes of corn in 2010, but a lot of it was locked away in warehouses to bolster reserves. The 1.57 million metric tons (mmt) imported in 2010 mostly went into state reserves but has already been sold off and replaced. The nearly 1.7 mmt imported in 2011 at a cost of over 2200 yuan/metric ton also was placed in reserves and is now up for auction. The price is said to be about 300 yuan/metric ton less than domestic corn and similar to the price of imported sorghum. The imported corn is said to be attracting interest mainly from feed mills.

Much of China's domestic corn supply is stockpiled in northeastern provinces. It can't be sold because its sale price has to exceed the price paid for the corn. New imports of corn and DDGS are mostly blocked by the MIR162 variety non-approval.

The auctions of old imported corn from reserves are being held in southern provinces Guangdong, Hunan and Jiangxi. The volume is relatively small and the auctions are far enough from the northeastern region that it won't put downward pressure on northeastern corn prices. The auctions also inject some corn into thirsty commercial channels and might also be intended to slow sorghum imports.

Thursday, July 3, 2014

"5 Big Problems" for China's Agriculture

China's Minister of Agriculture warned of five big problems facing agriculture that can't be underestimated.

Minister Han Changfu issued the warning in remarks at a July 2, 2014 conference on the rural economy. First, he warned that weather forecasts indicate a risk of droughts and floods this summer that could prevent another big harvest. He urged local officials to take early preventive measures to ensure another big harvest.

Minster Han also worried that downward pressure on agricultural prices this year threatens to weaken farmers' production incentives. Grain inventories are at their highest-ever level, warned Han. What he failed to mention is that the declining trend in prices is due to the big increases in grain output last fall and the recently-completed big wheat harvest. With a glut of grain of historical proportions, markets tend to push prices down to discourage adding to the excess supply.

Falling prices are ruled out because that would restrain growth in rural incomes. Han warned that difficulty raising rural incomes should not be underestimated. He fretted that falling prices and bulging grain inventories could lead to farmers having difficulty selling their grain. This would threaten a replay of the 1990s when farmers were often paid with IOUs or had their grain refused on spurious "quality" issues. Rural China teetered on the brink of instability during that decade and officials worry that this might resurface.

Han warned that the complexity and arduousness of rural reforms should not be underestimated. He did not elaborate on this point.

The fifth problem not to be underestimated is the risk of food safety and animal disease outbreaks. In the second half of the year, most of the crops come on the market and it's the peak consumption season. It's also the peak season for animal disease, warned Minister Han.

When prices fall, profit margins are squeezed, giving traders and processors greater incentive to cut corners or substitute inferior ingredients. Farmers tend to use low quality feed and crowd pens and barns to cut costs.

Han's warnings are internally inconsistent. He wants big production, but big production brings big problems. Endless increases in grain output push down prices. Crowded animal pens transmit disease.

China's leadership wants the market to have a "decisive role in resource allocation," except when it conflicts with one of its policy objectives, which is almost all the time since there are so many objectives that can't be achieved simultaneously. Thus, the government retains its "decisive role" when the market fails to achieve all of the government's internally-inconsistent objectives.