Grain and Oils News quoted a rapeseed farmer in China's Hubei Province who said, "At this price, I won't plant rapeseed next year. Wheat has a support price and earns a higher return, so I'll plant wheat." This farmer's comment encapsulates the unanticipated consequences of setting an attractive price for wheat while all other prices are collapsing in a weak Chinese economy.
On October 10, Chinese officials announced that next year's minimum price for wheat will be held steady at this year's level of 118 yuan per 50 kg. According to Futures Daily, the government announced the unchanged price for next year in order to bolster confidence among farmers who were considering abandoning wheat due to declining prices. Many in the industry were expecting a cut in next year's wheat price because Chinese wheat prices started falling in October after the conclusion of the 2015 minimum-price purchasing program.
The announcement eight months ahead of the wheat harvest is likely to result in prices that are out of sync with prices in other countries and with prices of other Chinese commodities next year. The 2016 minimum price is equal to about $368 per metric ton. According to U.S. Wheat Associates, forward prices at U.S. Gulf ports for May 2016 are in the range of $220 to $272 per metric ton.
Chinese authorities try to insulate their wheat market from fluctuations in world prices by restricting wheat imports. In fact, Chinese wheat prices are remarkably stable. However, weak demand in China's slowing economy is putting downward pressure on all prices. Moreover, officials are unable to control prices of related commodities that are exposed to global price fluctuations, either because the commodities themselves are imported (soybeans, rapeseed, cotton), substitutes for them can be imported (corn), or the prices of final products like starch and pork are under pressure. Chinese farm commodity prices and their final products are plunging across the board, which will create imbalances against the high wheat price during the coming year.
The strong wheat price will induce farmers to produce more of the grain as prices of other crops collapse.
Rapeseed is a crop that competes with wheat for farmland. Both crops are grown over the winter and harvested in the summer. Wheat's main region is in the drier, cooler north China plain, and rapeseed is predominant in the more humid, warmer central provinces along the Yangtze River, but both crops can be grown in much of the rapeseed region. (Rapeseed subsidies were were not permitted in counties where wheat could also be grown when the subsidies were introduced in 2007.)
China supported rapeseed prices from 2009 to 2014 using a "temporary reserve," but this year the support price for rapeseed was abandoned after the government accumulated excessive stockpiles of cooking oil made from the rapeseed. In Hubei Province, the rapeseed price dropped from 2.5 yuan per 500g to 1.7 yuan after the program was eliminated in July. The labor-intensity of rapeseed planting, harvesting, drying, and threshing is a deterrent to growing it. With prices crashing, many rapeseed farmers are expected to switch to wheat this year. The guaranteed minimum price for wheat will attract marginal land that was previously planted in rapeseed in hot, humid, less-than-ideal climates for wheat, creating a glut of low-quality wheat. In fact, it is in this region where there have been problems with sprouted and moldy wheat over the last several years.
Cotton is another labor-intensive crop that farmers are abandoning after the Chinese government gave up trying to support its price. With cotton prices plunging, farmers are also switching from cotton to wheat.
The high wheat price will also undermine the already-weak demand for wheat. The government can artificially inflate the cost of wheat for flour mills by dictating a minimum price, but the mills cannot pass on the higher cost by raising product prices. China's National Bureau of Statistics has reported virtually no change in flour prices since February of this year.
Flour mills have little control over the price of wheat bran--the major by-product of milling wheat which is a major ingredient in pig feed. The income from sales of bran is a significant contributor to the bottom line for flour mills. When mills pay high wheat prices, bran prices do not rise in proportion. Feed ingredient prices are generally falling, and feed mills readily substitute other materials for bran--such as imported barley--that are cheaper. Flour mills in China are already being hit by shrinking income from bran, and this will worsen as wheat prices are pulled further out of alignment with prices of other feed materials.
In major producing areas of the north China plain, feed mills use the entire wheat kernel in animal feed when it is cheaper than corn. Normally, Chinese corn and wheat prices are similar, but this month corn prices have fallen about 30 percent below the wheat price. With corn so cheap, farmers are less likely to use wheat for animal feed. Instead, they will be more inclined to sell this feed-quality (i.e., low quality) wheat to the government reserve rather than to feed mills.
All this adds up to a likely glut of Chinese wheat in 2016. With prices of other farm prices, fertilizer and fuel collapsing, the steady wheat price will attract more production of wheat next year. The high price will choke off consumption of wheat. The government will have to buy the surplus, and its wheat reserves will explode. And most of the reserves will be poor-quality wheat that other buyers don't want. The problem of unsaleable wheat was already a serious concern during the 2015 marketing season and will become worse in 2016.
The Chinese strategy of maintaining steady prices for wheat and rice while decontrolling other commodity prices is doomed to fail. Chinese policies have already created a massive--and growing--surplus of corn that mirrors a massive--and also growing--deficit of soybean imports. Now, a similar policy that favors wheat is causing the collapse of rapeseed and cotton production in the north-central region to make way for excess production of wheat. Chinese officials want to blame these perverse imbalances on bogeymen like multinational grain companies, foreign subsidies, and GMOs, but these imbalances are made in China.
The Futures Daily article reported that some Chinese market analysts were skeptical of the wheat price announcement. While the announcement of a steady wheat price had temporarily allayed fears of decline in wheat prices, it could not revive the weak demand for wheat nor could it relieve downward pressure on prices of wheat and corn.
The painful lesson for China is that you can't give the market a "decisive role" in some parts of the economy while dictating prices in other parts of the economy where the market's decisions are viewed as unacceptable.