Responses to International Market Volatility: Developing Country Policy Options

1. Responses to International Market Volatility: Developing Country Policy Options Alberto Valdés FAO Committee on Commodity Problems Rome Side event: Agricultural Market Volatility 15 June 2010

2. 2007-08 spikes across non-ag markets: metals, oils, others.

3. Volatility in perspective: Wheat prices(From Bobenrieth and Wright)

4. Lessons and reminders from experience and analysis • The impacts of a “shock” on Pw depend on stock-use ratio: final price impacts cushioned to different degrees based on stocks. • But how to anticipate stock-use ratio? But not all 2007-08 price changes explained by S & D fundamentals • Avoid price-targeting of public stocks – governments have bad track record betting against the market and fiscally these plans hard to sustain. • Focus should be on consumption smoothing rather than simply price smoothing, especially for the vulnerable. But the two are linked. • Price transmission faster to consumers than producers. • For farmers: household income, not just farm income. • Real income losses to consumers in 2007-2008 less than price shocks, but depends on speed of adjustment: short vs. long term.

5. Lessons and reminders from experience and analysis: questions • Question: Impact of export restrictions on world price volatility? No strong empirical evidence for 2007-08, but logic raises concerns. • Under WTO no rules against export restrictions (being discussed under Doha). • Question: Minimum reserves for humanitarian help? Justifiable. • Need better info on food reserves, both public and private. And political entities naturally want national control. • Question: Coordinated stocks realistic? Awareness that internationally-managed buffer stocks have not worked in the past. • Question: What to do about land-locked countries held hostage by neighbors?

6. Lessons and reminders from experience and analysis:Bigger picture question – public good issue • Unpredictability, uncertainty versus simple volatility? With uncertainty, decisions have to be made today and so a problem of risk of loss. Volatility is a problem if both producers and consumers are “locked in” and so suffer. • Volatility of prices per se is not “bad” – the public policy issue derives from the inability to mitigate adverse price movements. • In developed countries, there are deep credit markets, hedging tools, contingent contracts and options and futures, etc., in addition to government support programs. And diversified diets. • In most developing countries????? Markets yet incomplete and many poor without diversified diets. • But even in low income countries, non-grains becoming important (e.g., India).

7. Two considerations to remember • First, policy concern: price spikes harm primarily net food importers, the majority of developing countries • By contrast, few are net food exporters to benefit from spikes - foreign exchange earnings, fiscal revenues from export taxes. • But export restrictions are a concern for int’l food markets. • Second, spikes hit big commodities more than food generally: • Higher incomes → diversified diet (even in low income countries. E.g., in India cereals increasingly overtaken by vegetables, fruits, milk, and meats, although grains still important for farmers’ income (A Gulati). • “New” products mainly not commodities, and few exchanges exist for these more-processed foods and horticulture. • And magnitude of price spikes for new products during 2007-08 was much lower, smoothing the impact on real household income. Perhaps a reason for lower panic in some countries. • But governments have few policy options to smooth price transmission in these new products. (Meats more complex.)

8. Looking ahead, what are developing country policy options for addressing future price volatility? • Obvious: Price volatility highlights social costs of neglecting ag sectors, and importance of ag productivity. • Domestic farm productivity might promote food security and reduce import dependence, but self sufficiency not viable or efficient for most countries. • Wise strategy of enhancing investment and productivity in agriculture is obvious, but question is, How to do it well? • Most countries will remain exposed to international shocks. • What are sound policy responses to address price volatility? • Goal: Lessening the effects of price spikes at low fiscal costs, while still letting price signals reach farmers. • Border and domestic measures ….

9. Looking ahead, national policy options: Border measures. • Negative impacts of export restrictions on others. • Vicious circle: Unreliable markets propel countries to shift toward self-sufficiency, incurring high social costs –domestically and internationally. Reinforce political incentives to insulate domestic markets. • Reducing import restrictions: used by many and effective, although contributed to sustaining import demand, helping to keep global prices high. • Some non-trade barriers (NTBs) relaxed in times of high prices, although most NTBs (e.g., SPS) are not supposed to be discretionary in any event. • National price bands – floors and ceilings – can they be made WTO compatible?

10. Looking ahead, national policy options, cont. – Domestic measures • Subsidies and safety-nets reasonable 1st responses, if possible. • But food subsidies tend to last, distort price signals, fiscally costly, unsustainable. Food subsidies often untargeted, and difficult to remove. • Recent economic downturn highlights fiscal attractiveness of other policies and market-based mechanisms: strategic food reserves, commodity exchanges and price derivatives. • Most interventionist: grain or food reserves, and most countries cannot manage them directly as a matter of strategic policy. • Brazil, Ecuador, Honduras, Mexico, Bolivia, announced reserves, but only Brazil actually has one of significant size. • World price discovery role usually played by developed country exchanges. Improving local exchanges would help. • Although developing country buyers, importers, processors and others have increased their use of local and international exchanges, do not expect small farmers to participate. But consumers and farmers benefit from price discovery regardless.

11. What might be some international responses to price volatility? • The international community can provide food aid and financial assistance in times of price spikes, but the challenge here is how to do so most effectively and with greater transparency. • International support – both private and public – to enhance agricultural productivity, particularly in vulnerable, least-developed countries, is also a desirable goal. • Food import financing facility: good idea, like a credit line, discussed since mid-1980s. • What is preventing better information on world stock situation that would allow faster policy response? What might FAO need to better monitor stocks and relation to prices?

12. WTO’s role in addressing price volatility? • World price shocks can be shared, cushioned by transmitting the effects across many countries. • Controversial question: the role of WTO rules and price volatility. WTO has weak rules on export restrictions that create negative externalities for other countries. • Trade facilitation to prevent export bans? • The Doha Round includes new provisions on export restrictions, but maybe we should consider negotiating more meaningful disciplines on export restrictions. • Stronger rules on export restrictions would make more difficult shifting domestic shocks onto world markets. Difficult to negotiate.

13. What about the historical long-term declines in real food prices? • Food price spikes focused attention, but important to point out the longer-term trend of declining commodity prices, • There have been periods where prices fall below this trend and persist longer than price spikes. • Such runs of very low prices sometimes threaten sensitive import-competing activities in poorer countries. • Such activities might be competitive in the long run, but do not have access to sufficient credit and derivatives markets to enable them to survive extended low-price periods. • Governments want to maintain the flexibility of intervening during the downside of the price volatility cycle by keeping high bound tariffs and having access to remedial measures (anti-dumping, safeguards and countervailing duties).

14. New special safeguard? • SSG under Uruguay Round not accessible to most developing countries, because most opted for bound tariffs instead of tariffication. • Attention on proposal to create new Special Safeguard Mechanism under discussion in Doha, maybe a helpful element in addressing price volatility for the downward side. • Unfortunately, discussions surrounding SSM in stalemate in the ag negotiations. • Some developing country demands unacceptable to exporters. • How to unravel this disagreement is a topic in itself. • Difficult issues: the “trigger”– volume or prices – and the number of products to be covered. • General rule: limiting number of products eligible to avoid misuse. • Focus on a few, key politically sensitive products, where having no defense would be an obstacle for trade liberalization, and would not undermine the credibility of a special safeguard mechanism. • Easier to monitor.