August 5, 2015
Corn, pork and an impending rebalancing of China's agribusiness trade
Government acknowledges unsustainability of high feed costs, prepares to substitute Ukrainian corn in place of foreign pork.
By Eric J. BROOKS
An eFeedLink Hot Topic
China's corn policy is a victim of its own success, and has created cost control problems for meat and livestock stakeholders further down the supply chain. The structural imbalances created by China's artificially-induced corn overabundance can be seen in a recent, late July government corn auction.
Ukrainian paves way for safe import dependence
In the late July, pre-harvest period, when supplies are at their lowest level for the whole year, the government offered corn at the lowest price possible. Even so, a mere 71,700 tonnes or 1.4% of the 5.3 million tonnes of official reserve corn on offer was purchased. The lack of interest in domestically grown corn is just one symptom of a problem that prompted China to announce its longterm intention to get out of the feed grain market in 2014. Now, recent indications imply that concrete policy changes are in the works.Citing articles at China's agriculture ministry website, the International Grains Council (IGC) noted how recent inter-governmental communications, "suggested that the market should take a more decisive role in setting corn prices." Moreover, the IGC's own statement of a possible impending corn procurement policy change has been confirmed by other industry sources.
For example, according to a July 18 2015 post in the blogsite Dim Sums' Rural China Economics and Policy, "Chinese rice and wheat will continue to have minimum prices, but prices of other major [feed grain] commodities –corn, soya beans, rapeseed, and cotton –will be determined by market forces." This is in direct contradiction to the current system, where the government encourages corn production through high floor prices. The IGC concluded that, "While few specific details were provided, some local analysts have speculated that a major policy shift might be imminent."
Moreover, China's corn procurement strategy appears to be preparing itself for corn import liberalization. We must always keep in mind the following: Despite serious domestic feed grain shortfalls, corn imports were strictly controlled because America, China's geopolitical rival, once supplied over 60% of world corn exports, and up to 80% of high quality corn exports. –This however, is no longer the case. From 60% of world corn exports a decade ago, America now only supplies 30% –and China has taken advantage of this change.
In 2011, 95% or 5.1 million tonnes of China's 5 million tonnes of imported corn came from the United States. This year, China is buying at least 85% or 2.4 million tonnes of its imported corn from Ukraine. By comparison the United States is on track to supply China no more than 100,000 tonnes or under 3% of its 2015 import volume –an amount of corn comparable to the quantity purchased from Bulgaria or Laos over the same time period.
Nor is this a short-term trend: Alongside huge private investments in its feed crop sector, China has given Ukraine a US$3 billion infrastructure development loan that is to be repaid over several years via corn exports.
The strategy is guided by a self-evident political economy: Once China can buy 90% of its foreign corn from non-American suppliers, it can safely import this feed grain without worrying that it can one day be used against it in a geopolitical dispute. After China signed a corn import liberalization agreement with Ukraine in 2012, a Chinese customs bureau analysis described the first shipment of corn from that country as an important breaking of America's as the sole foreign corn supplier to China.
By buying 95% of its foreign corn from non-American suppliers, China can import corn even more safely than it does soya beans. Having impressed everyone (and shocking the grain market) by maintaining its self-sufficiency in corn, the question is, 'why would China abandon corn self-sufficiency after working so hard to achieve it?" We do our best to answer this in the paragraphs that follow:
Corn self-sufficiency = livestock sector imbalances
China's protectionist corn policy has its roots in the early 2000s, when China stopped being a top corn exporter and became barely self-sufficient. From a peak of 124 million tonnes in 1999, inventories fell into a USDA estimated 35 to 38 million tonne range in the mid-2000s. There was a consensus among analysts that by 2015, consumption would greatly outrace harvests, forcing it to import approximately 15 million tonnes of corn annually.
2015 is here and to everyone's surprise, China is expected to consume 220 million tonnes of corn and harvest 230 million tonnes this year. For the 2015-16 marketing year, the IGC believes that instead of the USDA estimated 91 million tonnes, Chinese inventories could amount to 101 million tonnes or 52% of world corn stocks.
Consequently, imports peaked at 5.3 million tonnes in 2011 and have been declining ever since. Rather than 15 million tonnes, 2015-16 corn imports may not even total 3 million tonnes. A corn price floor 100% above world prices, extensive corn cultivation subsidies, heavy tariffs and official discouragement of imports has kept China self-sufficient in corn –but this success has also come at a steep price.
With per capita pork consumption exceeding 40kg, corn 2.4 times more expensive than world prices has inflated swine production costs to 2.0 times higher than the world average. Hog rearing returns are squeezed between pork reserve sell-offs that put ceiling on hog prices and astronomically high corn costs. Since 2007, this has made it impossible for pork production to keep pace with consumption.
Consequently, instead of becoming the world's largest corn importer by 2020 was initially forecast, China is (when re-exports smuggled from Hong Kong are added in) the world's second largest pork importer. Unless corn feed costs fall to world levels, it could overtake Japan as the top world pork buyer by that time. Nor is this experience unique to China: Countries ranging from India to Philippines have pursued feed self-sufficiency. In every case, the resulting high feed costs made their meat uncompetitive. The Philippines soon was flooded by imported pork and with the WTO forcing India to dismantle tariffs on imported chicken parts, it too faces a similar fate.
With CBOT corn selling for approximately US$3.80/tonne and China's government creating keeping corn's price above US$9.20/bushel, there is no way that its pork-price controlled swine sector can avoid import dependency. Clearly, China can protect its corn growers or its hog farmers –but not both.
The implied trade-off can be seen when we graph actual versus expected corn imports versus pork imports –corn import growth tapers off within a few years of the corn price support policy's introduction in the late 2000s –and pork imports start to take off at the same time.
This need to save China's pork sector from corn protectionism's high feed costs is also based on an emerging demographic reality: For the first time in China's history, a majority of its people live in cities. This makes urban demand for low meat prices and high pork consumption more politically popular than high corn prices, as the latter's rural support base is a shrinking demographic minority.
Furthermore, with China's consumer income growth tapering off, per capita meat consumption can only continue increasing if its production cost falls –and that means keeping feed costs low. Ultimately, China is saying that it prefers to keep meat costs low by importing cheap feed (and sacrificing corn farmers), rather than by importing low cost pork (and sacrificing hog farmers).
Imported alternative feeds distort regional cost advantages
Having established the political and economic basis of Beijing's impending policy change, the next question is 'how will corn market liberalization would change China's agribusiness relationship with the world?'
The first impact would be to make its feed grain procurement relationships more straightforward and its feed rations less dependent on non-traditional inputs. For example, Dim Sum Rural Economics notes that to get around China's astronomically high domestic corn costs, "The composition of feed materials has been adjusted in complicated ways."
Because they have no strict import restrictions, imported sorghum was substituted in place of feed corn while barley imports replaced feed wheat in livestock rations. These feed materials are at this time, on average approximately 6% to 8% cheaper than domestic corn and wheat. This has strangely reversed the relative comparative advantage (or disadvantages) of China's swine farming regions.
For example, taking advantage of its coastal proximity to trading ports, Guangdong province substituted cheaper imported sorghum and barley in place of domestic corn. As a result, Guangdong, which used to have the highest pork production costs of any Chinese province now has lower swine farming costs than northern provinces located closer the country's corn growing heartland.
With no cheaper imported corn allowed in, sorghum imports have skyrocketed 100-fold in four years, from 84,000 tonnes in 2011 to a USDA estimated 8.5 million tonnes in 2014. Barley imports underwent similar exponential growth, from 1.6 million tonnes in 2011 to 6.0 million tonnes last year.
New trade fundamentals: Corn importer, meat exporter
The apparent, impending liberalization of China's corn market would see imports of both corn and barley fall by over 50% in one year and be immediately replaced by 5 or more million tonnes of corn from Ukraine or other nations deemed geopolitically 'safe' by Beijing's policymakers.
Hence, if corn imports were suddenly liberalized, the cost of corn would fall in China but rise by up to 25% from present levels in the rest of the world. This in turn would be counterbalanced by corresponding falls in the cost of alternative feed grains such as barley or sorghum. Within China itself, northern corn producing regions would no longer be at a cost disadvantage to southern provinces who enjoy port access to imported feed grains.
Corn market liberalisation would also restructure China's agribusiness trading relationship with the world and bring a spark of new life to its agribusiness sector in fundamentally important ways. Instead of staying self-sufficient in corn and a leading pork importer, it would probably turn into the top corn importer within the space of just a few years.
On the other hand, with its corn costs falling from 2.5 times the world price to near normal levels, its entire livestock sector would benefit. None more than the swine sector, which would see its pork production costs fall from two times the world average to about the world average. It would then no longer be necessary for Beijing to dump pork reserves on the market in a way that undermines the profitability of hog farming and holds back domestic pork production.
Moreover, China would do more than regain pork self-sufficiency: The resulting real fall in Chinese pork production costs would stimulate domestic consumer demand, probably from the 42kg per capita consumption of today to over 50kg. With pork suddenly costing 30% to 50% less than before, supplies booming and profits assured, the country would resume its former status a net pork exporter.
Depending on the speed and deliberateness of Beijing's policymakers, all this could start happening within a few months or in 2017. Nevertheless, one thing appears certain: China's government has already taken steps to restructure its feed grain policies and align them with free-market realities. When these are instituted it will become a leading meat exporter, with grain imports to eventually rival those of inbound soy shipments. It is not a matter of 'if' the above happens, but 'when.'
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