Global food prices could surprise again to the upside

After Russia invaded Ukraine, the prices of essential foods such as Corn, Soybean, Wheat and Rice rose, but a few months later, they retreated close to pre-war levels, thus halting a rally that began in late 2020 (see the following images).

The reasons for the retreat in prices are found in the improvement of supply conditions with the gradual ending of the embargo on Ukrainian grain exports from Russia, but mainly also from macroeconomic factors, including the increase in interest rates and concerns about a global recession.

However, there are prospects for a new upturn in food prices, given events such as droughts in parts of China and the US and higher fertiliser prices due to the reduced availability of fertilisers produced in Belarus and Russia.

Rising food prices are a crucial driver of economic policy as they contribute significantly to the inflation index, making monetary policy more difficult. The most significant difficulty is found in countries, and people with low incomes since expenditure on food represents half of their total consumption. A persistent new rise in food prices will raise concerns about a food crisis in low-income countries and social unrest among low-income social groups, even in the developed world.

In response to the higher food prices and the problems they create, such as those mentioned above, states will increase social protection, a policy that, especially for food-importing countries, worsens their fiscal balances. Furthermore, such a policy, although necessary, weakens the parity of the currencies of these countries.

Correlation with energy prices

Foods such as wheat, corn, and rice which are in the diet of every person on earth, are challenging to replace. This is why they represent two-thirds of global food production, while their prices often move in parallel with energy prices, thus magnifying their macroeconomic effects.

According to an IMF study since 2005, cereal and energy prices follow similar cycles of ups and downs about 2/3 of the year.

The reasons for this to happen are mainly three: 

  1. oil is used as a fuel for farm equipment and transport of agricultural products, while gas indirectly affects agriculture as it is the primary input of nitrogen-based fertilisers and pesticides. 
  2. energy prices are a crucial demand factor affecting global activity and demand for food products. 
  3. some agricultural products are used as biofuels.

In fact, after the introduction of biofuel mandates in the European Union and the US in the mid-2000s, the correlation between oil and grain prices increased strongly. This was particularly the case for maise, favoured in biofuel policies over other cereals. The correlation is also significant with vegetable oil.

In conclusion, the outlook for food prices remains uncertain, as global food prices could surprise again to the upside, given the high uncertainty about the impact of the war in Ukraine, weather events from the climate crisis, and the effect of high fertiliser prices, while energy prices have a significant impact on food prices.