Of sanctions, rations and nations

Recent developments in Ukraine, aggravated by the tragic air crash of Malaysian airlines flight MH-17, is well known.

This has been followed by sanctions on Russia by the US and the EU. Russia has, in turn, reacted by imposing sanctions on specific food commodities.

All of these have had little impact on world food prices given the abundance of grain production in the US and South America. Usually a Russia/EU/US controversy leads to a sudden spike in oil prices and increase in volatility.

Unfortunately, the grain markets do not get as much attention. I consider it unfortunate because the effects of such changes are lasting in the agribusiness value chain.

Russia and the Ukraine export most of their grains from the Black sea region.

To give a perspective of the Black Sea region’s food production capabilities, I shall use the USDA numbers published earlier this month.

First, on the wheat front, Russia is expected to produce 59 million tonnes (mt) and export 22.5 mt; Kazakhstan is expected to produce 13.5 mt and export 6 mt; Ukraine to produce 22 mt and ship out 9 mt.

Second, on the coarse grain front Russia is expected to produce 40.5 mt and export 7.4 mt; Ukraine may produce 36.5 mt and export 18.5 mt.

If we consider wheat alone, the Black Sea region produces one-seventh of the global wheat. Most of the countries that rely on this wheat are the North African and West Asian countries.

In addition, Ukraine is a large producer of sunflower seeds/oil and Russia is big producer of beet sugar.

The take away from these numbers is that this part of the world has a profound impact on the global food chain, both in terms of prices and sustainable supply.

This year, the world has been fortunate to see a bountiful crop in North and South America. This has been compounded by an increase in global food inventory levels. Hence, despite the volatile situation in Europe, consumers seem to be in a state of calm.

Now should be a time to reflect on supply and price signals and proactively plan for next year. First, prices always have a lower bound, and the velocity with which it approaches a lower bound is always slow.

Mathematically speaking, prices have a minimum of zero, and the rate of decrease in prices is monotonically decreasing. Conversely, when the prices go higher they theoretically have no upper bound, and the rate of price increase is faster . The consumer should incorporate this simple mathematical model in preparing for 2015 budgets.

Second, given Russia’s stance on keeping retail prices of food from increasing domestically, either exports or inventories will go down. In either case, the dependence on wheat from the US will be greater as Argentina’s supply is uncertain.

Third, this year the global farming industry has seen prices plummet and yields improve. In South America, farmers have already locked in fertiliser purchases for next year.

Given these conditions, next year’s global planting intentions appear to be up in the air.

My conclusion is that a few nations such as Russia, the US and the EU dominate wheat and grain production in the world. Consumers around the world need to take cognizance of the impact of a sudden supply shock.

It doesn’t seem to be happening now, but it’s good for consumers to be prepared for 2015. Sanctions create disincentives, rations artificially distort price equilibriums, and consumer nations usually end up paying the price.

The writer is based in London and is the founder and Managing Director of OpalCrest ( www.opalcrest.com ).

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