Agricultural and Applied Economics—Without Apology
Over the past few weeks, I have written extensively about the twin issues of rising food prices and food price volatility.
It all began with this post, in which I explained the difference between rising food prices and food price volatility and which came as a result of people frequently misusing the concept of food price volatility in the media, both mainstream and social.
According to this Wall Street Journal article, the Chairman of the Federal Reserve, Ben Bernanke, says US monetary policy should not be blamed for rising food prices:
“Bernanke said constraints on supply — such as bad weather — along with increased demand are to blame for pushing up prices for food commodities.
Strong growth in emerging economies is moving millions of people from poverty to the middle class, changing their eating habits — “more beef and less grains and so on,” Bernanke said.
The Fed’s policies are aimed at growing the domestic economy and “to address stability in the United States,” he said. For some foreign countries facing high inflation, “their policies have not been such to keep growth and capacity in balance,” he said.
“I think it’s entirely unfair to attribute excess demand in emerging markets to U.S. monetary policy,” Bernanke said. Those nations can use their own monetary policy and adjust exchange rates to deal with their inflation problems, he said.
I tend to agree wholeheartedly with Bernanke, as many developing countries have a bad track record when it comes to managing inflation. That bad track record is often the result of bad monetary policy.
By the way, what the Chairman of the Federal Reserve describes — the fact that consumers in developing countries substitute protein for carbohydrates as income increases — is generally known as Bennett’s Law.
I posted earlier this week about speculation on food markets by linking to a post on another blog which discussed how speculation and arbitrage may help enhance food security.
In response to my post on speculation, Ed Carr — whose new book just came out this week; I am looking forward to blogging about it in the next few weeks — wrote a post in which he discussed the convergence between the quantitative findings discussed in my paper with Chris Barrett and David Just on food price volatility and his own qualitative findings.
Commenting the empirical finding that price volatility hurts the wealthiest 40 percent of households but benefits the poorest of the poor in our paper on the welfare impacts of food price volatility, Ed writes:
“I would bet my house that the upper 40 percent of the population is that segment of the population living in urban areas and/or wealthy enough to be purchasing large amounts of processed food.”
To which I say, tongue in cheek: “Hand over the keys to my new vacation home in South Carolina, Ed.”
Joking apart, the upper 40 percent of the income distribution in our data are all rural households (we use four rounds of the publicly available Ethiopian Rural Household Survey data), and they are still pretty poor. Contrary to Ed’s conjecture, these households tend to be hurt by price volatility because they are producers and therefore net sellers of most of (if not all) the seven commodities retained for analysis (i.e., coffee, maize, beans, wheat, teff, barley, sorghum).
This is a counterintuitive result, but it makes sense, both theoretically and intuitively. Sandmo’s (1971) classic results states that when producers face uncertainty over the price at which they will be able to sell their output once it is produced, they will underproduce in an effort to hedge against price uncertainty.
But price uncertainty is precisely what we mean by price volatility, and I think Ed may have mistaken rising food prices for food price volatility since his reasoning corresponds to what we know about the welfare impacts of rising food prices. I am putting the more detailed (and lengthy) argument under the fold.