Examining the great wheat price quandary

by Morton Sosland
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Hardly any subject has received more piercing analysis, without resolution, than questions raised about wheat prices holding near current levels in the face of what are generally regarded as bearish supply-demand statistics. Even with frequent downward revisions in estimates of 2009-10 disappearance and parallel upward changes in carryover prospects, wheat prices have displayed amazing stability. Thus, the latest forecast of crop year average farm prices, even after cutting export and domestic use projections, held in a range of $4.70 to $5 per bushel. Yes, this is down from the $6.78 average in 2008-09 and $6.48 in 2007-08, two memorable years that witnessed exploding demand and drastic carryover cutbacks. But this price prospect is so far above earlier years that it has prompted much debate and study of the factors behind what seem inexplicable.

Not only do wheat prices challenge standard analysis when compared with past years when similar scenarios prompted drastic declines, but they appear to be denying the relevance of global competition. Considering that the two preceding years of record high prices for wheat were largely credited to competing exporting countries holding back or halting shipments, it seems astounding that aggressive competitor exporting has resulted in only modest easing in U.S. prices. Even more startling is how U.S. prices are out of line with the global marketplace.

A relatively simple example compares prices for No. 2 hard red winter wheat at the U.S. Gulf with quotations on milling wheat at Black Sea ports. According to the International Grains Council, the U.S. wheat is at a premium of around $30 per tonne to Black Sea quotations, whereas a year ago, even as extreme tightness was easing, the Black Sea offers were more than $90 a tonne above U.S. wheat. Thus, U.S. export prices were down 17 per cent from a year earlier, while Black Sea quotations dropped 48 per cent.

Seemingly bearish changes in demand forecasts make this price performance all the more amazing. The carryover of wheat at the end of 2009-10 is now forecast within easy reach of 1 billion bushels, a total not seen in a quarter of a century. After watching the carryover at the close of 2007-08 drop to 306 million bushels, the smallest since the late 1940s, adding 670 million bushels in the past two years would be expected to weigh on prices. That increase reflects shrinking domestic use for feed and seed, while export prospects are near collapse. The latest export forecast for 2009-10 is 825 million bushels, down 190 million from the prior season and the smallest outgo since 1971-72. Anyone with a sense of history will remember that 1971-72 was the year before the Former Soviet Union surprisingly entered the U.S. market and precipitated a dramatic soaring of prices. Now we have Russia growing crops in excess of its domestic needs and striving to become one of the world’s principal exporters.

Even the Department of Agriculture’s Economic Research Service has been outspoken in expressing wonderment about markets. The agency’s Wheat Outlook describes the world market as “awash in wheat,” noting also increasing foreign competition and high U.S. domestic prices. In noting that markets did not react to rising stocks in the expected manner, it says: “It appears that high domestic prices are being supported, in part, by investment activity, with buying grains considered a hedge against future inflation. Institutional buyers have been rebalancing investment funds at the end of the year, buying wheat contracts and therefore supporting prices.”

Attention also needs to be paid to the dramatic fall in winter wheat acreage for this year’s crop, which in turn emphasizes the importance of encouraging farmers to grow wheat. No one would say that prices do not have a major role in determining acreage, especially as long as corn and soybeans have yield advantages. Keeping in mind that the market itself is never wrong, the quandary surrounding wheat becomes less impenetrable.

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