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Thanks to a number of elements that are causing food prices to rise across the globe, Gulf economies, which import most of their provisions, are expected to continue to experience high levels of food price inflation.
The high food prices are a result of the worldwide shortages of grain in the face of increasing demand. With increasingly more mouths to feed and supply capacities relatively fixed, prices the world over will continue their upward movement.
In its bid to ease the price pressure, the UAE government has decided to limit the ability of wholesalers and retailers to pass on the price increases to the consumer. But by limiting the importer's ability to pass on the increased costs to the end consumer, wholesalers and retailers alike are not covering their costs and can only respond to the price ceiling fixed by the government by suspending trade.
That dilutes the purpose of the government's policy as prices will increase again because of short supply. As a noted critic once observed, "Complex problems have simple, easy-to-understand, wrong answers."
Just since the beginning of 2008, the US benchmark nearby rough rice futures contract is up 80 per cent, and July contract rough rice hit a record of $24.85 per hundredweight before falling back to $18.93 in recent trading.
While the overshooting of prices caused by fear of shortages has somewhat subsided, prices for basic grains have no way to fall back.
In the UAE market, rice prices surged before being forced back. And if the UAE government forces a price ceiling on retailers, shortages will follow unless the price ceiling is raised.
The case for poultry products is related. Poultry is fed grains to build meat and eggs, and the grain prices have risen. It is inevitable that poultry will also increase in price, as it has.
The same follows for all other basic food groups, such as dairy and red meat. The high grain prices also pressure resources dedicated to other things like vegetable production, to be turned over to grain production if possible, since the high grain price tells farmers that's what the market demands. That, of course, makes vegetable prices rise.
As long as world grain prices continue to increase, UAE food prices will also increase. Beginning next year some grain prices are expected to fall, according to world estimates of farmer planting intentions.
But rice prices will continue to be pressured as the resources needed for rice production is decreasing and harvest yields have not increased substantially for over 10 years.
Of course, one of the chief reasons grain prices have increased is due to an increase in production costs, most particularly from higher expenditure on energy, which are as much as 40 per cent of total grain production costs. So, what makes the UAE's export earnings increase is also what causes its imported food to increase apace.
Agricultural goods are shipped primarily on dry bulk ships. The shipping costs have risen 150 per cent over the past 18 months, according to the Baltic Dry index, a measure of bulk dry product shipping costs, also a result of higher bunker fuel costs.
Dry bulk shipping costs are increasing as ship-building costs escalate with competition for steel from the need to build more oil tankers, offshore drilling rigs, refineries and petrochemical plants. This is a classic cost-price squeeze. All commodity prices are increasing. The world is experiencing a secular commodity boom cycle - one expected to last more than 10 years.
Thus, the oil price increases that have filled the national coffers of the UAE and neighbouring oil-exporting states have also led directly to food price increases in UAE markets.
How could it be otherwise, as the world needs our oil and we need the world's food and finished goods. It is expected, therefore, that price inflation - especially food price inflation - will continue in UAE markets.
What measures could the UAE government take to assure adequate food supplies at reasonable prices for its citizens?
One measure discussed above is to force markets to reduce the selling price of foods to the consumer. But as we have seen, this will only lead to market chaos and food shortages. What could be done, however, is for the government to cover some of the merchants' cost increases through a subsidy payback based on sales volume.
This would allow merchants to keep the price to consumers low while still earning enough revenue - some from customers and some from the government subsidy - to cover costs.
Of course merchants would be expected to open their books and allow government inspectors to assure no excess profits are being earned at the government's or consumer's expense.
Market mechanism
Such a solution leaves markets to discover price, which it uses to determine what is needed by consumers, while allowing the poor to maintain a quality of life from a quality and abundant diet of foodstuffs.
Another plan now under way is for the UAE to purchase food production cap-acity in food exporting countries. This would counter shortages caused by nations' limiting food exports in an attempt to cool prices in their own local markets.
Food exporting countries have experienced the same price rises as has the UAE. With food being exported there is less for local consumption and prices rise. Limiting exports counters price increases from this source, but just makes things worse for those dependent on those exports.
According to recent reports, the UAE has purchased food-producing land in Pakistan, Sudan, Egypt and elsewhere. This will help assure supplies, but will do nothing to address food price inflation from rising production costs.
As long as energy - and particularly transport energy and petrochemicals for farming - rise as the price of oil increases, food is going to cost more, no matter who farms it or where it is farmed.
In today's world no nation can exist without trade. When resource costs such as oil rise resource sellers make more money, but will in turn experience higher prices for finished goods, even if those goods are domestically produced.
For the UAE and the Gulf states, the higher oil prices of the past four years are a mixed blessing: while they have increased our national income tremendously, allowing for infrastructural expansion and a higher standard of living for citizens, they have also led directly and indirectly to food price inflation in local markets. This situation is not expected to improve.
The writer is associate professor of economics and market behaviour, The Petroleum Institute, Abu Dhabi.
In the graph above, supply slopes upward with respect to price, reflecting the reality that when the market price improves, all else being equal, suppliers are able and willing to supply greater amounts because their costs are covered.
For demanders - consumers - they buy less as the per unit price rises but are willing to buy more as the price falls. This is the fundamental law of demand. The market price is shown by P*, and the quantity sold at that price is shown by Q*. This is too high and the people complain.
So, the government steps in to impose a price of PG. But at this price, which is lower than the equilibrium price, suppliers can only provide the market with QS, much less than the QD that demanders are willing to buy at the lowered price.
This causes a shortage equal to QD - QS. So while the price of rice for sale in local markets is lowered, so is the quantity for sale, which soon runs out. The common image for economies with fixed low prices for basic goods is empty store shelves.
The writer is associate professor of economics and market behaviour, The Petroleum Institute, Abu Dhabi.
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