What's behind the recent surge in food prices?

07 Jun 2021

Higher prices year-on-year across a broad spectrum of goods and services have raised concerns about inflationary pressures within the agricultural sector. The May FAO Food Price Index revealed a steep appreciation, reporting a 30.8 percent rise compared to last year. US futures markets, the global benchmarks for primary commodities, also confirmed outsized gains since last year, with wheat, maize and soybean prices in May reaching their highest levels since 2013. Similar increases were also observed to varying degrees in sectors such as energy, metals, raw materials, equities, housing, and the more recent phenomenon of crypto currencies, precipitating a debate on whether high prices were transitory or presaged a more lasting development.

The COVID-19 pandemic caused an abrupt fall in economic activity in 2020, marshalling unprecedented fiscal and monetary responses across the globe. The US government, for example, issued direct payments to citizens and loans to small businesses, among other measures, to counteract the plunge in wage earnings, while the US Federal Reserve signaled a continuation of loose monetary policies. Not surprisingly, equities trading volumes doubled in this period. The flood of investment into this sector, including exuberant valuations in certain equity shares culminated in Congressional hearings, while also raising the specter of a stock market bubble and asset class inflation.

Although inflationary tendencies might appear to be driving commodity food prices higher, the evidence points more to the unique supply and demand conditions that unfolded over the past year. Projections for a sharp decline in demand and a slump in trade due to the pandemic proved wrong as US trade expanded in grains/oilseeds by 150 percent year-on-year, with a resurgent China dominating the maize and soybeans import markets. Additionally, markets fell into an over-supply trap, tumbling to multi-year lows as the USDA projected initial crop sizes (May 2020) at record levels, subsequently slashing numbers throughout the crop year – in the case of maize by 46 million tonnes.

Moreover, certain futures markets indicators also suggest fundamentals to be behind the gravity-defying price ascension. Throughout the year of steady price rises, futures volumes failed to break into record territory, undermining claims of speculative fervor. Implied volatility also remained fairly tame on a monthly average basis between levels of 20 and 30. The brief upward spike exhibited in May, along with expanded options trading were both signifiers of routine, near-term market tops rather than signs of speculative excess. Finally, forward curves displayed extreme backwardation for wheat, maize and soybeans as spot demand, indicated by high basis levels, outstripped available supplies, encouraging both the rationing and deferring of demand.

In sum, the current high-price food environment appears to be mostly driven by fundamentals and will probably persist to some degree owing to the tight carryout situation projected through 2021/22. Going forward, AMIS will continue to monitor technical indicators which can help identify the underlying constituents of price formation and provide an interpretive lens to unfolding price environments.