All Commentary
Monday, September 1, 2008

Eating Disorder: How Governments Raise Food Prices

Government Interventions Infest and Choke Agriculture Markets Like Weeds

Higher food prices may be frustrating Americans, but they are literally killing people in the least industrialized parts of the world. Hundreds of millions of the world’s poorest people—who live close to starvation even in good years—are facing malnutrition and chronic hunger. The absolute poorest are facing death.

In the 12 months leading to March 2008, the United Nations Food Price Index rose more than 52 percent. Last year global wheat prices rose 120 percent. In Bangladesh it now takes half-a-day’s labor for a poor family to afford a 4.4-pound bag of rice.

Even in the United States food prices are noticeably higher. Milk prices rose 19 percent in 2007, while cheese and bread prices rose more than 10 percent. Overall, U.S. food prices increased 4.9 percent last year, compared with 4.1 percent for prices in general.

In many poor countries higher food prices have sparked demonstrations or riots. In January thousands marched in a food protest in Mexico City. In February police in Malaysia arrested more than 50 protesters during a demonstration against rising food costs. Food protests or riots have also shaken Haiti, Egypt, Bangladesh, Mozambique, India, Indonesia, Burkina Faso, Morocco, Ivory Coast, Guinea, Mauritania, Cameroon, Senegal, Uzbekistan, and Yemen.

What is going on?

We can discount the usual claims that for ecological reasons food production is falling. As Harvard economist Amartya Sen wrote recently in the New York Times, “The global food problem is not being caused by a falling trend in world production, or for that matter in food output per person (this is often asserted without much evidence). It is the result of accelerating demand.”

In the 1800s French economist Frédéric Bastiat observed that the “prodigiously ingenious mechanism” of the free market somehow—without a central plan—fed Paris. Years before, Adam Smith wrote of the “invisible hand” that guides self-interested individuals to provide food and drink for others. As Smith observed, “It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest.”

Today’s food crisis may lead us to ask whether Bastiat’s “ingenious mechanism” has broken down. Has Smith’s “invisible hand” become a visible failure?

Hardly. While some of the rise in food prices can be traced to rising global demand or natural events, all too often the visible hand of government, which is all thumbs, is making matters far worse than they otherwise would be.

American Agricultural Policy

Government interventions infest agriculture markets like weeds and have the same choking effects. Some interventions, such as tariffs, quotas, and land set-asides, are designed to keep food supplies down and prices up. At the same time, other interventions, such as price supports and other subsidies, are designed to keep marginal farmers in business. Still other interventions, such as food stamps and subsidized school meals, are designed to offset the effects of government policies that make food more expensive.

Interventions that reduce food supplies include tariffs, quotas, and “antidumping” laws designed to block imports of cheaper foreign goods. Such interventions are common in the Third World, but they exist in the United States, too. Such interventions force American consumers, for example, to pay at least double the world price for sugar and dairy products. In 2003, according to the Trade Partnership, antidumping regulations forced Americans to pay duties of 148 percent on preserved mushrooms from Chile and 194 percent on honey from China.

Another intervention that cuts food supplies is the U.S. Conservation Reserve. This program, created in 1985, pays farmers to keep environmentally sensitive land out of production. Payments totaled around $2 billion annually from 1995 to 2002. Last summer more than 400,000 farmers were paid a total of $1.8 billion to keep 36.8 million acres idle—an area larger than the state of New York.

Even American food relief to poor nations has costly strings attached. Poor countries receiving U.S. Food for Peace aid must buy from U.S. farmers and the aid must then be transported on U.S.-flagged ships. In the end, less food gets to those who need it.

Unfortunately, the U.S. government is not alone in meddling in agricultural markets. In the industrialized world, government support accounted for one-fourth of all farm income in 2006. In Japan, farmers get over half their income from the government. The European Union and Mexico ban imports of genetically modified foods, and India, among many other interventions, bans foreign-owned retail grocery stores.

All told, the cost of these interventions is staggering. The International Monetary Fund estimates that ending farm subsidies in the industrialized world alone would increase global income by $100 billion.

Regardless of their immediate effects, all government interventions have important costs. Tariffs, quotas, and set-asides have direct and easily identified costs for consumers. Yet even subsidies that encourage agricultural production are costly. The money used for subsidies must first be taken from those who earned it and is therefore diverted from other uses. Perhaps more important, these subsidies distort key market signals. The miracle of expanded production that emerges from the law of comparative advantage only works when market participants face the true opportunity costs of their actions.

Ethanol and Biofuel Policies

As if all of this were not bad enough, the United States and Europe now mandate the increased use of ethanol and biofuel, which divert scarce farmland away from food production. In the United States this year nearly a third of the corn crop will be turned into ethanol. And the energy bill signed last year by President Bush will force the doubling of ethanol production by 2022.

Adding to the ethanol drive, the U.S. government provides an ethanol tax credit of 51 cents per gallon and imposes a tariff of 54 cents per gallon on cheaper Brazilian ethanol. All this means the demand for American-made ethanol and, therefore, corn is through the roof. In mid-January corn was selling near a record level of about $5 per bushel.

Increasing the demand for corn, of course, means less of an incentive to grow other crops. While corn acreage is at its highest level since 1933, last year’s rice acreage was down 3 percent, while cotton was down 18 percent and soybeans 16 percent. As the supplies of these and other crops have fallen, their prices have risen. Falling wheat stocks, for instance, helped contribute to more than a doubling of wheat prices last year, according to the World Bank. And although wheat prices have fallen recently, this spring they remained more than twice their 2006 level.

Higher corn prices have also made livestock feed more expensive. The National Chicken Council recently said higher corn prices have driven up the cost of feeding chickens by 40 percent. The U.S. Department of Agriculture, in a report published last year, said higher corn prices—thanks to ethanol production—have meant higher consumer prices for beef, pork, and chicken.

In all, the IMF and the International Food Policy Research Institute estimate biofuels have contributed between 20 and 30 percent to higher food costs, while other organizations, such as the UN Food and Agriculture Organization and the American Farm Bureau, say the figure is closer to 15 percent. Either way, it’s clear that biofuel mandates are having a significant impact on global food prices.

Other Reasons for Price Increases

There are certainly also nongovernmental reasons food prices are presently higher. Demand for food around the world is rising rapidly as the people of China and India, which together make up 40 percent of the world’s population, become wealthier. The International Herald Tribune reports that per capita meat consumption in China has more than doubled since 1985 to 110 pounds annually. By some estimates, people in developing countries will consume 25 percent more poultry and 50 percent more pork by 2016.

Weather has also played a role. A drought in Australia has caused supplies of wheat to fall and has contributed to higher dairy prices as well. And a rising world population, increasing around 1.1 percent annually, also means greater demand for food of all sorts.

Still, there is much that governments have done to make matters far worse than they would otherwise be. And many government responses to the current crisis will only add to the suffering. Egypt, Argentina, Kazakhstan, and China, for example, have recently imposed restrictions on grain exports, while Vietnam and India have announced future curbs on rice exports. Russia, meanwhile, is expected to place a 40 percent tax on exports of wheat, and China has imposed price controls on grains, edible oils, and dairy products such as milk and eggs. Meanwhile, the French government is urging nations in Africa and Latin America to adopt self-sufficiency in agriculture policies.

Fortunately, not all government responses have been bad. The U.S. Congress is considering a small reduction in the subsidy for ethanol. India may reduce tariffs on imported food, and Mexico may end its ban on genetically modified agricultural products. Each of these modest steps would be in the right direction.

Despite the current crisis, hunger is clearly not the problem it once was. In 1970 around 37 percent of the population of the developing world was hungry. Today that percentage is closer to 17 percent, despite an 83 percent increase in world population during the same period. Thanks to investment in better production methods, real food prices have fallen 75 percent since 1950.

Even in the United States the food picture has changed dramatically in less than a single lifetime.

In 1950 Americans spent 21 percent of their income on food; today, that figure is just 9 percent.

Still, for these dramatic improvements to continue, private property rights must be protected and market forces must be free to work. The proper response to the current food crisis is to dismantle not just some but all government interventions that currently do so much harm. Only a free market will guarantee that Bastiat’s “prodigiously ingenious mechanism” will supply food to the masses of the world. And only economic freedom will enable Smith’s invisible hand to lift food into hungry mouths.