Friday, January 21, 2011

An Economist's Reply to Lester Brown's New "Doom Forecast"

A free copy of Lester Brown's new book is available here.  It is titled "World on the Edge: How to Prevent Environmental and Economic Collapse".    Here is a direct quote:


"My sense is that the “perfect storm” or the “ultimate

recession” could come at any time. It will likely be triggered
by an unprecedented harvest shortfall, one caused
by a combination of crop-withering heat waves and
emerging water shortages as aquifers are depleted. Such a
grain shortfall could drive food prices off the top of the
chart, leading exporting countries to restrict or ban
exports—as several countries did when prices rose in
2007–08 and as Russia did again in response to the heat
wave of 2010. This in turn would undermine confidence
in the market economy as a reliable source of grain. And
in a world where each country would be narrowly
focused on meeting its own needs, the confidence that is
the foundation of the international economic and financial
systems would begin to erode."


So, he believes that climate shocks will cause an unraveling of international trade and cause
painful autarky and mass suffering.  

Knowing that my readers are open minded intellectuals, let me turn to one of them to reply.
Professor Aaron Smith of UC Davis was kind enough to send me this email and to allow me to post it.  There is a lot of wisdom in what he has to say.  Lester Brown can learn from the economists.  We are not blindly optimistic.  We think about incentives and pro-active actions pursued out of raw self interest.

"I came across your blog post on Lester Brown's predictions about the breakdown of world food markets. I had a couple of comments inspired by the questions you raised.

Mostly, I think Brown's concerns are overblown. It is true that governments in exporting countries often restrict exports when prices rise. Such action exacerbates jumps in the world price (see Russian wheat in 2010 and Indian rice in 2008), but only temporarily. Russia won't hoard wheat forever. Of course,  temporary food commodity price spikes can have devastating effects in poor countries, but it requires a big leap to go from starvation an civil unrest in a few countries to global chaos. Rice and wheat are produced all over the world, so I can't see long term breakdowns in export markets for those commodities.
The US dominates corn production, but I think an export embargo from the US is unlikely. Soybean production is concentrated in the US and Brazil, but China imports about 55% world exports. Given that Brazil exports well over half of the soybeans it produces and given China's
 market power, I can't see Brazil stopping soybean exports any time soon.

 Governments have a terrible history in trying to stabilize prices by playing in storage markets (see the US in the 1980s). However, private firms face an increased incentive to store when prices are more volatile. And the increased possibility of export embargoes implies more volatile prices.  I would expect increased storage in countries like the US and Canada, i.e., large exporters that would be unlikely to ever impose export embargoes but could profit from embargoes imposed by others. Importing countries may also increase storage and their own production of staples by substituting away from, say, fruit and vegetable production.

 Given sufficient water, there seems to be considerable scope for grain yield to tolerate temperature increases. A prominent agronomist named Ken Cassman (University of Nebraska) has written extensively on this. For example, varieties of corn differ in the amount of time it takes them to mature. All else equal, high temperatures speed up the maturation process, which doesn't give the plant enough time to maximize its yield. So, if the average  temperature increases, producers can respond by planting varieties with longer maturity. At least, that's how I understand it. I do think the "given sufficient water" caveat could be significant.

 The effect of corn ethanol on food markets is much greater than any likely  weather-induced trade disruptions. The US converts about 115 million metric tons of corn into ethanol each year. For comparison, total world grain exports are about 280mmt per year, about half of which is wheat. Former Soviet countries export about 35mmt of wheat per year. I am working on a paper that shows that the growth of the US ethanol industry has caused corn  prices to double with significant spillovers to soybeans and wheat.

 Overall, I expect storage markets to mitigate the boom-bust food price  cycles associated with extreme weather and trade disruptions. The real  questions are how far (if at all) the average price of food has to rise to equilibrate long run aggregate supply and demand, how those price rises will affect poor countries, and what will be the environmental consequences.

Anyway, I enjoy looking at your blog every now and then. Thanks for indulging my thoughts."


 Regards,

 Aaron.


2 comments :

Dan said...

Besides the water caveat, the other objection I have to Prof. Smith's analysis is that it is based on shocks of finite length. I think what Brown and many other environmentalists are trying to express is a situation in which negative environmental shocks become so prevalent and severe that they are effectively permanent. In this case Prof. Smith's analysis no longer holds. The real fear is the prospect of moving away from equilibrium in to an unstable state both in the markets and the fields.

I respect academics who try to thoughtfully play devil's advocate in their generally leftist industry, and it's good to cool overblown concerns when they are overblown and too many are worrying needlessly. But there is a higher probability of serious instability in food markets in the next 20 years than of your house burning down in the same period, so unless you don't have homeowners insurance I think it's both hypocritical and irresponsible to spend any part of your day using your faculty position to spread around sighs of relief.

Lester Brown I think is admittedly another environmentalist whose ideas are too emotionally driven to be economically ideal, but he's fighting the good fight in his own way and if anything I think economists should be helping to refine his sorts of concerns, not critique them. We should be beyond that at this point.

Aaron said...

Dan, my point is that storage increases when bad harvests become more likely. People will naturally put more of the commodity into storage to save for the now-more-frequent bad years. Of course, average prices will increase if more of the commodity is held off the market.

As I wrote, the big questions are whether supply can increase fast enough to keep average prices from going too high and the environmental consequences of the effort to expand supply.

I do have homeowners insurance. I also spend some of my day explaining to my family why our house is unlikely to burn down. I don't think I'm hypocritical or irresponsible.

Aaron.