Competitive Business Environments in the global food market

Table of Contents

Question 1: What have been the main demand and supply factors that have determined the general increase in global food prices over the last four years?
1.1 Introduction to the food market
1.2 Theory of supply and demand
1.3 Factors affecting demand for food
1.3.1 Population growth
1.3.2 Natural fuel
1.3.3 Standard of living
1.4 Factors affecting supply
1.4.1 Production costs
1.4.2 Weather conditions
1.4.3 Environmental sustainability
1.5 Conclusion

Question 2: With reference to one specific agricultural commodity of your choice, examine in more detail the specific forces which have determined its price in recent years ?
2.1 Maize price overview
2.2 Facts and figures about the maize market
2.3 Natural fuel
2.4 Other factors affecting demand and supply of maize
2.5 Conclusion

Question 3: What are the effects of rising food prices on individual consumers and nations? Briefly suggest what governments can do to limit the impact of soaring food prices on their economies
3.1 Changing diets and starvation
3.2 Social unrest
3.3 Water scarcity
3.4 Government responses
3.5 Conclusion

Question 4: What are the main features of an oligopolistic market? With the aid of examples, show how collusion between firms in such markets may be detrimental to consumers and explain briefly what governments can do to control the worst abuses of such a situation
4.1 Oligopoly – a market structure
4.1.1 Non-collusive oligopoly
4.1.2 Collusive oligopoly
4.2 Disadvantages for consumers
4.3 Government control
4.4 Conclusion

Question 5: Explain the various types of pricing strategies which companies can adopt in the face of competition in the marketplace. How would a knowledge of elasticity of demand help companies decide how to price their products?
5.1 Factors influencing the choice of a pricing strategy
5.2 Elasticity of demand
5.3 Pricing strategies
5.3.1 Price-skimming and penetration pricing
5.3.2 Product line pricing
5.3.3 Price discrimination
5.3.4 Further pricing strategies
Psychological Pricing is used when the price is designed to have a positive psychological impact, e.g. selling items for 99 cents instead of one dollar
5.4 Conclusion

Question 6: Why do many large firms decide to operate beyond their home country, i.e. become multinational? With the aid of a case study of a particular company of your choice show how and why that company expanded abroad
6.1 Introduction of multinational corporations
6.2 Motives for becoming a multinational
6.3 Case study – Tommy Hilfiger Corporation
6.4 Conclusion

References

Question 1: What have been the main demand and supply factors that have determined the general increase in global food prices over the last four years?

1.1 Introduction to the food market

“World market prices for major food commodities such as grains and vegetable oils have risen sharply to historic highs of more than 60 percent above levels just 2 years ago”. (Trostle, 2008, p.1) However, prices began to decrease after hitting their peak in June 2008 as shown in the table below. Even though the problems caused by the crisis are not solved, it seems as if we got over the worst, but how high is the risk of sliding into the next crisis?

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(From www.fao.org, retrieved 31st October 2008)

1.2 Theory of supply and demand

The theory of supply and demand is an elementary part of a market economy. “Demand is the amount of a product consumers are willing and able to purchase at a given price whereas supply is the amount of a product which producers are willing and able to supply at different prices”. (Griffith & Wall, 2005, p.5/13) At higher prices consumers buy less, which indicates that the rise of the price of a product, e.g. food, will cause the demand for it to contract. Producers in contrast will supply more because they are hoping to increase their revenue, causing supply to expand. This relation is expressed in the figures below

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From: Griffith & Wall, 2005, p.6/13)

“A problem facing all consumers is that whilst our wants may be unlimited, our means to satisfy those wants are limited”. (Griffith & Wall, 2005, p.4) Producers as well as consumers will try to allocate their scarce resources, such as land, labour and capital, and their means, such as income in the most efficient way. That leads to the concept of opportunity cost, which “highlights the choices that must be made by measuring the cost of anything that is chosen in terms of the alternative that could have been chosen instead.” (Lipsey & Chrystal, 2007, p.5) If things are scarce, like food is in some parts of the world at the moment, they cost more and prices will tend to rise even further.

As explained above, a change in price only causes an expansion or contraction of demand and supply. But there are many factors other than price affecting the supply and demand of a product, which can cause the curve to shift to a new position or, more precisely, cause an increase or decrease in demand or supply.

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From: Griffiths & Wall, 2005, p.8/15

1.3 Factors affecting demand for food

1.3.1 Population growth

“Fifty years ago, world population was around 2.5 billion people; today it is over 6.1 billion – and growing at a rate of 1.2% per year”. (Griffiths & Wall, 2005, p.426) That represents a number of approximately 70 million more people per year, which need food to survive. The World Bank “estimates that global food demand will double by 2030 as world population increases by an additional two billion people”. (www.prcdc.org, retrieved 27th November 2008)

Population is actually decreasing in some parts of the world including areas in Europe and East Asia, due to their low fertility rates. However, the demand for food is increasing because the most rapid growth tends to be in developing countries.

1.3.2 Natural fuel

By trying to solve the problem of scarce oil resources and their impact on the environment with the help of natural fuel, a new problem was created. “Biofuel production accounted for about 30% of the price increase in average grain prices between 2000 and 2007.” (Braun, 2008, p.7) “Commodities such as sugar, maize, cassava, oilseeds and palm oil, which have predominantly been used as food, are now being grown as feedstock for producing biofuels”.(FAO, 2008, p.6)

1.3.3 Standard of living

Since different food has a different quality, people will diversify their diets with rising incomes. Especially in China, where the population growth rate decelerated causing a rise of working age people and thus a fast economic growth, the tastes changed due to rising incomes. “The dominance of food spending in Chinese budgets has diminished as income has grown but food remains the single largest item in household budgets. Food’s share of spending has declined to under 40 percent for urban households and about 45 percent for rural households”. (USDA, n.d., p.3)

The tendency is that people prefer to eat more meat, fruits and vegetables instead of grains. “Between 1991 and 2005 meat consumption rose at an annual rate of 6.2 percent a year in China”. (www.prcdc.org, retrieved 27th November 2008) According to the FAO (2008,p.5) it takes seven to nearly eight-and-a-half kilos of grain to produce one kilogramme of beef, and five to seven kilograms of grain to produce one kilogramme of pork.

As mentioned before, “at higher prices consumers buy less, which indicates that the rise of the price of a product will cause the demand for it to contract”, but that in turn causes people to eat less or even to starve. According to DEFRA (2008, p.7) 850 million people are under-nourished.

1.3.4 Loss in value of the U.S. dollar

The world prices of major grains are measured in U.S. dollars. “As the dollar lost value relative to the currency of an importing country, it reduced that country’s cost of importing. Since the United States is a major source of many agricultural commodities, foreign’ countries imports of commodities from the United States began to rise”. (Trostle, 2008, p.13) Therefore the depreciation of the dollar also caused prices to rise.

1.4 Factors affecting supply

1.4.1 Production costs

“In 2004, agricultural production costs began to rise, especially for energy-related inputs such as fertilizer, fuel, and pesticides”. (Trostle, 2008, p.20) The rising energy prices are not only the reason for increased costs of production for agricultural commodities but also for increased transportation costs. According to Buntrock (2007) farmers also pay a lot more to feed their animals, more specifically, they need approximately 200m-250m more tonnes of grain for fodder than they did 20 years ago. The figure below points out the average increased production costs of a farm in the U.S.

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From: http://www.farmpolicy.com, retrieved 3rd December 2008

1.4.2 Weather conditions

A factor that has further tightened world market supply and consequently drove prices up is the adverse weather in 2006 and 2007 in some major grain and oilseed producing areas. Russia, Ukraine, Australia, Turkey, and South Africa for example, had to face production losses due to drought. The U.S. had a late freeze killing some of the crops and northern Europe had floods during the harvest. (Trostle, 2008, p.21) And of course, the cultivation of grain is always linked to the seasons.

1.4.3 Environmental sustainability

According to Trostle (2008, p.6), each year a small percentage of the world’s agricultural land has been converted to non-agricultural uses. “Growing demand for biofuels has meant that some land previously used to grow crops for food is now used to grow crops for fuel”. (DEFRA, 2008, p.5) Another factor is outlined by Harvey (2008): “The losses often occur through erosion by water, as downpours or even irrigation wash topsoil into rivers and dams”. The value of non-agricultural land is also increased due to urbanisation and industrialisation. (Tietenberg, 2003, p.226)

It has also become more and more difficult to secure a farmer’s water supply, because of too expensive irrigation systems, which are furthermore difficult to install. Another reason is that “in a number of locations, the current use of water exceeds replenishable supplies, implying that aquifers are being irreversibly drained”. (Tietenberg, 2003, p.226)

1.4.4 Trade barriers

Some countries such as Argentina, Kazakhstan and Ukraine introduced export restrictions to maintain their domestic supply. These policies drive prices up even higher because the “restrictions on exports are narrowing the food supplies available on the world market while import policies are putting further pressure on these dwindling supplies”. (Braun, 2008, p.4)

Because of the poor state of rural roads in Africa “it is often cheaper to import food from Asia or North America than to move surpluses from the interior of an African country to the cities”.

(Ngongi, 2008, p.27)

1.5 Conclusion

After all, the problem is not one of global food scarcity but one of a non-uniform distribution of food, due to the different problems mentioned above. Some of these problems can be solved in the short run, some at least in the long run.

Question 2: With reference to one specific agricultural commodity of your choice, examine in more detail the specific forces which have determined its price in recent years ?

2.1 Maize price overview

Maize prices began to rise significantly in September 2006 (Trostle, 2008, p.20) and as one can see in the table below, they hit their peak in 2008. However, after June 2008 prices started to decline together with other commodity prices, particularly those for oil, but they are still way above their average.

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2.2 Facts and figures about the maize market

Because of its good adaptability to different weather conditions, maize is the most widely grown cereal crop and thus consumed all over the world. The primary uses of maize include food for people in a broad variety, fodder for animals, and with rising importance maize is used for the production of ethanol. In addition, starch from maize can be made into plastics or fabrics.

“Asia plants almost half of the developing world’s maize crop. Three-quarters of the maize consumed in South Asia is consumed directly as food, but in East Asia most maize is used for animal feed”. (www.idrc.ca retrieved 4th December 2008)

2.3 Natural fuel

As described in Q1 there are many different factors that affect either the demand or the supply of food.

For maize, the main demand but also supply force behind rising prices is the increasing demand for ethanol, which is an example of natural fuel.

According to FAO (2008, p.2), the rapid growth of biofuels was mostly driven by policies supporting their consumption as well as their production, with the aim to reduce greenhouse gas emission and support agriculture. The effect of these policies is that, people actually demand more biofuels and producers supply more because they hope to earn better profits. Since maize is a major feedstock used for the production of biofuels, its price is directly affected.

As described in Q1, when the demand of maize goes up, the price will increase. When the price increases it is more appealing to producers to supply more. In response to the higher prices, which are partly due to an increased demand, farmers shift their use of land towards more maize production, partly at the cost of other grains, which in turn also affects their prices.

Brazil and The U.S. account for most of the world’s ethanol production. While Brazil uses sugarcane as a feedstock, the U.S. uses maize. “Corn used for ethanol rose from about 1 billion bushels in 2002/03 to a projected 3.1 billion bushels in the current (2007/08) crop year. With this increase, corn used for ethanol production now accounts for about 24 percent of total U.S. corn disappearance, up from 10 percent in 2002/03”. (Trostle, 2008, p.16)

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As more of the maize is used for ethanol, concerns arise that less is available for the feeding of livestock and for the production of all kinds of different food.

2.4 Other factors affecting demand and supply of maize

One of the primary uses of maize is the feeding of cattle. Since the demand for meet increased with higher living standards (See Q1) the demand for maize as animal feed went also up. That, in line with other causes, increased the price for maize which in turn increased the animal feed costs for farmers and thus causes prices for cattle and meet to rise.

“Water is a limiting factor in many tropical and subtropical maize growing areas and consequently a few days of water shortage may be responsible for severe yield losses”. (www.fao.org, retrieved 4th December 2008) A solution would be irrigation plants, but these are too expensive for the small farmers especially in developing countries. “An important problem in planting maize is the erratic onset of the rains in some regions, where intermittent showers tend to encourage weed growth before rains are in fact established”. (www.fao.org, retrieved 4th December 2008) That causes maize crops to grow but not to flourish, so that a lot of the harvest might be lost.

“During maize production weeds, insects and diseases are important factors which can cause the loss of maize. Generally the losses due to weed surpass those caused by diseases and insect together”. (www.fao.org, retrieved 4th December 2008) As a result the amount that a farmer can supply will decrease and prices will go up.

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Of course, the price of maize is also affected by all the demand and supply factors mentioned in Q1, such as a growing population or the devaluation of the U.S. dollar. Since the population is mainly growing in the developing countries, where maize is primarily used as food for the people, the price of maize is highly influenced by this factor. The table above shows that the U.S. is the largest maize producer. The value of the country’s currency, the U.S. dollar, has been depreciated for a while until its value started to increase recently. (See Q1) Foreign countries started to import a lot of maize because it was cheaper, hence increasing the price of maize, because more was demanded. Now, with imports getting more expensive, the maize demand of foreign countries drops.

2.5 Conclusion

The demand for maize is dependent on many influenceable factors such as the biofuel production and population growth, but the rising price of maize has created problems in all kinds of markets. A fact is that without the rising demand for maize due to ethanol production, food prices for other grains would not have increased as much.

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