Australia | Aug 16 2012
By Greg Peel
It's getting drier.
After the long drought in Australia was broken with a vengeance in 2010-12, with tragic results, one silver lining has been last financial year's bumper grain crop. Farmers were hoping this year would see a similar result, and, with the US in drought, a perfect storm of high yields and high prices.
This year's crop is no longer expected to be quite as spectacular as last year's albeit still impressive nevertheless. A dry stretch in Western Australia has reduced forecasts. The risk now is that more of Australia begins to experience dry conditions. In July the Bureau of Meteorology noted early signs of an El Nino event forming.
It looked like the signs were fading again, but now they're back. And that means the naughty little boy who caused so much hardship for Australian farmers for over a decade could be back, at a time when world food prices have skyrocketed. Not only is there a significant drought underway in the US, dry conditions are also prevailing in Russia, India, South America and now Australia. The Japanese weather bureau has now officially called El Nino. Australia's team is siding with the US at present, preferring to be conservative. Ocean data suggest El Nino is back but atmospheric data are yet to confirm. If El Nino is confirmed, it then becomes a matter of just how severe an El Nino event we might have.
At this stage the Australian models are suggesting a “mild” event. Mind you, 2006-07 saw a “mild” El Nino and the effects were quite devastating. The Australian Bureau has not dismissed, but would like to confirm through more research, the possible existence of overriding, longer term wet/dry weather cycles known as the Pacific Decadal Oscillator. The PDO suggests El Nino and La Nina events come and go every 2-7 years within a longer term cycle of 20-30 years.
When Australia suffered its most recent devastating drought, we were in a dry PDO cycle. The dry cycle had replaced a PDO wet cycle which ended spectacularly with the Brisbane flood of 1974. The recent Brisbane flood suggested to PDO protagonists the long dry might be over and a long wet may now be upon us. Yet here we are, barely into a possible new cycle, and we're talking El Nino again.
However if we do see a mild El Nino, it would be consistent with a wet PDO. When El Nino arrives in a dry PDO, drought is the result. When La Nina arrives in a wet PDO, floods are the result. But when each arrive in opposing cycles, their strength is diminished.
So goes the theory.
[An Excel table outlining the history of the PDO and El Nino/La Nina events can be found here. In the first column, red is a dry PDO and blue a wet. In the second column, El Nino is red and La Nina is blue. In the third column, red is drought and blue is floods.]
The Bureau is so far suggesting a possible mild El Nino. However it warns that El Nino events which are intense and long lasting can cause widespread drought in Australia, parts of Africa, South East Asia and India. El Nino will, nevertheless, simultaneously increase rainfall to other parts of the globe.
If we are entering an El Nino event then Australia's wheat crop will suffer. Last summer's rains on the east coast will, however, prevent any major damage for NSW farmers, as moisture levels are already sufficient to carry the crop through. Rain is usually needed in spring and summer to ensure good yields and currently the Australia wheat crop is at the critical period of germination. South Australia, on the other hand, will feel the pinch.
The backdrop to this is, of course, the current drought in the US, which has sent food prices soaring. The US is the world's biggest exporter of corn so were the government to place restrictions on exports to ensure domestic demand can be met, many countries would suffer. Russia is pretty handy at curtailing exports and it is again suffering dry conditions, although having just moved a large shipment to the world's biggest wheat importer – Egypt – it is apparent Russia's problems are not yet critical. Meanwhile the US has actually seen some rain recently, but it may be too late to save the crop.
From corn's perspective, it is also possible for the current US administration to repeal the Bush ethanol law which requires a large proportion of corn to be given over to ethanol production. Were this to occur, corn prices would fall back very sharply, notes Jonathan Barratt of Barratt's Bulletin.
A sudden, uncontrollable spike in world food prices would not be at all welcome at a time the global economy is struggling. While developed world central banks ignore volatile food prices in their inflation gauges, emerging market central banks focus very heavily. Food is a far bigger proportion of the emerging market monthly household budget.
China reported CPI inflation in July of under 2%. This is good news, as it provides Beijing with plenty of scope to further ease monetary policy as all the world expects it will do. In previous years, Beijing has been hamstrung as surging food prices have rapidly pushed up headline CPI. China is an enormous consumer of pork, and while it produces its own pigs, they are mostly fed on imported grain. Domestic grain is needed to feed the humans. Price spikes in US grain will thus translate eventually into price spikes for pork in China, and potentially double-digit inflation.
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