Chinese Announcements Shake the Market

The last two weeks have seen several reports about China’s new cotton policy. While these reports aren’t really reporting anything new, it still put some downward pressure on price over the last two weeks. First it is important to understand how we got to a situation where everyone is waiting to see what the Chinese policy will be.

The easiest way to understand Chinese agricultural policy, and Chinese development in general is to look back in American history about 30 or 40 years. China implemented a cotton buying and storage program in 2011 that is not unlike the US grain buying and storing program of the 1970s. Most ag economist agree that the US program was not effective in the long run and the US has not had a grain storage program since. Yet the Chinese implemented a similar program in 2011. Basically China set a cotton price that they thought would keep their farmers profitable. If the farmer couldn’t sell their cotton at that price the Chinese government would pay the farmer the target price and take ownership of the cotton, essentially becoming a cotton buyer. The promised target price was about $1.40/lb. I think US prices at that time were around $0.80/lb. Essentially China bought all of the cotton it’s farmers produced and started stockpiling it in warehouses, much like the US grain program in the 1970s. If Chinese textile mills, which are not government owned, wanted to buy Chinese cotton, they had to buy it from the government stockpiles at the roughly $1.40/lb rate. Since no Chinese farmer would sell to Chinese mills at the world price of around $0.80/lb, then the Chinese mills started to import more cotton. This is about the time period that world prices starting going up to almost ridiculously crazy levels (over 3 times the current price). Since China is the largest producer and consumer of cotton, once you take the production out of the picture, this created a huge new demand, and thereby driving up prices, for cotton imported to China. Even with Chinese mills paying import fees and tariffs, they were still getting it cheaper than they could from the government.

Georgia cotton farmers really enjoyed these times of high prices over the last few years, even if they were artificially inflated prices. Then early this year (2014) China announced that it was doing away with its buying and storing program and shifting to a straight target price deficiency payment system. Again, this is similar to the change the US made to farm programs in the mid 1980s. Basically China sets a target price and if a Chinese cotton farmer doesn’t sell it for that price the government pays the difference. This is less trade distorting since the cotton actually stays on the market, but with a high target price, somewhere around still around $1.20-$1.40, this will spur over production in China, thus driving world price down. Then there were reports in the spring that China would only subsidize farming in the western growing region of Xinjiang. This seemed to make since as a policy move because Xinjiang is less populated and is one of the few areas in China where mechanized production is a possibility. Also reports were that this move was to help boost grain production to feed more people and livestock in the eastern part of the country. But these were just reports. The market moved down on these reports but there was some hope of it coming up because most people thought that the shift in cotton acreage to western China would decrease their overall cotton acres. But then just in the last two weeks we have seen conflicting reports about the China implementing cotton target price programs in eastern regions too. And of course this sent the market down to new 5 year lows.

So the next hope is that the Chinese government will actually come up with some concrete plans and release this information to the public. Right now it seems like most folks are just waiting to see what happens in China to see how they want to buy or sell cotton. Our hope is that we can soon return to a market that is driven by market signals and not by government policy. It may have taken us in the US a few years to get this right, but I’d encourage the Chinese to take a more revenue approach, similar to the US, to both support their farmers when times are bad but also allow the free market to work properly.

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