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Opinion: Floor Prices for Coffee Are Not the Answer

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I don’t want to sound heartless, but we need to stop subsidizing coffee production. As coffee prices are sitting at historic lows and destroying people’s lives, it is shocking to see the amount of discussion suggesting placing artificial price floors.

I understand that such mechanisms appeal to people who feel we need to do “something,” but supporting prices only exacerbates the problem by encouraging additional supply into an already oversupplied market. It is the equivalent of taking an aspirin to cure cancer; it may make you feel better in the short term, but it allows the real problems to grow beneath the surface.

How did we get here?

Coffee production is a long-term endeavor in which the actions we take today will have implications for years to come. Earlier in the decade, when prices were similarly crashing, Brazil took steps to support their market and shield them from the full force of the decline. These efforts had the effect of de-risking coffee production in the nation and allowed for the expansion of Brazilian coffee production. While many of the world’s coffee producers have struggled, slowly switching crops and pulling back on volumes, Brazil has been expanding into the declining market. From 2014 to 2018, Brazilian production increased by as much as Guatemala, Nicaragua, El Salvador and Ecuador’s 2018 combined total output, according to ICO data.

Having governments willing to support a base purchase price allows for better access to loans and a more straightforward investment calculus when amortizing new equipment and expansions over many years. Regardless of real demand for the product, this creates supply growth and further depresses prices in a vicious cycle. Over the past weeks, Colombia’s Fedecafé has called for a floor price of $2.00 FOB for all Colombian arabica. As the nation is in discussions with Brazil on support mechanisms, Brazil likely will also be considering similar “solutions.”

What can we expect from this?

If governments get in behind this idea, they will again be trying to treat the symptom instead of the cause of the coffee crisis. The root cause of our current low prices, oversupply, will only be exacerbated by such a move. As always, it will be the large farmers, who already have low costs, who will benefit most from expanding profits. Rather than reducing production to a level that market dynamics can naturally support, they will ramp up production again and supply even more into the saturated market. Increased production reduces large producers’ cost per pound and consequently makes smaller producers less competitive and more dependent on subsidization. The strategy will hurt the very people it was meant to help.

Looking at the other side of the equation, higher prices also mean less demand. If we force prices to increase, not only will we be increasing supply from today’s levels, we will also be pushing down demand and creating even more massive imbalances in the market that will haunt us for years to come. Price floors, like price ceilings, benefit a few at the expense of many. It is incredible to me that, after the tragic market-distorting effects of so many central price planning schemes around the world, that in the coffee industry, so many people see such intervention as desirable.

What should we be doing?

The harsh truth is that if we want coffee prices to recover, the supply and demand imbalance needs to be addressed. Implementing new schemes, like that suggested by Fedecafé, are precisely the opposite of helping. The ICO and governments would be better off looking at regions that will be unable to support coffee due to climate change and moving them to long term viable alternative agricultural products sooner. At the same time, they should be looking at reducing support for the coffee price and increasing support services for the people.

$0.30 per pound extra for coffee may mean $40 extra per annum for the small farmers that the scheme claims to help, but it may mean an extra $100,000 for a large producer. Is this really the kind of support we need to be providing? Imagine if that money was spent on projects that didn’t make things worse.

Comment

21 Comments

Gary Golden

Roasters aren’t subsidizing anything, they’re routinely stripping income and jobs from communities already living in abject poverty.

Gazy Kattan

Mark, I agree with you on several points regarding prices. Market prices based solely on the supply-demand equation tend to be unjust, especially for the small producers. As you say, the large suppliers are the only ones who benefit.
The mistake is trying to fix the price instead of the product. Consumers are happy to pay more for better quality, so at Bold Coffee we push the farmers to improve their quality and sell specialty coffee, then receive more money per pound for better coffee. Farmers who can’t or won’t improve quality, should better look for other crops. There are many fruits that would give them a better income.
Another thing we do is connect the farmers directly with the roasters, so the farmer receives more money and the roaster pays less than what they currently pay to the large importers.
Not an easy issue because too many interests are involved.
Keep on writing.

Tionico

Gary Golden, so we roasters are the bad guys?

I reject that premise. EVERY roaster I know either buy directly from the producer organisation, or from reputable importers who maintain boots on the ground who HELP growers produce better coffee, so they can pay the growers more, because there are roasters demanding high quality and willing to pay for it, because their coffee-buying customers demand high quality and are willing to pay the premium. How else could a shop charge AND GET PAID $4.50 for a single cup pourover? What, didn’t a recent COE winner fetch some $68/pound for that lot? The one who paid the $68 is not the ONLY buyer who valued that coffee, else the bidding would have closed at around ten dollars the pound or less.

Per Thomas Sowell “price is that which determines the distribution of scarce resources with alternate uses”. Price is what determines the value of the land, labour, equipment, knowledge, used to produce coffee which COULD be used to produce other crops, minerals, for recreation, etc. If the cumulative value of all those resources just mentioned is higher than the price the product of that use can fetch, change what you do. Either grow better coffee and learn how to market it, or grow Chinese gooseberries.

If you don’t know who he is, find out and READ him.. one of the most intelligent and astute economists living today. His book Basic Economics is by far the best tome on the subject. It is loaded with real world accounts he has observed over his very long and varied life…… he was in his 80’s when he wrote that book…….

Tionico

I have long believed that the strong connexion between the prices for specialty coffee and the commodity market were a very bad idea. We deal in what is essentially a custom market. Anyone can go out and buy a Ford of Chevy. That is a commodity. But to have a specialist take one and completely prepare it for a specific use not only costs more, a LOT more, but takes it out of the “stock rack grade commodity” item the ones at the dealership are.

When I learned that the entire Fair Trade model is to guarantee a premium (markup, essentially) above the C market price, I thought WAIT a minute.. there is NO incentive (reward) to the grower for producing a better quality coffee, he is stuck at the crank em out level of producing a commodity, the stock rack grade Ford of Chevy above.

But that is NOT what we are dealing with. Until the pricing iof OUR product is untied from the commodity market, this situation will continue and worsen. That makes it all about the dollar/peso/bolivar/sheckel. Might as well fold up our cupping tables and stop playing games. Either OUR product is the rack grade stock commodity or it is not. If it is, then let’s just admit it and get on with life. If it is NOT, why do we persist in subjecting ourselves to the vagaries of the artificial construct of the commodity market? What do futures, prices, contracts, for bulk commodity coffee have to do what us? Then why play that game? Yes, leave that market alone, it does serve a purpose. SOMEONE has to grow and supply the stuff that goes in the cans from Folgers, MJB, Lousianne…….. or charbux. Some shops will deal in that rack grade stuff, and distinguish themselves on some basis other than quality in the cup. Nothing wrong with that, but, again, that’s not what WE are about. Or is it?

Royal Coffee’s involvement and commitment to the Catracha Project in Honduras is exemplary. A village that used to survive barely on ten cents the pound in cherry, delivered to the mill down the valley in the city, are now commanding premium prices, because they’ve been taught, and learned, how to produce astoundingly good coffee, from the same trees, and separate each family’s productiion into microlots each with the family name on the bags. After just a few years they are well off, and looking to help others living further up into the hills. I have bought some of those coffees, and paid a premium, but worth evey penny of it. I always get raves when I present that coffee.

When we consider the difference in overal Cost of Good Sold between a two dollar coffee and a two dollars fifty coffee, the latter being signficantly better in quality, the half buck the pound in the cost of the green all but disappears, doesn’t it? DOn’t believe, me? Tot up every cent involved in handing that 12 ounce cup across the counter to a retail customer, compare the extra half buck the pound sliced down to THAT ONE CUP, and the huge added premium you are bold enough to charge for it you will see the higher price is a bargain. Move on up to the four dollar the pound level, and the same thing applies.

So WHY do we fuss over the artificial commodity grade pricing structure? What do pork bellies, soy beans, soft white wheat, or oranges have to do with what WE do? Not much.

Gazy Kattan

Tionico,
You’re right. Commodities, stocks, etc. playing in the marketplace court are always subject to the variations of supply and demand. It is a court where the only important factor is price and quality is irrelevant.
So the only chance for the farmers to get a fair price (NOT Fair Trade, I agree with you) is to improve quality as the case you mention with Royal.
We, at Bold Coffee do the same: assist the farmers in improving quality so they can sell their specialty coffees at a really fair price.

Mark Respinger

Thanks for the replies. Tionico and Gazy, I agree that specialty coffee done right can make a difference for Individual farmers, but it too carries its own risks. I’ve met farmers that invested heavily in upgrading quality year after year for relationship partners and then had the partner go bust. At least with commercial grades there is always a market. Specialty coffees fetch a better price, but they also cost a lot more for the farmer who takes the risk before anyone gets to cup the coffee.

With the article I was more focused on commercial coffee. That is where the bulk of coffee volumes go. If governments start subsidising their production, we are not going to see the volume reductions we need to bring the industry back into equilibrium.

Farmers are rarely able to exclusively produce specialty coffee anyway. We try to de-risk production for our suppliers by pre-ordering on the tree. We take the risk on the commercial and the specialty coffees produced and the farmer knows in advance exactly how much they will get. We are still left with commercial coffee that we have to trade on though. It has to go somewhere and, if you do the math per tree, it heavily effects the cost of specialty coffee. In fact, the lower the commercial price, the higher the specialty price needs to be in order to justify the extra investment per bush. If the commodity price covers the cost of production, it is easy to take a gamble on specialty because you can fall back on a small profit or break even. If the commodity price is low, it is a big risk for farmers to invest more in the bush. A few days of the wrong weather can have a much bigger impact.

Mark Respinger

Gary,

I’m not sure what you mean when you say roasters are “routinely stripping income and jobs from communities already living in abject poverty”.

If your meaning is that the industry should pay more for coffee, I’d suggest that at higher prices the surplus wouldn’t clear. Raise the prices and one village may achieve a better standard of living, but if the market doesn’t clear, there will be farmers literally left holding the bag with unsold product. They go from a low income to no income.

Many people point to the fact that farmers should be able to earn a living wage. I agree. The problem is that the economic theory behind any minimum wage scheme states that any such effort will cause unemployment. In countries with a welfare safety net, that means they move onto unemployment benefits. In most coffee regions it also means they go from a low income to no income.

How do you choose which people to help and which to let become destitute? The problem we face now is that there are no “good” options. We, as an industry, have difficult choices to make and each will hurt people. Cosmetic solutions that may benefit the farmers we work directly with but do little to alleviate the situation in the next village over.

Unless we effectively address the macro-economic causes of the supply / demand imbalance this problem will continue.

Tionico

Mark, excellent points on the wide range of quality produced in any given year from the same ground and bushes. If “specialty” is the “top 20%”, then SOMETHING hs to happen with the bottom eighty percent, some of which won’t even make the cut for low grade instant. Yet the COGS for the crop does not vary much in any way directy connected to the final price obtained for the varous grades. One notable exception would be when a grower decides to put some of the harvest on the patios still in cherry and go full natural sun dried… then the labour involved to turn it regularly is a few multiples of the same coffee washed. Yet the full natural will often command a premium. (I REALLY like it when it does not. I am a sucker for a fine Natural process….)

P S BAKER

Mark: I agree that “we need to stop subsidizing coffee production”, but didn’t your own company – ManLao River – receive subsidies from the Yunnan Government?

What is your view on “the concurrent emergence of a substantial agricultural production base within Yunnan, where the state is able to intervene to support the rise of lead firms, especially in the form of Dragon Head Enterprises”?
[https://www.researchgate.net/publication/327764826_China_and_the_changing_economic_geography_of_coffee_value_chains ]

Paul

In the US, we have, or had programs that paid farmers not to grow crops as a means of supporting farmers while addressing oversupply. Obviously, the government had to pitch in some cash to make that work. I wonder if we could broker international production level agreements much like we do with oil. As the prices come up, some of the money could be used to offset the farmers that didn’t grow.
I don’t know. It seems like this is an old problem that we should be able to solve now.

Mark Respinger

P.S. Baker: Great questions and a great read. A little dated as low coffee prices drag on, but I suspect all coffee articles suffer from a short shelf life at the moment.

1) ManLao River Coffee is the product of a state backed poverty alleviation project. It is no longer a part of our business and we are entirely private now, but it is interesting to reflect back.

Despite our involvement in the scheme and its contribution toward lifting the local farmers out of poverty, I would still advocate against industry specific subsidies as a way of achieving this outcome. I believe the most effective way to improve a region is to provide supportive policies towards businesses, but let private industry decide what to invest in and how. Providing policies that reward sustainable development and reinvestment in the community can also pay big dividends for a region.

We don’t make use of any subsidies that come to mind anymore. That is not a macro economic decision on our part though. We just want to make our business viable on its own and to not be dependant on support situations that could change. Others take a different approach and that is fine too. The key thing is that policy needs to be designed with the goal of making business do the right thing without forcing.

2) With regard to the Dragon Head Enterprise support, I would agree that it is also market distorting. Hard to see how it is not stiflingly smaller businesses. I can’t really say too much more without commenting on other coffee businesses in the province though.

Alex C

My family has been in the coffee industry for 49 years. I Myself have dedicated the last 18 to it as a roaster. We have been threw a dozen or so boom and bust cycles in regards to the supply and demand chain.

This is also not the first time the farmers have complained about price volatility. Unfortunately, this is part of how the market works on a product that is grown. Its the same for apples and strawberries and every other grown product.

These prices are a direct reaction to the market spike we had a few years back. For those who don’t remember even your basic specialty varieties were teetering in the 2+ region.

When that happen, planting ramps up and as we all know after a few years when the crops mature to producing maturity we get massive supply and then what we are currently seeing. This will lead to farmers changing what they grow and the supply dymanic continues on.

The same happens when there is a frost or a drought, or some other catastrophy that will cause a massive shortage and thus the price spikes.

A base cap on price does nothing for the problem, which to be honest isn’t a problem, it a natural happening that happens in the industry.

Mark Respinger

Paul: Interesting that you mention that. I love free markets but saw the headlines today saying that coffee could consider an OPEC type cartel to reduce supply. I feel dirty writing it, but it may be one of the lesser market manipulation evils.

If all the coffee-producing countries around the world could agree on quotas, that would certainly bring up coffee prices. The problem would be the same issue that OPEC faces. Once the prices are high enough, there is a huge incentive for producers to cheat by producing over quota.

With oil, there are only a limited number of players making it is simpler to monitor. For those of you that have spent some time in coffee country, you will sympathise that enforcement of coffee quotas may not be the easiest thing to implement in practice.

Black market coffee anyone?

Andi: Appreciated. I spend a lot of time thinking about how to improve things for farmers by treating the root causes. Just happy to have a thoughtful discussion and hear other people’s points of view on how to help.

Gustavo Cerna

Mark, I agree with you 100%. The root cause is coffee production itself.

Over promotion of it from NGOs, developing governments, multinationals as means out of poverty, and foreign exchange.

You cannot expect a commodity like coffee to be the infinite life savior of all developing countries, its not the silver bullet, and demand its not infinite.

I am farmer myself, and I am only farming my most efficient lots, slowly cutting out unproductive lots and planting other crops such as cocoa, avocados to diversify income streams, and adapt to climate change.

My main focus is on efficiencies, and differentiation from the competition (other coffee producers).

Ken

The large corporate farms are into specialty coffee. They are not behind in this endevor one bit. Finally a no nonsense true look at the situation. As learned as you get you can not out think the market. Leave it alone. Do gooders take a lesson.

Mark Respinger

Alex, Gustavo & Ken: Thanks for your feedback.

Alex: I agree that with a long lead time crop, such as coffee, there will always be fairly large swings in price over time. It is natural, but it is also exaggerated by poor policy decisions designed to stimulate production.

What Gustavo says I think is very close to the heart of the matter. I’ve known a lot of coffee farmers and producers. I don’t know that any of them have ever come across as wanting to be treated as a charity case. Most seem to want to be respected and treated as business partners.

Somehow, coffee seems to have become synonymous with welfare. As long as we think of it that way we will be designing the economics around it in ways detrimental to sustainable market based pricing.

I have used ‘we’ throughout this conversation because I think the industry’s voice has an impact on the way governments develop their policies. Even if we don’t have direct control over the larger policy mechanisms, our voices are heard. When we advocate damaging policies, they have more chance of being enacted.

Paul Emerick

Hi Mark and (the other) Paul that Mark was responding to,

Technically there is a somewhat similar coffee version of OPEC, though it probably doesn’t function exactly like OPEC, it’s the closest comparison with respect to regulating production quotas and prices, which I believe they set the price of coffee before Fair Trade price for coffee was established. It’s called the International Coffee Organization (ICO) that includes both major coffee exporting and importing countries involved in the coffee trade. I think the problem with this organization is that while it is probably well intended for involving direct talks between major coffee exporting and importing countries, there probably needs to be an OPEC like exclusivity for coffee where it is just for exporting coffee countries (and their representatives) to sort out matters in solidarity if possible before dealing with the importing countries. They probably do this anyways as a function in the ICO before carrying talks with the importing countries though I’m not sure in terms of function and procedure of negotiation. Also, it very well might be that coffee exporting countries and their representatives demand by consensus that the farmers who aren’t making enough expect some entity in the aspects of the coffee trade to make financial changes in supporting them whether it’s from the government of the exporting country to subsidize or for the coffee exporting companies to agree to subsidize and or set a price floor. At the end of the day the coffee farmer is looking at net and how much they get from putting money down on the table with the coffee they produce. I don’t think they will object which of the many parties involved in the coffee distribution chain takes part in making sure this happens whether it’s the exporting country’s government, the importing country’s government, the coffee sourcing company/buyer, roasting company (unless it sources directly also), and/or the final consumer. The only concern I would voice out is that coffee can’t be treated the same way as a commodity as oil is because coffee prices are not just based on production, but other factors such as the quality of the production itself which can vary on many aspects of coffee including varietal and terroir. I’m not an oil expert to say that the same can be said for oil being treated exactly that way, but I would more or less not. I have a feeling different exporting countries are going to have to get different forms of income distribution to the coffee grower/farmer to solve this problem. I don’t think there is going to a be one size fits all solution (even through the ICO) in this dilemma that will solve this major issue. Anyways that’s just my insight coming from a few years of the coffee business as a small time local farmer’s market coffee roaster and currently teaching students how to roast coffee for extracurricular involvement.

Regards,

Paul Emerick

Mark Respinger

Paul Emerick: Great comments on the consensus part of any cartel. I think that nails it on the head in term of controlling volume. Farmers are already struggling and need to get the best return from their limited land possible. While nations may be able to agree to production limits, individual farmers would likely resist any such quota system that forced them to produce less.

On a side note: It is pretty easy to add/subtract pricing differentials to futures contacts to adjust for market demand and quality differences. The basic mechanism is well established and used to account for quality differences in oil and other exchange-traded commodities. Just like with the C, there are lots of grades for these commodities, but only a few traded grades have associated contracts.

Alex C

I just wanted to clear something up as i feel i may have come off as a bit brash.

Its not that i’m not for farmers being compensated more. I just find the model in which the governments want to do it as moronic at best. They want to put the proverbial noose around the roasters neck when they should really be looking at the cafe’s.

The margins for a roaster are fairly normal in comparison to most other industries. I won’t go into percentages as it would be an apples to oranges comparison.

My view is this. We’ll use a certain green goddess as an example.

They claim that they sell roughly 4 BILLION cups of espresso and/or coffee drinks annually .

If they took 10 cents from every cup, that would be 400 million that could go back into farmers programs.

Thats just one company, there’s other big dogs in this industry as well.

In my humble opinion, the problem isn’t the farmers or the roasters, the problem is with a corperate profit structure that is significantly out of whack with the rest of the industry.

Its a systemic problem across all industries, not just the coffee industry. Corperations inability to understand what is economically (and systemically) sustainable and ethical.

In our industry, there’s a big difference between a 200% return (if were lucky as a roaster) vs a 1000%+ return as a cupper (Your nominal cafe or restaurant).

Gazy Kattan

Alex, you’re right by speaking about excessive profitability. The extra cents per cup was proposed in Medellin by Jeffrey Sachs, although he mentioned 5 cents, not your generous 10 cents. I give you the same opinion I expressed at the time. How on earth is the coffee shop send the extra cents to the farmers?
Who will collect and distribute that money, and how? Will the banks agree to transfer the money without charging commissions and fees? Which farmers will receive the money and how? Nicaragua, Tanzania, Colombia? And the farmers’ countries: will they transfer the full amount to the farmers, or will retain some for “R&D”, “promotion”, etc.? Once in the country, which farmers will receive the extra money and, who will define this? Who and how will compute the equivalence between X cents per cup to X cents per pound of green coffee?
Meaning that, of the 10 extra cents per cup you propose, hopefully 3 or 4 cents will reach the farmer.
We, at Bold Coffee as well as a few other companies are doing our best to provide the farmers with a better income. This is how: support, advice and encourage the farmers to produce better quality, transferring to the farmer a larger chunk of the sale price and, selling directly to the roaster. This way, roasted coffee is sold at reasonable prices.
If the coffee houses wish to make indecent profits, it’s up to them and to their customers. Here, market forces can change this if consumers become aware that they are being ripped off by paying too much for a cup of coffee.

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