Conversations on the Frontier – John De Pape – number 87
Frontier Centre: What issues did Canadian Barley in Transition, popularly known as the Sparks barley study, address?
John De Pape: In 2003, while I worked for Sparks, Alberta Agriculture asked me to assess the barley sector in Western Canada, with a specific focus on the role and activities of the Canadian Wheat Board (CWB). I had noted a few issues that questioned the CWB’s performance that I thought should be expanded on. Alberta Ag agreed. We proceeded on the premise that it would be a technical analysis of readily verifiable information and data, much of it from the CWB itself. We asked the questions: Is the CWB adding value to the barley sector? Does the CWB get the premiums it indicates it does? How does pooling impact the CWB’s ability to market barley? Does the CWB inhibit investment in the barley sector in Western Canada?
FC: Did you find that the CWB’s barley prices were generally higher or lower than growers could have obtained elsewhere?
JD: My analysis showed that the CWB’s final pooled price for feed barley was consistently lower than the domestic feed barley price pretty much everywhere in Western Canada. In addition, the 2-row malting barley price was lower than the average EU price for the same grain (this is the price the CWB uses as a comparison). The question I have on both these is why? Especially when the CWB is saying it gets premium prices.
FC: You said in your speech to the Frontier Centre that the Board was “impotent in the barley market.” What did you mean?
JD: The analysis I’ve done showed that there are many times when the CWB can’t compete with the local feed market because the Pool Return Outlook (PRO) doesn’t show a reasonable price compared to the spot price. And it can’t really do anything about it (or chooses not to do anything about it). It can get to a point where the CWB can’t make offshore sales because it can’t be certain it would get the barley from farmers. This is starting to occur in the malt market as well, where the malt PRO is less attractive than the local feed-barley price.
FC: What is the “law of one price”? How does it apply to this debate?
JD: The law of one price essentially states that, in a perfect market, the prices of a particular commodity would be uniform throughout the area at any one time, after transportation costs are considered. This is due to competition, on both the buyers’ and sellers’ side. Why would a seller sell below the price that a buyer is willing to pay?
The problem with applying this law to actual markets is that, in reality, markets are not “perfect.” A “perfect” market is a space or area where all the buyers and sellers are highly sensitive to the transactions made by each other. It assumes perfect communication between all participants. In addition, we need to be talking about a single commodity, characterized by identical specifications regardless of the buyer or the seller.
None of these apply to the Western Canadian barley sector. The price of feed barley in Saudi Arabia or malting barley in China is more sensitive to competition from Ukraine or Australia respectively than to the situation in Alberta and vice versa. Communication of market signals is muted by the involvement of the CWB. The CWB’s market signal is the PRO, a poor representation of market prices. And a commodity like barley is certainly viewed differently by different buyers, certainly malting barley buyers, many with very particular specifications.
FC: That an open market might deliver a net financial benefit for farmers is a conclusion disputed in a new paper from Professor Gray at the University of Saskatchewan. Did he get it wrong when he claimed that a single desk in barley captures benefits unavailable in a free market?
JD: Unfortunately the CWB still argues the virtues of the single desk using economic theory instead of real evidence. Although Schmitz, Schmitz and Gray used CWB contract data, they applied it in an economic model to still come up with an economic construct supporting the single desk. We need to use real numbers, real data, in a common-sense approach. Real comparisons, not theory.
Professor Gray continues the theoretical approach to assessing the concept of a single desk seller. Unfortunately, it doesn’t tell us whether the CWB’s single desk captures actual benefits instead of merely theoretical ones. He, like others, misses the point that the premium prices don’t appear to be there when you look at real market data, the costs are much higher than they acknowledge, and the price signals to farmers are inadequate (with commensurate market inefficiencies).
FC: It’s been more than 10 years since the famous Carter and Loyns study that demolished the economic case for monopoly marketing. It was followed by similar reports from the George Morris Centre and then yours. Is the message finally sinking in?
JD: I think people are beginning to see that barley is different than wheat. The CWB really has no business case to be in barley anymore (if it ever did). The messages from the barley sector are becoming too loud and too clear for even many dyed-in-the-wool single desk supporters to deny. I think looking at the issues from a business perspective instead of through economic theory has helped.
FC: You’ve expressed reservations about “relying too much on economists.” Don’t competent economists use real-world numbers? Shouldn’t we distinguish between good economists and poor ones?
JD: What I don’t like about econometric models is that they can’t be relied upon to take into consideration every possible influence or impact on the issues being studied. For example, no economic model addressing the market power of the CWB’s single desk has ever taken into consideration the fact that the single desk is operated by people. People who, as bright and dedicated as they are, make mistakes and poor judgment calls, use poor timing or simply miss the odd phone call.
The Recent U. of S. study uses real data to build an economic model based on market elasticities. This study tells in theory what the prices in different markets should be based on a single-desk seller and then in a multiple-seller environment. But for the CWB salespeople to act in the manner theorized, they would need to have complete and perfect information about every market they are selling into, every competitor and their possible behaviour, every possible substitution and every price elasticity of demand in every market. At all times. That is the only way the model works.
In addition, these models don’t consider things like the application of higher grades of grain in satisfaction of a sale of lower grades; this happens from time to time, yet I have not seen an economic model that considers it. Don’t get me wrong – economists do great work. Unfortunately, the CWB relies on these theoretical constructs to prove its worth instead of using real business measurements that are easily calculated. Even their benchmarking exercise was shown to be flawed.
FC: A dual market already exists in domestic feed barley, with only 20 percent of all Western Canadian barley going through the Board. Does that mean our system is better prepared for free barley than for free wheat?
JD: Absolutely. Many in this business – on both sides of the debate – acknowledge that barley is different than wheat. I would say that the time for the barley market to be free of the controls of the CWB came some time ago.
FC: The numbers you present show farmer costs for marketing canola, a non-Board crop, at roughly $40 a tonne. But Board costs for wheat come in at around $58, barley is estimated at $60 and durum at $70. That tells quite a tale about Wheat Board efficiency. Why are the Board’s services so much more expensive?
JD: There are three main factors here. First, much of what the CWB does is redundant. The grain companies market non-CWB grains to earn an elevation. The CWB markets wheat and barley at a cost, but also pay the grain companies for terminal handling and storage while grain companies also charge farmers for country elevation and cleaning. Second, the handling charges by the grain companies are greater on CWB grains than they are on non-CWB grains such as canola because they don’t have the same operational and marketing tools available to manage their space on CWB grains. And third, any costs incurred by the CWB making mistakes are passed onto the farmer. If a grain company makes a mistake, competition does not allow them to recoup the losses through charging farmers more or paying them less.
FC: Can you explain how the Board’s payment system drives down the prices of non-CWB crops?
JD: The CWB rations access to the grain handling system through contract calls. This restriction means farmers can’t ship wheat when they want to generate cash flow. They are forced to sell non-CWB crops like canola to generate the cash needed to pay bills, particularly in the fall. This creates the situation where more canola is being sold and delivered into the system in the fall and early winter than is required by end-users. This pushes prices lower as the market looks for a price where this “excess” canola will clear into various markets. These prices are lower than they would be if the CWB allowed more wheat to be sold and shipped.
FC: Can you summarize the problems with malting barley? Why have Canadian maltsters sometimes been unable to obtain Canadian grain?
JD: The CWB’s pricing system is dysfunctional, and that’s particularly evident in the malt sector. When the CWB sells malting barley to a maltster, it merely sets a price. It has absolutely nothing to do with selecting the barley (assessing quality and choosing which barley to accept) or getting farmers to deliver. The only market signals the CWB provides to barley producers are the initial payment and the PRO. If market prices are such that prices paid by the feed sector are more attractive than the CWB’s PRO for malt barley, the maltster has little recourse to attract his barley requirements.
FC: Do you agree that pooling cannot work in a free market, as Fulton and Gray have claimed?
JD: The perceived problem with voluntary pooling is the concept of competitive pricing. Single-desk supporters say that a voluntary pool with a fixed initial payment and PRO will not provide attractive prices in a rising market, as the spot price will be more attractive and the pool will get no deliveries. In a falling market, the pooled price will be more attractive than the spot price, and the pool would be forced to buy large quantities above the market price.
Single-desk proponents have failed to recognize the potential for “unpriced” pools that offer flexible, competitive pricing. Prices to pool participants could be responsive to market movements and thus remain competitive with non-pooled prices.
FC: Does the CWB really need facilities in order to compete in a free market, as Fulton and Gray claim? Why would it not be able to contract for a fee with people who do own facilities?
JD: I believe that if the CWB operated a pool attractive to many farmers, it would in essence control the marketing of a large amount of grain. And then if it had relationships with major buyers, the CWB would be in a powerful negotiating position with grain handling firms. The CWB often reports on the amount of money it is returning to farmers through tendering; clearly competition for CWB grains is effective in reducing costs. It stands to reason, that the same would be possible on 100% of a voluntary CWB pool.
FC: Of the three options in the current barley referendum, which do you prefer?
JD: I’m not a farmer, so my preference is immaterial. What is material is the number of farmers who have expressed an interest in a “dual” market, or a market that gives them some choices including the CWB. In its Producer Survey last year, the CWB asked farmers what marketing system they wanted on barley – and gave them three options: (1) status quo, with the CWB responsible for all exports and all domestic malt barley sales, (2) a “dual market” option and (3) an open market option without the CWB. 46% of the farmers surveyed chose the “dual market” option and only 29% chose the status quo. Based on this, the majority of farmers want a barley market without the CWB single desk. And most of them want the “dual market”.
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