What Can Be Done To Save Ethiopia’s Coffee Sector? – Part II

The World Market and Coffee Producers

Assessing Ethiopia’s coffee sector to understand the root causes of its problems and remedial solutions to internal problems. This series discusses the scholarly paper, “Ethiopia’s Coffee Sector: A Bitter or Better Future?” by Nicolas Petit.

The preceding posting, “What Can Be Done To Save Ethiopia’s Coffee Sector? – Part I,” was introductory to this and future postings where we will continue the in-depth discussion with extensive quotations from the paper by Nicolas Petit.
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Time and again, coffee is compared to oil as one of the most actively traded commodities. Both coffee and oil are traded in current and futures markets, mostly at the New York Stock Exchange market. Yet the most important trait the two commodities share is price volatility due to supply-demand, among many other factors. But, the impact of price volatility is more severe on coffee producers than oil exporters. Oil-exporting countries have leverage, through OPEC (Organization of the Petroleum Exporting Countries) to stabilize market prices fairly quickly. OPEC’s market power to negotiate market equilibrium prices, owing to their control over the supply, and the very nature of the commodity explains the differences with the coffee trade. [A market equilibrium price is the point where the quantity demanded is equal to the quantity supplied at that price.]

Unlike oil exporters, economies that depend on agricultural commodities as a primary export face what Nicolas Petit called, “The ‘Commodity Problem.”

Petit explains, “The ‘commodity problem’ can be seen as a particularly harsh combination of both short-term price instability and declining terms of trade in the long run, exposing producers of primary commodities and governments to the dual problem of low returns and high risks. The impact of such trends in the short and long term is particularly acute for commodity dependent developing countries (DFID 2004).

“Prices of many agricultural commodities show a high degree of volatility and the behaviour of commodity price cycles can be characterized by periods of low prices endured for a longer time than price rises (DFID 2004).2 In addition to price volatility in the short-term, secular trends also operate to constrain the economic growth potential of commodity exporting countries. According to Maizels (1987), since the end of the Second World War, there has been a significant downward trend in the prices of primary commodities in relation to those of manufactured goods. Theoretical reasons for deteriorating terms of trade in the long run were originally advanced in 1950 by Prebisch and Singer and then repeatedly tested and found valid (DFID 2004). 3 As a result, structuralists questioned the wisdom of concentrating efforts on the production of primary commodities for export, and import-substitution strategies became a major component of development strategies until the rise of neo-liberalism in the early 1980s.”

In the years preceding 2002, most of the poorest countries were hit hard when coffee prices fallen to a 30-year low, according to Oxfam. The reason widely blamed for the lowest price was oversupply of coffee.

But Nicolas Petit argues, “While the oversupply of coffee was clearly one of the main factors behind this dramatic fall in prices, and although the coffee industry has long experienced boom and bust price cycles, this crisis is unique in that it reflects key structural changes in the global coffee commodity chain in the last 20 years. Significant structural changes in the global commodity chain are likely to dictate the foreseeable future. For Lewin et al. (2004), these changes could be as important as the cyclical shifts in supply and demand of the past.”

Petit summarizes the structural changes in the global commodity chain and its impact on the countries as follows:

1. With the rise of neo-liberalism from the early 1980s, international trade in coffee has been radically transformed from a managed market, in which governments played an active role, to a free market…This market liberalization, and its price effects, had a major impact on many smallholder producers, as noted (see also NRI 2006).

2. Domestic market liberalization. Many producer countries undertook market reforms during the 1990s as part of the structural adjustment programmes promoted (or imposed) by the International Monetary Fund and World Bank (International Financial Institutions or IFIs).5 The outcome of these reforms continues to be debated, but some common trends noted in the literature include: a higher proportion of the export price paid to farmers; increasing price volatility following the abolition of price stabilization mechanisms; much more constrained access to credit for farmers and traders; more involvement of the private sector and a loss of market share for cooperatives and former parastatals. Finally, coffee market reforms have also often led to deteriorating coffee quality (Ponte 2002). Nonetheless, Ponte suggests that ‘market liberalization may be the best option for some countries, and that highly regulated markets may be the best for others, even within the framework of the same commodity’ (2002, 270).

3. I in addition to the changing policy environment, coffee has witnessed structural changes in global supply and demand. One major area of change is the dramatic expansion of Robusta production in Vietnam during the 1990s and Arabica production in Brazil where innovative low-cost production systems have been developed.6 The increase in both the quantity and quality of Brazilian and Vietnamese coffees has resulted in a strengthening of their domination of different market segments, which in turn is increasingly marginalizing other producers (NRI 2006; Lewin et al. 2004). Changes are also taking place in the nature of demand with the unprecedented growth of branded ‘niche’ products, such as specialty/gourmet, organic, fair trade, eco-friendly (such as shade-grown and bird-friendly), decaffeinated, flavoured coffees and so on. In many cases, coffee buyers’ requirements are focusing on higher quality and consistency (same quality for repeat delivery); traceability of origin as well as economic, social and environmental ‘transparency’; and capacity for direct long-term partnerships between producer and roaster (NRI 2006).

Technological changes in roasting and grinding also have important implications, allowing for more flexibility in blending and greater use of Robusta coffees. Roasters adapted to changes with new roasting technologies such as steaming, and found new ways of reducing the acidity of Robusta coffees. In addition, Scholer (2004) argues that flavoured coffees can use cheaper (lower-grade) beans as well as coffee drinks such as cappuccino or café latte in which coffee is only one of the several ingredients. In his view, ‘market trends and new technologies are in many instances working against producers’ interests’ (2004, 10) with some new technologies clearly driving down quality.

4. Other analyses of the world coffee market have focused on the shift of power in the global commodity chain, whereby value disproportionately accrues to actors downstream such as traders, roasters and retailers at the expense of coffee producers (NRI 2006). In particular, so-called ‘global value chain’ (GVC) analyses of coffee have blossomed in recent years, with an emphasis on chain governance structure and the distribution of power along chains (Ponte 2002; Daviron and Ponte 2005). 7

The loss of market power of coffee producing countries, and the loss of market share by some of them, in the reconfigured global coffee value chain is closely related to changes in the policy environment (market ‘reform’). The abolition of marketing boards has further reduced the capacity of farmers to raise their share of value-chain rents (Fitter and Kaplinsky 2001). According to Ponte (2002), the post-ICA regime can be labelled as a ‘roaster-driven’ chain, where producing countries’ governments have lost most of their bargaining power and the roaster and trading segments of the chain are increasingly concentrated. According to Scholer (2004), five international coffee trading houses have captured an increasing share of the coffee trade, covering about 40 per cent of the total volume of green coffee imports worldwide. In a similar fashion, ten roasters account for 60–65 per cent of all sales of processed coffee, most of which is sold under brand names. 8 There has also been a dramatic increase of retail coffee shop groups such as Starbucks in recent years.

The unequal distribution of total incomes, reflecting this asymmetrical character of power in the coffee value chain, is clear. At the end of the 1980s and part of the 1990s, coffee producing countries received around US$10–12 billion per year for their export. In 2003, however, they received US$5.5 billion, less than half as much. Meanwhile, the coffee industry in consuming countries has been moving in the opposite direction, with a continued growth in the annual value of retail sales from around US$30 billion in the 1980s to around US$80 billion at present (Osorio 2004; UNDP 2005).

In a recent study, Daviron and Ponte (2005) seek to explain what they call the ‘coffee paradox’: a ‘coffee boom’ in consuming countries and a ‘coffee crisis’ in producing countries. 9 For them, market power is not simply about controlling market share, but also about the ability to define the ‘identity’ of a coffee or ‘the ability to set the language and the reference values that determine production norms and quality standards’ (2005, xvii). Using a theoretical framework combining ‘historical political economy’, GVC analysis and Convention Theory (CT), they argue that the ‘coffee paradox’ reflects the growing difference between coffee sold on international markets as a ‘commodity’ (that is, defined by its physical characteristics) and coffee sold as a final product to consumers. Farmers and producing countries sell coffee for its ‘material quality’ attributes, while consuming country operators downstream create and appropriate value by selling the ‘symbolic’ and ‘in-person service’ attributes of coffee. Therefore, while producers can improve value added to a certain degree by improving the ‘material’ quality of coffee, they have much less control over other (‘symbolic’ and ‘in-service’) attributes dominated by actors downstream and where most value is added in the chain (NRI 2006).”

This study sheds light on the extent and complexity of the global coffee trade. The question is, how are the poorest countries, such as Ethiopia, faring. The next posting will discuss the state of Ethiopia’s coffee sector and how it is impacted by the workings of the world coffee market.

The definitive version of the paper is available at www.blackwell-synergy.com.Should you need a copy of the paper for use according to Journal and Blackwell Publishing’s Terms & Conditions, you may contact me at poorfarmer@gmail.com.
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Source: Journal of Agrarian Change, Vol. 7 No. 2, April 2007, pp. 225–263.
© 2007 The Author.
Journal compilation © 2007 Blackwell Publishing Ltd, Henry Bernstein and Terence J. Byres.

Nicolas Petit, 75, Avenue de l’université, 1050 Bruxelles, Belgique. e-mail: npetit13@hotmail.com

This article is based on a dissertation submitted at the School of Oriental and African Studies, Department of Development Studies, in September 2006. I am grateful to Sergio Giorgi for his support and Surendra Kotecha for his encouragement, insight and constructive criticism during work on the dissertation. Henry Bernstein gave detailed comments on various drafts of this paper, which were extremely helpful in revising it. The usual caveats apply.