Minister Zokwana’s Strategic Grain Reserve a costly option

Recent reports have quoted Minister Senzeni Zokwana alluding to government’s considered intent to establish a strategic grain reserve. At face value, it sounds quite rational, especially in light of recurrent droughts and emerging high food prices. But in practice, it could spell serious negative consequences, especially for a mature and advanced market like South Africa. Before I explain why a strategic grain reserve is problematic, let me get a few “principle” issues out of the way.

First, a strategic grain reserve can either be in the form of cash or physical stock. However, people often associate the term with the latter, where parastatal Boards hold actual physical stocks. The mechanism of stock holding works in two ways:

  • The Board releases stocks into the open market, OR
  • They roll over the stocks into the next marketing year.

The former depresses grain market prices and creates uncertainty for private sector, while the latter often leads to high levels of crop wastage as well as exorbitant costs of storage. I will come back to this point later.

Secondly, in many countries where strategic grain reserve policies are implemented, the Board purchases grain from farmers at above market price, and sells the grain into the market at below market price. The difference between the purchase price and the selling price – which is an effective subsidy – needs to be accounted for under what is called the Amber Box (i.e. an envelope of somewhat trade distortive support, otherwise called the Agricultural Market Support (AMS) in WTO terminology). South Africa is currently allowed to use just over R2 billion in AMS under its WTO commitments.

Let us consider an example of South Africa’s Maize Board. During the pre-1994 market control era, South Africa’s Maize Board usually purchased maize from farmers at prices that were above world-price in most years. If we take the 1985/6 season, as an example, the Maize Board offered a price that was R71.83 per ton above the world price. If, for instance, the current R2 billion AMS applied to that period, then the R71.83 per ton maize subsidy would imply a total maize subsidy of R578 million – which in turn, would translate into 29% of the South Africa’s AMS allowance. This maize subsidy would then be added onto other agricultural subsidies that South Africa provided for other commodities, such diary, wheat, soybean etc. – all of which should normatively amount to R2 billion, in order for South Africa to remain compliant to its WTO commitments.

Having said that, there is yet another subsidy allowance that is offered to developing countries in terms of support.  The WTO allows that developing countries limit their stock holding as follows:

  • They should not exceed 10% of the value of product-specific output, and
  • They should not exceed 10% of the value of non-product-specific output,

They call this provision de minimis, which is essentially an abbreviated form of the Latin for de minimis non curat lex which actually means that “the law cares not for small things”.

Under this provision, the difference between the Board’s purchase price and selling price should not exceed 10% of the gross value of maize production in a specific year. For instance, in 2016, the product-specific de minimis provision for maize was R2.8 billion. So if the maize subsidy (the price difference between the purchase and selling price) exceeds R2.8 billion, then the excess amount beyond R2.8 billion must be allocated into the Amber Box – under the product specific support base.

But there is another caveat though. If for example, South Africa had a Maize Board in 2015/16, and if that Maize Board provided a maize subsidy that exceeded R2.8 billion, the excess subsidy would still make South Africa WTO complaint IF it’s total value of all agricultural subsidies were less than R24.7 billion (the 10% of the value of overall agricultural production (non-specific support)) in 2015/16. Therefore, there is substantial scope for South Africa to implement a grain reserve under its AMS commitments and de minimis provision.

If the Board purchases and sells grain at market price, (and hence zero subsidy,  and no trade distortion), the stock holding programme would fall under the Green Box (i.e. non-trade distortive support). Under this scenario, there will be no limit to what government can spend in a grain reserve.

Having said that, the Minister was quoted to have mentioned Zimbabwe and Zambia as key countries that have existing grain reserves. I would quickly caution here that Zimbabwe’s grain reserve was never fully implemented under the post-1992 era of agricultural market deregulation.

In a research article which I published in 2013, I found no evidence to suggest that Zimbabwe ever reached its physical stock reserve policy – neither in the form of a 500 000-ton of physical stock nor a cash reserve. While I stand corrected, my impression is that Zimbabwe does not serve as a good illustration to justify the Minister’s argument.

A better illustration would be Zambia, which has a comparatively better functioning stockholding programme under its Food Reserve Agency (FRA). Zambia has a public stockholding mandate which includes a minimum procurement rate of 25% of total production. It is difficult to verify how much of that is actually procured – as the FRA’s planned purchases are not always achieved.

In the 2015/16 season, the FRA was reportedly buying maize at K75 per 50 kg bag of maize, which was well below the national average market price of around K87.50 per 50 kg. Using the season’s average ZMW/US$ exchange rate of K9.70, it means that the market price was US$180.47, against the FRA’s was purchasing price of US$154.69. Since the FRA was purchasing grain at 14% below market price, and 3% below the world price, of US$159.16 per ton, this would not count as a subsidy. In this instance, the FRA can purchase as much maize as it wants, and still be WTO compliant.

We cannot challenge the argument of a strategic grain reserve on the basis of WTO compliance. However, we can challenge it on the basis of cost, because it is the cost dimension that makes the strategic grain reserve approach highly questionable.

In terms of cost, if we assume that the FRA kept a reserve stock of 500 000 tons throughout the entire 2015/16 marketing season, and stored this grain at a cost of US$2.50 per ton per month, then the cost of maize would amount to  US$77 million, plus an additional cost of storage in the order of US$15 million. Assuming administration and procurement fees of 20% of total purchase and storage, Zambia’s strategic grain reserve would cost an estimated US$111 million per year. If estimated at the average Rand/US$ exchange rate of R13.80 between 1 April 2015 to 31 March 2016, it translates to an eye-watering R1.5 billion.

South Africa produces four times Zambia’s maize production, and has three times its population. So, a strategic grain reserve in South Africa will be considerably larger than that of Zambia, and will obviously cost much more.

But how much more would this cost be? Let’s assume that the strategic reserve entails a designated authority (i.e. a Maize Board, for example) that is mandated to procure 25% of total white maize production for human consumption. Lets further assume that this Board will purchase and sell at market price (i.e. zero subsidy). The Minister’s proposition would imply purchasing 1.7 million tons, which, on the open market, would cost R6.8 billion. The grain would attract an additional R702 million in storage cost. Add 20% in administration and procurement fees, and you come to a staggeringly silly total of R9 billion.

Does South Africa really need to spend that much money for something that the market can do at no extra cost? I think not. Why not consider other options instead. For instance, let’s have a cash reserve that can be ring-fenced by Treasury as an emergency fund to be used, as and when needed, rather than keeping physical stock. Or better still, why not invest less than 10% of that money in promoting seed research and adoption of drought-tolerant maize varieties? I would further argue that a modern agricultural sector such as South Africa’s does not need an archaic stockholding programme. Rather, it needs more progressive and efficient market policies that foster access to food at a much lower cost. A stockholding programme will be hugely disruptive to markets, and in the long run, even discourage private sector investment.

**Many thanks to Hilton Zunkel (HiltonLambert Practioners of Trade Law) and Gunter Muller (Department of Agriculture, Forestry and Fisheries (DAFF)) for their invaluable comments to this article.

1 thought on “Minister Zokwana’s Strategic Grain Reserve a costly option”

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s