The macroeconomic environment underlying this medium term Outlook, based on the OECD’s and World Bank’s medium term economic projections from December 2008, continues to evolve rapidly due to the ongoing financial and economic crisis. Because of the turmoil in the economic environment, the baseline projections must be interpreted with caution. The possible impacts of this deteriorating economic crisis on the baseline projections have been analysed both qualitatively and quantitatively within the present report, although an assessment of the full impact of the current global credit crunch and economic contraction on agricultural markets goes beyond the scope of this Outlook.

There is unprecedented international interest in the issue of food security. This is not surprising given the total number of undernourished people in the world reached 963 million in 2008, nearly 15% of the world’s population. The World Bank’s 2008 World Development Report launched this revival by calling for greater investment in agriculture in developing countries if the goals of halving extreme poverty and hunger by 2015 are to be realised. An FAO conference in 2008 stressed that food security was one of the biggest challenges of the century, noting that increased agricultural investment and enhanced productivity was crucial. The 2008 G-8 Summit in Japan called on agricultural ministers to draw up concrete proposals on world food security and a UN Task Force on Global Food Security was set up to promote a unified approach to emergency relief and renewed investment in agriculture.

This year’s Outlook was produced under highly unusual circumstances. The financial turmoil that started with problems in sub-prime mortgages in the United States evolved into a real estate slump following the bursting of the housing price bubble which morphed into a severe credit crunch that has spread into the real economy across many countries in different regions. These developments have shattered the decoupled illusion between the crisis-hit economies of the west and emerging economies. Globalisation, with its expanded supply chains and international financial flows, has created an even more interdependent world and now it seems that all countries are linked. The result is lower output and higher unemployment world-wide, shattering consumer confidence while bringing trade and international capital flows crashing down. At the time of writing, April 2009, the global economy is in the middle of its deepest and most wide-spread recession in more than 50 years. The collapse of industrial production over the past six months is continuing in almost all OECD countries, and with non-OECD countries also slowing, world growth has turned negative. What is more, it is not clear that the worst is behind us or the speed of eventual recovery.

All markets related to biofuels have undergone a rollercoaster ride in 2008. After the passage of the Energy Independence and Security Act (EISA), signed into US law in December 2007, and the proposal by the European Commission for a new Renewable Energy Directive (RED) in January 2008, signals for accelerated growth in the production and use of biofuels were set. Crude oil prices, which started the year just below USD 100 per barrel on a steeply rising curve, had increased public and private interest in biofuels during the first half of the year, while at the same time soaring prices for feedstock commodities squeezed producers’ margins, particularly as biofuel prices rose by much less than those for crude oil. At the same time, these high feedstock prices also meant skyrocketing food costs for poor consumers, providing fuel for the wider debate on “food versus fuel” and exacerbating strongly held – though to a large part exaggerated – concerns about the responsibility of increasing biofuels demand for rising food prices.

Cereal markets in 2008 endured an exceptionally turbulent year. Prices climbed to historically high levels in nominal terms and then fell sharply. Wheat prices soared to their peak in March, rice peaked in May while the run up in maize prices continued through June 2008. The high cereal prices encouraged farmers to increase plantings and this, together with favourable weather conditions in many important growing regions, boosted world cereal production to a new record in 2008. But the increase in crop production was not the only reason for the decline in international prices. Driven by financial crisis in the United States, and a spreading economic slowdown, crude oil prices tumbled after reaching a peak in July. The decline in energy prices contributed to a slower production growth of biofuels than anticipated earlier which, in turn, reduced feedstock demand below previous expectations, particularly of maize for the production of ethanol in the United States. Lower crude oil prices had a substantial impact on the price of maize (and wheat) which ethanol producers have been willing to pay for feedstock. At the same time, the US dollar began to rebound against major currencies and this development also put further downward pressure on prices, particularly on export prices of wheat and major coarse grains. By the end of 2008, the sum of these macroeconomic factors became the dominant feature, shaping price movements of nearly all commodities, cereals included. The severe world economy slowdown and shrinking global liquidity forced investors and speculators to flee the commodities markets, a possible further downward pressure on prices especially in wheat and maize markets. On the other hand, rice prices have continued to be influenced by government policies in major exporting countries.

The gradual upward trend in prices for oilseeds, oils and meals that started in the 2005 marketing year accelerated during the course of the 2006 marketing year. In the first half of calendar year 2008, prices for all three product, groups peaked at levels not recorded for decades, only to drop again sharply during the second half. The lingering price strength since the beginning of the 2007 marketing year reflected a tighter global supply and demand outlook for oilseeds and derived products, as well as spill-over effects from related grain markets. Stronger maize prices resulted in shifts in land allocation at the expense of soybeans which halted the rapid oilseed area expansion seen in previous years. As a result, seed-derived protein meal and oilseeds oils availability stagnated in 2007 and 2008. Because of the continued expansion of palm oil production, the oils and fats sector was less affected, yet steadily expanding food and biofuel feedstock demand resulted in tightening oil and fat markets. These developments made marked reductions in inventories of oilseeds and products inevitable, causing stock-to-use ratios for oils and meals in 2007 to fall to critical levels. Compared to the 2006 season, these developments led to an increase in international oilseed prices by almost 70% during 2007.

In the lead up to this year’s Outlook, the world sugar market was basically out of sync with developments in other commodity markets which experienced rapidly rising prices stoked by fears of pending food shortages with permanently rising demand and tight supplies. This market psychosis also spilled over to sugar to some extent, although with adverse fundamentals of two consecutive large world crops and a large global surplus, sugar prices were outperformed by most other commodities in 2006 and 2007. The changes in sugar prices that occurred were linked by the market to mainly non-sugar factors. Since the second half of 2008, however, many of these other commodity prices have imploded by 40-50% from their mid-year peaks. In contrast, the world indicator price for raw sugar (Intercontinental Commodities Exchange No. 11, spot, f.o.b. Caribbean ports) and white sugar (Refined sugar price, London Euronext, Liffe No. 5, f.o.b., price, Europe), showed a comparatively moderate development throughout 2008, although with considerable within year volatility. In early 2009, world sugar prices have rallied with their re-connection to fundamental factors based on an emerging, medium-size, global deficit as the constructive force behind near term price changes.

Unlike cereals, oilseeds and dairy markets, meat prices did not show a spectacular development in 2008. This is partially explained by the relatively limited role meat plays as a staple and the limited storage capacities, that make panic-buying unlikely. High cereals prices translate into high feed costs in production systems where cereals play an important role as feed. However, producers have only limited ability to respond to suddenly increasing feed costs as production decisions are taken in the beginning of the production cycle and cannot respond quickly to price signals. These two factors are probably the most relevant in explaining why meat prices remained rather stable during the recent turbulent period. These high feed prices combined with moderate livestock prices represented a challenge to livestock farmers. The prices for cereals and consequently for feed have decreased significantly since the middle of 2008, easing some of the pressure on livestock farmers.

Strong expansion in demand and a squeeze on supply resulting from adverse weather and high production costs caused international prices to rocket in 2007. The market situation reversed dramatically in the course of 2008, to some extent a logical consequence of an unprecedented run-up in prices. Demand retreated as dairy ingredients were quickly being replaced by cheaper substitutes in food manufacturing. Overall, supply increased in reaction to strong price incentives while demand retreated, but the response on all these fronts has been stronger than anticipated and the drop-off in world demand ensuing from the global economic crises has intensified the downward pressure on dairy prices.

This section provides information on the methodological aspects of the generation of the present Agricultural Outlook. It discusses the main aspects in the following order: First, a general description of the agricultural baseline projections and the Outlook report is given. Second, the compilation of a consistent set of the assumptions on macroeconomic projections is discussed in more detail. A third part presents an important model element that has been improved for this Outlook, i.e., the representation of production costs in the model’s supply equations.