The Wild World of Coffee Prices

CoffeeIn August 2018 the price of washed arabica coffee fell below US$1 per pound on the Intercontinental Exchange, the world’s leading commodity marketplace. A month later it bottomed out at US$0.95, a 12-year low. In the ensuing months it crept up slightly, although never enough to spark hope for smallholder coffee farmers, and then resumed its downward path. By the end of 2018, coffee futures were again trading below US$1.

Even back in 2016, at the dawn of this present slump, coffee wasn’t fetching much. Now, when adjusted for inflation, prices are almost as low as they were during the pit of the 1989 coffee crisis.

”Smallholder coffee growers need to be profitable to keep farming and providing for their households,” said Sofia Molina, coffee account manager at Fairtrade Canada. “We need to ask, ‘Is the price of coffee sustainable?’ We pay the same price today as we did 30 years ago, but coffee farmers are making much less, accounting for inflation and depreciation.”

Coping with low prices, farmers cut fertilizers and other inputs. Their yields suffer. If this trend continues, smallholders could abandon coffee, leaving the market to plantations that grow java on the cheap. Already, young people are trading life on the family farm for other opportunities. Low coffee prices accelerate this migration.

Why Are Coffee Prices Low?
Coffee is complex, and multiple factors contribute to low prices. Big harvests, combined with existing surplus, have resulted in a saturated market. People drink a lot of coffee but not enough to keep pace with production. During the 2017/2018 market year, the International Coffee Organization estimates that producers cranked out an estimated 155 million kilograms that didn’t get roasted, ground, and brewed.

Like other soft commodities—cotton, sugar, and wheat—coffee reaches the market at set times during the year. During harvest, prices wane. For coffee buyers, this is the best time to buy, yet shipping massive orders across continents requires advance planning. Importers need to make sure they have enough coffee to fill orders. Because varying crop yields and quality creates uncertainty, buyers simply can’t wait around for the cheapest price on whatever is left. Coffee is too wild, unreliable. Similarly, farmers want to avoid selling into a surplus market.

FTCCoffee Futures: Paper Prices and the Physical World
With futures contracts, agreements to buy or sell coffee for a set price at a specific date, importers can plan shipments, and farmers can negotiate above-market prices for delivery when supply is at its height.

But futures contracts aren’t exactly risk free, and trading them isn’t limited to farmers and importers. With regional and seasonal differences in crop yields and quality, coffee presents a lucrative opportunity for futures traders. So lucrative in fact that the futures trade dwarfs actual trade and influences the prices farmers receive.

Originally designed as a way for growers and importers to control risk, the futures market today is driven by investors, of whom most will never see a single green coffee bean. Yet the C price, the price per pound for coffee on futures contracts, serves as a starting place for most commercial-grade coffee deals.

Why? Because the trade of futures contracts reflects the actual market for coffee, even though most futures contracts are traded in paper only.

Since the coffee harvest varies from year to year and region to region, the C price is especially sensitive to rumours, forecasts, and world events. Whether it’s reports of extra rain, El Niño, or delivery drivers on strike, traders react and the C price fluctuates.

Adding to the complexity are commodity funds that lump together oil, coffee, corn, and more. Fund managers, to maintain a stable return, will buy or sell one commodity to compensate for the changing price of another, affecting the market for both.

Successful futures traders make money whether the price goes up or down. When prices decline, traders sell their contracts and take up a short position, essentially a wager on lower prices. As more traders adopt similar strategies, the C price declines further.

And that’s what happened in August 2018. Thousands of futures contracts, worth about $20 million bags of coffee, bet on falling prices—this speculation piled up, and helped push coffee prices into the ground.

Historical Volatility
To keep track of all the coffee crises, the industry has labelled them by year. 2018 is just the latest. There was 1989, when the long-standing provider of global coffee stability, the International Coffee Agreement (ICA), disintegrated. This happened because, among other factors, the United States couldn’t broker new quota agreements with Colombia and Brazil, the world’s leading arabica producers. The market flooded and prices sank. At its worst, coffee was trading for less than 50 cents per pound. In 1997, the market reached a 20-year high, in part due to a devastating frost that struck Brazilian crops in the mid 1990s. Next was 2000. Prices fell when Vietnamese producers scaled up robusta production and frost-free Brazil bounced back with record harvests.

VoloCoffee: Controlled by Buyers
By the new millennium, the deck had been shuffled, and the aces—profits and wealth—were in new hands. Before the ICA crumbled in 1989, world coffee sales were about US$30 billion, with producing nations receiving around US$10 billion of that revenue. In 2001, the global market was US$80 billion but producing nations were earning less than US$6 billion.

Big companies that once relied on smallholder arabica to make their blends palatable were now cutting in more robusta, thanks to new technologies that could effectively assuage the latter’s less savoury characteristics.

Then the price went up. When Fairtrade International set its current Minimum Price (US$1.40), in April 2011, coffee was trading near US$3.00 a pound. Over the next few years, coffee fluctuated. Central American and Colombian producers battled leaf rust. Brazil endured drought. Meanwhile, other growing regions churned out java. When Central American, Colombian, and Brazilian yields recovered, warehouses once again teemed with beans.

By late 2016, coffee began its present tumble. Industry forecasters predicted excessive supply and futures traders speculated on lower prices. At the end of 2017, experts looked into their crystal balls and saw lighter harvests from Brazil. Some believed there wouldn’t be a surplus. They were wrong. Last spring Brazil began harvesting what could be a record crop; the latest estimates say 60 million bags. The price of arabica hit a two-year low and kept falling.

Coffee Prices and Living Income
The current Fairtrade Minimum Price is US$1.40 plus an additional US$0.30 for organic and the Fairtrade Premium of US$0.20. Does this provide a living income for smallholders?

“There’s not one break-even point,” said Molina. “The costs of production vary per region, per country, and even among farmers in the same co-op. The Fairtrade Minimum Price is designed to help cover these costs.”

Presently, Fairtrade International is researching production and living costs in five coffee-growing countries with the goal of clearly understanding living incomes for farmers and their households.

In the meantime, the organization continues to work with smallholders to develop their businesses and navigate the global market. In 2018, Fairtrade provided training in price risk management for over 200 small producer organizations, helping them establish business strategies to stay competitive in a tough industry.

“We’re proud that Fairtrade is about pricing and profitability,” said Molina. “It’s also about the environment and people. That makes it a strong system. When it comes to sustainability, all three work together to create a real difference for smallholder farmers.”

Looking Forward
With a record Brazilian crop on its way, the global surplus will surely carry over to next year, keeping prices low or possibly driving them lower.

“When prices are low, more farmers are attracted to Fairtrade,” said Molina, “and this means there’s more Fairtrade-certified coffee on the market.” Yet demand for Fairtrade coffee isn’t increasing at the same pace. On average, around 30 percent of Fairtrade coffee is sold on Fairtrade terms. According to Molina, “Established co-ops sell more than 30 percent and newly certified co-ops aren’t quite reaching that level.”

Clearly, we need to drink more Fairtrade coffee.

While there is no easy fix for low coffee prices in a deregulated market, we as consumers have options: By buying and drinking Fairtrade coffee, we stand alongside small producers and their communities. By pushing for changes to government and institutional procurement, we stand against an unbalanced and unchecked system.

Author: Erik Johnson is managing editor of Fair Trade Magazine.

Originally published in Fair Trade Magazine - Winter/Spring 2019 Edition