BPEA | Fall 2016

Macroeconomic effects of disruptions in global food commodity markets: Evidence for the United States

Fall 2016

We use two approaches to examine the macroeconomic consequences of disruptions in global food commodity markets. First, we embed a novel quarterly composite global production index for the four basic staples (corn, wheat, rice and soybeans) in a standard vector autoregression (VAR) model, and we estimate the dynamic effects of global food commodity supply shocks on the US economy. As an alternative, we also estimate the consequences of thirteen narratively identified global food commodity price shocks. Both approaches deliver similar conclusions. Specifically, an unfavorable food commodity market shock raises food commodity prices, and leads to a rise in food, energy and core inflation, and to a persistent fall in real GDP and consumer expenditures. A closer inspection of the pass-through reveals that households do not only reduce food consumption. In fact, there is a much greater decline in durable consumption and investment. Overall, the macroeconomic effects turn out to be a multiple of the maximum impact implied by the share of food commodities in the consumer price index and household consumption.

food basket

In “Macroeconomic effects of disruptions in global food commodity markets: Evidence for the United States,” Jasmien De Winne and Gert Peersman of Ghent University find that unanticipated declines in global food production impact the U.S. economy more than previously thought, increasing not only food prices but also core inflation and even energy prices, and ultimately causing a persistent decline in real GDP that can extend for up to two years.

The authors’ analysis estimates the effects on the U.S. economy of shocks to global food markets over the past 50 years. They find that from 1963-2013, a supply-driven rise in real food commodity prices by 5 percent leads to a 0.5 percent rise in consumer prices, and lowers GDP growth by 0.8 percent in the following year—the output effects are comparable to the consequences of a 10 percent oil price increase. Overall, food commodity supply shocks explain about 7 percent of U.S. business cycle fluctuations.

Furthermore, the authors find that as food prices rise, U.S. households reduce spending not only on food, but on other goods and services, too, creating a much greater decline in durable consumption and investment. These indirect effects of rising food prices are about four to six times larger than the maximum direct influence that food commodities may have on the consumer price index and personal consumption.

The authors compare their estimates on food supply shocks to the impact of similar economic shocks, such as to the global crude oil supply. They find that the impact of a rise in real food commodity prices on economic activity is roughly twice as large as the impact of a rise in crude oil prices of equal size, and that while the dynamic effects of both shocks on real personal consumption are more or less the same, the average food supply shock has a slightly stronger and more persistent impact on consumer prices than the average oil supply shock.

Rising food prices have a greater impact on the US economy than rising oil prices

They highlight, that both types of shocks cause monetary policymakers to respond in different ways. A food price shock of 5 percent increases the Federal Funds rate by 24 basis points (a rise in 10 basis points leads to a fall in real GDP between 0.05 percent and 0.1 percent), whereas the rate decreases by 20 basis points, on impact, in response to a 10 percent oil shock. In other words, monetary policy seems to amplify the consequences of food market disruptions on economic activity. The authors estimate that monetary policy response to food market disruptions can potentially explain almost one-third of the effects of the shock.

Given the substantial rise in the use of food commodities to produce energy goods, the research into the relationship between food supply shocks and the macro economy is increasingly important. Quantitative evidence can not only inform business cycle fluctuations, but also help policymakers assess the usefulness of food security program like SNAP or design optimal monetary policy responses to changes in food prices.

The authors highlight that the evidence will become even more important in the years ahead, as the consequences of climate change increase the likelihood of significant weather shocks to agriculture.

“In sum, the macro effects of food market disturbances are compelling, and should be taken into account for business cycle analysis, countercyclical policies, public risk management schemes for the stabilization of food markets, and the assessment of climate change and policy measures that may influence food prices,” they conclude.

This paper is part of the Fall 2016 edition of the Brookings Papers on Economic Activity, the leading conference series and journal in economics for timely, cutting-edge research about real-world policy issues. Research findings are presented in a clear and accessible style to maximize their impact on economic understanding and policymaking. The editors are Brookings Nonresident Senior Fellow and Northwestern University Economics Professor Janice Eberly and James Stock, Brookings Nonresident Senior Fellow and Harvard University economics professor.