October 02, 2012
Horse 1369 - Fair Trade Is Fair But Dumb
The whole concept of so called Fair Trade to me seems somewhat flawed. Whilst the idea that well off people living in the First World are willing to pay slightly more to ensure that profits from the sale of goods and services sounds like a well meaning and well intentioned venture, we fly square in the face of the basic supply and demand problem which establishes price.
Firstly a review of the concept of "the market":
In general, people who demand goods and services will tend to want more of a particular product as the price per unit falls. Counter to this the sellers of those sane goods and services will tend to want to supply less of those goes and services as the price falls but want to sell more of that same product as the price rises.
However, as the price rises, the quantity demanded by buyers falls.
The two forces of supply and demand are perpetually engaged in a weird little dance and as conditions change, the prices and quantities also change.
Good so far? Now for the problem.
So called Fair Trade has the distinct problem of nudging the dancers. If people in the First World feel altruistic and want to pay extra for a good because it makes them feel better, then this has consequences.
Suppose there exists a Fair Trade program for a theoretical product called "Skrtel Nuts" (Skrtel Nuts are very very hard and Skrtel Nuts are ground with a mortar and pestil to produce a drink which is marketed as "Harden Up"). Farmers in the hypothetical country of Elbonia will notice that there has been a shift in the demand price for Skrtel Nuts and as a result; because they expect more profit from farming Skrtel Nuts, they will shift production accordingly.
Sounds fine so far but what of the other farming produce of Elbonia?
Because there are now more farmers farming Skrtel Nuts, this will lead to supply shortages of other foodstuffs because it stands to reason that farmland devoted to Skrtel Nut production can not be used to grow wheat or corn or some other foodstuff at the same time. Shortages of produce tends to push the price of those goods and services higher and consequently, the people of Elbonia will be paying more for those goods and services than they would otherwise.
Although some farmers in Elbonia are marginally better off, having switched to Skrtel Nut production, the rest of the people not employed in this industry suffer higher prices without subsequent increases to their wages.
Don't think that this can't happen in the real world? Perhaps a small peek into history is in order. In 2001 world coffee production as a result of two Fair Trade programs (especially in places like Bolivia and Colombia) drove world coffee production to 115 million bags. The problem was that world coffee consumption for 2001 was only 105 million bags; thus there was a 10 million bag overrun.
Coffee isn't like other commodities like iron ore or steel in that if there is a production overrun, the excess can not be stored that easily because it perishes. By mid 2001, most of the 10 million bag overrun of coffee was simply being dumped into the Atlantic Ocean; yet because there were still contracts in place, farmers were still being paid to produce more coffee.
It sounds incredible but as a direct result of Fair Trade programs (in this case the two biggest drivers were Nestlé S.A and Kraft Foods), for three years farmers were being produced to grow coffee which world markets could not absorb only to have it destroyed.
"According to a report by Oxfam, the coffee lake was partly encouraged by multinational companies encouraging coffee production around the globe. Vietnam is given as an example: a decade ago it was a minor producer; today it is one of the biggest. In Bolivia and Colombia growers of coca, the raw material for cocaine, were urged to turn to coffee instead."
- The Guardian, 18th Jun, 2001
The most likely place where I'm likely to encounter Fair Trade policies in my trip around the supermarket (since I don't tend to drink Fair Trade coffee) is that little panel on purple packets of piquant, palatable, pleasant pabulum thanks to John Cadbury's sons.
Chocolate or rather properly cocoa is almost exclusively grown in the tropics, which means to suggest that by a combination of history and coincidence that almost all the cocoa in the world is grown by less developed nations and is therefore more likely to be swayed by the dangling carrot of fair trade programs; specifically those by Cadbury.
"This creates a fantastic opportunity for you to make a real difference to the lives of families in developing countries such as in Ghana.
Our Fairtrade commitment has generated significant social premiums for cocoa farmers. In 2009 and 2010, we were the world’s largest buyer of Fairtrade certified cocoa."
- Cadbury Website, as at 1st Oct, 2012
Cadbury is the world’s largest buyer of Fair Trade certified cocoa. Does this then, if by their own admission, that although they will pay a higher price for their cocoa, they able to then put up the end prices to the consumer by a suitably higher amount (and pocket the margin)?
Perhaps more importantly because Cadbury is prepared to pay more for the product, as a price maker they're able to draw more of the suppliers to deal with them exclusively and thus corner the supply of the product. By an exercise of market power and at the cost of short term pain, they'd be able to lock in farmers to longer term contracts; thus blocking other firms like Nestle, Hershey or Mars out of those markets entirely. Fair Trade isn't then necessarily done with the intent of making people's lives better but extracting more profits from consumers but making them feel all warm and fuzzy for having done so.
The above circumstance doesn't sound an altogether bad idea at first glance because in theory it "guarantees" the conditions of a contract and should make revenue streams for the farmers and suppliers predictable but you have to remember that contracts are almost always invariably written in the favour of those with the most market power. One of the most shocking cases of this was The Body Shop's contracts with farmers of ten villages in northern Ghana in the purchase of Shea Nut Butter in 1994 at US$2.02/kg (the then market rate was about US$1.60) and then after the predictable glut of four times what The Body Shop wanted, it scaled back the orders for the next season; thus leaving those ten villages with no obvious income at all after the crop had been planted.
Fair Trade programs appeal to the moral reasoning within us but unfortunately moral reasoning does not follow the same rules as economics and the most fundamental mechanism in economics no matter which system you happen to be in be it unregulated Laissez-faire capitalism or completely regulated communist socialism with all points in between is the price mechanism. Fair Trade programs are like adding an incentive to the market and like any other human endeavour, as soon as you add an incentive, you change how the game is played. In the case of Fair Trade with respect to the market, the game changes to produce unintended wastage in almost every case to respond to the level of incentivisation.
Fair Trade programs unfortunately tend to exist only on luxury goods. The main reason for this is because the market for most commodities is such that as soon as there is a shift in prices, the market reacts very quickly. There is no fair trade program for goods like Kent Pumpkins or Bananas for this reason.
From a more general perspective, history has shown that the countries which tend to benefit the most from trade programs are those whose economies shift from agriculture to more elaborately transformed manufactures like electrical goods or machinery. It is no accident that countries like Thailand which now produces Toyotas or Vietnam which produces Nike shoes have had far more economic benefits as a result of producing those goods than any Fair Trade program.
Posted by Rollo at 00:11