AGRI Committee Report
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An Analysis and Comparison of Selected Canada - United States Input Costs Introduction Although much has been written about the spectacular increases in grain prices that have occurred in recent months, comparatively little has been written on the substantial increases in certain farm input costs that have rendered the bottom line of many farming operations less rewarding than might have been expected. Global factors linked to the normal interaction of supply and demand on world markets could certainly explain, at least in part, this rise in input prices. However, domestic factors related specifically to the Canadian market pose a challenge to the smooth operation of competitive markets and may also have played a role. In this report, the Standing Committee will present the background to the increase in input prices on Canadian farms, examine global and domestic factors that may account for this phenomenon, and make recommendations on mitigating the effects of increased input prices for Canadian farmers. Finally, in order to better assess if the lack of competition in Canada could be a contributing factor, the Standing Committee commissioned a study on Canada – U.S. farm input prices differences from the Thomsen Corporation. The Thomsen Corporation study is attached to this report. Table 1 shows average annual increases in various input prices from 2002 to 2006. The overall Farm Input Price Index (FIPI), as compiled by Statistics Canada, increased on average by 2% per year during that period. This rate was in line with concurrent increases in the consumer price index, which stood at 2.2% annually. However, because some productions are more sensitive to certain cost elements than to others, the increase in the overall farm input price index from 2002 to 2006 should be interpreted cautiously; that is to say, it is prudent to examine price increases with respect to the various components of the index. A glance at the evolution of the FIPI components between 2002 and 2006 reveals two notable elements that have increased more than the overall FIPI: fuel and fertilizer (see underlined cost components in Table 1). Table 1 — Average Annual Increase between 2002 and 2006 in FIPI Components
Source: Statistics Canada Given the rate of increase in oil and fertilizer prices in the very recent past, FIPI data for 2007, once available, will likely show that the trend toward higher input prices was even stronger in 2007. Paralleling the increase in oil and fertilizer prices was the spectacular increase in grain prices over the last two years. Figure 2 illustrates the increase in corn and barley prices in 2007. These two crops are widely used as production inputs in Canada in the raising of hogs and cattle. Figure 1 — Grain Boom: the Case of Corn and Barley
Source: CANFAX Although global factors are certainly propelling the boom in fuel, fertilizers and grain prices, certain domestic factors may also have played a role, as the following sections will demonstrate. A) Increase in Input Prices: Global Factors The term “global factors” refers to influences that shape the movement in supply and demand on world markets. Perhaps the best way to identify the global factors behind the increase in input prices is to take a historical perspective. Figure 2 provides an annotated representation of the evolution of monthly prices for grains, fertilizers and energy (termed “fuel and related products and power” in the graph) in the United States from 1968 to 2008. The evolution of US prices (represented in the figure in US dollars to avoid the exchange-rate effect) is used as a proxy for world prices. As Figure 2 shows, the synchronous movement of grains, fertilizers and energy prices is not a new phenomenon. Although the correlation is by no means perfect, there has been a tendency over the years for these three cost elements to move in the same direction for a period of time. This can be explained by the interaction of supply and demand. Figure 2: Evolution of Energy, Fertilizers and Grain Prices
1. Supply Side: The Domino Effect of Energy Costs
2. Demand side: Improving Global Economic Conditions and the Impact of Biofuels
Increasing demand for energy is often accompanied by an increasing demand for grains. One simple reason for this is that increasing global demand for energy is often the symptom of a global improvement in economic conditions. This increase in economic wealth in turn also puts upward pressure on global demand for protein (from grains in particular). These demand-side factors, which have been particularly evident in some developing countries in Asia in the recent past, are certainly an important aspect of the increase in energy and grain prices in the last few years.
Still
on the demand side, the development of biofuel production may have made the
link between grain and energy prices more direct. An increase in This increasing demand for grains eventually generates a correspondingly strong demand for fertilizer world wide. Not surprisingly, global consumption of the three main categories of fertilizer has shown important increases since 2001. Again, although data are not yet available, we might reasonably expect the percentages shown in Table 2 to be even higher for 2007. Table 2 — Increases in apparent global consumption of fertilizers, 2001 to 2006
3. Discussions and Recommendations on Global Factors The Committee notes the fundamental role played by energy in driving up input prices. Trying to predict the future direction of energy prices is no small matter. A collapse in global energy prices would likely be the result of a collapse in demand for oil, natural gas, or other energy sources, or a significant increase in supply, or both. A collapse in energy demand would likely be the result of a severe economic recession, which would likely imply a collapse in global demand for commodities, including grains and fertilizers. This would obviously have far-reaching implications, not only for grain prices, but also for the Canadian economy. A collapse in energy demand would therefore likely reflect a situation in which the cure is worse than the disease for Canadian farmers. An increase in energy supply in the context of steady economic growth would be the preferred situation for farmers, if such an increase succeeded in curbing energy prices. However, such a scenario could have unintended consequences on grain demand and prices through its effect on biofuel prices. A collapse in energy prices would likely imply a decrease in ethanol prices. Such a scenario, if grain prices remained high, would spell very difficult times for ethanol producers. This could ultimately lead them to cut back on production, which would decrease demand for grains. The outcome on grain prices of this scenario would therefore be uncertain.
Recommendation 1 The Standing Committee on Agriculture and Agri-Food recommends that Agriculture and Agri-Food Canada review the current functioning of agricultural programs to see how they can be used, or modified, to better allow farmers to time the purchase of their most important needs when prices are most attractive. Recommendation 2 The Standing Committee on Agriculture and Agri-Food recommends that Agriculture and Agri-Food Canada communicate with farmers the outcome of this review by providing concrete examples of how current programs could be used in order to better time the purchase of their production inputs. B) Increase in Input Prices: Domestic Factors Domestic factors refer to all the elements potentially related to the increase in farm input prices that arise from the Canadian context and are therefore not necessarily linked to supply and demand conditions on world markets. Witnesses who appeared before the Committee emphasized two broad categories of domestic factors: the level of competition in farm supplies industries, and regulatory issues. The following sections will, accordingly, deal with both aspects. 1. Domestic Factors: Level of Competition in Farm Supplies Industries Questions surrounding the level of competition in a given industry relate to the level of concentration, the lack of new entrants, and the impact these factors have on prices. With respect to farm supply industries, these elements have been an issue for farmers for quite some time. They were made more acute after the publication of data by Agriculture and Agri-Food Canada (AAFC), among others, indicating that a significant price difference has existed for fertilizers and fuel between Canada and the United States in the last two years. Table 3 and 4 show the data published by AAFC for 2007 in two border regions. Table 3 — Comparison of Selected Average Fertilizer and Fuel
Prices
Source: Farm Income, Financial Conditions and Government Assistance, Data Book, September 2007, p. 26. Table 4 — Comparison of Selected Average Fertilizer
and Fuel Prices
Source: Farm Income, Financial Conditions and Government Assistance, Data Book, September 2007, p. 26. Since the North American fertilizer market is fully integrated, one
would expect the price difference between Canada and the United States to be small, reflecting mainly the
Based on the above, the Standing Committee endeavoured to pursue the Canada-U.S.price difference analysis in order to bring further evidence as to whether the lack of competition in farm supplies industries in Canada could be a determining factor. The Standing Committee hence commissioned a study on Canada – U.S. farm input prices differences from the Thomsen Corporation. The Thomsen Corporation study is attached to this report.
Recommendation 3 The Standing Committee on Agriculture and Agri-Food recommends that Agriculture and Agri-Food Canada expand the input price comparisons coverage included in its Data Book “Farm Income, Financial Conditions and Government Assistance” by considering increasing the frequency of the price comparison and the number of border regions under analysis, as well as publishing results in a timely fashion on the AAFC website. The Standing Committee commends the professionalism and quality of the work embodied in the AAFC Bulletin on farm fuel and fertilizer expenses. However, the Standing Committee thinks it would be valuable for the annual comparative analysis of fertilizer prices between Canada and the United States to become an ongoing part of this study, particularly in these times when the issue is taking centre stage. Therefore: Recommendation 4 The Standing Committee on Agriculture and Agri-Food recommends that Agriculture and Agri-Food Canada includes, as a recurring theme, the comparative analysis of fertilizers prices between Canada and the U.S. in its bulletin “Canada: Farm Fuel and Fertilizer Expenses”. 2. Domestic Factors: Regulatory Issues Paralleling
the question of whether competitive conditions, or the lack thereof, could
explain price differences between Canada and the United States, is the question
of whether the Recommendation 5 The Standing Committee on Agriculture and Agri-Food recommends that Agriculture and Agri-Food Canada (AAFC) expand its review of regulatory measures susceptible of putting the Canadian meat industry at a competitive disadvantage to include all farm input related industries, such as feed products and pesticides manufacturers, as well as agri-retailers. AAFC should also report back within six months to the Committee on the results of this comprehensive review. Furthermore, the Standing Committee recommends that any additional costs resulting from these regulatory measures should be covered by the appropriate Departments, and not only by Agriculture and Agri-Food Canada. The
Standing Committee is of the belief that these higher regulatory compliance
costs, whether officially assigned to farm input manufacturers or to
agri-retailers, are ultimately Recommendation 6 The Standing Committee on Agriculture and Agri-food recommends that the Own Use Import Program continue in its existing form so as to ensure that farmers have the opportunity to access these products in a price competitive manner in order to enhance competitiveness of the Canadian agri-food sector. [1] Canada: Farm Fuel and Fertilizer Expenses, Bi-weekly Bulletin, Agriculture and Agri-Food Canada, March 30, 2007. [2] Motion carried by the Standing Committee on Agriculture and Agri-Food, Minutes No. 2, 39th Parliament, 2nd Session ,Ottawa, 19 November 2007. [3] See Recommendation 5 in Report on the Beef and Pork Sector Income Crisis, Standing Committee on Agriculture and Agri-Food, Chair, December 2007, 39th Parliament, 2nd Session. [4] “That the Minister of Health responsible for the Pest Management Regulation Agency maintain the existing own use program for the next two crop years while working toward the implementation of a better and more producer-friendly Grower Requested Own Use Program”. Minutes of Proceedings, Meeting No. 33, Tuesday, December 12, 2006. |
The
grains and fertilizer industries are strongly influenced by energy prices.
First, the production of fertilizer — nitrogen in particular — is
a highly energy-intensive process. The cost of natural gas is usually believed
to account for 70% to 90% of the production cost of ammonia, and anhydrous
ammonia is the source of nearly all nitrogen fertilizer. Potash and phosphate
are extracted through mining operations that typically consume significant
quantities of energy. Therefore, the price of fertilizer has historically been
heavily influenced by energy prices. Similarly, as a proportion of their
operating cost, energy costs are the highest for grain producers. For example,
fuel, fertilizer and electricity account for approximately 50% of the operating
costs of wheat and corn growers. The cost of pesticides also has an important
energy component. Grain growers would typically be the first to feel the pinch
of high energy and fertilizer prices. Therefore, runaway energy and fertilizer
prices, without a corresponding increase in grain prices, could significantly
damage the bottom line of grain farmers. Through a supply response from farmers
eventually cutting back on production, grain prices could inflate as a result
of higher energy prices. 
energy prices
would typically put upward pressure on the price of ethanol (which, typically,
is strongly correlated with energy prices in general), thereby increasing the
profitability of ethanol production. This increase in profitability encourages
ethanol plants to expand production, which ultimately pushes up demand for
grains and puts upward pressure on grain prices. 
Of particular note is the fact that some countries have decided to
tackle global market fundamentals head-on by imposing a tax on certain of their
exports. The goal of an export tax is to discourage exports, thereby creating
an artificial excess production on the domestic market and driving down
domestic prices. The best-known example is perhaps China, which signalled its
intention in December 2007 to levy an export tax on grain in order to rein in
surging domestic prices. Since Canada is an important exporter of fertilizers,
it would be difficult for the Canadian government to impose an export tax to
slow surging domestic fertilizer prices. Such an intervention could jeopardize Canada’s reputation as a reliable commodity supplier and, moreover, could deprive the
Canadian economy of significant export revenues, creating a situation that
could be even more detrimental than high fertilizer prices.
Numerous witnesses who testified before the Committee indicated
that timing the purchase of certain inputs could save significant amounts of
money for farmers. Fertilizers in particular are subject to a markedly seasonal
demand pattern that can cause drastic price swings within a year. Timing the
purchase of fertilizers to coincide with the period in the year when prices are bottoming
could be of significant benefit to
farmers. This raises the question of whether modifications to current programs,
such as the Cash Advance Program, are required to permit the timely purchase of
fertilizers. Therefore: 
cost
of transportation. Given the price differences reflected in Tables 3 and 4,
however, some witnesses expressed their view that these differences could be a
symptom of a high level of concentration together with a lack of new
competitors — and, therefore, a lack of competition in the fertilizer
industry in Canada. A related issue echoed by some witnesses is that lower
prices in Canada triggered by a strengthening of the Canadian dollar is not a determinant
of farm output prices only, but also of farm input costs. This observation also
puts into question the prevailing level of competition in farm input supplies
industries in Canada. The lack of a healthy level of competition does not
necessarily mean that there is blatant collusion between industry players.
Rather, it could mean, as one witness phrased it, that “innocent collusion” is
taking place. This phenomenon stems not from the willing behaviour of industry
players, but simply from the structure of the industry. 
The
Standing Committee notes that differences in taxation, particularly for diesel
and gasoline, could explain — at least in 
,
dated March 30, 2007, which indicates that “Statistical Analysis has confirmed
that average fertilizer prices in Canada and the U.S. border area were not
statistically different for urea, mono-ammonium phosphate and muriate of potash
over the 1993-2006 period”
A
strong consensus existed among witnesses that better information on input
prices could be of significant benefit to Canadian farmers and could in itself
help bring competitive pressure on market players in farm input supplies industries.
The Committee therefore sees as highly useful the fertilizer and fuel price
comparisons published by the AAFC in its Data Book “Farm Income, Financial
Conditions and Government Assistance” and would encourage the AAFC to expand
this type of input price comparisons between Canada and the United States. Therefore:
regulatory regime related to farm inputs could put Canadian
farmers and other agri-food industry stakeholders at a competitive
disadvantage. The Standing Committee notes that this is a recurring theme in
many different areas. For example, a November 2007 motion from the Standing
Committee already called for a full review of all inspection fees charged by the
Canadian Food Inspection Agency
passed on to farmers through higher input
prices. In this regard, the Standing Committee is particularly sensitive to the
argument put forth by growers as to the potential decreasing effect on input
costs of allowing the Own Use Import (OUI) Program to run at the same time as
the Grower Requested Own Use (GROU) program. A motion already passed by the
Standing Committee on December 12, 2006 on this issue is aimed at maintaining
the OUI program for two more crop years