For many, it will come as no surprise that coffee is the second-most traded commodity in the world; indeed, a morning cup (or three) is what powers millions through the day. But what are the fundamentals of the coffee market, and what challenges does it face today?
Grown on coffee trees, beans commonly come in two forms: Arabica and Robusta. A relatively simple product, it provides an interesting insight to development as it is mainly produced by poor farmers, and consumed by rich Westerners (though this is changing – see below).
Production itself is also interesting, as there is a large output lag following the 3-4 years it takes a seed to bear beans. Coupled with the fact that farmers are unlikely to leave the market (due to high sunk costs), the industry faces a very low elasticity of supply – in other words, supply takes a long time to adjust to changing prices. This is key to understanding the market, as prices are prone to hefty fluctuation, largely brought on by adverse weather conditions (something climate change is making more common).
Brazil has a substantial lead in coffee production, with an output of 2.3mn metric tonnes (Mt), dwarfing second-place Vietnam (with 960,000Mt). Whilst these countries have steadily been increasing output, alternative sources such as Africa have seen a falling supply. For example, Cameroon in the mid-1980s had a yearly output of 120,000Mt – this currently stands 34,000Mt. Reasons for the regional decline include falling productivity, boiling down to a lack of services available to farmers. Key issues include poor technical advice, and the spread of coffee bean diseases.
North America is currently the largest consumer of coffee, with 83% of Americans enjoying a roast, but this is fast changing. With other rich countries, demand is beginning to mature, whilst emerging markets (such as Eastern Europe and Asia) are starting to acquire a caffeine craving – by 2020, emerging markets are set to consume 50% of the world’s coffee.
Although the market has an optimistic demand-side, the supply-side is much more precarious; following a heavy drought in the beginning of 2014, Brazil’s production has taken a notable hit. As a result, prices in April spiked to a 26-month high, having a material impact on wholesale (with retail firms tempted to follow suit). Countered somewhat by a stockpile reduction from those hoping to bank on the high price (with price falling 14% April-May), this is likely to result in a tight supply in future months. Overall, the drought is predicted to shed 11mn bags this year.
Not everybody is crying over spilled beans though, as the high price has given a window of opportunity to producers. Hoping to take advantage of this, a recent merger between Mondelez International and D.E. Master Blenders is set to create a pure-play coffee giant (with a 16% share in the global market). This will go length in challenging the current dominance of companies such as Nestlé, Kraft Foods and Sara Lee, though it is unseen as to whether such competition will prove productive.
Life After Roast
With market forces tugging in opposite directions, what happens throughout the remainder of 2014 will prove to be interesting. Whilst the industry has great potential (with strong consumption growth), weather patterns, and a deficit in farmer investment, could prevent this from being realised. Coupled with global shifts in demand, there is vast prospect for both success, and failure. However, from a café con leche to a ‘Death Wish’ roast, coffee has infiltrated modern life, and is likely here to stay; what one firm (or country) fails to do will inevitably be fulfilled by eager competition.
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