After three successive years of La Nina conditions, the world now faces the risk of an opposite phenomenon called El Nino that occurs as a result of warming of the ocean surface in the central and eastern tropical Pacific Ocean.
While La Nina usually results in above-normal rainfall in South and South-East Asia, the southern hemisphere, especially South America, usually faces less-than-normal precipitation. Now with El Nino, West Africa, South-East Asia and South Asia face the risk of below-normal precipitation.
The World Meteorological Organization has reckoned there is a high probability (as much as 90 per cent chance) of El Nino occurrence in the coming months. Yet, it is less clear how severe or mild the El Nino phenomenon would turn out to be.
South America is critical for the world agricultural market. Interestingly, the impact of El Nino on South America shows regional variation. While northern regions of South America face drier weather, the southern parts of South America face wetter weather.
More importantly, during periods of El Nino, North America more often than not witnesses excellent spring weather that boosts agricultural production.
Given the likely geographic impact, the crops most vulnerable to El Nino include sugar, cocoa, coffee, rice and palm oil. In other words, the market for these commodities faces upside price risk. We are already witnessing price spikes.
For instance, cocoa prices continue to skyrocket to multi-year highs. The most active forward contract in New York, with a September maturity date, has reached $3,400 a tonne, highest level since December 2015. Trading at about Ringgit 3,700 a tonne, crude palm oil is set to spurt towards Ringgit 4,000 a tonne in anticipation of El Nino driven lower production two quarters from now. Other crops too show rising price levels.
Inflation worries
While inflation has generally shown signs of easing with tighter monetary conditions, any likely damage that El Nino would cause to these crops may slow the decline in inflation. If anything, developing countries are more vulnerable to the adverse effects of El Nino.
Dry weather that this phenomenon brings reduces the harvest size, tightens availability and pushes food prices up.
Also in tropical countries, El Nino-induced reduction in rainfall may result in reduced hydropower generation. If that combines with higher global energy prices (crude oil, natural gas) the emerging economies may face a double whammy of food inflation and energy inflation.
Which are the crops most likely to be impacted by El Nino? In West Africa, cocoa production in Ivory Coast and Ghana is at risk. In Asia, sugar production in India and Thailand, coffee in Vietnam and Indonesia as well as rice in the Philippines and Thailand may be vulnerable.
These are countries where agriculture contributes to a significant part of the GDP. So, Central bankers should be a worried lot. Untamed inflation is likely to deter them from cutting interest rates. For India, four months from June to September are critical for Kharif crop cultivation. Paddy, pulses, oilseeds, cotton and coarse grains are key crops of the season. Sugarcane, a long duration crop, is also affected by monsoon.
This year, we saw late onset of the southwest monsoon and tardy progress until mid-July. After lagging until early July, progress of crop planting has just caught up, except for pulses. If anything, the window for sowing is rapidly closing. Even by last week July, several meteorological sub-divisions covering Uttar Pradesh, Bihar, Jharkhand, Madhya Pradesh and Rajasthan showed deficient rainfall.
If dry conditions kick-in during August-September, crops can wither at the time of harvest. These risks cannot be overlooked.
The inflation situation may worsen as we progress into the second half of the calendar year. World crude oil market is set to tighten with supplies forecast to trail demand by 2 million barrels a day.
The political implication of the emerging scenario cannot be wished away. It is time for policymakers to be ready with responses that would limit the damage.
The writer is a policy commentator and commodities market specialist. Views are personal