Cotton Demand Facing Difficult Climate

By their very definition, markets are places where parties with competing goals come together. Sellers are trying to sell at the highest price possible while buyers want to buy at the lowest price possible. Cotton prices are always in a constant tug-of-war between the various market forces affecting supply and demand. It’s clear that the supply side of the cotton market is calling for higher prices in the face of strong competition from grains and oilseeds, coupled with escalating production costs. As we saw this year, $100-plus oil prices, $5 corn and $12 soybeans do not make 70-cent cotton very attractive. I’m convinced that absent some change in these price relationships, farmers will plant fewer cotton acres in 2009.

Clearly, farmers would like to see higher cotton prices, but the big question is whether demand can be sustained at those higher prices. There are several factors creating a difficult environment for cotton demand, not the least of which is the general economy’s current health. During the first half of 2008, the U.S. economy grew by slightly more than 2%, which is slower than recent years but still better than many analysts originally projected. According to the International Monetary Fund, the difficulties are not limited to the U.S. economy. The global market is confronting sharply slowing demand in many advanced economies and rising inflation everywhere, notably in emerging and developing economies. As financial markets seek some stability, U.S. and world economic growth remains sluggish with anemic performance expected to linger well into 2009.

Energy Impact

Compounding the problem of slower growth is the added competition for the consumer’s available income posed by higher energy prices. For the last 18 months, consumer spending on clothing and shoes has been relatively stable, while consumer spending on energy is running $150 billion higher since the beginning of ’07 – an increase of 27%.

The effects of slower economic growth and higher energy prices are evident in the latest data for U.S. domestic consumption of cotton textiles and apparel. These data are the sum of mill use and net imports of cotton textile products. Through June, the estimated consumer market is running 600,000 bales below this same time last year.

A challenge facing textile mills is the relationship between cotton prices and those of yarn and polyester. The increase in cotton prices since the middle of last year has outpaced those of yarn and polyester. Textile mills feel the squeeze of higher prices if they are not able to pass along costs through higher yarn prices. To date, that ability has been limited. As a result, prospects for world mill use have become more pessimistic. In marketing year 2007, mill use essentially was flat relative to 2006. The slowdown comes on the heels of three years of growth ranging between 6% and 10%. For the current marketing year, we could see a decline in mill use, which would be the first downturn since the 2003/04 crop year.

Concerns about demand strength combined with the stocks from the previous crop will feed near term price pressure — unless some serious production problems arise for the 2008 crop. When the macroeconomic situation offers some demand strength, then prospects for price and production should improve.