Reserve’s Buying Policy Shaped by Need for Textiles and Food
November 29, 2012 The global supply and demand of cotton can be affected by many variables, such as macroeconomic factors and inclement weather. The fiber’s price fluctuates in a wider range than grains, and it is more volatile too, experiencing major surges and dramatic drops. That factor makes it difficult for China’s government to regulate its cotton market – but it is even harder for officials to balance the interests of multiple industries in the short term.
The biggest influence on the global textile industry today is the weakness of many major economies, particularly the United States and European Union. Until consumer confidence increases and consumers feel comfortable spending money on clothes again, there’s not much that can be done to impact the textile industry.
On the other hand, the greatest influence on the global price of cotton is man-made: the Chinese reserve’s buying policy and relatively tight quotas supply. In China specifically, the result of that policy is a large gap in the prices of imported and domestic cotton.
Cotton typically competes with grains for acreage in China. However, edible crops can’t be used by the textile industry, so the correlation between the price of cotton and the prices of the main grain crops is low (see Table 1).
Because the government needs to protect farmers and maintain stable acreage for cotton, it is entirely reasonable that the cotton reserve sets the price according to the wheat/cotton price ratio. However, from the perspective of the textile industry, that is an unreasonable approach and puts textile manufacturers at a disadvantage.
Ultimately, the Chinese government can only protect one of the two groups – farmers or textile manufacturers – in a given period of time, not both.
Since the reform of the Chinese cotton market, the Chinese government has carried out large-scale reserve buying programs three times: During the Asian financial crisis in 1997, when the government bought 1.73 million tons of cotton (accounting for 38% of that year’s total production); during the U.S. subprime crisis in 2008, when it purchased 2.86 million tons (34% of production); and during the 2011 Euro debt crisis, when almost 3.2 million tons were purchased (accounting for 42% of production).
There have also been two large-scale reserve reductions: 774,000 tons in 2002/3, when a less stringent monetary policy pushed prices up; and 3.64 million tons in 2010, to counter inflation caused by global monetary easing. Both actions, however, failed to bring cotton prices under control.
The global economic slowdown – not the price gap caused by the reserve buying policy – is the primary reason for the downturn in China’s textile industry. Cotton consumption changes are completely consistent with the economic cycle. The textile industry is in distress due to the declining textile and apparel consumption caused by the slowing global economy.
Many people think, however, that the big price gap between domestic and foreign cotton weakens the competitiveness of China’s textile industry. Yes, exports have declined – but so have the exports of the five Southeast Asian countries most competitive with China, and most of those countries have seen bigger declines. Cotton imports and consumption in those countries have also decreased sharply, while Chinese yarn imports have been on a steady increase for the last decade, with no substantial changes (even with more yarns being imported from India and Pakistan).
A turnaround in China’s textile industry is tied to the resurgence of the world economy, but in the meantime, the government should consider introducing some specific measures to buffer the negative effects of the price gap between domestic and imported cotton.
For example, the government can raise the export rebate rate of garment and textile products, or unveil a stimulus package to boost clothing consumption. The apparel industry has good reasons to strive for financial subsidies to improve people’s well-being and expand domestic consumption.
In summary, an uptick in the textile industry is dependent on an improved international financial environment, rather than the great price gap between domestic cotton and imported cotton. It’s hard to take into account the needs of both farmers and the textile industry. From the perspective of protecting farmers, it’s the right decision to carry out the national reserve buying program. From the perspective of the textile industry, the government needs to increase their financial or tax subsidies.
In the long run, providing direct subsidies to farmers and reducing market intervention will be the right direction for Chinese policy makers. However, government intervention is effective against cyclical price fluctuations only when the reserve cotton/consumption is at a reasonable level.
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