abare.gov.au - Australian commodities – March quarter . volume 16 . number 1 2009

Sugar

Outlook to 2013-14

Max Foster

The world indicator price for sugar in constant (2008-09) terms is projected to be maintained at reasonably favourable levels of over the next two years, before easing under the pressure of steadily increasing world sugar production towards 2013-14.

The key factors underpinning world sugar prices over the medium term are: production reductions in the European Union induced by government policy reforms; the positive demand effects of strong income growth in developing countries, such as China and India; and the increasing diversion of Brazilian sugar cane into ethanol production.

Australian production of raw sugar is forecast to stabilise at around 4.9 million tonnes by 2013-14, as yield improvements offset the gradual decline in the area of sugar cane harvested. The process of structural change in the Australian sugar cane industry is likely to continue over the medium term, with reductions in the number of cane growers and increases in the average size of cane farms.

Short-term outlook

The world indicator price for sugar (Intercontinental Commodities Exchange no.11 spot, fob Caribbean) is forecast to average US13 cents a pound in 2008-09 (October-September year), buoyed by lower world sugar production, particularly in India and the European Union, and increased use of sugar cane for ethanol production in Brazil. Aggregate world demand for sugar is unresponsive to changes in consumer incomes so the global financial crisis is forecast to only slightly dampen the rate of growth in sugar consumption in 2008-09.

World carryover stocks of sugar are forecast to decline by 2.1 million tonnes in 2008-09. Despite some rebound in world sugar production in 2009-10, particularly in India, the sugar indicator price is forecast to decline only slightly to US12.8 cents a pound in 2009-10.

In mid-February 2009, the price for the futures contract for no. 11 raw sugar on the International Commodities Exchange (ICE) was US13 cents a pound for March 2009 delivery, US14.3 cents a pound for March 2010, and US14.2 cents a pound for March 2011 delivery. Although the futures price is not a forecast, Australian marketers of sugar are increasingly giving Australian cane growers the opportunity to lock in forward prices for their cane using ICE futures contracts.

High returns to Australian cane in 2008-09 and 2009-10

The low Australian dollar means sugar prices are favourable in Australian dollar terms for the 2008-09 and 2009-10 seasons. In mid-February 2009, the price indication for the 2008-09 seasonal pool provided by Queensland Sugar Limited (QSL) was $330 to $336 a tonne, IPS (International Polarity Scale), compared with a realised seasonal pool price of $276 a tonne, in 2007-08. Until 2005, QSL was the statutory single desk seller for Queensland bulk raw sugar and it still markets more than 90 per cent of Australia’s bulk raw sugar on behalf of seven sugar milling companies. The current indication for QSL’s 2009-10 seasonal pool was $446 to $466 a tonne, IPS. At the same time, the seasonal pool price indications of QSL translate into returns to Australian sugar cane growers of around $29 a tonne in 2008-09 and $34 a tonne in 2009-10, compared with $25.40 a tonne in 2007-08.

Floods in the Herbert River, Burdekin River and Tully regions of Queensland in early February 2009 have probably reduced sugar yield potential with the 2009-10 Australian cane harvest (crushed in the second half of 2009) by around 6 per cent. An additional factor negatively affecting yields is that cane growers are being forced to use lower yielding cane varieties which are resistant to the sugar cane smut which has spread to most parts of the Australian cane industry since its outbreak in 2006. The adverse yield effects mean that Australian sugar production in 2009-10 is forecast to decline by 2.3 per cent to 4.56 million tonnes, despite a slight increase in the area harvested.

Medium-term outlook

The world sugar indicator price is projected to ease from the highs of 2008-09 and 2009-10 over the remainder of the medium term to 2013-14, as world carryover stocks of sugar gradually recover from the low level of 2008-09. Nevertheless, the sugar indicator price is projected to still remain above the depressed levels of the period 1997 to 2003.

World sugar production growth to continue

World sugar production is projected to increase to 177.4 million tonnes by 2013-14, 5.2 per cent higher than the record to date of 168.6 million tonnes produced in 2007-08. Key determinants of world sugar production over the medium term are likely to be Brazilian cane sugar production and the Brazilian allocation between sugar production and ethanol production, and EU reforms of its sugar beet industry which are reducing EU sugar production.

Demand for ethanol as a replacement for oil-based fuels is increasing rapidly and is being encouraged in a number of countries through a range of government policies. These policies include targets for biofuel use and tax concessions for producers. The feedstocks for ethanol are primarily corn, sugar cane juice and molasses. Brazil has been encouraging the use of sugar cane juice for ethanol production for more than 30 years.

Brazil will remain the dominant player in the world sugar market over the next five years. Given low production costs and the potential to bring substantial areas into cane production at below current prices, Brazilian production of sugar cane is projected to be 18 per cent higher in 2013-14 than in 2008-09. The proportion of sugar cane used in Brazil to produce ethanol is projected to rise steadily throughout the medium term, from 58 per cent in 2008-09, to around 62 per cent by 2013-14. This implies Brazilian sugar production of 34.6 million tonnes in 2013-14, compared with 32.1 million tonnes in 2008-09. The European Union instituted a number of reforms starting in 2006-07 that are expected to continue to cause EU sugar beet production to decline over the medium term. The measures include lower guaranteed minimum prices to beet growers, lower market intervention prices and reduced quotas to which the minimum prices apply. There are various incentive arrangements to get individuals to voluntarily give up quota entitlements. By the end of 2008, quota renunciations were just short of the target of 6 million tonnes. In response to the quota reductions, EU sugar production is forecast to decline to around 15 million tonnes in 2009-10, from the 16.7 million tonnes produced in 2008-09, but is then projected to gradually recover to 15.8 million tonnes by 2013-14.

Sugar production was down in many countries in 2008-09 because of high prices for alternative crops, particularly wheat, rice, corn and soybeans. The prices for alternative crops declined sharply over 2008 and projected alternative crop prices for the medium term suggest some land will move back into cane and beet production, especially in India, Thailand and Eastern Europe.

Indian sugar production declined sharply in 2008-09, because of a combination of poor growing conditions and land diverted to the production of alternative crops. Indian sugar production is projected to recover throughout the medium term, reaching 31.3 million tonnes in 2013-14, which would be 1 million tonnes higher than the previous record output achieved in 2006-07.

Protected by high import duties of sugar, the Russian Federation sugar beet industry has increased at nearly 10 per cent a year over the past decade. Further strong production growth is projected for the Russian Federation sugar beet industry over the projection period to 2013-14, substantially reducing its import requirements.

With modest increases in plantings and increases in yields, Chinese production of sugar is projected to be 9 per cent higher in 2013-14, compared with the record estimated sugar production of 14.6 million tonnes in 2007-08.

Brazil’s sugar-ethanol complex

For more than 30 years, Brazil’s government has operated the National Alcohol Program aimed at encouraging an ethanol industry which uses sugar cane juice to replace the use of petrochemical fuels. The program was initially a response to the oil crisis and low sugar prices of the mid-1970s, reducing Brazil’s dependence on imported oil. In recent years, the program has also delivered benefits in regard to countering climate change arising from the accumulation of greenhouse gases in the atmosphere.

Ethanol now accounts for around one-quarter of Brazil’s total fuel use for vehicles. Brazil accounted for more than one-third of the world’s ethanol production in 2008 and around 40 per cent of the world’s ethanol exports.

Sugar and ethanol prices jointly determine the total area devoted to sugar cane production in Brazil, while price relativities between sugar and ethanol determine the amount of cane allocated to each use.

The world oil price is likely to be an important determinant of the demand for ethanol in Brazil. However, Brazil supports domestic ethanol demand through market regulation and tax incentives. The key regulation is a government-set blending ratio of anhydrous ethanol with gasoline which is currently 25 per cent but has varied from 20 per cent to 25 per cent over the life of the program. Another key instrument is a lower excise tax for ethanol compared with petrol. In response to these policies, Brazil has a growing fleet of vehicles which can run on ethanol, petrol or any mix of the two fuels – so called flex fuel cars. At the end of 2008, nearly 7 million flex fuel passenger and light commercial vehicles had been sold in Brazil, representing around 60 per cent of the total sales in this category over the period.

Brazil produces two types of ethanol – anhydrous which is a minimum 99.6 per cent alcohol and hydrous which is around 95.1 per cent alcohol. In recent years, the trend has been for a greater share of hydrous ethanol in total Brazilian ethanol production. A key reason for this is that hydrous ethanol can be shipped to developing countries for further processing into anhydrous ethanol, where it is then exported to both the United States and the European Union under market access concessions specifically designed to assist developing countries.

Brazilian cane production and allocation to use

Because of the influence of domestic regulations encouraging domestic use, domestic prices in Brazil for ethanol have previously not matched movements in world oil prices. However, with Brazilian ethanol exports jumping sharply to around 15 per cent of domestic ethanol production since 2004, Brazilian ethanol prices in recent years appear to have been more closely related to movements in world oil prices.

Brazilian ethanol exports are hindered by trade barriers. In the United States, for example, there is a tariff and import duty on ethanol imports equivalent to a 25 per cent tariff. In the European Union, the tariffs are 45 per cent and 24 per cent on undenatured and denatured ethanol, respectively.

As well, in both the United States and the European Union, there are market access concessions which favour ethanol imports from developing countries.

A number of environmental benefits are claimed for ethanol use compared to petroleum use. The emissions claimed to be reduced are: the greenhouse gas, carbon dioxide; sulphur dioxide; particulate matter, mainly carbon and sulphates; and volatile organic compounds that can be toxic. It is claimed, for example, that greenhouse gas emissions (in carbon dioxide equivalents) are reduced by 2.6 tonnes and 1.7 tonnes for every cubic metre of anhydrous and hydrous ethanol used, respectively. However, critics of these claims have pointed out that the calculations do not take account of the carbon released in the clearing of rainforest in Brazil to produce sugar cane.

Strong growth in world sugar consumption

World sugar consumption has increased at around 2.7 per cent a year over the past 10 years, faster than the world rate of population growth of 1.17 per cent. Reflecting higher sugar prices and lower income growth, world sugar consumption is projected to grow at an average rate of only 2 per cent a year in the five years to 2013-14.

Factors affecting the demand for sugar are income; the prices of alternative sweeteners, particularly high fructose corn syrup; and, increasingly, a range of low calorie artificial sweeteners. A characteristic of world food sugar consumption is that per person consumption of sugar is declining in developed countries, but increasing in less developed ones. This trend reflects, in part, that consumers are able to choose more costly (and perceived to be healthier) food alternatives as income increases.

Slowly contracting sugar cane areas in Australia

The bulk of the Australian sugar industry is essentially ‘land locked’ along the Queensland coast and part of northern coastal New South Wales. There is little scope to expand areas under sugar in these regions. As a result there is unlikely to be any significant increases in Australian sugar production over the next five years.

Harvested areas of sugar cane in Australia have declined sharply since 2002-03. A range of factors have contributed to this decline, including poor prices at various times, drought, cyclones, sugar cane smut, urban encroachment, increased use of rotation crops (mainly soybeans and peanuts) and higher returns from production alternatives, particularly forestry. Sugar production in the Ord River area also ceased in November 2007. At its peak, there were more than 4000 hectares harvested annually on the Ord River.

An ABARE survey in 2008 of the Australian cane industry found that 13 per cent of producers were intending to expand their sugar cane production, while 17 per cent were intending to reduce production. The area harvested of sugar cane in Australia is projected to continue to decline to 379 000 hectares by 2013-14, nearly 64 000 hectares less than the record harvest in 2002-03. The area decline is likely to be largely offset by an increase in cane and sugar yields. Australian sugar production is projected to stabilise at around 4.9 million tonnes by 2013-14.

At the farm level, it is expected that the number of growers will continue to decline and farms increase in size. Since 1999-2000, the number of cane growers in the Australian sugar industry declined from more than 7000 in 1999-2000, slightly more than in 2008-09.

Apart from increasing in size, there is a trend toward diversification of production on cane farms in Australia. Diversification includes increased use of leguminous crops, such as soybeans and peanuts, as rotation crops. Replacing the traditional burning of sugar cane crops before harvest is an increased use of ‘whole cane harvesting’ practices, particularly in New South Wales. With whole cane harvesting, the leaf material that is separated from the cane is sold as garden mulch, or delivered to mills to be used (along with the bagasse generated by the milling process) to generate electricity surplus to running the sugar milling process for export to the national electricity grid. The viability of so-called cogeneration of electricity at sugar mills in New South Wales has been assisted by Minimum Renewable Energy Targets (MRET) with electricity generation set by the New South Wales Government.

The profitability and mix of products produced by the Australian sugar industry over time could be affected by policies to do with control of greenhouse emissions under Australia’s Carbon Pollution Reduction Scheme. The scheme involves a cap on total emissions and trading of permits to emit greenhouse gases. That is, the scheme is aimed at giving individuals and businesses incentives to reduce their emissions. Agriculture is not to be included in the scheme until at least 2015 because of difficulties in identifying practical methods for inclusion and in developing reliable and cost-effective methods of emissions estimation and reporting. Fuel (including the fuel component of harvesting contracts) comprises around one-quarter of average cane growing costs, so any effect on fuel prices of the scheme is important. The excise on fuel is to be rebated using the revenue from permits for a three year period prior to review.

Sugar mills in Queensland produce approximately 1100 gigawatt-hours of electricity, equivalent to around 2 per cent of Queensland’s total electricity use, mainly from bagasse but also from cane trash. The Queensland industry claims that with appropriate financial incentives, it could supply up to 20 per cent of Queensland’s electricity requirements.

The Australian sugar industry also produces around 65 million litres of ethanol a year, using molasses as the feedstock. Molasses is a by-product of sugar processing and is mainly used as a high energy feed for livestock. Australia produces enough molasses to manufacture around 270 million litres of ethanol but it is likely the livestock feed market will continue to provide the highest return throughout the medium term.