Leo Lewis

Times Online

If you were the owner of a decent-sized Malaysian palm plantation, early March this year was a truly wonderful time to be sitting on the verandah.

Stretched before you in the tropical heat were the same old trees that had always grown there, but suddenly they were oozing pure gold: a lazily lucrative multi-layered proxy for astronomical hikes in food and energy markets.

The biofuel controversy, snowstorms in China and the early ramping of inflation were your friend. Procter & Gamble’s and Cadbury’s pain were your gain. As a farmer, the oily bounty of your trees was earning more than twice what it had done at the start of the year and trading at three times the price it commanded in 2006.

Just five months later, and the view from the verandah is somewhat less cheerful. Inflation is not quite such a one-way bet because Chinese and Indian consumers have turned out to be more rational than rapacious. So as a Malaysian farmer, your palms are still there, the plantation itself – to the justifiable fury of environmentalists - may be even larger, but the price of your product has crashed 45 per cent from its peak of 4,500 ringgits per tonne. Now in virtual freefall, crude palm oil futures have slid another 9 per cent this week alone, and there is nervous talk among traders of the index heading back down to 2,000 ringgits/t by the end of summer.

Even delegates at the International Palm Oil Seminar in Kuala Lumpur yesterday were forced to admit that the good times may be numbered. But what, exactly, are those plunging palm oil futures tracking? They have fallen considerably harder and faster than crude oil and their nosedive has come long before any Asian government can confidently declare that it has food price inflation under control.

Certainly there are some technical reasons for the collapse. 2008 is shaping-up as a bumper year for palm oil yields and unlike canola, rapeseed and soya oils, palm is the only edible oil whose stockpile has actually increased since the “food crisis” headlines shook the world. Soya oil supplies have also not been squeezed quite as hard as the market feared. But traders are starting to notice something else: that palm oil prices are vastly more sensitive to global socio-economic trends than anyone had ever suspected.

For several reasons, palm oil has become a unique barometer of pressures in energy markets and of the commercial viability of alternative fuels. The rise in palm oil prices originally began 2007 as a domino effect of rising crude and shifting US energy policy. American crops were being used to make gasoline and corn particularly attracted huge state subsidies; less soya was accordingly being planted, pushing edible soya oil prices higher because of demand in China and India; palm oil became attractive as a cheaper alternative and its price began to climb. Palm oil prices accurately gauge the ability of the global food system to jointly meet the demands of stomachs and petrol tanks.

And when crude oil prices lurched above $110 per barrel, the dynamics of palm shifted yet again: at a certain marginal difference in crude and palm oil prices it starts to make sound economic sense for farmers to turn the former into biodiesel. If palm prices edge too high, or crude prices fall too low from that differential, the biodiesel plants stop refining and unwittingly offer a very precise snapshot of the finances of alternative fuels.

But palm oil’s most important insight is what it says about the response of China, India and the rest of South East Asia to food price inflation: where possible, eat less. Within the classic Asian diet, rice, wheat and edible oils are the three absolute essentials: cooking oil turns out to be the most flexible part of that equation when the household food budget is stretched to busting-point by inflation.

As the wealth of China and India’s middle classes has grown, they have consumed more edible oils – palm oil has stepped-in to help meet that growing demand where previously soya oil reigned supreme. The decision to simply buy less oil is unsettling because it undoes the perception of the Chinese and Indian middle classes as an unswerving, all-consuming juggernaut.

Falling palm oil prices may be sending an early warning of what China and India can now effectively do, on their own, to all commodities: make them and break them.

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