Ethiopia’s coffee export nose-dives as government control backfires

July 6, 2012

According to the International Coffee Organization (ICO), Ethiopia’s production during the current crop year was 549,745 tons and domestic consumption is estimated at 223,747 tons.

Based on available cumulative data, the current year’s export is forecasted to be about 143,442 tons – a decline by about 30% from last year’s 199,871 tons. 1

In the four years since Ethiopia Commodity Exchange (ECX) began trading coffee (2008/09-2011/12), the country’s net export has declined by about 9% to an average of 164,735 tons per year from the previous four years’ average of 180,195 tons per year (2004/05-2007/08).

The average exported percent of production during the four years post ECX has dropped to 37% from an average of 51% during the four years pre ECX. This number is expected to hit an all time low of about 26% in the current crop year. Assuming an estimated 41% domestic consumption, about 33% of the production is expected to be unaccounted for this year alone.

Such a significant drop of export (relative to production and consumption) was seen only twice in the last 22 years. The first was between 1990/91 and 1992/93, when the country did not have a functioning government during the power transition. At that time, the annual export was only 37% of production on average and domestic consumption was more than 50% of production. Then in year 2000, during the international phenomenon dubbed “Coffee Crisis” when international prices hit historic lows, Ethiopia’s export was 45% of production and 65% of the production was sold for domestic consumption. In all other years, export has been at par or slightly higher than domestic consumption and steadily increasing with production.

It is noteworthy that the country’s export is shrinking during “normal” times in spite of the fact that international market situations favor producing countries. The current decline is entirely attributed to the government’s new strategy of increasing exports by enhancing its control of the coffee sector. The then new ECX was tasked in December 2008 with the responsibility of managing the pricing and flow of coffee exports. But, as the strategy failed and the control backfired, export plummeted, illicit trade has risen, the country lost its competitive advantage, and ECX has fallen prey to the government.

Rising illicit trade

As export and domestic consumption get constrained by overbearing and dogmatic management, illicit trade is rising within and across the borders as the preferred outlet to absorb the excess production. Traditionally, the strong domestic consumption has been the only alternative market that served as an outlet for the excess production. The demand in domestic market is so high that inferior quality coffee is often sold at prices that are 150-175% of the price for the finest coffee reserved for export. Obviously, coffee farmers and traders would generally be better off selling their coffee stocks in local markets, but doing so is illegal. Selling coffee outside of ECX’s coffee trading centers is punishable by a 20-year prison term and up to 50,000 Birr fine. Granted, it’s nearly impossible to monitor the flow of coffee from smallholder farmers to ECX’s coffee trading centers, but once the coffee gets to the trading center, ECX’s Warehouse Receipt System makes it easier to monitor and track the stock until it is delivered to exporters and ensure that it isn’t sold in the domestic market.

Because the government has tightened its noose around exporters and has made it harder for importers to buy, export is lagging behind production. With more coffee entering into the marketing system than what is discharged out to export markets, the coffee chain inevitably had to rupture at its weakest link: between farm gate and ECX’s coffee trading centers. As a result, more coffee is now “smuggled” out to domestic markets and neighboring countries at a rate faster than exports.

The questions of “freedom to choose” and “individuals’ right to sell and buy” aside, the government’s controlling system is flawed and unsustainable even in the simplest technical sense. The controls and regulations that were meant to ensure increasing outflow of export have created an unnecessary bottleneck. A series of misguided and overbearing policies and dogmatic management only exacerbates the coffee trade and will capsize ECX itself.

Ethiopia lost its competitive advantage

A commodity exchange is for run-of-the-mill commodities, not for gourmet foods, and definitely not for “Specialty Coffee” trade. The fast growing market for single-origin Specialty Coffee follows a different model than that of commodity coffees. Specialty Coffee is about stories behind the coffee as much as it is about its high-end taste. The human connection between buyers and farmers is as essential as the quality of the bean. ECX’s Warehouse Receipt System breaks this relationship and the ability to trace the bean to its origin. As a result, Ethiopia has lost its long held competitive advantage and commanding reputable place in the Specialty Coffee niche market, and thereby has given up its market share in the single-origin coffee market. Many small sized Specialty Coffee importers and buyers have since resorted to Kenya, Tanzania, Rwanda, Costa Rica, and other coffee growing countries. Today, the famous brands, such as “Sidamo,” “Harar,” and “Yirgacheffe” are nowhere to be seen, for example, in the omnipresent stores of Starbucks.

In short, the decision to move the coffee trade to ECX was not based on sound economic policy.

Worst place to do coffee business

The aggressive government intervention and bad policymaking has made Ethiopia the worst place on earth for coffee trade.

In March 2009, the government accused 88 exporters of “hoarding” coffee stocks in anticipation of prices going up and confiscated 17,000 tons of coffee and revoked their licenses. In doing so, it frightened other exporters from taking similar risks in the future. Most importantly, the business relationships that the exporters had established with hundreds of buyers and ultimate importers were lost overnight.

In October 2011, Ministry of Trade banned 55 more traders from the exchange, accusing them of failing to comply with the “Coffee Export Regulatory Directive” which limits the stock sizes that exporters can hold at a time. This action has deterred other traders from taking risks of buying and storing coffee for delivery when they find a buyer. They now buy coffee after they have signed an agreement with buyers and only when they are certain to secure a signed shipment agreement soon after. This leaves no room for exporters to take advantage of prices going up or down due to international market volatility.

Then there is the November 11, 2011 directive issued by Ministry of Trade requiring the shipment of coffee in bulk containers (filling coffee in ‘dry containers’ fitted with a liner, as opposed to loading coffee packed in 60-kilogram jute-bags). This one went too far even by Ethiopia’s standards. It took aim at not only exporters but also foreign buyers and imposed restrictions on how Ethiopia’s coffee should be shipped regardless of international standards, buyers’ preferences, and regulations in consuming countries. The directive was yanked thirty days later because of pressures from foreign diplomats and industry lobbying groups.

These and much other ridiculous interferences have made it difficult for the remainder of exporters and many more importers to do business with Ethiopia.

ECX not allowed to live up to its name

While the Ministry of Trade continues to bully exporters, other top government officials, whose focus remains to be the maintenance of an authoritarian state, are bent on making sure that ECX won’t be able to create an autonomous island of price speculation within its domain. ECX’s own blunder would make things even worse.

In the short time of its existence, the exchange was able to introduce new technologies and processes that have improved standardization, expedited payments & delivery, expanded information dissemination, and played a catalytic role of enhancing the banking system. But the actual trading platform has been – and still is – stalled at its initial stage.

ECX was established as a spot-trading platform (a form of trading that involves buying or selling of a commodity on the spot date and immediate delivery of physical commodities) with plans to immediately include futures trading (buying or selling of a commodity that will be delivered and paid for at a specified future date at a price agreed today). The most important difference between spot trade and futures trade is that the latter provides a price guarantee that will be paid to the farmer when a commodity, such as corn or sesame seed, is delivered when it is harvested several months in the future. A futures contract protects a farmer from price drops. A buyer of such a commodity is also guaranteed that prices will not go up when the produce is delivered.

Most commodity exchanges allow, among others, spot, forward, and futures trade. These options are at the heart of a well-functioning commodity market and ECX leaders have been hoping that the authorities would allow the introduction of forward and futures trading soon after spot trading commenced. The government also appeared to have accepted the idea of investing on the technical capability to perform futures trading.

In 2009, the government diverted part of the credit it received from the International Development Association (IDA) towards the acquisition of “a comprehensive commodity exchange solution to enable end‐to‐end secure and web‐based Spot, Forwards and Futures trading operations.” The procurement failed to materialize due to alleged fraud and corruption during the bidding process.

Late that year, ECX floated an international Invitation for Bids (IFB) and awarded the contract to the Sri Lanka based Millennium IT on November 12, 2010. However, in early December 2010, the World Bank rejected the contract award proposal after it was tipped by one of the bidders of a suspected shenanigan. ECX’s leaders were summoned to the Prime Minister’s office later that year, but no formal investigation was initiated. This was a sad failure on ECX’s part and one that may have even given the authorities an excuse to delay ECX’s expansion. In mid 2011, ECX’s Board and the CEO worked out a transition plan to relieve the officers of their duties by recruiting replacements including a new CEO. The timing coincides with the end of the five-year project agreement with UNDP and USAID (the two development agencies that cover the salary packages for the CEO and the other officers, respectively). Although the contract is coming to an end, securing funds for an extension of the contract is not out of reach. However, it is unclear whether the alleged fraud and corruption was a factor. In any case, the acquisition of the software has been abandoned since.

According to Reuters, Dr. Eleni Gebre-Medhin told the media on June 21, 2012 during the joint press conference where the incoming CEO, Ato Anteneh Assefa was announced that, “the policy dialogue (on future trading) was a bit stalled partly because of the various crises that keep occurring in the broader market globally and over fears that the design would have to really be cautious here in Ethiopia. For the moment that project is on hold.”

In plain English, the suspense game and empty hope of implementing ECX’s futures trading had ended. The rest of “cautious design” and “global crisis” jargons are simply nonsensical excuses.

Land of no freedom to choose

The news about the government’s decision on futures trading may be heartbreaking to some, but it was clearly headed in that direction. For example, Prime Minister Meles Zenawi was unequivocally clear in March 2009 when he promised to cut off the hands of anyone who dares to speculate on prices, a practice that is central to futures trading. His words later became law when Ministry of Trade issued the Coffee Export Regulatory Directive which states in part that exporters would be banned from ECX for three months if found storing 500 tons of coffee without legal shipment contract signed for it, and banned for two months if the stored amount is between 54 and 500 tons.

How can one trade on future contracts when one doesn’t even have the basic right to secure ownership of coffee stocks and then shop around for better prices? Speculation plays an important role in futures trading; therefore, by making it illegal to speculate, the government is essentially banning futures trading altogether. Some countries ban futures trading in certain commodities under various circumstances, but no other country bans the practice of futures trading itself. All governments regulate markets and wrongdoings, but in Ethiopia’s case, the government goes oversteps it bounds – it is excessive, haphazard, oppressive, and unjust.

The stories behind the past four years’ downward spiraling trend of coffee exports and the manner in which the government has consolidated its control of ECX collectively represent the trend and government practices in the every realm of the country. All Ethiopians, those supporting the ruling party and opposing it alike, share Dr. Eleni’s dream of making Ethiopia the Bhutan of Africa. According to the sentiment that the many writers and commentators expressed on Ethiopian blogs, the two sides differ mainly on whether or not there is “freedom to choose” in Ethiopia. The experiences of the coffee sector and ECX now deliver the verdict, and both sides may agree, that there is no freedom of choice, whether it is ” where to live, what to do, what to buy, what to sell, from whom, to whom, when, and how.” 2

Except in the written Constitution.

The Ethiopian government just needs to live by its own written Constitution.

Source Nazret.com