Why Have Food Price Fluctuations in the U.S. and China Become More Correlated?

Since China joined the World Trade Organization (WTO) in December 2001, food price fluctuations in China started to be strongly correlated with those in the U.S.:

• Between 1994 and 2001, the correlation was 40 percent.
• It was 62 percent between 2002 and 2013.

Similarly, the correlation between consumer price index (CPI) inflation in the U.S. and China more than doubled from 23 percent between 1994 and 2001 to 59 percent between 2002 and 2013. This pattern of price correlations is interesting because food prices are an important component in the CPI. There are several possible explanations for why the correlations between food prices and between CPI inflation rates in both countries are so strong.

World Food Prices

The movement of world food prices (and other commodity prices) seems likely to be a reason, since China’s food prices are strongly correlated with world food prices (80 percent correlation between 2002 and 2013). However, the correlation between U.S. food prices and world food prices was not as strong during the same period (34 percent).

Exchange Rates

Looking at food prices from a monetary standpoint, another explanation could be related to currency exchange rates. China has a targeted floating exchange rate with the dollar, so higher money supply in the U.S. should lead to higher money supply in China. If this were true, CPI inflation in China and the U.S. should fluctuate in similar patterns. The correlation between CPI inflation in the U.S. and China strengthened after 2002, as noted above.

Trade

Given that both correlations are stronger after China joined the WTO, and since there has not been any significant shift in monetary and exchange rate policies toward closer policy coordination (if anything, China has relaxed the yuan’s link to the U.S. dollar in recent years), the structural change can likely be explained by the surge in trade between China and the U.S.

In 2013, the U.S. exported $25.9 billion of agricultural products to China (about 18 percent of total U.S. exports total U.S. agricultural exports), including $3.7 billion in livestock and animal products, $4.7 billion in grains and feeds ($1.2 billion of which was corn) and $13.4 billion in soybeans. During the same year, the U.S. imported $4.4 billion of agricultural products from China (about 4 percent of total U.S. imports total U.S. agricultural imports), including $0.6 billion in livestock and animal products and $1.2 billion in fruit and vegetable products, in addition to $2.7 billion of fish (which is considered a nonagricultural commodity).

Agricultural trade between both countries is substantial and has been increasing, making China’s food prices sensitive to U.S. food prices. Urbanization and higher incomes have helped shift Chinese diets to be more protein-based, further fuelling demand for feed cereals and livestock and putting upward pressure on U.S. agricultural products. Such developments will eventually affect food prices and CPI inflation in the U.S.

Additional Resources

• On the Economy: How Risky Is China’s Shadow Banking System?
• On the Economy: Why News of China’s Economy Surpassing the U.S.’s Should Be Met with Caution
• Dialogue with the Fed: Emerging Giants: Perspectives on China and India