Stirring up trouble

Rural China, like the rust-belt industries in the north of the country, is struggling to shrug off the legacy of the old centrally planned economy. Tens of millions have left the land for the towns and cities, but the sector remains over-manned and inefficient, with most fanners working smallholdings.

Despite market forces now dictating the price of most goods and commodities in China, staple foods still attract regulation, price controls, quotas and intervention. It has proved almost impossible to drag agriculture into the modern, industrialised era of an efficient market economy.

Sugar production is a case in point. Capacity levels are well in excess of domestic demand, with China's 539 refineries capable of producing more than10.5m tonnes annually, against demand of around 8m tonnes in 2000. l.n 1998 output was held at 8.8m tonnes, while demand was at 7.5m tonnes, since when the authorities have reined in production to force a shortfall. This year, output is predicted by the State Planning Development Commission to fall to just. 7m tonnes, leaving supply excluding stock of around 1.2m tonnes 1m tonnes adrift.

Stirring up trouble
There is cut-throat competition among sugar producers from developing countries, which makes export markets difficult to penetrate. China's 1998 surplus was especially hard to shift because international prices were very low during the Asian financial crisis, when regional economies were depressed and the yuan was comparatively strong. The effects lasted into the following year, when China's sugar exports fell by 16 percent to 367,000 tonnes. China was a net importer in 1999, even as imports contracted 18 percent to 417,000 tonnes.

Subsidising exports
Other countries are equally keen to offload surpluses, including Thailand, which has regarded China as a target destination in the past. Supporting exports has been costly for the Chinese treasury. Sugar was one of a number of priority sectors that benefited from increased tax refunds on exports starting in early 1998, and which amounted to a total of Yn43.7bn across all sectors that year.

The cost of production is high, and is inflated by political considerations which dictate that rural incomes must be supported if the countryside is not to fall further behindthe more prosperous cities. China has all but given up the idea of exporting sugar, settling instead on satisfying demand at home, and engineering a balance between supply, stocks and demand. Caught in the closed and depressed environment of a regulated industry in a lacklustre market, sugar invites little investment. The government has to lean on the banks to support the industry. Even then, prices dip around the turn of the year as farmers sell crops cheaply to secure the funds they need at this time in the season.

How, then, is China to turn around the sector? Sugar is a major component of the rural economy in several regions. Guangxi, for example, is China's top producer, but one of its poorest provinces. Nationally, sugar is part of an agricultural sector in need of urgent reform if it is to meet the challenge of China's imminent accession to the World Trade Organisation (WTO), which will lead to a gradual opening up of the rural economy and an increasing penetration of foreign commodities in the domestic market.

Prevailing conditions may be ripe for a comprehensive shake-out of the industry. While prices were depressed, the sector as a whole endured mounting losses, low returns and squeezed margins. The sugar industry had accumulated around Yn10bn in losses by the close of 1999, on State Economic and Trade Commission figures. With prices buoyant again, profitability should improve. Now may be a good time to rationalise the sector, letting irredeemable operators go to the wall. How-ever, this may not necessarily happen. Some low-end operators and their local backers in government argue that their prospects are now improved, so they should be left alone.

Mixed blessing
High prices are a mixed blessing. At current levels, China is uncompetitive in world terms, leaving the domestic industry vulnerable to a surge in imports, or, as in previous years, to smuggling. Despite government moves to cool sugar prices, they have remained stubbornly high, running ahead of a minimum auction selling price in 2000 of Yn3,500 per tonne by Yn200 in Yunnan and Yn400-500 in Guangxi. This compares with a price of just Yn1,850 a tonne in Guangxi last year. Such volatility is unhelpful to China's planners as they try to carry out a controlled restructuring.

To stabilise prices, the authorities continue to tinker with supply levels. Planted acreage is being cut back, so that cane and beet tonnages are falling. There are a few places where planting is being encouraged for strategic reasons – for example, the government wants to centre sugar production on the provinces of Guangxi, Yunnan, Xinjiang and Guangdong.

Isolated initiatives are also being taken in other parts of the country, such as a United Nations Development Programme cooperation project on beet research and production in Heilongjiang. In addition, some individual provinces have their own agendas on sugar – Hainan, for example, has been looking for improved cane seed from abroad.

The overall production trend, however, is downwards, with 200,000 hectares taken away from sugar in 2000. Acreage was also withdrawn in 1999, down 18 percent to almost 1.63m hectares of sugar in a year when China's total crop growing area was allowed a marginal expansion to 156m hectares.

One factor was low sugar prices which persuaded some farmers to turn to other crops. Another disincentive to farmers was the fact that many were being paid in IOUs by refiners, leaving them short of ready cash. Climate also played a part. An estimated 100,000 tonnes or more of sugar harvest was lost to exceptional frost in Yunnan last winter. For all these reasons, cane and beet out-put fell 13 percent in 1999 to 85m tonnes, according to a National Bureau of Statistics estimate.

Preventing land returning to sugar
With prices now restored, the authorities face a tricky task in preventing farmers returning land to cane and beet. Over the long term this may not be a problem since demand for sugar in China is rising, so output will be able to grow year on year even if a cap on production is enforced.

Refining capacity, too, is being reduced. Some 150 loss-making sugar plants are to be axed once the October to April crushing season has ended. China reckons this will take out those responsible for around 86 percent of total losses in the industry. The 150 are said to have accumulated combined losses of Ynl.9bn in the 1998/99 season. China closed 149 refineries in 1999, according to the State Economic and Trade Commission, taking 2m tonnes out of production.

Early signs of this rationalisation are positive. China says sugar deficits were reduced in the first quarter of 2000, after a fall of Yn1.5bn in 1999. China's remaining refiners may indeed be more efficient than those being shut down, but major problems remain unresolved. The cost of raw sugar may have to stay artificially high if the overriding political objectives on income are to be met in the countryside. WTO membership also looms, with no obvious signs that agriculture in China is responding to the challenge. In May the Chinese Academy of Social Sciences warned that imported sugar was likely to be cheaper than domestic sugar once China entered the WTO. At least one multinational with a presence in China expects a surge in imports once tariffs drop.

Sacrificing saccharin
On a separate front, the authorities are targeting artificial sweeteners for the harm they inflict on the sugar industry. Saccharin is blamed for taking market share as a substitute widely used in food and drink processing. The 47,000 tonnes of saccharin produced in 1998 is believed to have contributed to the difficulties sugar suffered that year.

The authorities want only 16,000 tonnes in 2000, which would wind the clock back closer to levels in 1992, when China produced 17,000 tonnes of saccharin. A maxi-mum of only 3,000 tonnes will be allowed on the domestic market in 2000, compared with 8,000 tonnes in 1999. The industry is encouraged to export as much as it can.

Again, China is sacrificing capacity to resolve the problem. There were 14 saccharin plants in operation in 1999. Seven were bankrupted and two switched production, leaving five in 2000, with capacity totalling around 18,500 tonnes a year.

The State Administration of Petroleum and Chemical Industries, the responsible body, estimated saccharin production at 7,750 tonnes at the half-year mark, within the annual target of 16,000 tonnes. Domestic sales were also on course for under 3,000 tonnes in 2000, posting 1,280 tonnes in the first half of the year. Between January and June, China's five surviving saccharin companies achieved 6,560 tonnes in exports.

In the broadest terms, China's sugar industry suffers from a malaise common to industrialising agrarian economies. The country still has a vast agricultural base, on which the majority of the population depends. But agriculture's problems are compounded by the difficulty the government faces in moving away from direct intervention. Sugar is still regulated by the central government because of its political importance as a labour-intensive industry. The authorities dare not expose the sugar industry to the free market, but this is what will happen anyway under membership of the WTO – unless the government decides to step in to protect the market.