Market Report

The beans from Brazil

On the corner of a narrow brick street in downtown Santos, Brazil, sits a beautiful structure housing Museu do Café. Even though th undefined

e coffee museum welcomes about 300,000 visitors a year, it sees far less activity than it did nearly a century ago.

At that time, the museum was the official coffee exchange for the Brazilian coffee industry. As one of the main port cities for Brazil, a high volume of coffee was traded in the grand hall of the building, which still retains the wooden broker seating in an oval shape around the officiator’s throne.

Also intact is the massive stained-glass mural overhead, depicting the region’s transition from sugarcane to coffee and then the city’s vast expansion as the coffee industry proliferated. The stained-glass was idealised by painter Benedicto Calixto and executed by Casa Conrado.

Coffee first established roots in Brazil in the 18th century. By the mid-19th century, coffee had become the country’s number-one export, while the country had become the number-one global producer. Over the decades, as global production expanded and Brazil increasingly diversified its export markets,

Brazil’s contribution to the global coffee industry as a share of total production has steadily declined, though it still holds the number-one spot.

Today, Brazil produces about one-third of the global industry’s coffee, with the majority of exports going to the United States, the European Union (particularly Germany, Italy and Belgium) and Japan. Despite lower production in recent years due to severe drought that has affected most coffee-growing regions in the country, Brazil still far surpasses any other country’s coffee production.

As such, “Brazil has a high standard deviation, meaning any shocks to production have a major impact on the global industry,” explains Carlos Mera, Senior Commodity Analyst at RaboBank’s research arm. “You could almost ignore what’s happening in other regions and dedicate all your attention to Brazil.”

Drought’s greater implications
Those shocks have been felt locally and abroad as drought has plagued the country.

From 2014 to late 2016, most Arabica- and Robusta-growing regions recorded high temperatures and low rainfall.

“The north of Espírito Santo and the south of Bahia faced the worst drought in history,” says Eduardo Carvalhaes, conselour at Museu do Café. “This strongly affected the coffee production of these regions, while our stocks decreased tremendously because the exports of both green and soluble coffee continued to increase through 2016 and internal consumption did not fall.”

He explains that the alternating cycles of the perennial plant make the industry especially susceptible to climate events. An off-cycle year combined with the negative effects of global warming have had drastic implications for the domestic industry and, thus, the global industry.

While last year was a good year for Arabicas, having experienced drought earlier than Robusta regions and being in an on cycle, “Robusta production went the opposite way,” explains Vanusia Noguiera, Executive Director for the Brazilian Specialty Coffee Association (BSCA). Espírito Santo, the major region of conillon (Robusta) in Brazil “suffered with a very severe drought and production went down drastically.”

According to BSCA data, total Robusta production dropped 28.6 per cent in 2016 to just 8 million bags. The severe drop reduced stocks of Robusta, which makes up about one-quarter of the country’s total coffee production, causing the price of the generally lower-quality beans to jump.

“The shortage in Brazil caught many exporters and local traders by surprise,” Mera tells Global Coffee Report. “We saw 400,000 bags of green conillon being exported from Brazil in the 2016/17 crop year, despite not being economical. [Green] coffee cannot be imported into Brazil, so the internal price for Robusta surged. For a few days in December 2016 and January 2017, the domestic market saw Arabicas and Robustas trading at the same price.”

The flow-on effect meant coffee for domestic consumption, which is mostly Robusta varieties, was selling at prices much higher than domestic buyers could pay. Says Noguiera, “Prices for the internal market are high and the industry argues [buyers] can’t pay the level of prices the producers are asking for their product.”

The drought conditions have also pushed many coffee producers to explore other crops, particularly black pepper. In Mera’s recent research trip to Brazil, “we saw whole hills asphalted with black pepper,” he detailed in RaboResearch’s Brazil 2017/18 Coffee Survey. “A couple of farmers told us that they uprooted coffee trees in the worst plots to plant pepper. However, after reaching an incredible [trading] price last year, pepper [no longer represents] the formidable threat to the coffee area it once did.”

Expanding domestic consumption
While maintaining its leadership as the top producer of coffee, over the years Brazil has also managed to become the number-two consuming country – behind the United States. Because of the traditionally lower price point for Robusta, much of that stock stays within the country for domestic use.

“Coffee consumption within Brazil rose over the past 20 years to approximately 21 million bags per year,” says Carvalhaes, whose family has been a part of the Brazilian coffee industry almost as long as it has existed. “Despite the current economic crisis in Brazil, consumption has not decreased in Brazil – 96 per cent of Brazilians say they consume coffee.”

Compared to less than 13 million bags 20 years ago, today’s domestic consumption represents a 75 per cent increase, according to the US Department of Agriculture’s Foreign Agricultural Service annual GAIN Report.

While the country has increasingly acquired a taste for coffee, the majority consumed is instant. Considering its volume of Robusta production, the variety used for instant coffee, Brazil is the number-one producer of instant coffee. It is also the leading exporter of instant coffee, which makes up at least 10 per cent of total coffee exports, according to the GAIN Report.

The drought’s implications on the instant coffee market has caused a ripple effect through the supply chain. With Robusta production dropping to a 12-year low, instant coffee producers are anxious about sufficient Brazilian supply, so much so that the Agriculture Ministry considered importing extra Robusta from Vietnam in February.

Because Brazil does not allow imports of green coffee as a way to protect its local crops against foreign diseases and pests, the authorisation to import was a drastic step for the country – one that was not received well among growers.

In February, the temporary import plan was approved, but President Michel Temer was forced to put it on hold the following day after protests broke out. The same happened just two years earlier when the Brazilian government first toyed with the idea of importing beans to meet roaster demand amidst hampered production. It authorised some purchases from neighbour Peru, but the decision was overturned within days.

As of print, Temer had not made any further decisions about allowing the imports from Vietnam, leaving local farmers temporarily subdued and the government free to attend to other civil unrest. Meanwhile, the country’s biggest instant coffee producers, such as Nestlé and Companhia Cacique de Café Soluvel, have been turning down orders because they’re not confident they will have enough raw materials.

They’re also concerned that, as a result, they’ll lose market share in the global instant coffee market as competitors in other countries easily import the Robusta beans they need – and at a fraction of the cost, considering Robusta’s high trading price in Brazil due to low supply.

According to a report from Reuters, the Brazilian government estimates that last year’s record-low Robusta harvest left recent stocks at about 2 million bags. Instant coffee processors say that isn’t even enough to satiate two months of demand.

Still, local growers and their allies remained confident that they would be able to meet demand until the next harvest comes in to replenish stocks.

Brazil's coffee museum

Quality at the forefront
In addition to increasing domestic consumption, Brazil has become a greater force in the premium coffee space.

“Brazilian production of Arabica and conillon has been increasing in quality, as evidenced by more Brazilian Association of Coffee Industry certifications,” says Carvalhaes, referencing Brazil’s number of differentiated green coffees with superior quality and the high volume of sales to big companies like Starbucks and Nespresso.

José Dauster Sette, the newly appointed Executive Director at the International Coffee Organization and a Brazil native, has seen the country’s evolution to higher-quality coffee in his more than 35 years in the coffee industry. In the early part of his career, ICO was still enforcing a global export quota system it had established in 1962 under the International Coffee Agreement to help keep global coffee prices stable. By the time the quota system was enacted,

Brazil had moved its coffee auctioning from the Official Coffee Exchange in Santos to Sao Paulo.

“During the times of the quota system, the emphasis in Brazil was put on volume and not on quality and there was also an emphasis on the export market rather than on internal consumption,” he tells GCR. “The industry has changed radically. Now there is much greater emphasis on quality and Brazil has become recognised as a supplier of fine coffee.”

Recovery on the horizon
Despite the consistent drought conditions during the past couple of years, experts forecast the Robusta market to turn around following rains last winter.

Says Noguiera, “We have had good weather in the [Robusta] coffee areas until now, so the expectations are that production will start to recover this year.”

Mera concurs, and forecasts a significant recovery in Robustas by the 2017/2018 harvest – “but not a record crop.” Because Robusta-growing regions only started to see rain and lower temperatures in November, “trees did not have much time for growth,” he explains. “[As such] production is likely to remain well below record pre-drought levels.” RaboResearch estimates 12.5 million bags of Robusta in the next harvest.

As Noguiera previously noted, Arabica crops had already bounced back, producing a strong harvest of 42 million bags this past season.

“Arabica trees have fully recovered from the drought already for last year’s harvest and have been growing well,” adds Mera.

Coming off a strong year and entering an off-cycle year, RaboResearch estimates modest output for the 2017/18 Arabica harvest – at 36.7 million bags – but a “bumper crop” in the following on-cycle harvest year.

“Temperatures are not too high, [but] it has been drier than normal in the main Arabica regions during most of 2017,” he says. “We will find out if the dryness affects the yields only during the harvest. It’s too early to tell as the crop is yet to flower, but if the weather is normal we could potentially see a very high Arabica crop.”

As mentioned, the massive size of Brazil’s contribution to the global coffee industry leaves buyers and roasters at the mercy of any disruptions to the supply chain.

Unfortunately with the impacts of global warming, Sette foresees greater potential for disruptions.

“The weather situation is improving in Brazil, but has not yet regularised,” he tells GCR. “As we move into the future, we are likely to experience greater variability.”

This reality is one of several reasons he hopes to better engage ICO in efforts toward coffee sustainability – social, environmental and economical.

“All things considered, Brazil has the most dynamic coffee-growing and storage operations among all producing countries, and arguably the lowest cost of production in the world,” says Mera. “If the weather is more or less normal and domestic prices don’t drop any further we would expect production to keep growing.” GCR

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