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#59 | Re:co Podcast – Dr. Janina Grabs on Overcoming the Single Exit Fallacy (S1, Ep. 4)

Today, we’re very happy to present the fourth and final episode of “Macroeconomic Dysfunction in the Coffee Trade,” a session recorded at Re:co Symposium this past April. This session convened experts to understand the functions and challenges of the coffee system responsible for the volatile shifts in the coffee market. If you haven’t listened to the previous episodes in this series, we strongly recommend going back to listen before you continue with this episode. 

Despite the best efforts of industry actors and producing-country governments over the past decades, the coffee sector continues to suffer from recurring crises that affect the livelihoods of millions of smallholder producers. Why are our solutions not working as intended? In today’s episode, Dr. Janina Grabs of the University of Munster and visiting researcher at Yale University, argues that there is a need to closely consider the scale at which different initiatives may create positive change. In particular, scaling up initiatives that are based on differentiation, or on productivity increases, is likely to have counterproductive results unless carefully managed. In addition to such solutions that may work well in niche markets or local settings, there is a need to fundamentally reconsider the systemic problems of the sector, such as the cyclical volatility of the free market system, and rethink the possibility of systemic solutions.

Special Thanks to Toddy 

This talk from Re:co Boston is supported by Toddy. For over 50 years, Toddy brand cold brew systems have delighted baristas, food critics, and regular folks alike. By extracting all the natural and delicious flavors of coffee and tea, Toddy Cold Brew Systems turn your favorite coffee beans and tea leaves into fresh cold brew concentrates, that are ready to serve and enjoy. Learn more about Toddy at http://www.toddycafe.com.

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Table of Contents

0:00 Introduction
2:40 The more coffee producers across the world try to differentiate themselves by growing higher quality coffees, the less money they will all ultimately make.
5:00 Coffee producers respond to high prices by planting coffee, fueling long price troughs. There has also been downward trend in inflation-adjusted coffee prices over the last 50 years while costs have risen.
8:30 The promise and shortfalls of private sustainability standards
13:00 How specialty coffee can avoid the “burning theater” trap by targeting under-privileged producer groups and offering sustainable and transparent prices for larger quantities of coffee
16:00 We need an honest conversation on the scalability of a model built on diversification, for both environmental and economic reasons.
20:50 Outro

Full Episode Transcript

0:00 Introduction

Peter Giuliano: Hello everybody, I’m Peter Giuliano, SCA’s Chief Research Officer. You’re listening to an episode of the Re:co Podcast, a series of the SCA Podcast. The Re:co podcast is dedicated to new thinking, discussion, and leadership in Specialty Coffee, featuring talks, discussions, and interviews from Re:co Symposium, the SCA’s premier event dedicated to amplifying the voices of those who are driving specialty coffee forward. Check out the show notes for links to our YouTube channel where you can find videos of these talks.

This episode of the Re:co Podcast is supported by Toddy. For over 50 years, Toddy brand cold brew systems have delighted baristas, food critics, and regular folks alike. By extracting all the natural and delicious flavors of coffee and tea, Toddy Cold Brew Systems turn your favorite coffee beans and tea leaves into fresh cold brew concentrates that are ready to serve and enjoy. Learn more about Toddy at toddycafe.com. Toddy: Cold brewed, simply better.

Re:co Symposium and the Specialty Coffee Expo are coming to Portland in April 2020. Don’t miss the forthcoming early-bird ticket release – find us on social media or sign up for our monthly newsletter to keep up-to-date with all our announcements.

Today, we’re very happy to present the fourth and final episode of “Macroeconomic Dysfunction in the Coffee Trade,” a session recorded at Re:co Symposium this past April. This session convened experts to understand the functions and challenges of the coffee system responsible for the volatile shifts in the coffee market. If you haven’t listened to the previous episodes in this series, we strongly recommend going back to listen before you continue with this episode.

Despite the best efforts of industry actors and producing-country governments over the past decades, the coffee sector continues to suffer from recurring crises that affect the livelihoods of millions of smallholder producers. Why are our solutions not working as we intended?

In this episode, Dr. Janina Grabs of the University of Münster and visiting researcher at Yale University, argues that there is a need to closely consider the scale at which different initiatives may create positive change. In particular, scaling up initiatives that are based on differentiation, or on productivity increases, is likely to have counterproductive results unless carefully managed. In addition to these solutions, that may work well in niche markets or local settings, there is a need to fundamentally reconsider the systemic problems of the sector, such as the cyclical volatility of the free market system, and rethink the possibility of systemic solutions.

Also, to help you follow along in this podcast, I will chime in occasionally to help you visualize what you can’t see.

 

2:40 The more coffee producers across the world try to differentiate themselves by growing higher quality coffees, the less money they will all ultimately make.

Janina Grabs: Good morning, everybody and thank you so much for having me. I would like to start with a parable that is a story that tells us something about the world. My parable is called “The Fallacy of the Single Exit.” Imagine you’re in a crowded theater with thousands of seats and a fire breaks out. Everybody looks around panicked, trying to find a way out. The good news is that there is an emergency exit, the bad news that there is only one. As everybody scrambles towards it the first person closest to the exit gets out unscathed as does the second and the third. But how about the one hundredth? How about the person at the very other end of the room? The more people storm the exit, the more crowded it becomes and clogged and the less useful it is to latecomers. In commodity markets, we know the parable of the single exit very well. It is the elusive goal of differentiating oneself from the mainstream, of being unique in the marketplace of interchangeable goods.

Yet, more often than not, this quest for differentiation by following short term trends just leads us to look all the more alike, not unlike the quintessential hipster. This is bad enough for brands which continuously need to innovate. It is worse for producers who work hard to fulfill the novel demands the supply chain passes down to them. Fulfilling such demands frequently creates high costs, often upfront as producers change the way they grow and process their coffee. They do this because of the expectation of higher prices and privileged market access yet the more producers follow the same exit out of the commodity market, the less value the strategy frequently brings to them. As the formally differentiated product becomes more mainstream, premiums erode, and the cycle starts anew. Instead of moving up to a higher level of value aggregation, they find themselves right where they started as if they had tried to move up a descending escalator.

Peter Giuliano: On screen is a picture of two escalators, one bringing people up, the other down. The caption reads “going up the wrong escalator.”

 

5:00 Coffee producers respond to high prices by planting coffee, fueling long price troughs. There has also been downward trend in inflation-adjusted coffee prices over the last 50 years while costs have risen.

Janina Grabs: Understanding this dynamic creates a special responsibility for buyers, development experts and researchers such as myself to closely consider the benefits and drawbacks of differentiation strategies and a question, at which point we need more systemic solutions to our sustainability problems. By drawing on my research on private sustainability standards and drawing parallels to the current wave of quality differentiation I want to encourage us to reflect on three key points when thinking about ways to help farmers differentiate themselves. First given that there is a first mover advantage differentiation, that is, the first person benefits more than the last. Whom are we targeting and helping first and can we make those decisions in a more strategic and equitable manner? Second, given that differentiation frequently creates upfront costs for farmers, how can we make market signals of future demand more clear, honest and long-term to allow farmers to recoup those costs? And third, given that upscaling risks diluting the benefits for all, how many farmers can we help before solutions stop working as intended.

I want to start off with showing two graphs, which have also been shown before, which characterize a broad challenge. In our parable, we could call this the burning theater.

Peter Giuliano: Janina’s graph is titled “The Burning Theater.” The graphs shows that, over the last 50 years, there have been five short sharp peaks of high prices and many long stretches of lower prices.

Janina Grabs: This first one is the long run development of ICO indicator prices. We can clearly see the volatility and, more importantly, the short peaks and long valleys of price development. This is typical for perennial crops such as coffee or cocoa, which is tree crops or grown over several years. Planting decisions in one-year lock farmers into producing 10 to 15 years of output on the same production surface unless they want to rip their trees out before those reach maximum productivity. Hence, if farmers react to peak price signals by planting more coffee this can lead to long-run overproduction and low prices until demand and supply align again. In the second graph, I used the same data but adjusted it to inflation.

Peter Giuliano: The same graph is now flattened, with a clear downward trend. It shows the long run inflation-adjusted price for coffee has more than halved since the 1960s.

Janina Grabs: Consumer prices have been rising at steady rates for the vast majority of goods. Indeed, in the United States, the consumer price for coffee has risen sevenfold since the 1960s and inflation is also a key concern for consumer prices and producing countries as well as input and labor costs. According to ICO estimates production cost at origin increase between 3% to 8% every year. Yet, green coffee prices do not follow the same trend. If we adjust them to inflation, we can see a steady downward trend in the real price of green coffee over the years. Hence, in addition to volatility, we really need to think about how to lift prices, long term to more sustainable levels.

 

8:30 The promise and shortfalls of private sustainability standards

Janina Grabs: This is all the more important if we also care about the environmental and social sustainability of coffee production. Indeed, improving sustainable practices on the ground has been a major focus of my research over the last three years. It allowed me and my colleagues at the University of Münster to survey over 1900 farmers in Costa Rica, Columbia, and Honduras. We did this to understand the complex decisions a farmer needs to make day by day in order to be sustainable. Through it, I learned that environmental protection and social welfare measures can only be taken if a farmer can afford to do so and indeed, many sustainable practices create higher cost for farmers, ranging from shade production, overpaying fair wages that lie above regional averages to acquiring personal protection equipment and protecting on farm ecosystems.

This is why I became interested in the potential of private sustainability standards to increase the value added at the farmer level.

Peter Giuliano: Janina’s slide shows different private sustainability standards, including Fairtrade, USDA Organic, Rainforest Alliance, UTZ, 4C, Starbucks C.A.F.E. Practices and the Nespresso AAA Sustainable Quality Programme.

Janina Grabs: Such labels emerged as niche initiatives targeting a very narrow segment of conscientious consumers. But, over time it was soon recognized that for widespread sustainable change to occur, many farmers needed to be able to afford practices that would protect their forests and streams, protect their workers and provide their children with safe housing and a good education. Hence, standards have aimed to upscale and enter the mainstream and this is where the parable of ” The Single Exit” becomes particularly relevant. Farmers that participated in sustainability standards are promised higher prices and improved market access.

Certification schemes do this in two ways. The first option is to regulate price floors and premiums directly as done in the fair trade model. The second option, pursued by all other sustainability standards, is to use market-based premiums. This means that premiums are negotiated directly for every single contract based on prevailing market power and the demand and supply of certified goods. What neither system tried to do was to manage supply to meet demand, for instance, by limiting the entry of new producers. Instead, they’re optimistic forecasts of future demand based on projections and the promise to increase demand at the same time as expanding output. Thus, in the early 2000s certification was seen as the exit out of the commodity market and sold to producers as such. Buyers were making promising commitments, the premiums were substantial, and the demanded practices were often very costly, held the potential to increase farm and community resilience as well and so it was for a number of years. However, as more farmers joined these schemes making upfront investments and considerable efforts to get certified benefits started to diminish.

Peter Giuliano: Janina’s chart shows coffee production and coffee sales of different sustainability schemes. The point to note is that supply is always higher than demand. Supply has been growing year on year throughout the 2010s, and growing much faster than demand. But, in 2017, supply decreases for the first time.

Janina Grabs: Today only, 22 to 42% of certified products also get sold under a label in each category. This has led to struggle for producers to access markets, the erosion of market-based premiums and a high level of disenchantment at the producer level in maintaining the costly practices. Indeed, we can see that in 2017 it’s the first year that the overall supply of certified product is decreasing for a number of schemes and even before that, the turnover rate for some schemes has been quite high, as motivated new producer groups replaced those that dropped out due to the perception of insufficient benefits.

 

13:00 How specialty coffee can avoid the “burning theater” trap by targeting under-privileged producer groups and offering sustainable and transparent prices for larger quantities of coffee

Janina Grabs:  So, what’s next? From what I hear on the ground, pursuing quality improvements is the next secret sauce to exit the commodity market and access specialized demand. So, quality today is where certifications were in the early to thousands, with validated consumer interest in the niche, high hopes for its expansion and an almost singular focus on value aggregation at the producer level. I want to argue that lessons learned from the world of sustainability standards are highly applicable to the future of specialty coffee as well.

Let us return to the three points I mentioned at the beginning. Whom are we targeting and helping first? How can we make signals of future demand more clear, honest and long-term and how many farmers can we help before solutions stop working as intended. First, we now that the benefits of differentiation are skewed towards the early mover. In certification this has often meant farms that are comparatively larger, farmers with a higher level of education and professionalization and those producer groups that had already made connections and invested in international market access. As stragglers have tried to replicate these strategies they find themselves in a double bind because benefits are diminishing while they have to work even harder to access these markets. In specialty coffee, we have a unique opportunity to be selective in sourcing and to create long-term relationships with comparatively underprivileged farmer groups. Being aware of the long term repercussions of who we start working with and making an extra effort early on to connect with producers who haven’t had access to international markets yet can go a long way in making specialty coffee more equitable.

Second, we need to think more about how to communicate demand in a way that is clear, honest and fair to producers who make upfront investments to meet this demand. In certification, sourcing commitments have been vague. They’ve frequently not been specific to standards or geographic regions, allowing buyers to move in and out of origins and leave certified producers in the lurch.

Peter Giuliano: Janina’s graph shows coffee sales of the major sustainability standards – Rainforest Alliance, 4C, UTZ, Fair-trade and USDA Organic. The point to note is that the most popular schemes amongst coffee buyers are those which give the smallest premiums back to producers.

Janina Grabs: And as we can see in this graph, over time demand has trended to those schemes which pay the lowest premiums and do not support price floors. This, of course, is cheapest for buyers, but it also brings the lowest amount of benefits to producers.

 

16:00 We need an honest conversation on the scalability of a model built on diversification, for both environmental and economic reasons.

Janina Grabs: In specialty coffee, we’re well on our way to delink price discovery from the C market and establish new price flows based on the cost of sustainable production at origin through the use of long-term contracting. I highly applaud and encourage this practice, yet the transparent transaction guide shows that still then the prices payed for larger lots are much closer to the C level than those paid for small quantities.

The next step then has to be to build medium level scaling solution into the model itself. One great example of this is the use of multi-tiered contracting and direct trade, which expands the amount of coffees directly traded down the quality pyramid by setting fixed prices for separate quality tiers sourced from the same producer group or cooperative. Such contracts, especially if they’re maintained over several years and at stable prices, irrespective of where the C is at, allow the search for excellence in the next best unicorn while providing stable support for producers. Most importantly, they provide the consistency and demand signals that producers need to plan ahead and make investments with a good idea of their future pay off. Third, I think that we need to have an honest conversation about the overall scalability of a model built on differentiation. The oversupply on certified coffee today, I believe, can be traced back to two sources. The first is that producers and traders anticipated a higher demand than there turned out to be and were uncoordinated in their upfront preparations to meet this demand. This can be linked back to the weak demand signals. The second, however, is that certified producers, once they’re in the system, are frequently encouraged to increase productivity, both to make sourcing easier and to improve their farms profitability. However, there are trade-offs involved. First, the signal locks on early movers, making it comparatively harder for latecomers to access these same markets.

Second, it drives down prices for all as the product moves from scarce to more widely available and third, they’re negative environmental consequences that can come from encouraging farmers to intensify specifically with regard to shade production and the implementation of agroforestry. Hence, I think there’s a need to talk about sustainable intensification both from an environmental, but also from an economic perspective as well. Let us not forget that one of the main reasons for the current coffee price crisis is oversupply in the mainstream market caused by Brazil’s record yields. Even in emerging alternative markets such a specialty coffee increasing supply too fast, for instance, by adding in high numbers of producers or by indiscriminately encouraging intensification may lead to oversupply, price decreases, and producer dropout much like we currently experience in sustainable coffees.

How do we guard against this? My first recommendation is, to be honest in identifying where an effort to scale makes sense and where it might dilute solutions that have been working well in the niche. This meets hard conversations about how many people we can help to differentiate themselves and even harder ones as noted about who these people are. Yet pursuing niche approaches in a long term fashion that allows for planning certainty in itself is an important component of sustainability and in my eyes may be better than scaling up so fast that promised benefits may not materialize. Finally, the efforts made in the specialty coffee world, particularly in appreciating the sustainable cost of production at various origins and endeavoring to cover it need to spill over into the mainstream market as well. The hard reality is that prices such as these do not work even for the most productive origins, such as Brazil or Vietnam and frequently leave environmental and social sustainability on the table. Pricing these in again has to be done at scale. We need to tackle the macroeconomic fire through if we will, a holistic sprinkler system rather than a single exit. Doing this will require the collaboration of producing and consuming country actors in hitherto unprecedented ways and I look forward to many conversations over the next two days on how to do this in practice. Thank you so much for your attention.

 

20:50 Outro

Peter Giuliano: That was Dr. Janina Grabs at Re:co Symposium this past April.

Remember to check out our show notes to find a link to the YouTube video of this talk, a full episode transcript, and a link to speaker bios on the Re:co website.

Re:co Symposium and the Specialty Coffee Expo are coming to Portland in April 2020. Don’t miss the forthcoming early-bird ticket release – find us on social media or sign up for our monthly newsletter to keep up-to-date with all our announcements.

This has been an episode of the Re:co Podcast, brought to you by the members of the Specialty Coffee Association, and supported by Toddy.

Subscribe to the #SCApodcast on iTunes, Stitcher, Soundcloud, Pocket Casts, or RadioPublic.

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