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Arbitraging the Market for Food Fears

A couple weeks ago, the best selling author Michael Lewis was on campus, and I went to listen to him talk. I’ve read several of Lewis’ books, and it was interesting to hear him talk about some of the underlying themes that united them.

In his 2017 book, the Undoing Project, Lewis writes the history of Kahneman and Tversky and the development of behavioral economics, a field that posits people do not always make rational decisions. In an earlier book, Moneyball (published in 2004), a few stat/econ types realized baseball teams were leaving money on the table by ignoring data on what really drives team wins. One team manager, Billy Beane, attempted to arbitrage the market for players by buying “undervalued” players and putting them to higher-valued use. In another earlier book, the Big Short (published in 2010), Lewis talks about the people who made big bucks on the financial crisis by recognizing that markets were “mispricing” the risks of systemic mortgage failures. In some ways the books are out of order because Lewis’s earlier books described how various people made serious money from the sorts of behavioral biases that Kahneman, Tversky, and others uncovered.

What’s this got to do with food?

Many of the systematic biases that lead people to mis-price baseball players and mortgage-backed securities are likely leading people to mis-price foods made with new technologies. Take GMOs. A Pew study found 88% of scientists but only 37% of the public thought GMOs are safe to eat. Is it possible scientists are wrong and the public is right? Sure, but if you had to place a bet, where would you put your money?

Or, let’s take at a widely studied behavioral bias - the tendency for people to exaggerate the importance of low-probability risks. The propensity to overweight low probability events was one of the cornerstones of prospect theory, which was introduced by Kahneman and Tversky. This theory is sometimes credited as herding the birth of modern-day behavioral economics, and the paper was a key contributor to Kahneman later winning a Nobel Prize. If there is a 1% chance of an outcome occurring, when making decisions, people will often “irrationally” treat it as a 5% or 10% chance. There are many, many studies demonstrating this phenomenon.

Oddly, I have never seen a behavioral economists use this insights to argue that fears over growth hormones, GMOs, pesticides, preservatives, etc. are overblown. However, there are many food and agricultural scientists who argue that many of our food fears are, in fact, irrational in the sense that public perceptions of risk exceed the scientific consensus.

Now, getting back to Michael Lewis’s books on the people who figured out how to profit from behavioral biases in fields as divergent as baseball players and mortgage-backed securities, if we really think people are irrationally afraid of new food technologies, is it possible to put our money where our mouth is? Or, buy fears low and sell them high?

Here are a few half-baked thoughts:

  • If people are worried about the safety of food ingredients and technologies, shouldn’t they be willing to buy insurance to protect against the perceived harms? And if consumers are overly worried, they should be willing to pay more for insurance than it actually costs to protect against such harms. If we believe this is the case, then creating insurance markets for highly unlikely outcomes should be a money-making opportunity. On the plus side, such markets might also take some of the fear out of buying foods with such technologies since people can hedge their perceived risks.

  • Let’s say your Monsanto (now Bayer), Syngenta, BASF, or another seed/chemical company. What can you do to assuage consumers’ fears of your technologies, particularly if you believe the perceive risks are exaggerated? Why not offer up a widely publicized bond that will be held in trust in case some adverse event happens within a certain period of time? (This is like when contractors or other service suppliers attempt to gain trust by being bonded). If it is really true that consumers’ fears are exaggerated, the bond won’t be paid out (at least not in full), and will revert back to the company.

  • Did you know that it is possible to invest in lawsuits? Investors, whose money is used to front the legal bills, earn a portion of the payout if a plaintiff wins a settlement against a corporation or other entity responsible for some harm. The “price” of such investments is likely to rise the greater the public’s perceived odds of winning the case, which presumably related to perceptions of underlying risks. I can imagine institutions or markets arising that would enable investors to short such investments - to make money if the plaintiff losses the case. The current Monsanto-glyphosate verdict not withstanding, shouldn’t it be the case that one could profitability short lawsuits surrounding the safety of food and farm technologies if the fears around them are indeed overblown?

Other ideas?

Blockchain - from Bitcoin to Bacon

It was probably about a year ago I started hearing some rumblings about blockchain technology be of use in tracking agricultural products.  I was familiar with bitcoin so I had a vague sense of how the technology could be used in a traceability system.  But, until a few months ago, it wasn't so obvious to me how it could also be used to increase transparency and even help with contract fulfillment.

Fortunately, the latest issue of Meatingplace Magazine has a great article by Julie Larson Bricher that provides an easy to read primer on blockchain technology - what it is and how it's starting to be used in the food industry.  

Here's one excerpt:

So, what is blockchain? It’s a type of digital distributed leger, or shared database, in which transactions from multiple computers are security recorded into “blocks” of verified data entries in real time. These time-stamped blocks of data are linked together in a sequential chain, which means that the leger cannot be modified or changed.

The distinctive feature of the blockchain is its assurance of data integrity, which makes the records trustworthy – and this is what makes it so attractive to food supply chain companies. In a blockchain, the data can be trusted because all members in a network must agree to each new record is added to the ledger …

Numerous examples of the blockchain being tested in the food supply chain are given, including Cargill's traceable turkeys (where people could text or enter an on-package code to "access the farm's location ..., view the family farm story, see photos and read a message from the farmer."  Other firms mentioned as testing the technology include Tyson, Walmart, IBM, and Carrefour.  

To imagine how the technology might ultimately influence the industry, the piece included the following graphic that showed the types of information that could be included in a blockchain for poultry.  

blockchain_poultry.JPG

I'll end with this final quote on how blockchain could facilitate contracts:

Blockchain also enables the use of “smart contracts,’ which means that previously agreed terms, conditions or business protocols are built into the digital ledger and automatically triggered and enforced as the terms of agreement are met... By programming contract conditions and terms into the blockchain, contracts are executed by the system itself and not middlemen, which translates into time- and cost-saving business transaction efficiencies.

It will be interesting to see how this technology transforms the food supply chain and what information we consumers may have one day simply by scanning a bar code at the grocery store.

ABC, BPI, and LFTB

A couple weeks ago, the lawsuit between BPI, the maker of lean finely textured beef (LFTB), aka "pink slime", and ABC news finally came to an end after the two parties agreed to an settlement for an undisclosed amount of money (here's one summary from CNN).

Here's another story from Inside Sources that touches on the economic impacts of the original ABC news coverage.  They reached out to me for comment and you can read a tad bit of what I had to say at the link above.  

Better yet, check out the chapter in my book 2016 Unnaturally Delicious entitled "Waste Not Want Not."  In that chapter, I talked about the history of BPI and it's founder Eldon Roth, the technology used in creating LFTB, some intriguing background on how BPI wound up in the documentary Food, Inc., and more.  Here are the law few paragraphs from that chapter.    

It’s a bit hard to know what to make of all that transpired. To be sure, much of what was said about BPI was sensationalized. BPI didn’t use organ meats or bones or hoofs or hides or
“dog food.” The company used slightly fattier versions of same beef cuts that usually become roasts or ground beef. In fact, the day I visited BPI’s South Dakota plant, which is adjacent to a
Tyson packing facility, I was amazed at the beef entering BPI’s facility. The meat traveled on a conveyer belt in a tunnel that connects BPI and Tyson. A steer or heifer enters one end of the
Tyson facility, and a few hours later beef trimmings emerge at BPI without ever seeing the light of day. The trimmings consist of some small cuts of beef but there are also huge hunks of meat that looked almost identical to the briskets that I love to barbeque for get-togethers with friends and family. Lean finely textured beef is beef. That’s all. I suppose that’s why the company created a website called beefisbeef.com. No bone goes into the process. Big beef hunks go in one end and out the other end come three products: tallow, cartilage (which is the only waste), and lean finely textured beef.

I’ve visited a lot of food plants, and BPI’s was one of the most technologically advanced, safety-conscious plants I’ve seen. That a company that proactively invested millions in food safety measures found itself embroiled in controversy involving perceived (but unfounded) safety concerns is deeply ironic. What tarnished BPI’s reputation was no actual sickness or recall or outbreak; it was a series of TV shows and news stories.

But, given the information that consumers received, it is hard to fault them for their reaction. After all, best-selling authors and journalists have primed the public’s distrust of Big Food. In
an era when processed food has come to be seen as almost evil, “pink slime” struck a chord with consumers. Perhaps BPI should have required labeling of the beef that contained its products. Surely some of the public outcry arose from a feeling of having been deceived and of having no control over what is in our food. But from BPI’s perspective, what’s to label? “This product of ground-up beef parts contains more ground-up beef parts”? More fundamentally, BPI didn’t sell directly to consumers. Rather, the company sold to other processors, who sold to restaurants and grocery store chains. BPI was hardly in a position to force others to label products that contained lean finely textured beef.

So where does that leave us? Many shoppers, although I am not among them, no doubt want to avoid lean finely textured beef and are willing to pay a premium to purchase lean ground beef that does not contain it. There’s no harm in that.

But if we are really concerned about food waste, we probably need to change some of our narratives. We shouldn’t say we want companies to recycle and reuse and then turn around and vilify them for doing so.

The comedian Jon Stewart, who was more than willing to jump on the Big-Food-is-bad bandwagon, remarked that pink slime should instead be called “ammonia-soaked centrifuge-separated by-product paste.” He was working off a popular narrative. He could have instead featured the harm to a family owned business that was innovating to make food safer and more affordable by preventing food waste. But that’s not very funny.

Why is the milk at the back of the store?

That was the question asked in a Planet Money podcast, which re-aired earlier this week.  

The conventional answer was provided by the food writer Michael Pollan:

I’ve come to understand the landscape of a grocery store as a brilliantly designed landscape to get us to buy as much food and as much expensive food as possible. So my general impression is that the milk is in the back.

And it’s - but - and it’s not just that the milk is in the back. It’s also usually very far from the bread. Both of them are very common items that everybody needs, and so it makes you cover a lot of ground if you want them.

Another perspective was provided by the economist Russ Roberts:

Russ thinks the reason the milk is in the back is practical. It’s easier to keep the milk cold if it’s there. The delivery trucks come into the back of the store. Milk goes right into this refrigerated room that’s often right behind the cooler where you grab your milk. No one has to lug the milk through the store to some cooler in the front.

ROBERTS: Milk spoils very easily. I was told that for every degree of temperature it rises, it loses a day of being available and being sellable. So the argument I’m making, which is kind of a radical argument, is that you and I want the milk in the back, even though it’s a little less convenient. If it were in the front, it would be more expensive, and we’re not willing to pay that extra price. So I think they’re actually doing what we want, not what they want.

How can we know whose view is right?  To answer the question, we'd need to observe a world where milk doesn't need to be refrigerated and then see where grocery stores - in this alternative universe - place the milk.

As it turns out, such an alternative universe actually exists!  It's called France.

I spent part of 2011 on sabbatical and Paris, and when first grocery shopping I was surprised to find the milk often sitting right next to the laundry detergent or the cereal, unrefrigerated.  How is this possible? For reasons that aren't entirely clear to me, much of the milk sold in France is ultra-high temperature (UHT) pasteurized.  The process makes the milk "shelf stable" - it doesn't spoil when left unrefrigerated (I personally thought it tasted pretty terribly).

So, where do French grocery stores stock the milk?  I only have anecdotal evidence based on my own shopping experiences, but by and large I'd say it was NOT at the back of the store. It was often situated somewhere near the center of the store.  Moreover, some stores sold both UHT milk and "regular" refrigerated milk, and the refrigerated milk as typically at the back in a refrigerated case while the UHT milk was situated elsewhere in the store.  

My take: Russ Roberts 1, Michael Pollan 0.

P.S.  There is another line of evidence in favor of Russ's view.  Where do you typically find (unrefrigerated) soy milk in your grocery store?  In our local Walmart, it's in the center of the store, not at the back.

How US Companies Should Help Farmers Increase Sustainability

That's the title of an article by a marketing guru, Doug Austin, in the Farm Journal.

While some of the discussion is sensible, I found it a bit interesting to see the "solution" proposed to increased sustainability:

When large companies partner with farmers, they have more influence on how farmers take their products to market, and they’re involved much earlier in the process. For instance, a corporation could instruct a farmer to plant 10,000 acres of corn without any pesticides, GMO seeds, etc., and the farmer would be under contract to deliver. This is a big shift away from the traditional farming mindset that uses yield as the primary success metric.

First, I don't know that corporations "instruct" farmers. They can offer incentives.  They can offer premiums.  Or, as Austin suggest, they can offer contracts.  

The idea is hardly new.  And indeed, the rate of contracting is already increasing at a rapid clip, precisely for many of the reasons suggested by Austin - food companies trying to achieve more uniformity ad price stability, and to be responsive to consumer concerns.  

Here for, for example, is a graph out of a USDA report by William McBride and Nigel Key on the percent of hogs marketed in the US under contract from 1992 to 2009.  In some parts of the U.S. virtually 100% of hogs are produced under contract.

There are many advantages to contracting (mainly protection against price or production risk), but the practice also opens up food production industries to all kinds of criticism (e.g., see how Tyson was vilified in The Meat Racket for its use of contracts).  If a corporation wants to exert the kind of control it needs to achieve various end-use characteristics, that means farmers conceding some freedom (in exchange for certainty of income).  However, this relationship can get construed as "big bad market power exerted by Big Food."

The contracting situation isn't unique to hogs.  Many (perhaps most) vegetable growers produce under contract with processors.   And, here is another graph from the USDA-ERS by James McDonald on the extent of contracting for the major commodity crops

The other problem with the quote above is the implicit assumption that the use of GMOs or pesticides are not sustainable.  Or, that yield isn't one metric of sustainability.  Corporations may (one day in the future), in fact, want to contract with farmers to plant certain GMOs precisely because they are more sustainable.