Bad Coffee is Usually Bad Economics

Bad Coffee is Usually Bad Economics

Alexander C. Cartwright ‘13

            There has been plenty excitement on campus about our new food service.  Aside from a re-modeled Tiger Inn and a completely revised menu, there is a series of new decorations in the commons. Next to the windows that overlook Chalgrove Lake is a poster promoting “Fair Trade” coffee. Fair Trade products, especially coffee, are more and more popular, yet few people understand what “Fair Trade” actually entails. Some basic economics can help us understand why it’s confusing that buying “Fair Trade” is counterproductive to what the practice seeks to achieve.

            “Fair Trade” is a relatively simple idea.  Fair Trade cooperatives agree to put their certification logo on a coffee producers’ products if the producers agrees to meet certain social and environmental standards. These usually include paying a specified minimum wage, and using certain harvesting practices. In return for complying with the Fair Trade cooperative, the coffee producers receive a premium for their coffee, which is typically the market price plus a certain percentage. Additionally, if the market price falls, fair trade producers are guaranteed a minimum price. Ultimately, the program aims to raise wages for poor coffee producers in the developing world, and encourage them to produce coffee in a more socially productive way. A better livelihood for coffee producers and an increased capacity to hire new them to higher new employees are certainly noble goals.

            Unfortunately good intentions don’t necessitate good results; there is great deal of unsettled debate around the benefits of fair trade. In fact, there is a large lack of accounting on how of the fair trade premium the actual coffee workers get; some suspect that most of the premium is collected by the fair trade cooperative themselves. Of the few estimates that exist, all of the one’s I found cite that coffee producers are actually receiving less than 10% of the fair trade premium. However, this is an empirical argument. Just because a small percentage of the premium actually gets to the hands of the poor coffee workers, doesn’t not discredit the free trade movement, it just question’s the movement’s effectiveness.

            Aside from being potentially ineffective, free trade advocates don’t seem to understand basic economics. Simply paying coffee producers higher prices can’t lead to more profits without an increase in consumer demand.[i] The standard supply and demand graph can easily help us visualize how an artificially higher price leads to decreased quantity demanded by consumers. Because there is no actual increase in demand on the consumer side, an artificially higher price for coffee will necessitate a lower quantity demanded. If less coffee is bought, fair trade certified or not, the coffee producers will be selling less and subsequently won’t be better off.

            Interestingly under fair trade, just because there might be less coffee sold does not mean there will be less coffee produced. Because members of a fair trade cooperative are guaranteed a minimum price independent of the market price for coffee, they have an incentive to over produce. If fair trade producers know that they will always be guaranteed a certain price for coffee, they can maximize their own profits by continually producing, even as the price for coffee falls. By guaranteeing a minimum price and incentivizing producers to over-produce, fair trade producers could flood the market to a point where it’s hard to sell any coffee.  
            A bigger problem with guaranteeing the coffee producers a minimum price is that it insulates fair trade producers from competition. By knowing that, regardless of their product’s quality they will receive a certain minimum price, producers have a marginally lower incentive to care about product quality.  After the fair trade cooperative pays a higher price for the (lower quality) coffee that meets the cooperative requirements, consumers that buy the coffee are actually paying a higher price for a lower quality product.

            Fair trade advocates maintain that even if the coffee is a little lower in quality, and even if the producers end up only getting a small amount of the fair trade premium, buying fair trade is still a worthwhile way to support working conditions for coffee workers. This position accurately recognizes that better working conditions require a higher cost, but fails to recognize that producers can more easily substitute out labor for capital with a higher coffee price. Thus assuming that fair trade actually convinces consumers to pay higher prices for coffee, it is certain that fewer workers will be employed as working conditions are improved[ii].

            Still the fair trade proponents maintain that the only alternative to artificially raising prices is to let some poor coffee producers go out of business. Yes- they are correct, and that is the appropriate alterative. Even though allowing producers to go out of business seems like a heartless response from someone outside of the developing world, the fair trade program will make coffee producers even worse off. The fair trade system encourages producers to produce coffee when the market isn’t demanding it, and it encourages lower quality coffee that market prices aren’t signaling demand for. If allowing businesses to go under is heartless, I can’t imagine what the makes the people who support a program that perpetuates and institutionalizes loosing.

            Advocates of fair trade certainly want a world that is more just and prosperous for all, but their program won’t produce either.  In the meantime, coffee chains and grocery stores are glad to capitalize on selling lower quality produces at higher prices so long as consumers demand the fair trade label. The only benefit that seems to come from fair trade is the good-feeling that a consumers gets from buying something with the fair trade label- a feeling that is unjustified. The very term “Fair Trade” illustrates that proponents do not understand how markets work. Markets do not adversely favor the rich over the poor, nor are prices fair or unfair, just or unjust. Prices are signals that communicate countless pieces of knowledge like the relative demand, substitutes, and scarcity of a product to nearly countless numbers of producers who use that information to modify production. They cannot be fair or unfair- they are signals determined by consumer demand- not a decree of the rich and powerful. We don’t need to ignore poor coffee producers in the developing world; we need to remember that justice and prosperity are the result of economic freedom, not fair trade.

[i] Callahan, Gene. “Is Fair Trade a Fair Deal?: Fair Trade Means Well, but Ignores Some Economic and Political Realities” The Freeman. March 2008 • Volume: 58 • Issue: 2.

[ii] See I

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