INTRODUCTION From time to time, temporary situations can persist for such a protracted length of time that they can come to be perceived as permanent. Such is the case with bulk wine surpluses. There is no natural law in the world that there shall always be more bulk wine produced than there is consumed, and yet that has been the situation for so long (more than a generation), that it has become difficult to imagine the opposite case.

In fact, an entire industry has come to depend on a consistent surplus of bulk wine. The International Organisation of Vine and Wine (OIV) estimates that, in any given year, producers of brandies, vermouths, vinegars, and other distilled products require 30Mhl of bulk wine.1

Careful followers of trends in bulk wine production and consumption in recent years could not ignore the data they were seeing: that the annual bulk wine surplus has been below the “red line” of 30Mhl in every individual year since 20062, culminating with the 2012 vintage, which yielded the smallest surplus in at least twenty years, at just 9Mhl, far below the needs of the distilled-products industry.

Appendix 1, which tracks global production, consumption, and surplus since 2000, shows a clear narrowing of the gap between supply and demand. To wit: production declined from 280Mhl in 2000 to 252Mhl in 2012 (a drop of 10.0%), while consumption grew from 226Mhl in 2000 to 243Mhl in 2012 (an increase of 7.5%). The effect on surplus is as expected: while the average surplus in the years 2000-2006 was a healthy 39.6Mhl, that average has dropped precipitously from 2007-2012, to 19.0Mhl.

FACTORS CONTRIBUTING TO PRODUCTION/CONSUMPTION BALANCE

Decreasing Production It is clear from the statistics gathered by OIV that world wine production has declined in recent years.3 But why?

To answer that, we need to examine the factors that influence overall production. Wine production is actually explained through a simple function: production equals the amount of the earth’s surface area covered by vines, multiplied by the average yield of those vines. Therefore, we shall examine factors influencing trends in both yields and surface areas.

Average Yield In the premium wine segment, average yield typically falls under the control of growers and winemakers, via techniques such as winter pruning and green harvesting. In contrast, the bulk wine segment generally pursues yields that are as high as possible. In the bulk wine segment, yield becomes very much a function of weather.

We will explore weather-related yield issues in greater depth during our examination of the 2012 vintage in Europe below, but for now, suffice it to say that an examination of average worldwide yields from 2000 to 20124 shows a trend-line that looks mostly flat.

1 OIV, State of the Vitiviniculture World Market, March 2013 2 Appendix 1 3 Appendix 1; OIV, Statistical Report on World Vitiviniculture, 2013

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Surface Area Under Vine According to the OIV, overall world surface area under vine has declined steadily since 2000.5 To understand why, we need to drill down further, to understand where surface area is expanding and where it is contracting.

Examining OIV’s data, the culprit becomes clear. It’s not Asia, where surface area has increased from 1167mha to 1326mha from 2000 to 2012 (+13.6%).6 And it’s not the “new world” regions (USA, Argentina, Chile, Australia, South Africa, New Zealand), where surface area has increased from 1065mha to 1170mha from 2000 to 2012 (+9.9%).7

The culprit is Europe. The aforementioned gains (159mha in Asia, another 105mha in the “new world”) have been dwarfed by declines in surface area under vine in Europe. Europe is home to more than half the world’s surface area under vine8, and so trends in Europe will have an outsized impact on overall world trends. To look at Europe, we’ll consider the big three – Spain, France, and Italy – which together represent approximately 80% of overall European production.9

Appendix 3 examines total surface area under vine for Spain, France, and Italy, from 2000 to 2012, and it shows an overall decline of 457mha, or 15% (from 3044mha to 2587mha). Each of the three nations contributes to the decline, with Spain dropping 17%, France 12%, and Italy 15%.

This decline in European surface area under vine is hardly accidental. Instead, it is the result of the EU’s attempts at a systematic reorganization of the way the EU wine market is managed10, or more to the point, the EU’s attempts to bring supply more in balance with demand, which has been declining on a per capita basis in Europe for many years.11 These attempts began with vine pull schemes in the 1980s and 1990s, through the EU’s Common Agricultural Policy, continued with crisis distillation in the early 2000s, and by 2008 included subsidies aimed at grubbing up vineyards “through a voluntary withdrawal scheme taking 175000ha out of production via decreasing subsidies over three years.”12

Those grubbing-up subsidies seem to have achieved their goal and then some. Of the 457mha decline in Spain/France/Italy from 2000 to 2012, 260mha of that decline took place from 2008 to 201213 (during the subsidies era), an amount well above the stated goal of 175mha.

Relative Importance While weather (and therefore yield) can change dramatically from vintage to vintage, yield would only be a relatively important factor if we believed that weather was becoming structurally worse. This could become a more important factor going forward, with the continuing impacts of a warming planet, but for now, the structural decline in vineyard surface area is the relatively more important factor.

4 Appendix 4 5 Appendix 2 6 OIV, Statistical Report on World Vitiviniculture, 2013 7 OIV, Statistical Report on World Vitiviniculture, 2013 8 Wine & Spirits Education Trust, WSET Level 4 Diploma Unit 1 Study Guide, April 2013 9 OIV, State of the Vitiviniculture World Market, March 2013 10 European Commission, CAP Reform: Final stage of EU wine reform to enter into force on 1st August 11 OIV, Statistical Report on World Vitiviniculture, 2013 12 European Commission Agriculture and Rural Development, Reform of the EU wine market 13 OIV, Statistical Report on World Vitiviniculture, 2013

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The most important factor in the production decline in recent years is the purposeful efforts by the EU to reduce European surface area under vine. Another important factor is the growth in surface area under vine in Asia and the “new world” regions. While they didn’t contribute to the decline in production, they counterbalanced the declines in Europe, mitigating the overall production decline.

Increasing Consumption World wine consumption is on the uptick. Although consumption in 2012 (243Mhl) is down off the pre- financial crisis 2007 high of 255Mhl, it is still 7.5% higher than the 2000 figure (226Mhl).14 For much of this analysis, we will zoom in on the top ten consuming countries by volume, which represent more than 70% of world consumption. A look at recent consumption figures in those ten countries shows clear trends emerging: large decreases in continental Europe (especially Italy, France, and Spain) and Argentina being counterbalanced by large increases in American, Chinese, and Russian consumption, along with sizeable increases in British and Australian consumption.15

Like production, the formula for world consumption is a simple one: population multiplied by per capita consumption. We will examine both factors.

Population An initial look at population growth seems to explain away the growth in consumption. Consumption in the top ten countries grew by 3.2% from 2000 to 201216, and population of the top ten consuming countries grew by 6.4%.17 There are two problems with this analysis. One is that data for the true populations we care about (population of legal drinking age) is difficult to find. The other is revealed by an analysis of the years prior to the financial crisis of 2008.

If we look at the same data for 2000-2007, we see consumption growing by 9.1%18 at the same time that population grows by 3.8%.19 When we remove the post-financial crisis years (which have an obscuring effect on our analysis), it becomes clear that, while population growth is a factor in world wine consumption growth, it is not the major factor.

Per Capita Consumption An analysis of population is demographics. An analysis of per capita consumption, however, is anthropology, and therefore more compelling. Per capita consumption speaks to how different societies behave with regards to wine, and there are stark differences from country to country. What emerges from an analysis of per capita consumption20 changes are two distinct trends:

Trend 1: Declines in continental Europe and Argentina. What Spain, Italy, France, and Argentina have in common is a strong history as wine-producing nations. Because of that history and tradition, a culture of consumption was nurtured in these nations, such that

14 OIV, Statistical Report on World Vitiviniculture, 2013 15 Appendix 5 16 Appendix 5 17 Appendix 6 18 Appendix 5 19 Appendix 6 20 Appendix 7

4 Candidate # 10007560 in France for example, people over the age of 65 generally consume wine daily, with almost every meal.21 However, there are drastic societal changes taking place among younger consumers. As we move from older to middle-aged to younger consumers, consumption frequency goes from “a daily wine consumption to a festive one, and then exceptional.”22

Globalization is the other factor regularly cited to explain declining wine consumption in these traditional producing nations. With our era of globalization has come access to a wide range of beverages, such that consumers in these countries are no longer restricted only to beverages produced in those countries. With access to beers, spirits, mineral waters, and juices from all over the world, wine faces a competitive landscape unlike anything it has previously seen.23

Trend 2: Strong growth in the UK, Australia, and the US, and huge growth (on small bases) in China and Russia. Generational changes and globalization seem to play a role in the UK, Australia, and the United States as well, but in the opposite direction. Consumer preferences in the United States, for example, have been trending away from beer and towards wine and spirits for many years24, especially among younger population segments. And globalization has made wines from all over the world available to American, British, and Australian consumers.

The changes in China and Russia are even more stark, with Chinese per capita consumption increasing from 0.8 l/head to 1.3l/head from 2000 to 2012 (57%) and Russia increasing from 3.2 to 7.3l/head (128%).25 These are still admittedly small per capita numbers (compared with the US at 9.2l/head or France at 46.1), but both nations have massive populations, and so even small increases in per capita consumption can send shockwaves through world wine markets. With a weak tradition of wine consumption in Russia and almost no tradition in China, there is plenty of upside in these two nations. Much of the recent growth has been attributed to “an increase in personal wealth that boosted consumers' demand for foreign products.”26 Furthermore, “wine drinking is increasingly considered a healthier alternative to spirits and is somewhat trendy.”27

Relative Importance Growth in population among top wine-consuming countries cannot be ignored as a factor in overall consumption growth, but it is relatively less important than the sociological changes detailed above, the changes that impact per capita consumption. Within per capita consumption, the most important factors are (in order):

 Growth in Chinese per capita consumption. With such a huge population base, any change in drinking patterns that shifts more Chinese per capita consumption towards wine will be extremely important.

21 Lorey, T., & Poutet, P., The representations of wine in France from generation to generation: a dual generation gap 22 Lorey, T., & Poutet, P., The representations of wine in France from generation to generation: a dual generation gap 23 Kuper, Simon, Financial Times, Why the French went off wine, October 19 2012 24 Jones, Jeffrey, Gallup, U.S. Drinkers Divide Between Beer and Wine as Favorite, August 1 2013 25 Appendix 7 26 Mathew, Jerin, International Business Times, China's Wine Consumption to Increase Further, but at Slower Pace, March 8 2013 27 Victoria Dept of Environment and Primary Industries, China Wine Market Snapshot, April 2010

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 Growth in American per capita consumption. The combination of a large population base and robust growth in per capita consumption makes the United States an important factor in world consumption growth.  Growth in Russian per capita consumption. Russia’s consumption base is relatively small, but their consumption growth from 2000 to 2012 (121%) was the highest among the top ten consuming nations, making them an important player.

THE 2012 VINTAGE IN EUROPE The trends identified above came to a head in 2012, which was an unusually small vintage in terms of volume. Even by the already-low production standards of the previous five years (worldwide production average of 2007-2011 was 268Mhl), 2012 produced a small crop: 252Mhl, off 6%.28 The situation was especially acute in Europe. As we mentioned above, the big three in Europe – France, Spain, and Italy – represent 80% of total European production, so when examining why the 2012 harvest in Europe was small by volume, these are the three nations we will focus on. While we know vineyard surface area has been in decline in all three of those countries, that decline was not steep enough to explain 2012’s small crop. To explain 2012’s small crop, we need to look at yields, and therefore weather.

Vintage Report: France France dealt with a miserable spring across much of the country, with colder-than-average temperatures and plenty of rain.29 Rain during flowering negatively impacts the final fruit set (the number of flowers that convert into grape berries), and so by the end of spring, French vignerons knew 2012 would be a low-yield year. Summer was mostly uneventful, but the rains returned in autumn. Rain during harvest time causes mold and rot, and every moldy/rotten grape that has to be discarded decreases the overall yield of the vintage.

The Languedoc-Rousillon region is the volume engine room of France30, and 2012 was extremely difficult there.31 Late budding and irregular flowering in spring made for an unimpressive fruit set. Summer temperatures were cooler than normal, which led to ripeness concerns, but summer rainfall was also below normal, which put additional hydric stress onto already stressed vines. Ripeness concerns were mitigated somewhat by a warm August and September, but humidity during those months led to significant fungal pressures, which put further downward pressure on yields. One winemaking consultant in the Languedoc called 2012 “the most difficult he has experienced in his 22 years in France.”32

28 OIV, Statistical Report on World Vitiviniculture, 2013 29 Molesworth, James et al, Wine Spectator, 2012 Vintage Report: France 30 Republique Francaise Ministere de l’Agriculture, Agreste Conjoncture Viticulture, September 2013 31 Nutter, Graham, Purple Pages, Vintage 2012 in the Languedoc 32 Nutter, Graham, Purple Pages, Vintage 2012 in the Languedoc

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Vintage Report: Spain Unlike France, which dealt with myriad small problems throughout the 2012 vintage, Spain dealt mostly with one big problem: drought. A drought that began in 2011 continued throughout 2012, and hydric stress was so severe that Spanish officials posited that 2012 might be the smallest grape harvest since 1945.33 Drought conditions cause poor fruit set, as the vine converts fewer flowers into berries than normal. The more severe impact of drought, however, is reduction in berry size. When the water weight of each berry is reduced, yields can decrease dramatically, as they did in Spain in 2012.

The most important region for volume in Spain is Castilla-La Mancha34, and the story there mirrors that of greater Spain in 2012. After a particularly cold winter and spring (which negatively impacted fruit set), drought conditions prevailed throughout the entire summer.35 The result was vines with few berries per bunch, and berries with low average weight, a poor combination with regards to yield.

Vintage Report: Italy The story of 2012 in Italy was not very different from Spain: “very hot, very dry, and very little.”36 Italian officials had to check records back to 1947 to find a year with a lower overall yield. The vintage began with a normal spring in southern Italy, but the north experienced a cool, wet April, which negatively impacted flowering. Northern Italy faced terrible hail pressures during July, causing severe damage to some vines.37 The main story, though, was the drought, with no rain falling in June, July, or August. The heat was so intense, in fact, that it even led to vineyard-destroying wildfires across parts of Italy, and the water table so compromised that some grapes began to shrivel on the vine.

Unlike Spain and France, which each have one clear region for volume, Italy is more diverse, with Veneto, Emilia Romagna, Puglia, and Sicilia each representing between 10% and 20% of overall volume.38 Yields were down in the northern regions of Veneto and Emilia Romagna, which never recovered from poor weather that affected springtime flowering, and went on to face hydric stress during the summer (relieved, a bit, by rains in early September). Yields were also down in Puglia, where drought and intense heat were the main culprits. Yields increased a bit over 2011 in Sicilia, which seems a surprise on the surface, but that was only because an EU subsidy paid out to growers who skipped a harvest happened to expire in 2012.39 For just about any region in Italy not impacted by bureaucratic changes, yields were down considerably.

33 Frank, Mitch et al, Wine Spectator, 2012 Vintage Report: Europe 34 Wines From Spain, Wine in figures 35 Wines From Spain, Spain’s 2012 harvest 36 Speller, Walter, Purple Pages, Italy 2012 - hell’s kitchen 37 Sanderson, Bruce et al, Wine Spectator, 2012 Vintage Report: Italy 38 Italian Wine Central, Wine Production by Region 39 Speller, Walter, Purple Pages, Italy 2012 - hell’s kitchen

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CONCLUSION In economics, there is a concept known as the “perfect market,” a market which has aspects like perfect information, non-intervention by governments, no barriers to entry/exit, and equal access to factors of production. The wine market is, in many respects, the opposite of the perfect market. Watching the wine market try to react to macro-trends is like watching a car accident unfolding slowly. It is both the beauty and the horror of wine that it is a complicated agricultural product, one that can only be grown in certain places, that takes many years to move from concept to product, that has high barriers to entry and exit, and that has large amounts of government intervention.

While it is easy for wine professionals to recognize macro trends (supply is shrinking as demand is growing), it is much harder to do anything about it, and it is harder still to do anything about it quickly. Growers with vines already in the ground have to hope for favorable climatic conditions during the next five years to help with overall yields (far from certain in our era of extreme weather).

Growers without vines in the ground today would not be selling grapes until at least 2016. Furthermore, planting restrictions are still in place in the EU through 2015, and even after those restrictions expire, the memory of vine pull schemes will be fresh in the minds of European farmers, and could have a depressing effect on their desires to plant new vineyards.

Because wine markets are such slow-moving behemoths, it becomes easier to speculate on the near- term development of the global wine market. VinExpo forecasts a five-year worldwide production average of 272Mhl, with worldwide consumption growing 5% to 259Mhl.40 This projected “surplus” will not be nearly enough of a gap to satisfy the (30Mhl/year) demands of the distilling industry.

Not even the wine market can resist the most basic laws of supply and demand. In the next five years, if demand continues to outpace supply, as is expected, there can only be one outcome: the price of bulk wine will rise, as competition increases between distillers and bottom-tier branded wine buyers. This will cause higher prices for distilled products and bottom-tier branded wines, which will negatively impact profitability for those segments of the wine market. Growers with vines already in the ground, however, should realize increased profitability, as rising prices will allow them to reap more cash for the same agricultural material.

40 Wine & Spirits Education Trust, WSET Level 4 Diploma Unit 1 Study Guide, April 2013

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DECLARED WORD COUNT 2997 words.

BIBLIOGRAPHY Periodicals Mathew, Jerin, International Business Times, China's Wine Consumption to Increase Further, but at Slower Pace, March 8 2013 Jones, Jeffrey, Gallup, U.S. Drinkers Divide Between Beer and Wine as Favorite, August 1 2013 Kuper, Simon, Financial Times, Why the French went off wine, October 19 2012

Online Content From Periodicals Frank, Mitch et al, Wine Spectator, 2012 Vintage Report: Europe (accessed October 2013): http://www.winespectator.com/webfeature/show/id/47704 Gutiérrez, Luis, Purple Pages, Spain 2012 - 'weird' (accessed 2013): http://www.jancisrobinson.com/articles/a20121110.html Molesworth, James et al, Wine Spectator, 2012 Vintage Report: France (accessed October 2013): http://www.winespectator.com/webfeature/show/id/47691 Nutter, Graham, Purple Pages, Vintage 2012 in the Languedoc (accessed 2013): http://www.jancisrobinson.com/articles/a20121031.html Robinson, Jancis, Purple Pages, The wine lake is decisively drained (accessed 2013): http://www.jancisrobinson.com/articles/a201211062.html Sanderson, Bruce et al, Wine Spectator, 2012 Vintage Report: Italy (accessed October 2013): http://www.winespectator.com/webfeature/show/id/47699 Speller, Walter, Purple Pages, Italy 2012 - hell’s kitchen (accessed 2013): http://www.jancisrobinson.com/articles/a201211101.html

Statistical Reports International Organisation of Vine and Wine (OIV), Statistical Report on World Vitiviniculture, 2013 International Organisation of Vine and Wine (OIV), State of the Vitiviniculture World Market, March 2013 International Organisation of Vine and Wine (OIV), Global Economic Vitiviniculture Data, 2012 Italian Wine Central, Wine Production by Region (accessed October 2013): http://italianwinecentral.com/wine-production-in-italy-by-region/ Republique Francaise Ministere de l’Agriculture, Agreste Conjoncture Viticulture, September 2013 Wines From Spain, Spain’s 2012 harvest, November 2012 Wines From Spain, Wine in figures (accessed October 2013): http://www.winesfromspain.com/icex/cda/controller/pageGen/0,3346,1549487_6763472_6778161_0,00.html

Other European Commission Agriculture and Rural Development, Reform of the EU wine market (accessed October 2013): http://ec.europa.eu/agriculture/capreform/wine/index_en.htm European Commission, CAP Reform: Final stage of EU wine reform to enter into force on 1st August, July 31 2009 Lorey, T., & Poutet, P., International Journal of Entrepreneurship and Small Business, The representations of wine in France from generation to generation: a dual generation gap, 2011 United States Census Bureau Country Ranking Tool (accessed October 2013): http://www.census.gov/population/international/data/countryrank/rank.php Victoria Dept of Environment and Primary Industries, China Wine Market Snapshot, April 2010 Wine & Spirits Education Trust, WSET Level 4 Diploma Unit 1 Study Guide, April 2013

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APPENDICES

Appendix 1: Production/Consumption Balance (Mhl) 350

300

250

200 Production Consumption 150 Surlpus 100 Distillation Required

0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Sources: OIV, Statistical Report on World Vitiviniculture, 2013

Appendix 2: World Surface Area Under Vine (mha) 9000

8000

7000

6000

5000

4000

3000

2000

1000

0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Sources: OIV, Statistical Report on World Vitiviniculture, 2013

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Appendix 3: “Big Three” Surface Area Under Vine (mha) 3500 Italy 3000 France Spain 2500

2000

1500

1000

500

0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Sources: OIV, Statistical Report on World Vitiviniculture, 2013

Appendix 4: Worldwide Yield (Mhl/ha) 40.0

35.0

30.0

25.0

20.0

15.0

10.0

5.0

0.0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Sources: OIV, Statistical Report on World Vitiviniculture, 2013

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Appendix 5: Changing Consumption Patterns (mhl) Country 2000 2012 Chg Chg % Italy 30,800 22,633 (8,167) -26.5% Spain 14,046 9,300 (4,746) -33.8% France 34,500 30,269 (4,231) -12.3% Argentina 12,491 10,051 (2,440) -19.5% Germany 20,150 20,000 (150) -0.7% Australia 3,899 5,375 1,476 37.9% United Kingdom 9,696 12,533 2,837 29.3% Russia 4,699 10,394 5,695 121.2% China 10,695 17,817 7,122 66.6% United States 21,200 29,000 7,800 36.8% TOTAL 162,176 167,372 5,196 3.2%

Country 2000 2007 Chg Chg % Italy 30,800 26,700 (4,100) -13.3% Spain 14,046 13,100 (946) -6.7% France 34,500 32,169 (2,331) -6.8% Argentina 12,491 11,166 (1,325) -10.6% Germany 20,150 20,782 632 3.1% Australia 3,899 4,903 1,004 25.8% United Kingdom 9,696 13,702 4,006 41.3% Russia 4,699 12,690 7,991 170.1% China 10,695 13,884 3,189 29.8% United States 21,200 27,850 6,650 31.4% TOTAL 162,176 176,946 14,770 9.1%

Sources: OIV, Statistical Report on World Vitiviniculture, 2013

Appendix 6: Changing Populations Country 2000 2012 Growth China 1,263,637,531 1,343,239,923 6.3% United States 282,162,411 313,847,465 11.2% Russia 147,053,966 142,517,670 -3.1% Germany 82,183,670 81,305,856 -1.1% France 61,255,363 65,630,692 7.1% United Kingdom 59,139,969 63,047,162 6.6% Italy 57,784,373 61,261,254 6.0% Spain 40,589,004 47,042,984 15.9% Argentina 37,335,653 42,192,494 13.0% Australia 19,053,186 22,015,576 15.5% TOTAL 2,050,195,126 2,182,101,076 6.4%

Country 2000 2007 Growth China 1,263,637,531 1,310,583,544 3.7% United States 282,162,411 301,231,207 6.8% Russia 147,053,966 142,441,276 -3.1% Germany 82,183,670 82,236,860 0.1% France 61,255,363 63,852,860 4.2% United Kingdom 59,139,969 61,249,260 3.6% Italy 57,784,373 59,626,720 3.2% Spain 40,589,004 45,211,636 11.4% Argentina 37,335,653 40,048,816 7.3% Australia 19,053,186 20,749,625 8.9% TOTAL 2,050,195,126 2,127,231,804 3.8%

Sources: United States Census Bureau Country Ranking Tool

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Appendix 7: Per Capita Consumption (l/year) Country 2000 2012 Growth Spain 34.6 19.8 -43% Italy 53.3 36.9 -31% Argentina 33.5 23.8 -29% France 56.3 46.1 -18% Germany 24.5 24.6 0% Australia 20.5 24.4 19% United Kingdom 16.4 19.9 21% United States 7.5 9.2 23% China 0.8 1.3 57%

Russia 3.2 7.3 128%

Sources: OIV, Statistical Report on World Vitiviniculture, 2013; United States Census Bureau Country Ranking Tool

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