Agribusiness Review - Vol. 8 - 2000

Paper 6
ISSN 1442-6951

The Anatomy of Australia's Wine Boom: Lessons for Other Industries

Kym Anderson

School of Economics and
Centre for International Economic Studies
University of Adelaide
Adelaide SA 5005
Australia
Phone (61 8) 8303 4712
Fax (61 8) 8223 1460
kym.anderson@adelaide.edu.au

October 12th, 2000

Financial assistance of the Rural Industries Research and Development Corporation is greatly appreciated. Thanks are also due to Nicholas Berger, Robert Osmond and Glyn Wittwer for their collaboration on earlier papers, and to the SA Centre for Economic Studies, the Grape and Wine Research and Development Corporation and the Australian Research Council for supplementary financial assistance.

The Anatomy of Australia's Wine Boom: Lessons for Other Industries

The rural sector's share of Australia's exports has been declining for decades. Having been above 60 per cent prior to the 1960s it was around 40 per cent in the 1970s but has been barely above 20 per cent in the 1990s (the same share as services and only two-thirds that of mineral resources -- see ABARE 1997a, 2000). Nonetheless, Australia's rural exports continue to expand in aggregate value and volume terms and, within that aggregate, some industries are doing much better than others. This raises the question as to what can be learnt from the successful cases.

There is no more spectacular success story than the wine industry during the past decade or so. Nor is there a better time than now to improve the rural sector's export performance, for a number of reasons. Firstly there is an increasing demand for a greater variety of products as incomes grow globally. That is manifesting itself in, among other things, growth in demand for a wider range of exotic foods from foreign countries. One consequence is a rise in the share of processed food in global agricultural and processed food exports: that share rose from one-third in the 1960s to one-half in the 1970s, and it is now around three-fifths (Anderson et al., forthcoming). Specialization in production and intra-industry trade between countries in processed food (including beverages) is likely to continue to grow with incomes and with consumer exposure to exotic foods through travel, providing expanding opportunities for value-added rural exports (Antle 1999).

Secondly, the bringing of agriculture under the disciplines of the General Agreement on Tariffs and Trade (GATT) will gradually free up world markets for both raw and processed farm products and allow increased exploitation of Australia's agricultural comparative advantages. Agriculture has been the most glaring exception to the general global trend towards lowering trade barriers over the past half century, but thanks to the Uruguay Round the process of reducing agricultural protectionism has at least begun. A new round of agricultural trade negotiations sponsored by the World Trade Organization (WTO) began in March 2000, so as to continue that process of farm trade liberalization.

Thirdly, globalization of the world economy in general, even if it does not raise the rural industry's share of Australia's exports, can nonetheless continue to boost the absolute value of those exports, for example through the lowering of transport and communication costs. 1

How can Australia's rural industries take advantage of these opportunities to expand their export earnings? One way is to examine successful cases of export-led growth through adding value via processing primary products that are otherwise difficult to transport internationally. Value-added activities involve investing in more than just processing, however; also crucial are investments in marketing and distribution systems.

Within Australia, there is probably no better recent example of export-led success than the wine industry. Wine exports have risen from less than $50 million pa in the mid-1980s to more than $1 billion in 1999, thanks to huge increases in production relative to domestic consumption. As a consequence, the volume of exports has risen from less than 5 per cent to more than 30 per cent of production, and will soon exceed 50 per cent. Those shares are even higher in value terms, because most exports are premium wines whereas only one-third of the volume of domestic consumption involves premium wine. Australia is now the world's largest wine exporter after the European Union bloc (or fourth after France, Italy and Spain), having been a net importer of wine as recently as the early 1980s. Yet barely a dozen years ago the government was paying winegrape growers to uproot their vines, so dire were the prospects for the industry perceived to be at that time.

This paper examines the lessons that can be learnt from that industry and reflects on their relevance to other industries, using as examples olives and dairying. It begins by summarizing briefly the 150-year long history of Australia's wine industry, so as to put its boom of the 1990s in historical perspective and to contrast key features of the current boom with those of earlier ones. It then compares Australia with other significant countries in the global wine market to provide an international perspective on the expansion of the past decade. Some speculation is then provided on the potential sustainability of the industry's recent growth: are Australian grape and wine producers likely to experience another 'bust' soon? This is done by drawing on results from an economic model used to quantify the relative importance of the main factors contributing to the recent growth in wine output and exports. The final section draws out lessons for other industries in Australia. In particular, it explores the extent to which the olive and dairy industries might emulate the wine industry's success.

How well has the wine industry performed over the past decade?

While wine exports have boomed several times in the past, in each case those booms subsequently plateaued and the expanded acreage meant grapegrowers went back to receiving low returns. Indeed in the latter 1970s/early 1980s wine exports were so low that Australia became a net importer of wine, and the industry's prospects were sufficiently dire as recently as 1985 as to induce the government to fund a vine-pull compensation scheme to encourage grapegrowers to move to alternative crops. Yet, like a phoenix, the industry has risen again and grown with renewed vigour during the past decade: the real value of both winegrape and wine production has grown at more than 10 per cent per annum over the past dozen years; and nearly one-third of annual wine sales are now in export markets, up from just 2 or 3 per cent in the mid-1980s.

The history of fluctuating fortunes raises the obvious question of whether the export-focused wine boom of the 1990s is to be followed by yet another crash, at least in winegrape prices if not in wine production and export volumes. The wine industry is still bullish, having in 1995 set itself targets of doubling annual exports to $1 billion by the turn of the century (since achieved) and of trebling the real value of wine production within 30 years. Others, aware of the boom-bust cycles of the past, still need to be convinced that this time the expanded demand is here to stay long enough for growers to recoup a return from the doubling in Australia's area of winegrape vineyards during the 1990s. To help resolve this difference in views, think first of what we can learn from the past.

On the one hand, it is difficult not to be sobered by the past. This is because, as is clear from Figure 1, each of the first four booms in the Australian wine industry finished with a plateau in vineyard area (and winery output) growth -- periods when returns to grapegrowers and often also winemakers were depressed for years because of the extent of new plantings during the boom. Nor is this phenomenon unique to Australia. On the contrary, it has periodically been the case in grape and wine markets elsewhere in the world for at least two millenia (Unwin 1991).

Source: Updated from Osmond and Anderson (1998, Table 2).

Yet, on the other hand, our past history also is encouraging, because it shows the current boom to have several positive features that contrast with those of earlier booms. These are summarized in Table 1. The first boom, from the mid-1850s, was mainly driven by domestic demand growth following the gold-rush induced trebling in Australia's population in the 1850s. However, the wine produced from that excessive expansion was not able to be exported profitably, largely because of high duties on inter-colonial trade plus poor marketing and high transport costs in exporting the rather crude product of that time to the Old World. Hence returns slumped quite quickly in that first cycle.

TABLE 1 : Summary Of Booms And Plateaus In Australian Wine Industry Development, 1849-50 to 1997-98

Source: Osmond and Anderson (1998).

The second boom, from the 1880s, was due to a mixture of domestic and export demand growth, the latter involving better marketing and lower transport costs for what were higher quality but still mostly generic bulk (rather than winery bottled and branded) dry red wines. The relatively open British market absorbed one-sixth of Australia's production early this century, before the first world war intervened. That boom was part of a general internationalization of world commodity markets at that time – something that returned but in much-diminished form after that war.

The acreage boom induced by soldier settlement after World War I provided the basis for the third boom, from the mid-1920s. That third boom was helped by irrigation and land development subsidies, a fortified wine export subsidy, and a 50 per cent imperial tariff preference in the British market for fortified wines. The decline in domestic consumption, induced by the export subsidy and the Depression, added to wine exports in the 1930s – which by then accounted for more than one-fifth of production (Osmond and Anderson 1998, Figure 4). The subsequent removal of the export subsidy, and the huge hike in UK tariffs on fortified wine in the latter 1940s, then caused a severe decline in export orientation. As well, the return to normal beer consumption after war-induced grain rationing kept down domestic wine sales growth.

The fourth boom, following two post-war decades of slow growth in the industry, was entirely domestic. It emerged as Australian consumer tastes became more European, as licensing and trade practice laws changed with income growth, as corporatization of wineries led to more-sophisticated domestic marketing and new innovations (including casks, or wine-in-a-box), and as Britain's wine import barriers rose again with its accession to the EEC. Initially domestic demand grew for red wine. Then the cask attracted a new clientele of white wine drinkers, causing Australia's per capita consumption to more than treble during the fourth cycle. The recession of the early 1980s slowed demand growth and caused wine prices to slump to the point that the Federal and South Australian governments intervened with vine-pull subsidies in the mid-1980s.

How does the fifth and latest boom, which began in the late 1980s, differ from the earlier booms? One difference is that the current boom is overwhelmingly export-oriented, since per capita consumption has been static over the 1990s. This contrasts with the first and fourth booms at least which were primarily domestic. It also differs from the inter-war boom, when exports were more a way of disposing of soldier-settlement induced surplus low-quality fortified wine production than as a pre-planned growth strategy.

Secondly, the current boom is mainly market-driven, which is not unlike the first two booms but contrasts markedly with the third (inter-war) boom which evaporated once government assistance measures were withdrawn. In the present boom the only form of assistance offered and hence able to be withdrawn is the tax incentive to expand plantings via the tax-reducing accelerated depreciation allowance for some vineyard construction costs.

Another major difference between now and the past is that the quality of wine output has improved hugely during the past decade or so. Moreover, for the first time, the industry is in a position to build brand, regional, and varietal images abroad to capitalize on those vast improvements in the quality of its grapes and wines. That image building has been partly generic, with the help of the Australian Wine Bureau's activities in Europe and elsewhere. It is coming also from the promotional activities of individual corporations and their local representatives abroad as those firms become ever-larger and more multinational via mergers and takeovers during the past dozen or so years. That will be supplemented in future with regional promotion, following the definition of geographical indications. All three forms of promotion have been helped by being able to point to the legislated wine quality standards in the Australian Food Standards Code.

A fourth feature distinguishing the current situation is the health factor. An ever-wider appreciation of the desirability of moderate over heavy drinking, and in particular of the possible health benefits of a moderate intake of red wine, 2 are ensuring that the consumer trend towards spending on quality rather than quantity of wine (and on wine in preference to beer and spirits) will continue for the foreseeable future.

And fifth, Australian wines are still exceptionally good value for money in Northern Hemisphere markets, despite the real price increases of the 1990s. The depreciation of the Australian dollar during 1997-98 and again in early 2000 has allowed that to continue.

These are all reasons to be optimistic about Australia's long-term future as a successful exporter of premium wines. Within the next five years export sales could well account for the majority of Australian wine sold. How long the current boom lasts therefore depends heavily on export demand for Australian wine. That in turn depends both on the export marketing skills and efforts of the industry and on developments elsewhere in the world wine market.

Australia's export-oriented wine growth in international perspective

With this in mind, it is helpful to consider such questions as: How does growth of Australia's wine production and exports compare with growth of global wine consumption and expansions by other New World wine producers? How well is Australia penetrating traditional and new wine markets abroad, both absolutely and relative to other exporters? And to what extent is Australia upgrading the quality of its exports to different markets, again both absolutely and relative to other exporters?

Background to the global wine market

Wine is still very much a European product. More than three-quarters of the volume of world wine production, consumption and trade involve Europe, and most of the rest involves just a handful of New World countries settled by Europeans (Table 2). In the late 1980s Europe accounted in value terms for all but 5 per cent of wine exports and three-quarters of wine imports globally. However, Europe's dominance is beginning to weaken. In the ten years to 1997, the rest of the world's share of wine export dollars rose ten percentage points, with virtually all of it coming from California and six Southern Hemisphere countries (column 1 of Table 3). When intra-European Union (EU) trade is excluded, the decline in Europe's share of global exports is even greater over that decade: a fall from 88 per cent to 70 per cent (column 3 of Table 3).

Table 2:
Shares of major regions in world wine production, consumption, and trade, by volume, 1988-90 and 1997 (per cent)

a France, Italy, Portugal and Spain.
b Central and Eastern Europe and the former Soviet Union.
c Argentina, Brazil, Chile, New Zealand and South Africa.

Source: Berger, Spahni and Anderson (1999, Tables 5-7) and, for pre-1988 data, Berger, Anderson and Stringer (1998).

Table 3:
Shares of major regions in world wine exports and imports, including and excluding intra-European Union trade, by value, 1988-90 and 1997 (per cent) .

a France, Italy, Portugal and Spain.
b Central and Eastern Europe and the former Soviet Union.
c Argentina, Brazil, Chile, New Zealand, South Africa, and Uruguay.

Source: Berger, Spahni and Anderson (1999, Table 14).

The rapid growth in wine exports from the New World over the past decade is ironic, in that it coincides with a decline in world wine consumption. Over the decade to 1997, global wine production and consumption fell at 0.8 per cent and 0.4 per cent per year, respectively, and yet global wine trade rose by 4.1 per cent per year in volume terms and 6.5 per cent in value terms -- or 9.7 per cent if intra-EU trade is excluded (final rows of Tables 2 and 3).

Traditionally the countries producing wine were also the countries consuming it, with only about one-tenth of global sales being across national borders, and most of that was with near neighbours. The proportion traded rose a little over the 1980s but has since risen much more, so that now about one-quarter of the volume of sales is international (Table 4). That is, despite a slight decrease in the per capita volume of consumption globally, wine is becoming much more of an internationally traded product. This is reflected in the final column of Table 3, which shows production tending to outpace consumption in the wine-exporting countries and vice versa in the wine-importing countries. Trade is also becoming more inter-regional: in the late 1980s, 62 per cent of international wine trade was among the 15 members of the European Union, whereas by 1997 the intra-EU share was only 48 per cent (final rows of Table 3).

Table 4:
Volume of wine production and consumption per capita and trade orientation, by region, 1988-90 and 1997

a France, Italy, Portugal and Spain.
b Central and Eastern Europe and the former Soviet Union.
c Argentina, Brazil, Chile, New Zealand and South Africa.
d Excluding intra-EU trade from national and global totals.
e Production exceeds consumption globally because consumption is net of distillation and other industrial uses.
f The index of comparative advantage is defined as the share of wine in a region's merchandise exports divided by the share of wine in global merchandise exports.

Source: Berger, Spahni and Anderson (1999, Tables 5, 7 and 8).

How well is Australia doing relative to other wine producers?

In terms of global wine production, Australia has always been a small player. Prior to the 1970s it accounted for less than 1 per cent of world production, and as recently as 1987 its share had barely risen to 1.2 per cent. During the following ten years the share doubled, to 2.3 per cent, but on its own that statistic still makes Australia look rather insignificant.

In terms of exports, Australia was even less significant until the 1990s. As recently as the first half of the 1980s the country accounted, in volume terms, for only 0.2 per cent of global wine exports, the same as its share of global wine imports. The import share has changed little, but the export share has shot up to 3 per cent in volume terms (Table 2) and 4.8 per cent in value terms (Table 3). In fact Australia's wine exports grew more than three times faster than the global average: at annual rates of 16 per cent in volume terms and 21 per cent in value terms over that period (Table 5). That was sufficient to ensure the industry reached its target of A$1 billion of wine exports in 1999.

Table 5:
Growth in wine production, consumption and export volume and in export value, major regions, 1988 to 1997 (per cent per year, from log-linear regression equations)

a France, Italy, Portugal and Spain.
b Central and Eastern Europe and the former Soviet Union.
c Argentina, Brazil, Chile, New Zealand, South Africa, and Uruguay.

Source: Anderson and Berger (1999), based on raw data in Berger, Spahni and Anderson (1999).

Rapid though Australia's export growth has been, it is not as fast as that for other Southern Hemisphere wine exporters, who as a group enjoyed a growth rate about ten percentage points faster (27 per cent p.a. for volume and 30 per cent for value in the decade to 1997). Nor was it much faster than that for North America or Europe's transition economies (columns 1 and 2 of Table 5). It is simply faster than that for Western Europe, which is still the dominant exporter group. Certainly Australia's comparative advantage in wine has strengthened as Western Europe's has weakened somewhat, as has that of other New World wine exporters. The final column of Table 4 indicates the extent of those changes. The final row shows that wine's share of merchandise exports has fallen for the EU from 2.1 to 2.0 times the global average, whereas for Australia that index has risen from 1.3 to 4.5 over the decade to 1997. The latter three-fold increase raises Australia's index to more than three-quarters that of the European Exporters, but it is a smaller proportionate rise than that for other Southern Hemisphere wine exporters, whose index rose from 0.4 to 2.5 over that decade.

What is striking from the right hand columns of Table 5 is the different reasons for these high rates of New World export growth. Australia's exports grew rapidly because its production growth was much faster than its consumption growth. By contrast, in North America much slower production growth accompanied no growth in the aggregate volume of consumption. Meanwhile, in the other New World countries production actually declined, but much less so than domestic consumption, allowing exports to boom. Volumes of consumption per capita have become somewhat more equal across regions as a result but, as column 2 of Table 4 shows, there is still a wide variance.

The world's top ten wine exporters account for 90 per cent of the value of international wine trade, with Europe's economies in transition from socialism accounting for most of the rest (left-hand column of Table 6). Of those top ten, half are in Western Europe and the other half are New World suppliers, led by Australia. Australia is the world's fourth largest exporter of wine in value terms, after France (alone accounting for more than 40 per cent), Italy (17 per cent) and Spain (9 per cent). The share of France has dropped ten percentage points since the late 1980s, which with smaller drops for Italy and Germany have ensured that Australia's and others' shares have risen substantially.

Table 6:
Shares of exports of major wine exporters going to various wine importing regions, by value, 1988-90 and 1997 (per cent)

a France, Italy, Portugal and Spain.
b Central and Eastern Europe and the former Soviet Union.
c Argentina, Australia, Brazil, Chile, New Zealand and South Africa.
d The country's 1997 share of the value of global wine exports is shown in round brackets; its percentage of volume of production exported is shown in square brackets.

Source: Berger, Spahni and Anderson (1999, Table 12).

If the European Union is treated as a single trader and so intra-EU trade is excluded from the EU and world trade data, the EU's share of world exports shows a much bigger fall, from 82 per cent to 59 per cent in the decade to 1997. With that adjustment, Australia moves to number two in the world. Its share of global exports rises from less than 5 per cent to more than 9 per cent. It is this fact, in spite of Australia's small share of global production, which has made Australia suddenly a much more significant player in the world wine market.

Meanwhile, the share of the other main New World exporters in Table 6 (Argentina, Chile, New Zealand, South Africa, and the US) rises even faster, from 6 per cent to 19 per cent. That is, while Australia has done very well as an expanding wine exporter, it is not alone: the world wine market as a whole is becoming more internationalized and far more competitive, and most key New World suppliers are expanding their export sales (albeit from a lower base) nearly as fast or even faster than Australia, as is clear from Figure 2.

Figure 2 : Value of wine exports by major New World producers
Source: Anderson and Berger (1999, Figure 1)

How well is Australia penetrating wine markets abroad?

Just as exports are highly concentrated, so too are imports. The ten top importing countries accounted for all but 15 per cent of the value of global imports in the late 1980s. That 15 per cent residual had risen to 20 per cent by 1997, due mainly to Germany's reduced import share, indicating some growth of new markets. But more than half the value of all imports continue to be bought by the three biggest importers: the UK (with 21 per cent), the US and Germany (each with about 14 per cent -- see Figure 3). In volume terms, Germany is the largest importer of wine (19 per cent of the world total), followed by the United Kingdom (17 per cent), France (10 per cent) and the United States (8 per cent).

Figure 3 : Share of world wine import value
Source: Anderson and Berger (1999, Figure 2)

Despite that concentration, the ten top exporters are quite different in their penetration of those and other import markets. This is evident from Table 6. In Australia's case, it has concentrated on four English-speaking rich countries: the United Kingdom, the United States, Canada and New Zealand. When depicted as shares of Australia's total wine exports, it appears Australia has not diversified its exports much over the past decade: since 1993 those four countries have accounted for between 75 per cent and 85 per cent of Australian sales abroad. Certainly Australia has gradually increased its dominance as an importer in all four of those markets, especially the UK and US; but it has done so at the expense of boosting its shares in continental Western Europe (most notably Germany, the world's biggest importer of red wine) and in the emerging markets of East Asia (Figure 4).

Figure 4: Australia’s share of value of wine imports by selected importing countries (per cent)
* Developing Asia comprises NIE4, ASEAN4 and China.
** Continental Western Europe excludes the United Kingdom and Ireland

Figure 5 : Index of relative quality of exported wine
The relative quality index is defined as the unit value of a country's exports expressed as a percentage of the unit value of total world exports, minus 100. Note that the unit value of world exports rose by about 20% over the ten years to 1997, so it is possible for a country's unit value to have risen while its relative quality index as measured here falls (eg France and Spain). Source: Anderson and Berger (1999, Figure 4).

How well is Australia doing in upgrading wine export quality ?

A crude index of the quality of a country's wine exports is the average export price. To see how different exporting countries are faring relatively, Figure 5 shows each exporter's average price as a percentage of the global average, minus 100, at the beginning and end of the decade to 1997. While France's strong position has changed little, Australia and New Zealand have improved their positions hugely to rival the quality dominance of France's exports. New Zealand's average export price is well ahead of France's now, and Australia is just a few cents per litre behind France. Meanwhile, the price of exports from other Southern Hemisphere suppliers is now only half the Australian average.

However, even though the Australian average unit export price rose 52 per cent over the decade to 1997 when the global average rose only 20 per cent, complacency is not called for. The rise for Australia was exceeded by Chile (55 per cent), Italy (59 per cent), New Zealand (61 per cent), and Argentina (63 per cent), and not far behind were the United States (44 per cent), South Africa (39 per cent) and even Europe's transition economies (31 per cent). Clearly, other new exporters are striving to raise the quality of their exports just as much as Australia, albeit from different bases. The global average increase was as low as 20 per cent mainly because the average price of exports from France and Spain rose little and, in Portugal's case, fell over the decade.

How will trends in wine retailing alter Australia's export prospects?

Another significant change emerging in the world wine market is the agglomeration of retail firms into giant supermarket chains (Geene et al. 1999). First in the UK, but now also on the Continent, the shares of large supermarkets (including the US giant Wal-mart) in the retail food and beverage market keep rising. Those wine retailers are able to market large volumes of uniform wine at low cost, which has contributed hugely to the growth in low-end premium wine sales globally. Their buying power is such, though, that they may choose to market more and more under their own brands, potentially depriving exporting countries of value-added activities beyond just producing wine per se. It is not certain as to the extent Australia will leave that lower end of the market to other countries and go further up in the premium range, but that is certainly the direction it has moved in recent years.

What are the opportunities and challenges ahead for Australian wine producers?

The absence of growth in demand for wine in aggregate, nationally and globally, need not in itself be a cause for concern. This is because the demand for premium wine has been growing rapidly, at the expense of non-premium wine, and Australia's production is being increasingly oriented towards higher-quality products.

However, other New World producers are also upgrading the quality of their product, as are previously low-quality regions of traditional supplying countries (the south of France, La Mancha in Spain, northern Italy, Southeastern Europe). And the ever-strengthening retail giants in Europe are looking increasingly at own-brand packaging and marketing, which would lower the extent of high value-adding activities (bottling, labeling, marketing) in countries exporting at the lower end of the premium range. The key challenge for Australian producers is to remain internationally competitive in the wake of those export supply and retailing responses elsewhere.

Where might the industry be by, say, 2003? A recent study by Wittwer and Anderson (1999) provides some projections using a model of the Australian economy (FEDSA-WINE, the model used to analyse alternative GST and wine 'equalization' tax options during 1998-99 for the WFA). That involves making use of macroeconomic projections plus projections of grape and wine supplies and demands. The domestic supply projections are relatively easy to 2003 at least because they can draw on the predictable grape supply effect of known actual and intended plantings in the late 1990s. Domestic and export wine demand growth is assumed to continue but at half the pace of the 1993-98 period. Two other important assumptions have to do with the exchange rate and the domestic consumer tax on wine. To test its effect on the results, first the assumption of no real exchange rate change between 1998 and 2003 is varied to allow a 10 per cent real depreciation. Then the base case is compared to a scenario in which the domestic consumer tax on premium wine is lowered from the rate of 48 per cent to 16 per cent (which is still double the average of rates in OECD countries -- see Berger and Anderson (1999, Table 2)).

Table 7:
Projected growth in the Australian grape and wine industries, vintages 1998 to 2003, without and with (a) a different exchange rate and (b) wine sales tax rate

a (1) Base case (including no change in the real exchange rate, 1998 to 2003), as in Table 12.

Due to the rapid projected increase in premium red grape production between 1998 and 2003, the export supply of premium wine is projected to escalate in this period. Premium red wine exports increase from 77 Ml in 1998 to 328 Ml in 2003, while premium white wine exports increase from 74 Ml to 130 Ml, with little change in non-premium exports. The increase of 250Ml of premium red sounds huge, but because Australia still supplies only a small fraction of global exports it represents a small percentage of world imports. For example, Germany by 2003 will be importing more than 1200Ml of mostly red wine, of which Australia up until now has supplied barely 0.3 per cent. Fully half of the projected increase in our red exports could be absorbed by Germany alone if Australia's share of that market were to be raised from less than 1 to 10 per cent (the same as for the United Kingdom in 1997).

Two important assumptions in arriving at that base projection have to do with the exchange rate and the domestic consumer tax on wine. To test its effect on the results, first the assumption of no real exchange rate change between 1998 and 2003 is varied to allow a 10 per cent real depreciation. That real depreciation reduces projected growth in the domestic consumption of premium wine (c.f. columns (1) and (2) of Table 7). Premium red consumption reaches 91 Ml by 2003 instead of 95 Ml as in the constant real exchange rate case, while premium white consumption is 86 instead of 90 Ml and non-premium wine consumption is 263 instead of 267 Ml. Since a real depreciation also encourages domestic production of wine, the industry is projected to become more export-oriented. For example, premium red wine exports in 2003 are 28 Ml higher in this than in the base case. The real depreciation also reduces the decline in Australian dollar grape prices brought about by the massive increase in the supply of premium winegrapes. Premium red grapes are $44 per tonne higher in this than in the base case, premium white grapes are $35 per tonne higher, and non-premium grapes are $36 per tonne higher. Consumer prices for wine also are higher than in the base case. Premium red wine is $12.87 per litre, $0.65 higher than the base case, removing two-fifths of the base case price fall between 1998 and 2003. While production is higher by around 4 per cent for each wine type with the devaluation, much of the increase in exports is brought about through a smaller than otherwise build-up of premium red wine stocks (bottom rows of Table 7).

Clearly Australia's export dependence looks set to grow rapidly, with the share of aggregate production exported projected to rise from 28 per cent in 1998 to 47 per cent in 2003 (slightly more with a devaluation, slightly less if the wine tax is lowered). For premium red the rise is even more dramatic: from 43 per cent to just over 60 per cent. To ensure these projected developments do not result in another slump in grape and wine prices, a number of strategies suggest themselves.

One is to seek a reduction in the Federal Government's so-called 'wine equalization tax' (WET) of 29 per cent, which is to come into force on 1 July 2000 with the GST. That WET, together with the 10 per cent GST on wine, will generate much more tax revenue from the industry than currently (Anderson and Wittwer 1999), and will make Australia one of the highest taxing of the wine-producing countries in the world (Berger and Anderson 1999). As the above projections show, reducing that WET would reduce its future discouragement to domestic wine consumption (especially of premium wine, since it raises the consumer price of wine by more dollars the higher the wine's price), and thereby lower the volume of premium wine that would need to be exported.

A second strategy is to continue to invest in the production and dissemination of new ideas in winegrape and wine production and in wine marketing and distribution. To date Australia has been a leader in wine R&D investments and in the rapid adoption of new technologies, which has given producers a significant competitive edge. The raising of the research levy on producers by more than one-third from 1999 will boost that tradition. However, Southern Hemisphere and Southern and Eastern European suppliers are catching up rapidly, including through international technology transfer. Australia is contributing to that in at least two ways. One is via Australian viticulturalists and winemakers exporting their services through spending time abroad as consultants (Williams 1995; Smart 1999).

Another is via direct foreign investment (DFI) by Australia's bigger wine companies in grape production, wine making, and/or wine marketing and distribution in other countries. For example, Mildara Blass has planted more than 120 hectares to red wine grapes in the Napa Valley in California, Southcorp has its own vines and a joint venture on California's