July 4th Flashback: How the U.S. & Canada Almost Destroyed Wine

July 4, 2016 By Mike Veseth in Flashback Friday, wine, wine history, wine law 1 Comment

It is Independence Day here in the United States and that is all the excuse I need for this special Flashback column, which takes us back to 2015 to tell the story of how, in very different ways, the U.S. and Canadian governments almost destroyed their respective wine industries.

My friends always tell me to have a fifth for the Fourth, and I assume they are recommending a bottle of American wine with the required holiday menu of hot dogs, hamburgers and salads. Cheers and Happy Independence Day.

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At one point in Kym Anderson’s new book about the Australian wine industry he reflects on what can be done to shorten that country’s current wine slump and to get things sailing again on an even keel. One of his suggestions caught my eye:

“Governments need to keep out of grape and wine markets and confine their activities to generating public goods and overcoming market failures such as the free rider problem of collecting levies for generic promotion and R&D.”

This is more than the simple Adam Smith “laissez-faire” idea. Anderson’s book clearly demonstrates the law of unintended consequences — how well-meaning government policies sometimes have had unexpectedly negative side-effects. No wonder he recommends a cautious approach to wine and grape policy.

I was reminded of this when I was researching the history of the Canadian wine industry for a recent speaking engagement in Ontario. I was struck by Canada’s experience with Prohibition in the 20th century, how it differed from the U.S. experiment, and how both ended up crippling their wine industries but in very different ways. Here’s what I learned.

How U.S. Prohibition Crippled the Wine Industry

The great experiment in Prohibition in the United States started in 1920 and lasted until 1933. The 18th Amendment outlawed the manufacture, sale or transport of intoxicating beverages, including wine. Most people assume that the wine industry collapsed as legal wine sales and consumption fell and this is partly true but not the complete story. Commercial wine production almost disappeared, but wine consumption actually boomed.

How is this possible? There were three loopholes in the wine regulations outlined in the Volstead Act. Wine could still be produced and sold for medical purposes (prescription wine?) and also for use in religious services (sacramental wine). This kept a few wineries in business but does not account for the consumption boom, which is due to the third loophole: households were allowed to make up to 200 gallons of wine per year for “non-intoxicating” family consumption.

Demand for wine grapes exploded as home winemaking increased (but not always for strictly non-intoxicating purposes). Total U.S. vineyard area just about doubled between 1919 and 1926! But the new plantings were not delicate varieties that commercial producers might have chosen but rather grapes chosen for their high yields, strong alcohol potential and ability to survive shipping to eastern markets.

Thus did Prohibition increase wine consumption in the U.S. but it also corrupted the product by turning over wine-making from trained professionals to enthusiastic amateurs working in often unsanitary conditions. The home-produced wine sometimes had little in common with pre-Prohibition commercial products except its alcoholic content.

Americans drank more wine during Prohibition, but it was an inferior product. No wonder they dropped wine like a hot stone when Prohibition ended. That’s when the real wine bust occurred and it took decades to fully recover. Do you see the unintended consequence in this story? But wait, there’s more …

How Canadian Prohibition Crippled Its Wine Industry

Prohibition started earlier (1916) and ended earlier (1927) in Canada and took a different fundamental form. With support from temperance groups, consumption of beer and spirits (Canada’s first choice alcoholic drinks) was banned as part of war policy with the stated intent of preserving grain supplies for vital military uses. Consumption was forbidden, but production of beer and spirits was still allowed for export, which accounts for the boom in bootleg Canadian whiskey in the U.S. in the 1920s.

Neither production nor consumption of wine was included in Canada’s ban on alcohol, although wine sales were limited to the cellar door. What made wine different? Maybe grapes were not as vital to the war effort as grains, although John Schreiner cites the political influence of the United Farmer’s Party in his account of this period in The Wines of Canada. Wine became the legal alcoholic beverage of choice for Canadian consumers and production boomed. By the end of Canadian Prohibition there were 57 licensed wineries in Ontario (up from just 12) to serve the big Toronto market.

Wine sales increased 100-fold, according to Schreiner, but “It would be charitable to describe the quality of the wines being made in Ontario during this period as variable,” he writes. The market wanted alcohol and set a low standard of quality, which many producers pragmatically stooped to satisfy. No wonder wine production collapsed at the end of Prohibition as consumers went back to spirits and beer.

Unintended Consequences

Thus did government policy in both Canada and the United States create wine booms during their respective Prohibition eras, but the worst kind of booms: bad wine booms. Quality suffered as quantity surged. It is no surprise that consumers turned away from wine once other beverages were available. It took decades for these industries to recover.

Both the Canadian and U.S. wine industries are vibrant and growing today, having recovered from the crippling effects of poor quality wine. But they both are still hampered by other policies — especially regarding distribution and sales — that date back to the end of Prohibition. Economic policies can obviously have unintended effects and the shadows they cast can be long indeed.

No wonder Kym Anderson is skeptical about government interference in the Australian industry. Prohibition is an extreme case, to be sure, but such cases clearly show the unintended consequence potential that exists even with other seemingly harmless proposals. A cautious approach makes sense.

The [Sometimes Slow] March of the Kiwi Terroirists

July 7, 2015 By Mike Veseth in New Zealand, wine history, wine law, wine markets 3 Comments

Last week’s column looked back to the concerns about terroir and geographical designations a few years ago when Sue and I visited New Zealand to gather material for my book about globalization, Globaloney. There was frustration and anxiety about how to delimit the Kiwi vineyards and concern that things weren’t moving fast enough.

The people in Hawkes Bay were so frustrated that they took matters in their own hands, creating and trademarking the Gimblett Gravels region! Well, the good news is that progress is at last about to be made on the policy front although the promise of progress hasn’t stopped winemakers from trying to speed things along through their own branding strategies. Here’s a quick report.

The Slow Horse Theory

My friend Woody says that justice rides a slow horse and, if that’s true, then the new Kiwi geographical indicator policy must be just indeed. It certainly has been slow in coming!

I was struck by a recent Decanter article about New Zealand geographical indicators for wine. “Ministers said …that they would put into practice the Geographical Indications (Wine and Spirits) Registration Act – first passed as long ago as 2006 but yet to enter into force.” The reason for the rush to get the law implemented is a concern over international competitiveness.

‘The act will set up a registration scheme for wine and spirit geographical indications, similar to the trademark registration scheme,’ said New Zealand Trade Minister Tim Groser.

‘Being able to register wines and spirits geographical indications here will make it easier for their users to enforce them in New Zealand.
‘It will also make it easier for our exporters to protect their geographical indications in some overseas markets.’

Since the New Zealand industry is very dependent on exports, it makes good sense to bring Kiwi practices into line with the global rules of the game.

The move was ‘warmly welcomed’ by generic body New Zealand Winegrowers, whose CEO Philip Gregan said: ‘It will equip the industry with the tools to protect its premium brand from misappropriation or misuse, as well as help secure market access in some regions.

‘It’s a big step forward for the industry.’

A Bill to amend the Act will be introduced to New Zealand’s Parliament later this year, and the Act is expected to be passed by the end of 2015.

Paul Goldsmith, New Zealand’s Commerce and Consumer Affairs Minister, noted that some consumers are prepared to pay a significant premium for wines from certain New Zealand geographic regions.

“The reputation of New Zealand wines must be jealously guarded if we are to continue growing our wine exports.

“The ability to register geographical indications under the new Act will help our wine industry promote and protect its premium brand from misappropriation or misuse by overseas producers, as well as secure access in certain markets which require government-recognised geographical indications.”

Good idea. But what took so long? I found an analysis of the situation on the Baldwins intellectual property law website which provided useful background. Apparently passing the geographic indicator act back in 2006 wasn’t enough — it is also necessary for the Governor General to issue an Order in Council, which was not done (as was the case with a previous geographical indicator act from 1994).

I have not been following this situation, so perhaps there have been very good reasons for the long delay in implementing the GI act. As I noted last week, some think that it might be premature to set down strict boundaries or worry that appellations in general have gotten out of control. But clearly the NZ wine export sector’s needs are now being given priority. With a little luck they can begin to use the new system next year. Slow justice I suppose. I’d appreciate comments from those in New Zealand who are directly affected by the change. Are there issues here that don’t show up in the news stories?

Marlborough Pioneer Brancott Estate

I hope the geographical indicator law, when it is finally implemented, will provide New Zealand producers with the protections and processes that they need. But in the meantime terroir grows in importance every day in the global market as upscale consumers look for markers of integrity and authenticity in everything they buy. Wines of origin designations don’t guarantee these qualities, but they are a way to signal intent to buyers.

Smart Kiwi producers are doing their best to exploit terroir both in bottle and as brands, a fact that was clear when we were invited to participate in a digital wine tasting of Marlborough Sauvignon Blanc organized by Pernod Ricard’s Brancott Estate.

Brancott Estate is the pioneer Marlborough Sauvignon Blanc producer. The photo at right shows Frank Yukich planting the first Marlborough Sauvignon Blanc vine at the Brancott vineyard in Marlborough in 1975. If you look closely you can see he is “fertilizing” the vine with a silver coin and irrigating it with Champagne.

The Yukich family’s company, Montana Wines, eventually changed hands and current owner Pernod Ricard rebranded it globally as Brancott Estate a few years ago. I suppose the Montana brand wine was never going to be an easy sell here in the U.S. where a wine from Montana can have more than one meaning, but Brancott Estate is a hit, hence our digital tasting.

There were five wines in the tasting flight, starting with a low alcohol Sauvignon Blanc called Flight Song and moving on to the mainstream Brancott Estate wine that is widely distributed here in the U.S. Then we climbed up the wine ladder from Stoneleigh Latitude (Stoneleigh is a sister winery to Brancott) to Brancott Estate Letter Series and ending with the Brancott Estate Chosen Rows (tiny production — not currently available in the U.S. market).

We tasted the wines in the company of Sue’s parents Mike and Gert with Brancott winemaker Patrick Materman as our virtual guide via a web link. The low alcohol Flight Song, made from early-harvest grapes, was not a favorite, but the popular Brancott Estate bottling was well received with its classic Marlborough flavors and aromas. A good reference point for the wines that followed.

The Stoneleigh Latitude Sauvignon Blanc is made from vines planted in Marlborough’s “Golden Mile,” where river rocks carpet the vineyard floor capturing the sun’s heat. Stoneleigh focuses exclusively on wines made from this one vineyard area. This wine, my favorite of the flight, displayed unexpected minerality on first taste and rich fruit when re-tasted an hour later and then the next day.

The Letter Series wine came exclusively from vines in the original Brancott vineyard (and not a regional blend) while the Chosen Rows (my second favorite) was sourced from a selection of the best rows of vines from Brancott. It was noticeably more serious and elegant — and more expensive. It’s s shame that it is made is such limited quantities because it might change some minds about Marlborough Sauvignon Blanc. I hope I have an opportunity to taste it again.

Strengthening Brand Marlborough

Together these wines demonstrated, just in case anyone had doubts, that Marlborough’s particular terroirs show themselves in the wines and that Pernod Ricard and the Brancott team are committed to making these wines and telling terroirist stories to go with them.

Focusing on the vineyard level with a particular brand isn’t the only way to tell the story, but it’s one way to do it until a more formal system of geographic indicators is in place. And even when sub-regional designations are improved, the vineyard-level story will be powerful and relevant. The time is ripe for a terroirist take on New Zealand wines and producers are ready to rock and roll.

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Here is a march to accompany the [slow] implementation of the New Zealand legislation. Perhaps you have heard it before?

Kiwi Wine Wars: Terroir and Its Discontents

June 30, 2015 By Mike Veseth in New Zealand, wine law, wine markets 2 Comments

When Sue and I visited New Zealand in 2004 we found a wine industry experiencing tremendous success, but worried that the good times might not last. It seemed like New Zealand’s wine production was doubling every few years — could global markets continue to absorb so much Kiwi wine?

Eleven years later the conclusion is that global consumers still love Kiwi wine, but the concern is still there for the future.

A Kiwi Variant of the Dutch Disease?

There were lots of worries back in 2004. One was a kind of Kiwi variant of the “Dutch Disease” — the concern that tremendous success in one part of the wine industry would put a curse on the rest of it. Would the triumph of Marlborough Sauvignon Blanc crowd out other regions and winegrape varieties and leave New Zealand uncomfortably reliant on a single type of wine?

But that wasn’t the only problem people saw then. Ironically, we met with one very successful Marlborough producer who was worried about Pinot Noir messing up Sauvignon Blanc. New Zealand’s brand is Marlborough Sauvignon Blanc, he told us. Giving more attention to Pinot Noir risks confusing consumers about the Kiwi wine identity and killing the goose that lays the golden egg. Put all the chips on Marlborough Sauvignon Blanc and make sure that very successful and profitable wine doesn’t fade away, he advised.

Eleven years later I think the concern about reliance on Sauvignon Blanc is still around, but I’m not hearing much talk about Pinot Noir getting too much attention for the industry’s good. And that producer who wanted to deemphasize Pinot is now proud to make some highly-regarded Marlborough Pinot Noir in addition to his Sauvignon Blanc! So a lot has changed even if some things stay the same.

It’s Terroir Time

One concern that is still on the agenda is terroir and its importance in marketing the wine by telling an authentic terroirist story. As I have suggested in previous columns, terroir designations have morphed from a protective tool in Europe (an attempt to control fraud, for example, and protect geographical trademarks) and a brand issue here in the U.S. (brand Napa Valley) to an indicator of authenticity in the story-telling necessary to effectively sell wine today.

It’s terroir time in wine world. Upscale consumers want to have authentic stories to go with the products they buy — this is true for wine and other products — and a specific geographic designation is one way (but not the only way) for winemakers to tell that story.

Some of the people we talked with in Marlborough back in 2004 were thinking in terms of protection and brands and they were worried by New Zealand’s lack of a stronger geographic indicator system for wine. Marlborough is a very large designation, one producer told me, and it is a powerful brand for Sauvignon Blanc. But it is such a big and diverse area, he said, and the wines are so diverse in terms of style and quality.

He was afraid that as production was ramped up the lack of consistency would undermine Marlborough’s credibility. Private efforts to stress particularly excellent sub-regions did not seem to be getting traction and official actions looked slow in coming. Would Marlborough’s success ultimately undermine its credibility? That’s the pattern that I called “the Curse of the Blue Nun” in Wine Wars.

NZ-based wine writer Rebecca Gibb recently wrote about the movement to identify key Marlborough zones for Pinot Noir, concluding that as appealing as the idea is it might be premature. Maybe Kiwi winemakers are still learning where the the best places are to grow particular varieties, Gibb says. If she’s right then it was certainly too soon back in 2004, when the zones might have been crafted with SB, not Pinot, in mind. And Jamie Goode has recently cautioned about the movement to adopt geographical indicators in general.

Gimblett Gravels: Seizing Control

We visited Hawkes Bay on the North Island in 2004 and some of the winemakers there were impatient with Kiwi geographical indicator policies. Growers in the Gimblett Gravels knew that they had special terroir and, having saved it from exploitation as a gravel quarry, wanted to both protect it and brand it. But how?

They did both in the most direct way available to them, forming an association, registering “Gimblett Gravels” as a trademark and rigorously regulating its use. In essence I guess they “privatized” their terroir designation because they were frustrated with the lack of a clear public path.

Here is an explanation from the GG association’s website.

GIMBLETT GRAVELS is the registered trademark of the Gimblett Gravels Winegrowers Association. The Association and registered brand were developed to define and then name a winegrowing district using principles that are not catered for within New Zealand’s proposed Geographic Indications Act legislation. … The Association and designation of the area was formed at a relatively early stage in its winegrowing life to ensure that the purity and integrity of its designation was not compromised by political issues outside its control. … To the best of our knowledge this is the first viticultural appellation in the New World where its ultimate boundary is defined by a distinct soil type boundary, no compromises, no politics.

The approach taken has determined that a carefully planned and professional branding program was required to promote the Gimblett Gravels Winegrowing District as a viable sub-region within the Hawke’s Bay region. The lack of any legal Geographic Indication status for Gimblett Gravels Winegrowing District has determined this approach. The branding program has developed a strong logo and branding platform that controls the use of the name “GIMBLETT GRAVELS” and “Gimblett Gravels Winegrowing District”.

Kiwi Terroir Today

I suspect my friends here in the U.S. who are caught up in various aspects of AVA and sub-AVA politics will look at the Gimlett Gravels initiative with respect, admiration and even a bit of envy. What a bold move! And I think it has been very successful, too.

Terroir and geographical indicators have grown and changed in their significance. Where does New Zealand stand today? Come back next week for a quick look at progress on this front both in private sector branding and in Kiwi wine policy.

Unintended Consequences: How the U.S. & Canada Accidentally Destroyed Wine

March 17, 2015 By Mike Veseth in wine history, wine law, wine markets 4 Comments

How U.S. Prohibition Crippled the Wine Industry

How Canadian Prohibition Crippled Its Wine Industry

Unintended Consequences

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You can read more about both the Australian booms and busts and also Prohibition in the United States in chapter 6 of my 2013 book Extreme Wine. Look for a review of Kym Anderson’s book in an upcoming Wine Economist column.

MacPhail Wine Lounge & The Barlow: A Sebastopol Terroirist Destination

November 25, 2014 By Mike Veseth in wine law, wine taxes, wine tourism 9 Comments

We were in Northern California a few weeks ago and decided to try to break away from the strong gravitational pull of Napa Valley to explore the terroir away from the Highway 29 corridor. We were looking for wines that could capture a sense of place — and we found them — but we also stumbled on an exciting wine-food-tourism cluster called The Barlow hidden in plain sight in Sebastopol, just off Highway 12 west of Santa Rosa. Lots of interesting wine economics on display! Here is a rambling report of our trip.

A Terroirst Tour

Our terroirist tour took us first to Pride Mountain, a fascinating winery located high on Spring Mountain (Pride is the family name of the owners). Some of the vineyards are on the Napa side of the AVA border and some are on the Sonoma side — the labels tell you the percentages of each. Interestingly, to meet certain fiscal rules, there are actually two wineries — one in Napa and the other in Sonoma with a line in the concrete crush pad to separate them. The wines are blended only after they’ve first been accounted for in their home AVA. Wonderful tour, very interesting wines, beautiful location and bizarre regulations!

Once across the mountains in Sonoma we headed for DeLoach and Gary Farrell, where we tasted a number of single-vineyard Pinot Noirs. Both these wineries have changed ownership in the course of their existence — brands change hands frequently these days — and both seem to be in good hands now. Boisset has converted the DeLoach estate vineyard to biodynamic viticulture. Gary Farrell has no vineyards of its own, but sources grapes from a number of excellent growers.

We had one more stop on our list: MacPhail wines, another terroirist Pinot producer. The wines were wonderful, but they weren’t all that we discovered.

MacPhail Family Wines

MacPhail Family Wines has a roundabout history. It started when the people at Hess Family Wineries decided they wanted to develop a brand to highlight single vineyard California Pinot Noir. Hess President Tom Selfridge asked grower Jim Pratt to handle the vineyard side of things and to recommend a winemaker, who turned out to be James MacPhail. For a while the Hess wines, produced under the Sequana brand, and MacPhail’s own wines were made in MacPhail’s Healdsburg facility.

Eventually it became clear that the two projects — MacPhail’s own and his wines for Hess — were going in the same direction, so Hess put its backing into the MacPhail label. The wines, mainly from the Green Valley and Russian River Valley areas (with one wine sourced from the Santa Lucia Highlands down south) had a real sense of time and place. Our favorite was the 2012 Toulouse Vineyard Pinot Noir from the Anderson Valley. Delicious!

Based on what we learned at MacPhail on this trip and our stop at Glen Carlou in South Africa in January, I’d say that Hess does an exceptional job of using the resources of a large company to unleash terroirist potential on a smaller scale. Hess makes wine on four continents — soon to be just three when they complete the sale of Peter Lehmann to the Casella family of Yellow Tail fame.

The Barlow Project

Hess and MacPhail were looking for a site for a tasting room facility when they learned of The Barlow project in nearby Sebastopol. Located at a crossroads on the site of an old apple processing facility (Sonoma is almost as famous for apples as for wine in some circles), The Barlow was conceived as a wine-food-arts cluster in a series of cannery-style buildings. It’s a farm-to-fork and grape-to-glass kind of vibe rendered even more authentic by the agricultural heritage of the place.

Cult Pinot maker Kosta Browne (now owned by the same people who operate Gary Farrell, The Vincraft Group) was one of the anchor tenants of the project, with the winery spread over three buildings. La Follette’s tasting room is located here as well as the MacPhail Tasting Lounge. The Barlow project also includes a craft brewery and a distillery (now they need a cider maker, don’t you think?). There are shops, a market, street fairs and a number of eateries.

We were particularly impressed by Zazu Kitchen + Farm, which is a sort of temple to pork products and local wines, featuring products from Black Pig Meat Company. Do pork and Pinot make a good pair? Oh, yes!

An Economic Development Model

How do you use wine to revitalize a run down area? How do you use wine tourism as a tool of economic development? These are questions that I am asked fairly frequently. The Barlow shows one approach that, while not easily replicated everywhere can still provide lessons.

The first key is the cluster approach used here. Not one winery but three, building some critical mass The second is that it’s not just wine, but wine, food, art and so forth. The third is that while these experiences can be designed and created, they should not be manufactured — an element of authenticity is surely needed. Each of The Barlow’s tenants– including MacPhail and Zazu — has the quality to stand on its own, but like a good wine blend the whole of the community that has been created is greater than the sum of its parts.

As you can tell, our Napa-Sonoma visit was a success. We found the terroirist wines we were looking for and we found something more in The Barlow.

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Thanks to the people at Pride Mountain, Gary Farrell, DeLoach and MacPhail for their hospitality. Thanks as well to my former student Grant who welcomed us at the Adobe Road winery tasting room on Sonoma square. We loved their distinctive wines, including especially the Kemp Vineyard Dry Creek Valley Viognier. Special thanks to Lowell, Dorothy, Allan, PJ and Holden for their assistance.

Deconstructing and Disentangling the Disintermediation of the Wine Business

December 17, 2013 By Mike Veseth in wine distibution, wine law, wine markets 2 Comments

Disintermediation was a hot topic in financial economics a few years ago — I built an entire economics class around it — and it remains a powerful idea even if it may be an unfamiliar word. I think we don’t use the term so much these days because the concept is now woven into the fabric of our daily lives! Time to untangle it and see how it works, especially in the wine business.

Disinter … what?

Disintermediation refers to the process of “cutting out the middle man” — reducing the number of links in the supply chain by eliminating certain functions. If you’ve ever tried to sell a home yourself rather than using a real estate agent “intermediary” or bought or sold anything on eBay or Craig’s List then you’ve been part of the disintermediation movement to a certain extent. As the video above suggests, the quotidian activity of buying an airline ticket was once upon a time a middleman business. Not so much any more!

Commercial banks were the main focus of financial disintermediation back in the day. Banks and other financial intermediaries provided valuable services (that’s how middlemen earn their pay), but the incentive to borrow or lend directly through “securitized” products was strong and that’s why financial disintermediation started to occur. Disintermediation increased the apparent efficiency of the financial markets but also probably increased risk and volatility because some of the functions of the intermediaries were lost and the bank-based regulatory structure found it difficult to cope with the “non-bank banks” and other institutions that evolved. Or at least that’s my take on how the process unfolded.

Disintermediation still goes on today, but it has become so commonplace that we don’t give it much attention — until we are the links cut out of the chain! The advent of “crowd-sourcing” or “crowd-funding” websites is a good example of disintermediation. There are all sorts of ways to shorten the supply chain, both when it is a good idea and when it is not (sometimes it turns out the missing link was really important).

How Does This Relate to Wine?

Which brings us (finally) to wine. A Wine Economist reader writes to suggest disintermediation as a topic for a column and I think it is a great idea. There are a lot of big and little examples of disintermediation at work in the wine industry.

On the big end of the scale we have giant firms like Tesco who now often source bulk wines directly from around the world and bottle them under their own labels (sometimes in their own plants) and sell them under house brand labels. The streamlined process shortens the chain and cuts cost.

Disintermediation was part of the story for one of American wine’s biggest success stories of recent years — Two Buck Chuck (a.k.a. the Charles Shaw wine sold at Trader Joe’s stores). Most wine in America goes through the three-tier distribution system with its built-in middleman structure. But Bronco Wine, which makes 5 million cases of Two Buck Chuck a year, and Trader Joe’s took advantage of a provision in California regulations that allowed companies like Bronco to deliver directly to the retailer, cutting out a link and making it possible to profitably sell a two dollar wine. A lot of factors contributed to Two Buck Chuck’s success and this disintermediation was one of them.

Disintermediation works for medium sized firms, too, such as Naked Wines, which uses an interesting crowd-funding and direct sales model — their “angel” investors finance wine production and become a built-in direct-to-consumer market for the final product — that’s double disintermediation in a way. My helpful reader drew my attention to a direct wine retailer called Fass Selections. which aims to cut out two links in the supply chain for their wines: importer and distributor. That’s disintermediation, all right! Disintermediation isn’t everywhere, but there’s a lot of it around (tasting rooms and cellar door sales?), even in places you wouldn’t think to look.

Down Under Disintermediation

My favorite example of wine disintermediation was a discovery that Sue and I made while walking through the big Queen Victoria public market in Melbourne during our visit to Australia in September. I couldn’t believe my eyes when I saw the big stack of wine barrels at the ReWine market stall.

The ReWine folks offer a carefully curated selection of wines that they have purchased in bulk from Australian producers. They sell them directly to consumers in the Queen Victoria and Preston markets — the bottles are filled from the barrel containers you see in the photos. Bring your bottle back to be refilled (like the wine “growlers” that are gaining popularity here in the U.S. where local law permits them) and you get a discount.

The wines range from basic dry red and dry white wines sold at a low price to some very interesting products on up the line including dry, sweet and fortified wines. There was a nice Pinot Noir from the Adelaide Hills on offer when we stopped by.

You get what you pay for in the basic range, we were told, as these wines are blends made for a particular price point like basic wines everywhere in the world, with more distinctive products at the higher price points. Something for everyone, I think especially for a wine economist like me!

These examples just scratch the surface of disintermediation in the wine industry. I visited with a 2500 case winery recently that seemed to build its entire distribution model around the concept of cutting out the middleman. Easy to see the incentive to do this and also to appreciate the risks.

Once you start to think about disintermediation you will begin to see it at work everyone, even in the world of wine. Keep your eyes open — it might not change everything, but it’s bound to have a big effect.

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Thanks to my economics-savvy reader for suggesting this topic. Thanks to Sue for the Melbourne photos.

Economic Effects of Washington Liquor Initiatives

October 12, 2010 By Mike Veseth in alcohol, Costco, Economic impact, Family Wineries, washington wines, wine distibution, wine law 10 Comments

This is the third in a series on initiatives to liberalize Washington’s alcoholic beverage laws (click here to read the first and second segments). How would Washington Initiatives I-1100 and I-1105 affect wine makers and wine consumers? Let’s look at wine makers first.

Wine producers in Washington are not united either in support of or opposition to the initiatives. One industry group, The Washington Wine Institute, publicly opposes both initiatives, for example, while the Family Wineries of Washington State supports I-1100 but opposes I-1105.

Winners & Losers

Both initiatives would create more avenues of competition for wineries by removing state restrictions that prevented discounted prices, negotiated payment schedules and so forth. Based on my conversations it seems that some wineries would welcome the opportunity to compete using a fuller range of business strategies. They would like to be able to go after the business they want and to reward retailers and restaurants that carry the full range of their products or who make long term commitments.

Other wine makers are concerned that they may be disadvantaged in this new environment because they lack the resources or expertise to compete effectively. Interestingly, it is not just small wineries who want to avoid competition and not just large ones who embrace it. Obviously it is a complicated matter.

One wine maker candidly told me that it is hard to know if the gains will outweigh the losses. This person saw obvious areas for new business expansion but realized there would be negative effects on margins and the need for more capital to accommodate extended payments. I sensed a very pragmatic attitude: wine is a business and business people have to cope with whatever is thrown at them whether it is Mother Nature (a late harvest) or a change in state liquor laws.

My conversations reminded me of Olivier Torres’ discussion of the difference between French and American business strategy in his book The Wine Wars. American entrepreneurs, Torres says, look for new opportunities, taking risks, while the French business strategy is more about fending off threats. This is an oversimplified stereotype, of course, but it does seem to capture a bit of the wine war raging today in Washington state, where those with “French” attitudes are not necessarily from France.

Will Small Wineries Get Squeezed?

Television ads like the one I have inserted above suggest that small wineries would be especially hard hit by the new laws. A local news analysis of this ad raises some doubts about this claim (see this King5 report). Will small local wineries get crowded off the shelf? Here’s my brief analysis.

I do think that large wine companies will have an advantage if the law is changed, but they have obvious economic advantages now, so this is nothing new. I would not be surprised to see big companies (Constellation Brands, Gallo, etc) increase their relative share of retail shelf space since they have the resources to offer discounts and incentives.

It is also possible that spirits companies and distributors will bring associated wine brands with them as they rush to fill their newly opened retail market niche if the initiatives pass, adding to the “crowding out” effect. Retailers are trying to streamline their operations and reduced the number of suppliers they deal with, giving “drinks” companies that can supply wine, beer and spirits an advantage.

This effect will differ by type of retail account, of course, and be different for fine dining versus casual dining restaurant sales. In the supermarket segment, for example, you can already see differences in the relative incidence of the big producer portfolios in Fred Meyer (Kroger) and Safeway stores compared with regional chains like Metropolitan Market.

Although small wineries might get somewhat less shelf space, they certainly will not disappear from wine shelves and restaurant lists. Wine enthusiasts value diversity and smart sellers fill their shelves accordingly. That’s why a typical upscale supermarket offers 1500-2500 wine choices, at least ten times the number of options in any other product category. Retail wine margins are high and sellers profit by catering to their customers’ desire for a wide range of choices.

I think the competition among smaller winemakers will be more of a factor than between the big corporations and the small family wineries. There are hundreds of small wineries in Washington state all seeking a place at the retail table. Right now it is pretty difficult for the maker of a $40 Walla Walla Syrah to get shelf space (or distributor representation) and many producers are sensibly reconfiguring their business plans to focus more on direct sales. This will remain a good strategy if the initiatives pass, but makers who want to compete for shelf space will have more tools at their disposal.

And That’s A Good Thing?

Bottom line: small wineries will get squeezed by the big boys, but other small wineries are the real competition (hence the lack of a consensus among wine makers) and the initiatives will make this competition much more intense.

Is this a good thing? Well, it will probably be good for many consumers who will benefit from lower wine prices. They will likely have more (but different) wines to choose from too. Whether the new choices will be better is bound to be a matter of taste. If, as some have suggested, big box drinks retailers Bevmo and Total Wine open outlets in Washington it will change in significant ways the market terrain.

At the Ballot Box

How am I going to vote? The issue is complicated enough that I honestly haven’t decided yet. I am unlikely to vote for I-1105, however, since it seems like a stumbling half-step towards market liberalization.

I find the wine market aspects of I-1100 appealing and, as an economist, I am programmed to believe in the benefits of competition, but I am still concerned about the liquor law changes. I don’t know how making spirits cheaper and more readily available will help solve the public health and safety problems associated with liquor consumption. Many will disagree with this view and I respect their opinions.

I guess I’m going to have to weigh the pros and cons before I cast my ballot just like everyone else.

Anatomy of the Costco Initiative

October 6, 2010 By Mike Veseth in alcohol, Costco, Washington wine, wine distibution, wine law 3 Comments

Second in a series on initiatives to liberalize Washington’s alcoholic beverage laws (click here to read the first segment).

A recent article on the Wine Spectator website does an excellent job of detailing the specific elements of Initiative 1100 (which I call The Costco Initiative) and I-1105 (a.k.a. The Distributor Initiative) as they pertain to wine. It is required reading for anyone interested in this issue.

For my part, let me approach the question in a different way: how would the initiatives affect Costco (and other wine retailers), wine distributors, wine consumers and wine makers in Washington state? This post looks at retailers and distributors. I’ll address consumers and winemakers next time.

Costco’s [Big] Dog in the Fight

Let’s start with Costco, which is appropriate since it is a major backer of I-1100. How would I-1100 affect Costco? Well, the most important factor is that it would allow Costco and other retailers to sell hard liquor, which is currently a state monopoly in Washington. Other changes are important, but that’s the big one in terms of economic impact in my view.

What about wine? Not surprisingly, Initiative 1100 would allow Costco to be a much more efficient wine retailer.

First, Costco would be able to purchase wine directly from producers and could take advantage of more efficient central warehousing of alcoholic beverages. Costco would be able to negotiate volume discounts from producers and could benefit from other promotions (wholesalers must maintain uniform prices under the current law and are forbidden from providing retailer incentives). Costco could also negotiate payment schedules — current law requires that retailers pay for wine and beer at the time of purchase.

These changes would make the process of selling wine pretty much the same as other products by removing current restrictions. Costco would also be permitted to sell space on its wine shelves to producers (much as supermarkets routinely sell shelf space for grocery items), although it is unlikely this would actually happen. Costco does not sell space now in states where this is legal. Rather, like Wal-Mart I think, it simply asks for a lower wholesale price.

Taken together these market reforms would lower the cost that Costco pays for wine, savings that would be passed on to consumers. Costco’s normal mark-up on wine is 15% (17% for own-brand Kirkland Signature bottlings), so Costco’s existing absolute price advantage for the wines it carries would likely grow.

Don’t expect Costco to use these advantages to monopolize state wine sales, however. Costco has great wine prices, but it carries a surprisingly small number of wines at any time — about 100-150 different wine SKUs compared to the 1500-2500 that you can find at an upscale supermarket.

So while Costco wine sales will rise, there will be lots of room for other retailers, too. In fact, there is speculation that the market reforms will draw big box wine/beer/liquor retailers Bevmo and Total Wine into the Washington state market.

It is easy to see why retailers are backing I-1100. Their costs will fall and they should be able to sell more wine, which is a high margin item compared to most other supermarket categories.

The three-tier distribution system for beer (and wine).

The Impact on Distributors

It is also easy to see why distributors oppose I-1100 and why they back I-1105. Initiative 1100 privatizes liquor sales, liberalizes the alcoholic beverages market and allows retailers to cut out middlemen and purchase directly from wine, beer and spirits manufacturers. I-1105 is similar to I-1100 in most respects, but requires that the distribution step in the three-tier process be retained.

Distributors recognize that the ability of large retailers to bypass them and buy directly from producers and to demand discounts and other incentives is a threat to their business and it is understandable that they would oppose this.

Don’t expect distributors to disappear if I-1100 passes, however. Distributors play a vital role in connecting producers and retailers and, although they might lose some “rents” from their previous legal status, I can see where their role will change and might even expand in some specific areas as the overall wine market grows.

Larger distributors, who already have some economic advantages, might get an added edge if they are better able to offer retailers payment terms. Competition in general will increase, so there may be a shake out in this sector if I-1100 passes.

Fundamentally, I-1100 shifts market from distributors to retailers and will redistribute profits within each group, too. What about the people who make wine and those who drink it? Check back in a couple of days for analysis.

This Changes Everything? The Washington Costco Initiative

October 1, 2010 By Mike Veseth in Costco, Washington wine, wine distibution, wine law 9 Comments

Everyone knows that the wine business is highly regulated. In France, for example, very restrictive appellation regulations govern how wine can be made and even more restrictive laws limit how it can be advertised and promoted.

French winemakers sometimes must feel they are fighting a battle with one arm tied behind their backs.

America’s Long Hangover

But they have an advantage over many American producers, who could be excused for thinking that both their arms are immobilized. The American appellation system is not as restrictive as Europe’s, but the complicated web of federal, state and local regulations makes selling wine, especially across state borders, costly and cumbersome. (HR 5034, which would impose additional barriers to interstate wine shipments, would make this problem even worse.)

In my forthcoming book I call this mess the American Hangover. The U.S. wine market has a hangover, but it isn’t from too much wine. It is still recovering from Prohibition. Most of today’s regulations can be traced back to the repeal of Prohibition, when the federal government retained some regulatory powers, but turned others over the states (and in some cases, to local jurisdictions, too) thus creating a mess that is difficult to untangle.

The Swedish Solution

Here in Washington state, the end of Prohibition coincided with two important initiatives. First, the state government seized control of liquor sales under a modified version of the Swedish system.

Sweden instituted a state liquor monopoly in the 19^th century (which lives on today in the form of Systembologet) based on the logic that people want alcoholic beverages (and will find a way to get them if they are banned outright), so Prohibition isn’t really feasible. But if liquor sale is in private hands it will be actively promoted because of the money it spins off, leading to increased alcoholism and public health and safety concerns.

A state alcohol monopoly can provide wine, beer and spirits as a sort of public utility – people get the product at a high price and at some inconvenient to simultaneously discourage but facilitate consumption. No profit incentive encourages marketing and promotion of alcohol. The state has a monopoly on off-premises spirit sales in Washington; beer and wine are sold both in state stores and by private retailers.

At the same time the Washington state spirits monopoly was put in place, so were laws meant to protect state wine producers from out-of-state (read “California”) competition. Incredibly, the number of wineries in the protected market actually fell as the industry collapsed. Without outside competition to discipline local producers, Washington wine became a least-common denominator product. The typical wine was sweet and fortified (Thunderbird-class wine, if you know what I mean) and early attempts to produce quality wines were hampered by the lack of an active fine wine culture.

This Changes Everything

The bad old days of Washington wine.

Much changed in 1969 with the passage of House Bill 100, otherwise known as the California Wine Bill. This law allowed out-of-state wines more or less equal access to the local market. Cheaper California wines flooded in and people naturally bought them. Unable to compete in the low end wine market because of their higher production costs, Washington wine makers were forced to turn up market.

The California Wine Bill didn’t destroy Washington’s wine industry, as many expected it would. It redefined it. The result (to skip a few steps) is the industry you see today, where even large scale wine producers (think Columbia Crest) make wines to a high standard and the best wines compete successfully with the finest wines in the world.

The California Wine Bill changed everything … or nearly everything. This market liberalization remade the competitive landscape in Washington and set up the growth we have seen in recent years.

Now Washington voters are being asked to consider another set of potential market changes in the form of two initiatives on the November ballot. You might call them The Costco Initiative (I-1100) and The Distributor Initiative (I-1105). Costco is the largest backer of I- 1100 ($1 million according to a Seattle Times article). Liquor distributors Young’s Market and Odom Southern Holdings are reported to have contributed $2.2 million to back I-1105 (and oppose I-1100).

Pros and Cons

Are these proposed laws a step in the right direction in terms of the wine industry in Washington state? Will they “change everything” like the California Wine Bill and in a positive way? Since so many people have asked me this question I thought I would devote some space here to considering the issues.

Both proposals would eliminate the state monopoly on spirit sales. State liquor stores would close and private retailers would be permitted to sell spirits along with beer and wine. Costco has an obvious interest in this as do Safeway (which has contributed $325,000 to support the initiative campaign) and even Wal-Mart (a $40,000 contribution).

The move from public liquor utility to private market is a big change, since it substitutes American capitalism for Swedish socialism. Many people will understandably decide how to vote based on this factor alone. There really are public health and safety concerns associated with potential increased consumption of spirits and it is a fair question to ask if more active promotion of these products and more convenient access to them is in the public interest.

Even wine enthusiasts like me who consume alcoholic beverages every day may oppose these reforms, since we often claim somewhat self-righteously that wine is a temperance beverage – different from hard liquor. I’ll admit it: if this was just about letting Safeway and Costco sell vodka and tequila, I would vote against both the initiatives.

But there is more to the proposals than privatizing liquor sales. How would they change the wine (as opposed to spirits) market? Who would win and lose? Look for answers to these questions in the next Wine Economist post.

Extreme Wine Report: Wine in Kabul

June 28, 2010 By Mike Veseth in alcohol, emerging wine regions, extreme wine, wine distibution, wine law 3 Comments

I’m starting an occasional feature on extreme wines. Extreme wines? You know, the cheapest, the most expensive; the biggest producers, the smallest; the oldest, the newest and so forth.

The first report comes from one of the least likely places to find wine: Kabul, Afghanistan. It is unlikely because Afghanistan is a Muslim country and Islamic Law is not very wine-friendly. Wine is pretty much the last thing you think of when someone mentions Kabul. But there is it, as a recent Time magazine story makes clear.

The Wine Economist’s Chief Kabul Correspondent (codename K.W.) sends this report on the wine scene there, including a rough and ready shopping guide, firsthand market (and black market) analysis and … tasting notes!. Here’s the report.

Note: This is a report from The Wine Economist’s Chief Kabul Correspondent, “K.W.” All names have been changed. Click here to read a recent Time magazine article on nightlife in Kabul.

In Kabul, if you know the right people you can have them use their security clearance to get wine, beer and spirits from one of the military bases or the UN. Unfortunately, I have not been able to utilize such resources. My wine supply comes through slightly less direct channels and is only available at night when the streets of Kabul are sufficiently dark.

Afghanistan is an Islamic country but is also home to thousands of foreign workers who very much enjoy winding down the evening with some type of alcoholic beverage. The legal technicalities with respect to alcohol are consequently rather vague. At times, the Afghan National Police Force sweeps through the restaurants frequented by foreigners in Kabul and seizes their supply of alcohol. These “raids” only happen every once in a while and it is largely assumed that they are simply a way of maintaining a supply for their own consumption. At other times, it seems to be legal for alcohol to be consumed by foreigners but not by Afghans. For this reason, my Afghan coworkers from my day job at an NGO are hesitant to join me at the bar I manage at night.

All of this ambiguity means that when the bar runs out of red wine and our normal supplier is on leave in Dubai, Hamad (the bartender) and I are forced to find alternate sources. Hamad and I jumped into his car and after I came to terms with the fact that the seat wasn’t going to slide back from the fully-forward position it was in we were on our way. Hamad floored it out onto the main road, with Bollywood beats on full blast and the windows down – Hamad puffing on a cigarette. Traffic can get pretty bad in Kabul but that depends on how good you are at weaving and playing chicken with on coming traffic. I had about a thousand dollars in twenties wadded up in my pocket.

On Flower Street, named after the displays of bright, plastic flowers in front of nearly all of the stores, we went in a spoke with a man behind the counter who wore a Mona Lisa grin. You would think that buying something out of the black market would mean you could get it for cheap. Not so much. After trying very unsuccessfully to haggle the price down I handed over a little over half the money in my pocket and we got back in the car and waited, with the trunk just barely open. The Afghan National Police has a bigger presence on Flower Street than anywhere else I’ve seen. When the time was apparently right three guys ran out of the store with four cases of beer and a case of Tajikistan vodka wrapped up in black plastic bags, dumped them in the trunk, slammed it shut and ran back into the store. The engine had been running and we took off only to be stopped behind another car right next to three Policemen.

If I get caught buying alcohol it gets taken away, they pretend to make a big deal out of it and then they send me on my way. If Hamad – an Afghan – gets caught buying alcohol he gets taken to prison where he could stay for years if he is unable to pay a several thousand dollar fine. A flashlight scanned our faces for an uncomfortably long period of time as the policeman holding it took a long, thoughtful drag of his cigarette. Traffic cleared, Hamad shifted into gear and I watched the policeman in the rear view mirror look passively back to his friends.

Before we had finished letting out our sighs we had made a few turns and were stopped in the middle of a dark, dirt road ready for our next purchase – the main reason for our trip. Hamad sent a text and we waited for about two minutes before two dark figures with boxes under their arms appeared down the street walking towards us. The two men shifted their eyes at us. After the greetings, a quick series of questions which neither side answers, I broke open the boxes to see what we were getting. Right then I felt I was in the scene of the movie where the mobster checks the trunk to make sure “the goods” were all in order and accounted for. I looked down, half expecting to find some sort of vastly illegal contraband and instead found “Calvert Varietals” a French Cabernet marketed towards an international market, and then Sutter Home California Cabernet. I pointed at the Sutter Home and told one of the guys he should be the one paying me to take it off his hands. The joke didn’t really go over. Wine snobbery, even in jest, isn’t really understood here. We didn’t have enough money for all of it so some of the Sutter Home found its way back into dark alley wine supply to await its next nervous, desperate wine-starved foreigner.

I was reminded of the last wine purchase we made, an unusually large order of 72 bottles, all of a relatively drinkable and non-threatening Merlot, my favorite varietal. One customer, for some reason eager to expound his wine knowledge upon a 24 year old behind a bar in Kabul, expressed his distaste with the selection. “Merrrllot?”, he exclaimed, “Is that really all you have? I think I’ll stick to Becks”. While opening his bottle of beer I had wondered at how the reputation of one of the worlds greatest wine grapes had been tainted all the way out here. There was a chance that the customer knew what he was talking about and that his owns tastes led him to prefer other types of wines over what he reasonably assumed was a run-of-the-mill example of the often-times poor crafting of Merlot. There was also a chance that having tried a good amount of mediocre Merlot in the 1990’s the customer developed his own aversion to the grape that has continued to this day. More likely than not, this customer – an American – saw a movie and perhaps some snippets of Merlot criticism in the media and decided to use the outside influence to help guide him down the sometimes overwhelming path of wine selection, which is not unreasonable. After finishing a fervent defense of the grape (in my head), I took a sip and remembered that fewer people wanting to drink Merlot meant that there would be more for me.

Most of the bar patrons know better than to ask for a specific type of wine beyond red and white. In fact, most patrons of the bar know better than to ask for wine in the first place. That said, nearly every week we have a different red wine on the shelf and you never know, this could be the week when it’s drinkable before rather than after those rum and cokes. Recently we’ve had a decent supply of a South African white which is decent, especially now that the summer is swinging into gear and most everyone chooses to sit out in the garden at a picnic table. Red will typically be either Italian or French with the occasional American, Australian and Spanish bottles as well. As I cringe at the blown out fruit I have to remind myself that much of this wine has been sitting in giant metal shipping containers for months, seeing some of the worst transportation conditions possible.

How did this wine get here? For the most part, deals are cut with distributors or directly with producers and larger shipments are flown in on large cargo planes, destined for Embassies, the UN, the military bases and perhaps one or two influential individuals or groups. But what about my handful of cases in the alley? My guess is that occasionally, cases find their way off the pallets while waiting to be trucked off to the bases. Somebody’s cousin has a friend who’s brother knows somebody who once mentioned to Hamad the bartender that he may be able to get him something. Most of the wine I see is fairly recent, usually 2008, but every once in a while I see something like the dateless Barolo we had a few bottles of the other day with its yellowed, ripped labels and corks that indicated at least decade. What channels had those bottles gone through to eventually find their way to the bar?

When Hamad and I get back to the bar “Alain”, the rather stereotypical Frenchman is relieved to see the cases under our arms. Most of the customers are there for the Heineken or the Jim Beam but occasionally I see hopeful eyes peruse the bottles of wine behind me, looking for something that has not already disappointed them. In general, you are forced to ask the question, “why is this wine in Afghanistan in the first place?” The answer, more often than not, is revealed with the first unfortunate sip. That said, there is always the hope of finding that diamond in the rough, a glass of which will make you forget that when your last bottle of Tuscan red was fizzing in your glass, you shrugged your shoulders and decided to take a sip anyway.

Kabul Tasting Notes:

Calvert Varietals, Cabernet Sauvignon 2008 Vin Pays d’OC France

When the back label, in English, tells you that this bottle is good with everything from burritos to Satay beef your hopes tend to whither just a bit. A cooked nose (perhaps literally, given the way it was likely transported here), not unpleasant in taste but lacking in body and length.

Dona Beatriz, Rueda Verdejo, 2007 Spain

Very promising and interesting nose with several layers of red to dark-red fruit laced with deep roses. Unfortunately, it seemed watered down, completely lacking in taste.

Torregaia Negromaro Salento Indicazione Geographica Typica Italy

Bright fruit in the form of moderately high acidity. Dried cranberry followed by a small hint of cluster rot – as if the grapes were caught in an early rain while still too young and the vintner left them on the vine to try to get them a little riper.