« AGRICULTURE AND FOOD Market Effects of Crop Support Measures Market Effects Governments in many OECD countries intervene in agricultural markets to boost crop producer returns by applying tariffs to the prices of imported cereals and oilseeds and/or subsidising prices of Crop Support paid by foreign buyers. Historically, market price support attributable to such interventions comprised the lion’s share of total financial support afforded crop producers in OECD countries. In recent years, Measures however, the share of crop producer support due to trade policy measures has declined, while that due to payments made directly from government budgets has increased. This publication compares the market impacts of market price support and several kinds of budgetary direct payments using indicators of economic efficiency and trade distortion. The main finding is a numerical ranking of the support measures studied showing a close inverse relationship between trade distortion and transfer efficiency. That is to say, those support measures found to be most efficient in transferring income to farmers are least distorting to trade. AGRICULTURE AND FOOD M a r k e t E f f e c t s o f C All OECD books and periodicals are now available on line r o p S www.SourceOECD.org u p p o r t M e a s u www.oecd.org r e s ISBN 92-64-19527-0 51 2001 14 1 P -:HSTCQE=V^ZW\V: Market Effects of Crop Support Measures ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT ORGANISATION FOR ECONOMIC CO-OPERATION AND DEVELOPMENT Pursuant to Article 1 of the Convention signed in Paris on 14th December 1960, and which came into force on 30th September 1961, the Organisation for Economic Co-operation and Development (OECD) shall promote policies designed: – to achieve the highest sustainable economic growth and employment and a rising standard of living in Member countries, while maintaining financial stability, and thus to contribute to the development of the world economy; – to contribute to sound economic expansion in Member as well as non-member countries in the process of economic development; and – to contribute to the expansion of world trade on a multilateral, non-discriminatory basis in accordance with international obligations. The original Member countries of the OECD are Austria, Belgium, Canada, Denmark, France, Germany, Greece, Iceland, Ireland, Italy, Luxembourg, the Netherlands, Norway, Portugal, Spain, Sweden, Switzerland, Turkey, the United Kingdom and the United States. The following countries became Members subsequently through accession at the dates indicated hereafter: Japan (28thApril1964), Finland (28th January 1969), Australia (7th June 1971), New Zealand (29th May 1973), Mexico (18th May 1994), the Czech Republic (21st December 1995), Hungary (7th May 1996), Poland (22ndNovember 1996), Korea (12th December 1996) and the Slovak Republic (14th December 2000). 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FOREWORD Financial support afforded farmers through government policy intervention will be more or less trade distorting and more or less efficient in achieving targeted objectives depending on the mix of policy instruments used and their implementation. This report examines differences in the market effects and efficiency of several different ways OECD governments provide financial support to crop producers. The analysis was developed in the context of work done for the Policy Evaluation Matrix (PEM) project underway within the OECD Directorate for Food, Agricultural and Fisheries that seeks to integrate through the PEM model the measurement of support using the Producer Support Estimates (PSE’s) with quantitative analysis of the economic and market effects of support. A description of the PEM crop model and the analysis undertaken with it together with a synthesis of key findings from policy simulations constitute the main body of this report. There are three annexes. The first contains model documentation and additional detail from the policy simulations. The second and third annexes reproduce two consultant reports commissioned by the Secretariat to assist in developing the analytical framework used. Professor David Abler of Pennsylvania State University and Professor Klaus Salhofer of the University of Vienna provided specific guidance on how to model crop policy effects, on the economic parameters to use and on the procedures for doing policy simulation experiments. Each of their reports reviews past analyses of agricultural supply response and contains their recommended ranges of plausible elasticities to use. 3 TABLE OF CONTENTS Executive summary........................................................................................................................7 MARKET EFFECTS OF CROP SUPPORT MEASURES.........................................................10 I. Introduction.....................................................................................................................10 II. Qualitative analysis of differences in policy effects among support measures...............10 III. Quantitative differences amongst support measures.......................................................17 IV. Conclusions and policy implications..............................................................................30 References....................................................................................................................................36 Annex 1. Model documentation and additional results...............................................................38 I. Crop model structure, parameters and elasticities...........................................................38 II. Country results from simulation experiments comparing policy effects among support measures...................................................................................................................................48 References....................................................................................................................................56 Annex 2. Elasticities of substitution and factor supply in Canadian, Mexican and United States agriculture by David Abler.............................................................................................................................57 I. Introduction.....................................................................................................................57 II. Estimates of elasticities of substitution...........................................................................57 III. Estimates of factor supply elasticities.............................................................................60 IV. Suitability of available estimates for the PEM project....................................................62 V. Plausible ranges of parameter values..............................................................................64 VI. Procedures for dealing with parameter uncertainty.........................................................65 References....................................................................................................................................82 Annex 3. Elasticities of substitution and factor supply elasticities in European agriculture: a review of past studies by Klaus Salhofer.........................................................................................................................89 I. Introduction.....................................................................................................................89 II. Elasticities of substitution...............................................................................................90 III. Factor supply elasticities.................................................................................................97 IV. Statistical procedures for sensitivity testing..................................................................101 V. Suitability of the available estimates for modelling the effects of agricultural policy changes...................................................................................................................................105 References..................................................................................................................................112 5 Executive summary Farmers in OECD countries benefit from many different support policies. Some of these policies lead to higher-than-otherwise receipts from sales of farm production, some to lower-than-otherwise variable costs and some increase farm income more directly by, for example, giving farmers a fixed payment per hectare of land. The effects of different ways of supporting farmers on variables such as production, trade and farm income can differ depending on how the associated policy works. This paper combines the OECD’s Producer Support Estimates (PSE’s) and an economic model of crop production and consumption to quantify these effects. The PSE is an estimate of the monetary value of transfers from consumers and taxpayers to producers resulting from government intervention to support agriculture. Support estimates are classified for the PSE according to a taxonomy that distinguishes first between market price support and budgetary payments and then among budgetary payments according to how they are implemented. Support measures studied and indicators used The analysis focused on five stylised crop support measures — market price support and four categories of budgetary payments based on, respectively: output, variable input use, area planted in the current period and area planted in an historical period. The crucial question for the analysis was: “How do the various forms of budgetary payments differ from market price support and from each other in their market and economic effects?” Production, trade and world market prices were the indicators singled out to study differences in the market effects of the support measures. Comparisons were based on estimated ‘impact ratios’ using market price support as the reference category. These ratios measure the estimated effect of a given change in a support measure on each of the indicators of market effects, relative to the estimated impact on that indicator of the same change in market price support. In studying differences in the economic effects of the support measures, five groups of economic agents were distinguished: 1) consumers 2) taxpayers 3) landowners 4) farm households and 5) suppliers of purchased inputs. Consumers and taxpayers pay the monetary costs of support. Farm households, supplying both land and non-land owned factors, and suppliers of purchased inputs typically get the benefits. The difference between what consumers and taxpayers pay and what the intended beneficiaries receive reflects the transfer efficiency of support. Farm households were designated as the intended beneficiaries of farm support in this study. Qualifications Results come from simulation analysis comparing the effects of small, equal changes in the amount of support from the different policy measures. These results are subject to the usual qualification that they may not provide the basis for conclusions about the effects of large changes in support levels. Moreover, the support measures studied are ‘stylised’, not representing exactly the specific mechanisms of policy implementation in any of the study countries. The analysis focused exclusively on how support measures initially affect prices and thereby quantities demanded and supplied of crops and of inputs used in crop production, ignoring some other channels through which they might differ. These latter include the possible risk, wealth and expectations effects of policies. Comparing impacts among support measures Bearing the above qualifications in mind, the main finding of this analysis is that, depending on the indicator used to measure policy impacts, the effects of a given amount of support differ substantially among the support measures used to provide that support. Area payments, even when implemented with a requirement to plant, were found to be both more efficient in transferring income to farm households and less production and trade distorting than all the other forms of support investigated. (continued) 7 For a given total amount of money to spend on them, and assuming equal payment rates for different crops, the greater the number of crops covered by area payments the smaller their estimated production and trade effects and the greater their efficiency in transferring income to farm households. Thus, payments requiring planting of a specific crop are generally more trade distorting and less income efficient than if the same payment applies irrespective of which crop is planted. Likewise, area payments requiring planting of at least one of a list of eligible crops were found to be somewhat more trade distorting and less efficient than if the same amount of money were spent in the form of a payment requiring only that the land remain in agricultural production. Finally, payments having the least trade distorting impact are those that impose no condition whatsoever on the use to which eligible land is put. The estimated trade effects of market price support were always higher and the estimated income effects always lower than the corresponding effects associated with any category of payments based on area planted. The estimated market and economic effects of budgetary payments based on output were similar: sometimes lower, sometimes the same and sometimes higher, depending on the country and crop, to those of market price support. Finally, payments based on variable input use were the least efficient in transferring income to farm households and the most production distorting of any form of support studied. Landowners were found to be the major beneficiaries of support regardless of the measure used to provide it. In fact, among the categories of support measures studied landowners captured the largest share of benefit in all cases except that of payments based on variable inputs. Even in that case, the estimated landowner share was only slightly less than that of the main beneficiary — suppliers of purchased inputs. Although the estimated transfer efficiency of area payments was found to be relatively high, almost all the associated income gains go to landowners, benefiting farm households only to the extent they own the land they farm. Numerical estimates of policy impacts depend critically on initial support levels: the greater the initial amount of support arising from a support measure, the less the simulated impact of a given increase in support provided by that measure. Accordingly, the estimated impact of a given increase in any one of the budgetary payments studied relative to increased market price support is greater: 1) the lower the initial level of support provided by that measure and 2) the higher the initial level of market price support. Partly this ‘diminishing marginal impact’ is due to the particular, non-linear, specification of the supply and demand equations in the model. A more important and fundamental factor however is that of diminishing marginal transfer efficiency of support — the economic costs of support grow more than proportionately with the level of support provided, regardless of the support measure used. The paper also reports findings from analysis undertaken to test for sensitivity of results to uncertainty about precise values of key economic parameters. This part of the analysis focused especially on the robustness of the implied rankings of support measures in terms of their estimated impacts on production, trade and income. The analytical question posed was whether those rankings would change for particular combinations of plausible values of elasticities of factor supply and substitution. Although quantitative estimates of policy impact ratios were found to vary depending on parameter values chosen, the qualitative rankings of support measures were highly similar for all combinations studied. Trade and world market effects of reducing support The effects of support given to producers in one country or region spill over to other countries or regions through trade and world market prices. The model was employed to estimate the effects on these and other variables of an across the board 10% reduction in all the various categories of support provided crop producers in the study countries using 1998 as the base year for the data. The world market impacts of reducing any one category of support by a given percentage depend on two characteristics of the associated policy measure; 1) trade distortion ‘per dollar of support’ provided, and 2) the initial level of support provided by that measure. The simulation analysis was done in progressive steps, one for each different kind of support. In 1998, market price support accounted for less than half the total PSE for crops in the study countries. However, reducing market price support by 10% led to a greater simulated decrease in subsidised crop production and a greater simulated increase in world market prices than the 10% reduction in all other categories of support. (continued) 8 Reducing the rates of payments based on area led to the smallest simulated decrease in crop production and trade and the least simulated gain in world market prices. The total of payments based on area planted and payments based on historical entitlements made to crop producers in the study countries in 1998 was greater than the amount of support provided through any other channel in that year. On a ‘per dollar of support’ basis though, area and historical entitlement payments, were found to be less trade distorting and more income efficient than the other support measures. In the simulation analysis this latter effect dominated with the result that, even when added together, the trade effects of reducing area and historical entitlement payments were less than for any other single category of support reduction accounting for less than one-tenth the total simulated increase in world market prices due to all support reductions. Policy implications A key finding of this study is that those support measures causing the greatest distortion to production and trade (per dollar transferred to farmers from consumers and taxpayers) are those least efficient in providing income benefits to farm households and vice versa. These findings point to the possibility that governments could, by changing the way support is provided, significantly reduce distortions to trade while minimising the negative impacts on farm household incomes. Market price support is often singled out for special consideration in international policy discussions because the associated trade interventions increase both domestic producer and consumer prices, reduce imports or increase subsidised exports and depress world market prices. In comparison to area payments, market price support is indeed a relatively inefficient and trade distorting way of supporting farm incomes. However, budgetary payments based on output or on variable input use were also found to be highly inefficient and trade distorting when compared to area payments. Distinctions between programmes of area payments that require planting of eligible crops and those that require only that land remain in agricultural uses also feature prominently in international debate about agricultural policy. Results from this analysis confirm that the trade effects are greater and the income effects less for programmes that require planting. However, if area payment rates are identical for all crops competing for the same land these differences in trade and welfare effects are lessened. The similarities in trade and welfare effects of programmes requiring planting and those that do not would be especially acute in circumstances of identical payment rates and where approved uses include idling land from production or where area payments are accompanied by planting restrictions and/or set-aside requirements. 9