Government Intervention in Agriculture Chapter 11

Topics of Discussion Defining the “Farm Problem” Government intervention Consumer issues Price and income support Domestic demand expansion Importance of export demand

Price and Income Support A Historical Perspective  Loan rate mechanism  Set-aside mechanism  Target price mechanism  Conservation reserve mechanism  Commodities covered by government programs

The “Farm Problem” Inelastic demand and bumper crop Lack of market power Interest sensitivity Trade sensitivity Asset fixity and excess capacity

Page 240 An increase in supply causes price to fall sharply.

Page 199 If the demand curve is more elastic (D 2 ), the price will only fall to price P 2 rather than P 3 for a given increase in supply.

Recent Approaches to Supporting Farm Prices and Income

Page 205 Market Level Effects of Loan Rates Free market equilibrium occurs at point E. Let’s assume that P F is below a politically acceptable price, and that the price desired by policymakers is P G. Free market equilibrium occurs at point E. Let’s assume that P F is below a politically acceptable price, and that the price desired by policymakers is P G.

Page 205 Market Level Effects of Loan Rates The Commodity Credit Corporation of the USDA began in the Thirties to acquire excess supply at the desired price its through non- recourse loan provisions. The goal was to shift demand from D to D+CCC ACQ, pulling up the price from P F to P G. Note that consumer demand actually fell from Q F to Q D. The Commodity Credit Corporation of the USDA began in the Thirties to acquire excess supply at the desired price its through non- recourse loan provisions. The goal was to shift demand from D to D+CCC ACQ, pulling up the price from P F to P G. Note that consumer demand actually fell from Q F to Q D.

Page 205 Market Level Effects of Loan Rates The CCC often stored the surplus Q D -Q G in metal bins at great expense to taxpayers. This approach has the un- wanted effects of increasing supply from (Q F to Q G ) in a sector already plagued by over production. The CCC often stored the surplus Q D -Q G in metal bins at great expense to taxpayers. This approach has the un- wanted effects of increasing supply from (Q F to Q G ) in a sector already plagued by over production.

Page 205 Market Level Effects of Loan Rates Consumer surplus would decline from area to just area 6. Thus, they are economically worse-off as a result of this approach. Producer surplus would increase from area 1+2 to area , a gain of area Consumer surplus would decline from area to just area 6. Thus, they are economically worse-off as a result of this approach. Producer surplus would increase from area 1+2 to area , a gain of area

Page 206 Firm Level Effects of Loan Rates The individual firm under free market conditions will produce quantity q F if it expected the free market price P F, and earn profit Equal to area 1. The individual firm under free market conditions will produce quantity q F if it expected the free market price P F, and earn profit Equal to area 1. 22

Page 206 Firm Level Effects of Loan Rates The increase in CCC acquired stocks pulling the price up to P G will cause participating farmers to increase its production from quantity q F to q G, increasing its profits by area 2. The increase in CCC acquired stocks pulling the price up to P G will cause participating farmers to increase its production from quantity q F to q G, increasing its profits by area 2.

Page 207 Market Level Effects of Set-Aside Requirements Free market equilibrium occurs at point E 1. Let’s assume that P F is below a politically acceptable price, and that the price desired by policymakers again is P G. Free market equilibrium occurs at point E 1. Let’s assume that P F is below a politically acceptable price, and that the price desired by policymakers again is P G.

Page 207 Market Level Effects of Set-Aside Requirements Shifting the market supply curve from S MKT to S MKT * through set-aside require- ments reduces production from Q F to Q G. The market equilibrium moves from E 1 to E 2. Shifting the market supply curve from S MKT to S MKT * through set-aside require- ments reduces production from Q F to Q G. The market equilibrium moves from E 1 to E 2.

Page 207 Market Level Effects of Set-Aside Requirements Consumer surplus would fall from area to just area 7. Thus, consumers are worse-off economically. Producer surplus would increase from area to area 1+6. As long as area 6 is greater that area 2+3, producers are better-off. Consumer surplus would fall from area to just area 7. Thus, consumers are worse-off economically. Producer surplus would increase from area to area 1+6. As long as area 6 is greater that area 2+3, producers are better-off.

Page 207 Market Level Effects of Set-Aside Requirements Importantly, the set-aside approach does not encourage production of quantity Q S as the CCC loan rate approach did. Importantly, the set-aside approach does not encourage production of quantity Q S as the CCC loan rate approach did.

Page 208 Firm Level Effects of Set-Aside Requirements The individual producer under this approach would supply q G rather than q F or q S. Profit would increase over free market levels as long as area 4 was greater than area 2+3. The individual producer under this approach would supply q G rather than q F or q S. Profit would increase over free market levels as long as area 4 was greater than area 2+3.

Page 209 Deficiency Payment Mechanism The deficiency payment was equal to quantity Q M multiplied by the difference between the announced target price and either the loan rate or market price (blue shaded area above), which ever was higher.

Page 209 Deficiency Payment Mechanism To receive this payment, the farmer had to participant in the Acreage Reduction Program (ARP) which implemented the set- aside requirements. The Findley amendment reduced this payment by 15%.

Current Farm Policy CropLoan RatesTarget Prices Wheat$2.94 ($/bu)$4.17 ($/bu) Corn$1.95 ($/bu)$2.63 ($/bu) Rice$6.50 ($/cwt)$10.50 ($/cwt) Sorghum$1.95 ($/bu)$2.63 ($/bu) Barley$1.95 ($/bu)$2.63 ($/bu) Oats$1.39 ($/bu)$1.79 ($/bu) Cotton$0.52 ($/lb)$ ($/lb) Soybeans$5.00 ($/bu)$6.00 ($/bu) See

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1996 Farm Bill Federal Agricultural Improvement and Reform Act (FAIR Act) represented a transition to a market-driven agriculture. The FAIR Act replaced target prices and deficiency payment with annual fixed transition on flexibility contract payments. The FAIR Act was termed “Freedom to Farm” because farmers were no longer restrained in their planting decisions. They now had the flexibility to plant virtually whatever they wanted on their base acreage (referred to now as contract acres). The concept of a safety net was added back under the 2002 and 2008 Farm Bill.

New Legislation Since the 1996 FAIR Act  2002 Farm Security Act  2008 Farm Bill  Policymakers searching for a “countercyclical” approach that retains many of the “freedom” features of the 1996 FAIR Act  Added back the concept of a safety net  Added back target prices 38

Demand Side Options

Importance of Export Demand Movement Toward Free Trade General Agreement on Tariff and Trade or GATT NAFTA – U.S., Canada, and Mexico Successor to GATT = WTO (World Trade Organization) Adequacy of World Food Supply Thomas Malthus (late 1700s) argued that the world would eventually suffer food shortages because population growth would exceed growth in the food supply. “Food supply grows at an arithmetic rate while population grows at a geometric rate” –Malthus quote

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Consumer Issues Adequate and cheap food supply, food access Food Subsidies –Food stamp program –National school lunch program –WIC Food Safety Nutrition and Health –Obesity issue –Nutritional Labeling and Education Act (NLEA)

U.S. Nutrition Labeling and Education Act of 1990: A Model for the Rest of the World update list of nutrient, ingredients standardize serving sizes define nutrient content claims define health claims

Aims of NLEA promote consumer nutritional education enable consumers to make more healthful food choices provide incentive to food industry to create innovative and healthier new products for consumers