LECTURE 11: GENERAL POLICY INSTRUMENTS III

AGEC 429: AGRICULTURAL POLICY

LECTURE 11: GENERAL POLICY INSTRUMENTS III

AGEC 429 Lecture #11GENERAL INSTRUMENTS OF FARM POLICY

PART III: REVENUE SUPPORT PAYMENTS

General Format for Discussion:1. What is it and how does it work?

2. What are the market effects (output market, input market, cross-market)

3. Who gains and who loses from the policy?

REVENUE SUPPORT PAYMENTS1. WHAT IS IT AND HOW DOES IT WORK?

• Revenue support payments involve the government _______________________ to the farmer. The intention is to support revenue/income and not market price.

• Three basic types: (1) Coupled, (2) Decoupled, and (3) Partially Decoupled (1) Coupled Revenue Support Payments

- Payment amount is determined by the current market price (PM) and the level of production (Qs) so payments are “coupled” (linked) to both PM and Qs.

- First, government announces the price per unit that it will guarantee that producers earn on sales (the support price or PS).

- Then, if PM is below PS, the government ____________________ tofarmers equal to the difference between PS and PM times their production (Qs):

Coupled Revenue Support Payment = (PS - PM) • Qs

Note that the per unit payment = PS - PM

Four Types of Coupled Revenue Support Payments (Under current Farm Bill):

1. Marketing Loan (loan deficiency payment) Program (MLP)- The government operates a non-recourse loan program. But instead of buying the

surplus when the market price (PM) is lower than the loan rate (PL), the government pays farmers the difference between PL and PM times production:Marketing loan deficiency payment (MLP) = (PL - PM) • Qs

The per unit payment (PL-PM) is the “______________________” or __________.

2. Price Loss Coverage (PLC) program

- A “________________” (PR) is set above PL and the government makes a payment tofarmers if the market price is above PL but below PR:Price Loss Coverage payment (PLC) = [PR - Max(PL or PM)] • Qs

- The loan rate is set at a low, “safety net” level.

- The market price stays at or above the loan rate because farmers default on their loans if the market price tends to drop to or below the loan rate.

3. Price Loss Coverage combined with Marketing Loan- Operates like a PLC program except when the market price drops below the loan

rate, the government does NOT purchase the surplus at the loan rate.- Instead, the government provides a marketing loan deficiency payment to

producers in addition to the PLC payment:PLC payment: PLC = [PR - Max(PL or PM)] • Qs

Marketing loan deficiency payment: MLP = (PL - PM) • Qs

Total payment to farmer = PLC + MLP

Four Types of Coupled Revenue Support Payments under the current Farm Bill

4. Agricultural Risk Coverage (ARC) payment program- Revenue support program- Revenue payments are made based on yield and price levels- Payment is made when Farm revenue is lower than the “Benchmark” revenue level.

“Benchmark” revenue per acre is the historic average revenue per acreFarm revenue per acre = yield • Max(PL or PM)]

Per Acre ARC payment: “Benchmark” per acre revenue - Farm per acre revenueTotal ARC payment: (ARC per acre payment) • Acres

- No payments made when Benchmark ARC revenue > Farm ARC revenue- Highest payment made when both price and yields decline.

ARC payment ___ = Benchmark - yield ___ • Max(PL or PM ___)] Higher payment

- Low payments (or none at all) when price up but yield down or yield up but price downARC payment ___ = Benchmark - yield ___ • Max(PL or PM ___)] Lower or no paymentARC payment ___ = Benchmark - yield ___ • Max(PL or PM ___)] Lower or no payment

- For MLP and PLC payments, the per unit payment to producers goes up when price goes down and vice versa:

MLP = (PL - PM) and MLP = (PL - PM)

CCP = (PT - PM) and CCP = (PT - PM)

• Coupled revenue support payments are “________________” in that theyvary inversely with the level of the market price (and/or yield).

What do you think are the market effects of coupled payments?

- For ARC payments, the payment goes up when price and/or yield goes down and vice versa:

ARC payment = Benchmark - yield • Max(PL or PM )]

ARC payment = Benchmark - yield • Max(PL or PM )]

Four Types of Coupled Revenue Support Payments under the current Farm Bill

(2) Decoupled Revenue Support Payments- Cash payments to farmers that are not determined by ___________ or

___________.

- Payments that are “decoupled” from (not linked to) price or production.

- Thus, payments do not change when prices or production changes.

- Farmers can use the cash payments for whatever they want.

Partially Decoupled Revenue Support Payments- Payments decoupled from only ____________ or _________ but not both.

- In current U.S. farm policy, some payments are decoupled from _____________ but not _______. For example:

What do you think are the market effects of decoupled payments?

• Per unit payment is the difference between PS and PM but the Total payment is the actually the per unit payment times “historical supply” not current supply.

• Farmer does not have to be currently producing a crop to get a payment. There are no restrictions on how the farmer can spend the money.

• PLC is actually a partially decoupled payment:Total Payment = [PR – Max (PL or PM)] • (Ave. Historical production or BASE)

Ave. historical production is called BASE production.

2. WHAT ARE THE MARKET EFFECTS OF REVENUE SUPPORT PAYMENTS?

Marketing Loan (Loan Deficiency Payment) Program

Pe

PL

Qe Q*e

S

TD

PM

____________________

_____________________

___________

__________

MR = PM • Q*e

MLP = (PL – PM) • Q*e

(Note: MLP cannot be negative!)

Total Farm Revenue = MLP + MR

Government Costs= ML Payments

Pe

PR

Qe Q*e

S

TD

PL

PM

___________

____________

_________________________________________

Farmers ReceivePLC = (PR - PM) • Q*e

Market Revenue = PM • Q*e+TOTAL REVENUE = TR

Government Costs= PLC Payment

2. WHAT ARE THE MARKET EFFECTS OF REVENUE SUPPORT PAYMENTS (cont’d)?

Price Loss Coverage (PLC) Payment Program

Max(PL, PM)


Combined Price Loss Coverage and Marketing Loan Payment Programs(Case of PL > PM)

Pe

PR

Qe Q*e

S

TD

PL

PM

__________________________________________

Farmers ReceivePLC = (PR - PL) • Q*e

Market Revenue = PM • Q*e

ML Deficiency Payment = (PL - PM) • Q*e

+TOTAL REVENUE = TR

Government CostsPLC Payment

+TOTAL GOV’T COSTS (GC)

Max(PL, PM)

________________________

__________________________________________

ML Deficiency Payment

Pe

PR

Qe Q*e

S

TD

PL

PM

_______________________________________________________

Farmers ReceivePLC = (PR - PL) • Q*e

Market Revenue = PM • Q*e

ML Deficiency Payment = (PL - PM) • Q*e

+TOTAL REVENUE = TR

Government CostsPLC Payment

+TOTAL GOV’T COSTS (GC)

Max(PL, PM)

_________________ _________________

MARKETING LOAN PAYMENT

ML Deficiency Payment

What happens if PM > PL?


Combined Price Loss Coverage and Marketing Loan Payment Programs

ML Deficiency Payment = ______

______

PM)


Agriculture Risk Coverage Payment Program

Pe

Qe = yield*Acres

S

TD

Expected Production(historical average)

Expected Market Price

(historical average)

BENCHMARKREVENUE



Pe

Qe = yield*Acres

S

TD

PM

ARC Payment =Benchmark Revenue -Actual Market Revenue

ACTUAL REVENUE

PM




BENCHMARKREVENUE

ARCPAYMENT

ACTUAL REVENUE



Pe

Qe = yield*Acres

S

TD

PM


ACTUAL REVENUE

PM




BENCHMARKREVENUE

ARCPAYMENT

ACTUALREVENUE

ARC payment drops if:(1) Market price increases



Q* = yield*Acres

S

TD

PM


ACTUAL REVENUE

PM

BENCHMARKREVENUE

ARCPAYMENT

ACTUAL REVENUE ACTUAL REVENUE

ARC payment drops if:(1) Market price increasesor if:(2) Yield Increases



Q* = yield*Acres

S

TD

PM


ACTUAL REVENUE

PM

BENCHMARKREVENUE

ARCPAYMENT

ACTUALREVENUE

ACTUAL REVENUE

ARC payment drops if:(1) Market price increasesor if:(2) Yield Increasesor BOTH!

INSTRUMENTS

PRICE SUPPORT REVENUE SUPPORTREVENUE

STABILIZATION

Variables

GOVERNMENTSURPLUS

PURCHASEDEMAND

EXPANSIONSUPPLY

CONTROL COUPLED DECOUPLEDCROP

INSURANCEDomestic Supply

Domestic Consumption

Exports

Farm Price

Farm Income

Consumer Price

Export Price

Livestock Number

Price

CostConsumer

Gov’t (taxpayer)

Net Society Effects

SUMMARY SHEETGENERAL POLICY INSTRUMENTS AND THEIR EFFECTS

Note: Only coupled payment program has effects on the market.Decoupled payments are intended to have NO market effects.

* Assuming that demand is inelastic.

Assume the supported commodity is a feedgrain

3. WHO GAINS AND WHO LOSES FROM THE POLICY?

CHANGE IN:CS ___________

+ PS ___________ = Subtotal

- Gov’t Cost ___________

= Net Society Effects (NSE)

Qe

S

D

Marketing Loan Example

Pe

3. WHO GAINS AND WHO LOSES FROM THE POLICY?

CHANGE IN:CS ___________

+ PS ___________ = Subtotal

- Gov’t Cost ___________

= Net Society Effects (NSE)

Qe

S

D

Price Loss Coverage Program

Note:Just change PL to PRin the ML graph and this becomes a PLC program graph!

Pe

3. WHO GAINS AND LOSES FROM REVENUE SUPPORT PAYMENTS?Some Welfare Conclusions for COUPLED Revenue Support Payments

• Both producers and consumers _________. Makes this option easier to sell politically.

• Income transfers from taxpayers to both producers and consumers and to deadweight loss.

• Coupled payments can be very expensive because in other programs consumer welfare is transferred to producers as the price increases so that consumers lose. But in this program, taxpayers must pay consumers what they would otherwise have lost to producers plus more to improve consumer welfare.

• When consumer welfare is transferred to producers, _________________ pay the largest part since food represents a large portion of low income budgets. But in this program, the ____________ pay the transfer to producers so the burden of the cost falls on high income people because of our progressive tax system and low income consumers gain since the price of food drops.

• PROBLEM: The cost of this type of farm support program is highly ______ to taxpayers. The cost is not so ______ when done through raising consumer prices. So these revenue support programs become targets for government cost-cutting. Also, some farmers object to the “welfare” orcharity aspects of receiving a check in the mail from the government.

3. WHO GAINS AND LOSES FROM REVENUE SUPPORT PAYMENTS?Some Welfare Conclusions for DECOUPLED Revenue Support Payments

• Producers ______ which is paid by taxpayers.

• Decoupled payments can be expensive because producers get a payment whether or not they even produce anything.

• PROBLEM: The cost of this type of farm support program is not only highly visible to taxpayers, it looks like farmers get paid for just being farmers. Hard to ____________________.

LECTURE 11: GENERAL POLICY INSTRUMENTS III

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