Price Government Intervention
The milk subsidy: Obama, yes; McCain, no Wisc. State Journal, Oct 23, 08
Just weeks before the tight 2004 presidential election, incumbent Bush came to Eau Claire to announce his support for a dairy subsidy that favors Wisconsin farmers but is costly to taxpayers. At that event, the state's largest farm lobby endorsed Bush for re-election. But this year, McCain, doesn't support the Milk Income Loss Contract program because of its effect on an already strained budget. The Milk Income Loss Contract is a price support subsidy that kicks in if the price of milk falls below a certain point. The program is weighted in favor of smaller dairy farms like those in Wisconsin and has delivered $511 million to farmers since Dec 2001more than twice as much as any other state. Obama supported the dairy subsidy as part of the 2008 Farm Bill passed in May because it provides a safety net for farmers. McCain opposed it because of its cost to taxpayers and because farm subsidies at home can make it more difficult to get a level playing field for U.S. farmers' goods in foreign markets. It was a real coup for dairy farmers to get this in place, but, for taxpayers it's going to be more costly.
A taxonomy of price determination
1. Market based price determination
perfect competition imperfect competition (monopoly, oligopoly, chapter 3)
2. Negotiation 3. Auction (chapter 11, last lecture) 4. Administered prices (influenced by governmental price policies)
tariff, quota, subsidy, tax A: price support, B: deficiency payments, C: supply control
Government Price Intervention
Objectives: 1. 2. 3. Discuss why governments have price intervention policies for agricultural sector Examine specific policies used for agriculture in the U.S. Provide economic framework to study impacts of policy
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Reasons for govt intervention in agriculture
1. Reduce price instability 2. Support price and enhance farm income 3. Preserve small family farms, promote selfsufficiency in food production Obama for 1-3 (4).Hold down consumer costs and increase food & fiber consumption (e.g., price depressing policies such as import subsidy and export tax)
Opposing forces to government intervention
1. Federal budgetary pressures (costly to taxpayers) 2. Reduced international competitiveness McCain for 1-2 3. WTO and other free trade agreements, and other countries (Europe Entertains an American Offer to Cut Farm Aid ) 4. Opposition by consumer groups (e.g., price enhancement policy such as tariff) 5. Regional farm dissension
Regulated commodities
U.S. supports price for:
grain, cotton, tobacco, oilseed crops, sugar, dairy Account for 50% of gross farm receipts
Non-supported commodities:
poultry, eggs, beef, pork indirectly impacted
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Price enhancement policies
1. Price support programs (e.g., dairy price support program) 2. Price-support loans (e.g., corn, soybeans, wheat programs) 3. Target price-deficiency payment program (e.g., corn and wheat programs) 4. Direct and indirect export subsidies (e.g., low-cost credit, free commodities, food aid) 5. Voluntary supply control (e.g., land retirement, set asides, buyouts) 6. Mandatory supply control (e.g., production quotas, quality control) 7. Marketing orders (e.g., milk and fruits and vegetables) 8. Domestic food subsidies and distribution (e.g., food stamps, WIC) 9. Tariffs, import quotas, import restrictions, export enhancement 10. Demand expansion (e.g., commodity advertising)
Food stamps A program offered by the Food and Nutrition Service which provides benefits to low-income people that they can use to buy food to improve their diets WIC provides Federal grants to States for supplemental foods, health care referrals, and nutrition education for low-income pregnant, breastfeeding, and non-breastfeeding postpartum Women, and to Infants and Children up to age five who are found to be at nutritional risk
Price-depressing policies
1. Price ceilings (causes excess demand) (e.g., during inflationary periods) 2. Import subsidy and export tax; Relaxation of import restrictions (e.g., WTO) 3. Release of government stocks (e.g., Payment-in-Kind PIK Program, USDA uses existing grain and cotton to stocks pay farmers to reduce their production)
A: Economics of Price Support (grain, dairy)
Price S a b
Govt provides the demand for the surplus production generated by the support price. Storable commodities Taxpayers bear the cost, consumers pay more Amount of govt purchases: ? Costs to the govt depend on: 1. Level of PS in relation to market price P* 2. Elasticity of D and S (flatter ones generally cost more) 3. Effectiveness of supply reduction programs 4. The relative changes of D and S over time (faster D growth helps release stocks while maintaining PS)
PS P*
D d Qd c Q* Qs Q
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What does government do with commodity acquired?
1. 2. 3. Sell it back to market if market price rises Sell it to foreign market (sometimes at below cost) Give it away (domestic and foreign)
B: Target price-deficiency payment programs (deficiency payment)
Target price-deficiency payment programs involve the government making direct payments to farmers whenever the market price (reference price) falls short of a pre-announced price level (target price). The current Milk Income Loss Contract (MILC, the first slide of the notes) program is an example.
Economics of deficiency payment program
Govt does not acquire crop, they make
direct payments to farmers when P is deemed low. Mkt forces determine prices. Govt set a target price and consumers pay a market price.
P
S
a TP P* MP d
b
c
D Q* Qs
1. Amount of govt costs: area abcd = (TP MP)*Qs 2. Funds are from taxpayers 3. Farmers receive a higher P (TP), buyers pay less (MP). Both are subsidized by the govt. 4. Govt costs depend on elasticities of D and S 5. The relative changes of D and S over time
Q
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Advantage: support farm income and lower consumer price Disadvantage: can lead to huge govt costs Elasticity of S and D critical in determining govt costs
relatively flat S => large supply response relatively steep D => large reduction in P required to purchase additional quantity => very large govt costs. Intuition for this? S is steep and D flat => modest govt costs
Can control govt costs by:
restricting payments: limit direct payments to a maximum quantity (or dollar) of milk marketed by an individual producer, as is done under MILC. Payment limits are objectionable to larger farmers
Impacts of deficiency payment program
1. 2. 3. 4. Consumers pay lower prices Producers receive higher than free market price Government costs higher More efficient than price support program
C. supply control program
1. Mandatory supply control program (tobacco): participation mandatory producers must restrict supply to achieve desired market price issue production/marketing quotas reduction in market supply raises price
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Economics of mandatory supply-control program
Price
S
S
Pq
P*
D Qq Q*
Quantity
2. Voluntary supply control program Dairy Diversion Program: A voluntary supply control program authorized by the Dairy Production Stabilization Act of 1983, under which producers in 1984-85 received payments, of $10 per cwt., for electing to participate in the program and reducing their milk marketings by between 5 to 30% below an earlier base period. Participation voluntary Supply reduction achieved by paying farmers to reduce or quit farming (# of individual suppliers in the market decrease)
Economics of Voluntary supply-control program
Price
Svs S
Pvs P*
D Q* Q*
Quantity
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Impact of supply control policy:
1. 2. 3. 4. Consumers pay higher prices Government budget costs lower Producer receive higher prices Leads to development of substitute products e.g., cotton and artificial fibers sugar and corn sweeteners US tobacco and other country tobacco Lowers efficiency in production
5.
General comments
Magnitude of effects of programs depends on: level of support type of policy effectiveness of supply reduction demand and supply elasticities
Matrix of gainers (+) and losers (-) from policy relative to free market
Price support program stabilize price Deficiency payment program support income Supply control program raise price, at low govt costs -
Designed to
Consumer impacts Producer impacts Tax payer impacts
-
+
+
+
+
-
-
-
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