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20 years in, NAFTA finally sours the US sugar program

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Key points:

  • Although the North American Free Trade Agreement (NAFTA) was signed 20 years ago, it only truly began affecting the US sugar industry over the past two years as world sugar production has increased and world prices have declined.
  • Recent trade negotiations have complicated the US Department of Agriculture’s ability to control total US sugar supplies.
  • The US sugar industry will need to reduce annual domestic production by 5 to 10 percent to meet US trade commitments and minimize taxpayer costs.
Introduction
The North American Free Trade Agreement (NAFTA) was signed in 1994, but US restrictions on sugar imports from Mexico were only slowly relaxed over the following 14 years. In 2008, however, all restrictions were removed. Until recently, this trade liberalization policy had only small effects on the US sugar industry, for four reasons.

First, Mexico was only slowly granted access to the US sugar market. Second, Mexico’s domestic sugar production remained relatively flat between 1994 and 2010. Third, Mexico’s sugar consumption also remained relatively stable until, over the past five years, high world sugar prices prompted many of Mexico’s food and soft-drink manufacturers to substitute high-fructose corn syrup (HFCS) for sugar. Fourth, world and US sugar prices were at record-high levels early in this decade because of poor weather conditions.

Over the past two years, however, world sugar production has increased and prices have declined, largely because of improved sugar-growing conditions in major production regions. The combination of unrestricted access to the US sugar market, increases in Mexican sugar production, and reductions in Mexican sugar consumption will result in Mexico being a major supplier of sugar to the United States. Hence, future US sugar production levels will need to account for this new trade environment if the US sugar program is to remain a “no cost to taxpayers” program.

World Sugar Production 

World (and US) sugar prices have been volatile over the past eight years (especially since 2008), primarily because of substantial fluctuations in world sugar production. Between 2009 and 2012, US sugar prices were atypically high and world prices substantially exceeded the price at which the US government supports domestic sugar prices through processor marketing loans.[1]

Sugar is produced in many countries around the world. In general, farmers raise sugar beets in regions with temperate climates (for example, the northern United States, Europe, Ukraine, and Russia) and the sugar beets are processed into refined sugar. In tropical climates (where most of the world’s sugar is produced), sugar is obtained from sugarcane. Sugar beets and sugarcane are bulky commodities with a limited post-harvest shelf life. Consequently, sugar refineries are located close to areas where sugar beets and sugarcane are grown.

Globally, more than 195 million tons of sugar were produced in fiscal year (FY) 2012–13.[2] World production has generally been increasing for several decades (see figure 1). Currently, Brazil, India, China, Thailand, and the United States are the largest producers (see figure 2). However, their combined output is only 56 percent of total world production.

Figure 1. World Sugar Production
Source: US Department of Agriculture, Foreign Agricultural Service, “Production, Supply, and Distribution Online,” http://apps.fas.usda.gov/psdonline/.

Figure 2. World Sugar Producers, FY 2012–13

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

US Sugar Production

US sugar production averaged about 8 million tons over the past 25 years. In FY 2012–13, however, production reached almost 9 million tons, primarily because of good growing conditions. Sugar obtained from sugar beets typically comprises about 55 percent of US sugar production, with sugarcane (produced in Louisiana, Florida, Texas, and Hawaii) making up the rest. In FY 2012–13, beet sugar production was just over 5 million tons while cane sugar production was almost 4 million tons (see figure 3).

Figure 3. US Sugar Production

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

World and US Sugar Prices

In the 2008–09 and 2009–10 marketing years, adverse weather conditions caused world sugar production to decline substantially. In response, world sugar prices increased. Globally, refined-sugar prices reached a record high of 34.5 cents per pound in 2011 and averaged 29 cents per pound between the 2010 and 2012 calendar years (see figure 4). This level was far in excess of average prices (15 cents per pound) that occurred over the previous decade.

World sugar prices also caused US wholesale refined-sugar prices to reach a record of 59.5 cents per pound in August 2010 and average 50.94 cents per pound between 2011 and 2012, far in excess of the average US domestic support price of 24.09 cents per pound. World and US sugar production recovered in 2013, and both world and US sugar prices declined to their pre-2010 levels.

Figure 4. World and US Monthly Wholesale Refined-Sugar Prices

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

US Sugar Consumption

Total US sweetener consumption has been relatively stable at around 20 million tons (dry basis) for over a decade (see figure 5).[3] Sugar represents 10.75 million tons while HFCS accounts for almost 7 million. Other sweeteners (for example, honey, glucose, dextrose, and syrups) provide the remaining 2 million. On a per-capita basis, total US sweetener consumption is about 130 pounds (dry basis), of which 68 pounds are sugar (see figure 6).

Figure 5. Total US Sweetener Consumption

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Figure 6. US Per-Capita Sweetener Consumption

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

US Sugar Exports

US domestic sugar prices are higher than world sugar prices because of US tariff-rate quotas (TRQs), nonrecourse marketing loans, domestic supply controls, and occasional government purchases of sugar that are subsequently sold at a discount to the ethanol industry (see figure 4). Consequently, US sugar exports are relatively small—only 269,000 tons in 2013 (see figure 7). These exports are primarily the result of a re-export program in which raw sugar is imported by US raw-sugar refiners, processed into refined sugar, and then exported.

Figure 7. US Sugar Exports

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

US Sugar Imports

Total US sugar imports averaged about 2 million tons between FY 1990–91 and FY 2004–05 but substantially increased in FY 2005–06 to 3.4 million tons (see figure 8). After a decline to 2 million tons in FY 2006–07 as some countries increased inventories following two low production years, imports steadily increased to 3.7 million tons in FY 2010–11. By FY 2012–13, imports declined to 3.2 million tons (a 13.3 percent reduction from FY 2010–11). In FY 2012–13, imports represented 26 percent of total US sugar supplies.

Many countries, including the United States, protect their domestic sugar industries from global price movements. The United States uses TRQs to restrict sugar imports and support domestic sugar prices. TRQs establish a relatively low in-quota tariff of 0.625 cents per pound of raw sugar for amounts that do not exceed an individual country’s import allotment. However, sugar that is imported in excess of the predetermined quota is charged an over-quota tariff of 15.36 cents per pound. Raw-sugar prices in the United States have averaged 23 cents per pound since 1990. Thus, for countries with TRQs, the over-quota tariff is an effective disincentive to export sugar to the United States in excess of TRQ allotments.

Figure 8. US Sugar Production and Imports


Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

The United States has an obligation under its World Trade Organization (WTO) commitments to annually import 1.231 million tons of raw sugar and 25,954 tons of refined sugar from TRQ countries. The United States receives TRQ-restricted imports from 40 countries and unrestricted imports from several others. TRQ imports have averaged 1.51 million tons since FY 2000–01 (see figure 9). Each year, initial annual TRQ raw-sugar allotments are set near the minimum quota required by US trade commitments.4 However, TRQ allocations can be increased during a year in response to changing supply-and-demand conditions (see figure 10).[5]

 

Figure 9. US Sugar Imports by Source


Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Figure 10. Initial and Final TRQ Raw Cane Sugar Allotments

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Brazil, the Dominican Republic, and the Philippines are the top three TRQ sugar exporters to the United States, followed by Australia, Guatemala, and Argentina (see figure 11). US sugar imports from Brazil averaged 243,350 tons annually from FY 2009–10 to FY 2012–13.[6] Imports from the Dominican Republic and Philippines averaged 212,762 tons and 177,904 tons, respectively, over the same period.

Figure 11. US TRQ Sugar Imports by Country, FY 2012–13

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Typically, US domestic sugar prices have been much higher than world prices such that even after considering additional transportation and TRQ tariff costs, foreign countries have generally filled their US TRQ allocations (at an average of 90 percent). However, between 2010 and 2012, when world sugar prices exceeded the average US Commodity Credit Corporation (CCC) loan rate for refined beet sugar of 24.09 cents per pound, some countries did not fill their TRQs. Over this period, the difference between US and world prices was not large enough to offset transportation costs and in-quota TRQ tariffs. Thus, only 54 percent of total TRQ allocations (a record low) were filled in 2012–13 (see figure 12).[7]

Figure 12. Percentages of US TRQ Allocations Filled

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

US Sugar Policy

The origins of US sugar policy can be traced to 1789, when the fledgling US government levied a tariff on imported sugar. The tariff was intended to raise money for the US Department of the Treasury rather than support a domestic industry, given that little sugar was produced in the United States at the time. The US sugar industry developed in the 19th and early 20th centuries. The 1934 Sugar Act established various sugar import tariffs and was the first federal program designed to support the industry.

The stated purpose of the 1934 act and its successors was to ensure an adequate supply of sugar and keep US sugar prices above world prices. Later, import quotas and domestic-processor marketing allotments were implemented to meet this dual mandate. Since 1934, the US program has been continued through a series of acts, with a suspension of government intervention in the market occurring only once, in the early 1970s when world sugar prices spiked for a couple of years.[8]

Modern iterations of the US sugar program began with the 1977 farm bill. The bill identified sugar as a protected commodity and gave the US Department of Agriculture (USDA) the authority to purchase sugar and issue nonrecourse loans to keep domestic prices above world prices. Several other commodity marketing loan programs are available to crop producers. But the sugar marketing loan program is directed at processors because the bulkiness and short shelf life of sugar beets and sugarcane require that both be processed quickly into sugar for storage and trade. To qualify for such loans, processors agree to pay producers for sugar beets and sugarcane proportionally to the value of the marketing loan.[9]

The Food Security Act of 1985 introduced an additional objective for the sugar program: to operate as much as possible at “no cost” to US taxpayers. This objective has played an important role in policy discussions. To meet the no-cost policy stipulation, a combination of import restrictions and domestic supply controls are used to maintain domestic sugar prices above the CCC loan rate.

While TRQs are used to restrict US sugar imports, domestic supply controls restrict domestic production, and CCC nonrecourse marketing loans establish a minimum price floor. The USDA estimates total sugar needs for each coming year by forecasting sugar consumption and export quantities. Hence, accurate estimates of US sugar use are essential for establishing import restrictions and domestic production targets. The USDA attempts to match estimates of total domestic supply with estimates of total domestic consumption to keep domestic sugar prices at or above CCC loan rates.

Each domestic sugar processor is allocated a percentage of the domestic sugar market in exchange for the opportunity to participate in the CCC loan program using the Overall Allotment Quantity (OAQ) program. The OAQ establishes limits (marketing allotments) on the amount of sugar that can be sold by each domestic sugar processing company for that company to remain be eligible for CCC loans. In the absence of production limits, domestic sugar production would increase and cause domestic prices to consistently fall below the CCC loan rates, resulting in government expenditures associated with loan forfeitures.

CCC loan rates are established by federal agricultural policies and have not changed appreciably over the past 20 years (see figure 13). The CCC nonrecourse marketing loan program essentially guarantees a minimum price for wholesale sugar.

Figure 13. Average CCC Loan Rates

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Between 1996 and 2001, US sugar policy was the product of the Federal Agriculture Improvement and Reform Act (FAIR Act), which continued to allow sugar processors access to marketing loans from the CCC. These loans, however, were deemed nonrecourse if TRQ imports exceeded 1.5 million tons. Loans became recourse if TRQ imports were stipulated to be less than 1.5 million tons.

The rationale for the distinction was that if large TRQ imports occurred, then it was more likely that domestic sugar prices would decline. Hence, nonrecourse loans would provide a minimum wholesale sugar price for processors.[10] However, the FAIR Act suspended domestic processor marketing allotments. The termination of domestic supply controls (and concurrent lower prices of other agricultural commodities that were production substitutes, especially for sugar beets) resulted in a substantial increase in domestic sugar production. The subsequent reductions in sugar prices caused significant sugar loan forfeitures and costs to taxpayers.

The Food Security and Rural Investment (FSRI) Act of 2002 made several important changes to the 1996 FAIR Act, including reinstating processor marketing allotments to help restrict domestic production. Furthermore, marketing loans were deemed to be exclusively nonrecourse. The 2014 farm bill (the Agriculture Act) continues the FSRI sugar policies. The result of the post-1977 sugar programs is that US sugar prices stay well above world prices as long as world production is not adversely affected by weather events in major sugarcane-producing regions (see figure 14).

Figure 14. US and World Raw-Sugar Prices

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Although the 2002 FSRI Act reinstated domestic sugar production restrictions, recent trade negotiations have complicated the USDA’s ability to control total US sugar supplies. NAFTA slowly relaxed restrictions on Mexico’s access to the US market. In 2008, Mexico’s domestic sugar industry was granted unrestricted access. Although the TRQs negotiated in the 1994 WTO agreement set soft but essentially binding limits on the amount of sugar imported from many countries, they have not applied to Mexico since 2008.

Recently, US sugar prices have been near or below CCC loan rates, which has led to sugar forfeitures. Forfeited sugar is generally sold at heavy discounts to ethanol plants.[11] Because of transportation, storage, and price discounting, forfeited sugar represents a cost to taxpayers and violates the 1985 (and subsequent) “no-cost” component of US sugar policy.

Mexico and US Sugar Imports

Since their introduction in 1994, sugar TRQs have been effective US import control measures. Mexico’s unrestricted access to the US sugar market since 2008, however, has reduced the USDA’s ability to control US sugar supplies and maintain domestic sugar prices above CCC loan rates.

Although varying from year to year, US imports of Mexican sugar have been increasing on average since 2005–06 (see figure 15). In FY 2012–13, the United States imported a record amount of sugar from Mexico (1.925 million tons). Sugar imports from Mexico in FY 2013–14 are expected to be slightly lower than FY 2012–13 because of lower Mexican production.

Figure 15. US Sugar Imports from Mexico

Source: US Department of Agriculture, Foreign Agricultural Service, “Global Agricultural Trade System Online,” http://apps.fas.usda.gov/gats/default.aspx.

In FY 2012–13, increases in Mexican sugar imports offset declines in TRQ sugar imports from other countries although, as discussed earlier, total US imports were 13.3 percent lower than in FY 2010–11 (see figure 9).[12] However, Mexico’s share of those total imports increased to 68.9 percent in FY 2012–13.

Mexican sugar production has increased from about 6 million tons to just over 8 million tons over the past six years (see figure 16). This supply response was at least partially the result of increased access to the US sugar market, where policy-driven prices are generally well above world levels. Furthermore, Mexico’s sugar imports have been relatively flat. Hence, the source of expanded Mexican exports to the United States does not appear to be transshipments of sugar that Mexico imports from other countries.

Mexico’s domestic sugar consumption has declined by about 1 million tons since 2008–09 and Mexico’s exports have increased by about that same amount. Mexico’s sugar consumption has declined as Mexican food processors’ use of HFCS has increased. Some of the impetus for this substitution has been recent increases in sugar prices that, in part, were driven by Mexico’s expanded access to the US sugar market (see figure 17). Approximately 28 percent of Mexico’s HFCS is produced domestically, and between 80 and 90 percent of the corn (about 2 million tons) needed to produce it is imported from the United States. The remaining 72 percent of Mexico’s HFCS is also imported, primarily from the United States.

Figure 16. Mexico’s Sugar Production, Imports, Exports, and Consumption

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Figure 17. Mexico’s HFCS Consumption

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Technological Change in the US Sugar Industry

In the United States, the area planted to sugarcane has been relatively constant at around 900,000 acres over the past 25 years (see figure 18). Although somewhat variable, sugarcane yields have averaged about 35 tons per acre over that period (see figure 19). In contrast, sugar beet yields have increased substantially over the past 15 years because of technological change (see figure 19).[13] Thus, the amount of sugar produced by an acre of sugar beets has increased about 25 percent (from about 3 to 4 tons per acre) over the past 15 years (see figure 20). However, the amount of sugar obtained from an acre of sugarcane has remained relatively flat at about 4 tons per acre. As the amount of sugar produced in each acre of sugar beets has increased, acreage devoted to sugar beet production has declined because of domestic sugar-supply control mandates prescribed by successive farm bills (see figure 18).

Figure 18. US Sugar Beet and Sugarcane Acreage

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E

Figure 19. Sugar Beet and Sugarcane Yields per Acre

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

Figure 20. US Sugar Production per Acre

Source: US Department of Agriculture, Economic Research Service, “Sugar and Sweeteners Yearbook Tables,” www.ers.usda.gov/data-products/sugar-and-sweeteners-yearbook-tables.aspx#.U_zEmPldV8E.

NAFTA and US Sugar Imports

Before the implementation of NAFTA, Mexico’s US export allotment was approximately 9,000 tons. Although the agreement was signed in 1994, as emphasized earlier, Mexico was allowed belated access to the US market. Between 1994 and 2001, Mexico was permitted to export 27,500 tons of duty-free sugar to the United States. However, duty-free exports in excess of 9,000 tons were limited to that obtained from Mexico’s net sugar surplus, which was defined as the difference between Mexico’s domestic sugar production and its consumption. This stipulation was intended to deter the transshipment of sugar from other countries through Mexico and to the United States. A side agreement included a provision that HFCS use would be counted on the consumption side of the net surplus equation, but that Mexican HFCS production would be ignored when calculating Mexico’s domestic sugar production.

In 2001, NAFTA increased Mexico’s duty-free access to the United States to 165,000 tons, with the caveat that exports above 9,000 tons could only occur if Mexico experienced a net sugar surplus. However, Mexico would be allowed unlimited access to the US sugar market if Mexico became a net sugar exporter for two successive years. The unlimited-access provision was later eliminated by another side agreement.

For the first 10 years following NAFTA, however, Mexico exported less than 200,000 tons of sugar annually to the United States as Mexico’s domestic production and consumption increased slowly and concurrently. Mexico’s sugar exports did not exceed this level until FY 2005–06.

Beginning in 2008, Mexico was allowed unrestricted access to the US sugar market and to sugar prices that, as discussed earlier, were much higher than world prices. Since then, annual US sugar imports from Mexico have ranged from 800,000 to 1.9 million tons. This increase was largely unimportant to the US sugar industry between 2010 and 2012 because US and world sugar prices were at record-high levels, a direct result of relatively low world sugar production. However, world production has since increased and world and US sugar prices have substantially declined.

The relatively large increase in Mexico’s sugar exports to the United States, coupled with much lower world sugar prices in 2012 and 2013, prompted the American Sugar Coalition to file antidumping and countervailing duty petitions with the US International Trade Commission in March 2014. The petitions allege that the Mexican sugar industry receives substantial subsidies from Mexico’s federal and state governments. Furthermore, the petitioners argue that US sugar producers have been materially harmed by US imports of Mexican sugar. The petitions also note that 20 percent of Mexico’s sugar-processing sector is owned by the Mexican government.

Although the US sugar industry was concerned about NAFTA’s potential effects on the US market when the agreement was signed in 1994 (as evidenced by numerous side agreements), the industry was largely insulated from its effects between 1994 and 2008. In addition, Mexico’s production was relatively flat until FY 2011–12. But Mexico’s increased use of HFCS and concurrent reductions in sugar consumption have created additional sugar supplies for export. Finally, record-high sugar prices during the first part of this decade offset many of the potential impacts of NAFTA on the US sugar industry.

Déjà Vu All Over Again?

The US sugar industry’s recent trade actions are somewhat analogous to the experience of the US cattle industry following the implementation of the Canadian–United States Free Trade Agreement (CUSTA) in 1989, which reduced a variety of cattle and beef trade impediments. Furthermore, in 1995, the Canadian government repealed the Western Grain Transportation Act, which eliminated Canadian grain transportation subsidies. Consequently, the value of feed grains in Alberta and Saskatchewan declined.

The combination of lower feed grain prices and CUSTA stimulated the Canadian beef (and hog) production sectors. Although it took several years for the industry to expand, Canadian cattle and beef exports to the United States increased from 500 million pounds in 1988 to 1.7 billion pounds in 1996. Concurrently, US domestic beef production increased from 22.8 billion pounds to 24.1 billion pounds.

By 1996, US cattle prices had declined substantially from record levels that occurred in the early 1990s. Some of this decline was the result of growth in the Canadian cattle industry. But most was the result of declining consumer beef demand and increases in US beef production. A US producer group (R-CALF) filed an antidumping suit against Canada, claiming material damages from the sale of Canadian cattle to US feedlots and beef processors at prices that were below production costs.

Although it took several years, the suit was eventually dismissed. Interestingly, in 2013, total US beef and cattle imports from Canada and the rest of the world were almost identical to their levels in 1996. Yet US (and Canadian) cattle prices have been at record-high levels over the past several years because world beef production has declined while world beef demand has increased.

Future US Sugar Industry Challenges

NAFTA has limited the US ability to control supplies of sugar in its domestic market. Because of good weather and technological innovations, record US sugar production occurred in FY 2013–14. Although US sugar production from sugarcane may decline a little in FY 2014–15, sugar produced from sugar beets will be similar to the amount produced in FY 2013–14. Weather conditions in Mexico and Brazil may cause some declines in world sugar production. But such declines will probably not substantially reduce downward pressure on world sugar prices.

If 2014–15 world sugar prices are appreciably lower than US CCC loan rates, then it is likely that TRQ countries will come close to filling their US TRQ quotas to historical levels (approximately 90 percent). Because this year’s initial TRQ allocations are consistent with previous years (1.231 million tons), a 90 percent TRQ fill rate would increase the amount of sugar supplied to the US domestic market by at least 500,000 tons over the preceding year. Furthermore, Mexico is likely to export only a slightly smaller amount of sugar to the United States this year relative to last year.

Given that US sugar prices are currently near CCC loan rates and that some sugar nonrecourse loan forfeitures have already occurred in 2014, it is possible that low US sugar prices will cause relatively large nonrecourse loan forfeitures in the coming year. Such forfeitures represent losses to the US Department of the Treasury and, therefore, violate the “no-cost” (to the federal government) provision of the US sugar program. Consequently, domestic or import supply quantities would have to be reduced to avoid these monetary outlays.[14]

Conclusion

US sugar policies have traditionally established a minimum domestic wholesale sugar price and insulated US prices from world sugar price variations. The program has caused US sugar prices to exceed world prices. However, recent high world prices were caused by world production shortfalls. These high world prices substantially increased US domestic prices because US processors have the option to export sugar to other countries.

Over the past two years, however, world sugar production has recovered and world prices have declined. The US sugar program supports sugar prices through a combination of sugar import restrictions, domestic supply controls, and nonrecourse CCC loans. The ability to limit sugar imports has been reduced by the NAFTA agreement, which since 2008 has allowed Mexico unrestricted access to the US sugar market. Mexico has increased sugar production and reduced sugar consumption as food processors continue to substitute HFCS for granulated sugar (which happened in the United States more than 30 years ago).

The combination of increasing US sugar beet productivity and sugar imports from Mexico has expanded US sugar supplies. In addition, low world prices may cause other sugar exporting countries to fill their US TRQ import allocations over the next several years. If so, domestic prices will decline to levels near CCC loan rates, and sugar processors will likely forfeit sugar placed under marketing loans. Such forfeitures could cause substantial US treasury monetary outlays. Given that the United States produced about 9 million tons of sugar last year, it appears that domestic sugar production will have to be reduced by 5 to 10 percent in future years to accommodate the expansion of Mexican sugar imports that has occurred since 2008 and the likely return to a 90 percent TRQ fill rate by other countries.

Gary W. Brester (gbrester@montana.edu) is a professor of agricultural economics at Montana State University. 

Notes

1. Processors can obtain marketing loans from the US government at a value stipulated by the Commodity Credit Corporation (CCC) for refined or raw sugar. Although loan rates vary by region and state, refined beet sugar and raw cane sugar loan rates averaged 24.09 cents and 18.75 cents per pound, respectively, in recent years. If the domestic price of sugar is above the loan rate, processors sell sugar in the domestic market and the marketing loan is repaid along with accumulated interest. This type of loan is a typical recourse loan.  However, the loans are considered nonrecourse if domestic wholesale prices are lower than the CCC loan rate loan. If so, processors can forfeit the loan collateral (for example, refined or raw sugar) to the CCC in lieu of repaying the loan. Essentially, nonrecourse loans create a price floor at the CCC loan rate for US wholesale sugar prices.

2. Unless otherwise noted, all quantities in this paper are in short tons, raw value (STRV). A short ton is a US measure representing 2,000 pounds. One short ton equals 0.907 metric tons or, conversely, one metric ton equals 1.102 short tons. Raw value refers to the weight of raw sugar. Sugarcane is processed into a raw component (brown crystals) before being refined into white sugar. Typically, raw-sugar weight is 107 percent of refined-sugar weight.

3. Dry basis is used in this context so that quantities of sugar can be compared to quantities of high-fructose corn syrup and other liquid sweeteners.

4. Allotments are announced for raw cane sugar, but an additional 25,954 tons of refined sugar is also part of the US commitment.

5. The final allocation for FY 2013–14 has not yet been determined. The initial allocation was 1.231 million tons of raw sugar.

6. FY 2103–14 is not included in this average because the marketing year has not ended.

7. Gary W. Brester and Case Stiglbauer, “U.S. and World Sugar Prices” (briefing paper no. 116, Agricultural Marketing Policy Center, Department of Agricultural Economics and Economics, Montana State University, August 2014), www.ampc.montana.edu/briefings/briefing116.pdf.

8. E. C. Pasour Jr. and Randall R. Rucker, Plowshares and Pork Barrels: The Political Economy of Agriculture (Oakland, CA: The Independent Institute, 2005).

9. T. J. Wiltgen “An Economic History of the United States Sugar Program” (Montana State University, unpublished master’s thesis).

10. The decision as to whether loans would be recourse or nonrecourse was actually fait accompli. US trade agreements stipulate that TRQ imports could be no less than 1.491 million tons (in other words, the sum of 1.231 million tons of cane sugar and 25,954 tons of refined sugar). This value was almost identical to the FAIR Act’s 1.5 million tons needed to trigger nonrecourse loans.

11. The Feedstock Flexibility Program for Bioenergy Producers is used to sell CCC loan–forfeited sugar to non–food users (primarily ethanol plants).

12. “Nonprogram” sugar imports are those that are sourced from non-TRQ countries. “Other program” sugar imports are those sourced under various smaller programs that do not fall under the general TRQ, such as the re-export program and the Dominican Republic–Central American Free Trade Agreement.

13. The introduction of glyphosate-resistant sugar beet seed varieties in 2008 increased per-acre tonnage and extractable sugar contents. The new technology has eliminated the use of nonselective herbicides. Although nonselective herbicides reduced (but did not eliminate) weed infestations, they also tended to stunt sugar beet plant growth. Reduced weed pressure has also boosted yields because competition for sunlight and soil nutrients has been greatly reduced. And glyphosate-resistant technologies have reduced mechanical cultivation and soil compaction. Mechanical cultivation often harmed sugar beet plants, and reductions in soil compaction encourage plant growth, especially for root crops. Furthermore, weed reductions have reduced sugar beet pile losses because residual foliage generates heat that increases sugar beet spoilage during storage.

14. Gary W. Brester and Case Stiglbauer, “U.S. Sugar and Sugar Beet Price Variability” (briefing paper no. 117, Agricultural Marketing Policy Center, Department of Agricultural Economics and Economics, Montana State University, August 2014), www.ampc.montana.edu/briefings/briefing117.pdf.

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A subsidy for the rich that will have you clutching your head

Published on August 27, 2014, by

Agricultural lobbies often make economists who care about the general economic wellbeing of society clutch their heads in their hands. Not only do these lobbies seek subsidies that will mainly flow to farmers who are much wealthier and have much higher incomes than the average U.S. household, but they also generally appear to pay little attention to any ancillary damage that may spillover to other sectors of the economy. In addition, many of the subsidy programs they support potentially violate U.S. commitments under international trade agreements which are helpful to consumers and other sectors of the American economy.

The sugar lobby is a current case in point. In March of this year, the American Sugar Coalition filed a petition with the U.S. International Trade Commission claiming that increased sugar imports from Mexico were causing “material injury” to American sugar producers and processors.

What is material injury? The answer, according the American Sugar Coalition, is any decline in sugar prices. And why is Mexico at fault? Because, under the terms of the 1994 North American Free Trade Agreement — NAFTA to most of us — Mexico’s sugar industry has had completely open access to U.S. markets since 2008 (after its agreement to a 15-year delay ran out), and Mexico is now legally exporting more sugar to the United States.

But is Mexico really the major cause of lower U.S. sugar prices? The answer is almost certainly “No.” Sugar prices in the United States have certainly fallen from recent record high levels in 2010, 2011 and 2012 (59.5 cents per pound at the peak). But the same price increases and price decreases occurred in world sugar prices. In fact, globally and in the United States, sugar prices are now close to their more typical long run average range of 13 cents to 18 cents a pound.

The real question is why were world and U.S. sugar prices so high between 2010 and 2012? The answer is a combination of events. One major reason was poor weather in major regions of the world where sugar cane grows in 2010 and 2011 (for example, the major hurricanes that swept through Central America and the Caribbean and the typhoons that damaged sugar crops in the Pacific). These weather events substantially reduced global sugar production causing world prices to reach record highs, much to the economic benefit of U.S sugar beet and cane farmers and processors.

Another factor was Brazil’s extensive use of sugar to produce ethanol. In 2012 and 2013, the weather was better and global sugar production returned to long run trend levels. And, guess what? World sugar prices returned to their long run trend levels too.

So, to make the case that Mexico was the source of the material injury associated with lower sugar prices, one would have to ignore the role of global supply shocks in the world market for sugar.

What has really been asserted by the U.S. sugar lobby is that Mexico has increased its sugar production, through government subsidies, and perhaps allowed for transshipments of sugar from other countries as a means of increasing exports to the United States. Certainly, increased exports augment the amount of sugar supplied to the United States domestic market and put downward pressure on U.S prices. The result is that the U.S. government is then forced to use its price support program to prop up domestic sugar prices at the farm bill legislated intervention (loan rate) price of 24.09 cents per pound for refined sugar from sugar beets.

So, what has actually happened in Mexico since 2008 when constraints on their sugar exports to the U.S. were terminated under NAFTA? Well, Mexico’s exports to the U.S. began to increase immediately after 2008, as did exports from many other countries. However, any effects on the U.S. domestic market were barely noticed and largely ignored as world and U.S. sugar prices surged between 2009 and 2012. But, when world prices declined in 2012 and 2013, total U.S. imports of sugar also fell, even though Mexico’s exports to the United States continued to increase. It is difficult to believe that U.S. prices declined in 2012 and 2013 because of increased imports from Mexico, since total U.S. sugar imports have actually declined since 2011. The real culprit was the increase in world sugar production, including increased U.S. domestic sugar output.

So why have Mexico’s exports of sugar increased since 2008? First, Mexico’s sugar production has increased by about 25 percent, not least because of very high global prices between 2009 and 2011 which encouraged expansion of the industry, and also because of the prospect of expanded access to U.S. markets.

Second, over the same period, sugar consumption in Mexico fell by about 1 million tons, mainly because high sugar prices drove Mexico’s food processing and soft drink sector to shift from using sugar to high fructose corn syrup (HFCS). Interestingly, about 30 years ago the same thing happened in the U.S. as a result of the U.S. sugar program (which costs 310 million U.S. consumers about $3.4 billion every year to enhance the incomes of about 20,000 sugar beet and cane growers and processors). And where does all that HFCS that Mexico now consumes come from? Answer; mainly the United States!!!

So, more domestic sugar production and less domestic sugar consumption left Mexico with more sugar to export. Though the U.S. sugar lobby would like to claim that Mexico’s increased exports are partly caused by illegal shipments of sugar through Mexico from countries whose exports to the U.S. are legitimately constrained under the terms of the current WTO agreement, there is no evidence of that. Mexico’s sugar imports from other countries have actually declined quite sharply since 2010.

What the sugar lobby should complain about are increased U.S. exports of HFCS to Mexican processors. In other words, they should complain that U.S. corn prices are relatively low, making HFCS competitive with sugar even at relatively low world sugar prices. And, by the way, the U.S. sugar lobby should also complain about their own members contributing to lower prices by increasing their sugar production substantially in recent years thanks to technical innovations associated in part with the use of GMO technologies.

And now, of course, we realize that once again when it comes to farm lobby arguments we have entered an Alice in Wonderland world of economic logic. The real shame is that in June of this year the U.S. International Trade Commission allowed the US sugar lobby’s claims to move forward to a full hearing, finding myopic evidence of “material damage.”

Hopefully, sanity will reassert itself; the sugar lobby won’t get to restrict sugar imports from Mexico, further reducing the credibility of the U.S. government in its attempts to open markets to U.S. exporters in other sectors through trade negotiations. And, perhaps, the real costs of the U.S. sugar program will become more transparent as taxpayers, not just every consumer in the United States, start to bear more of the costs of subsidizing the U.S. sugar industry.

Vincent Smith is a visiting scholar at the American Enterprise Institute (AEI), and a professor of economics in the Department of Agricultural Economics at Montana State University.

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Good politics trumps good governance, again

Published on August 27, 2014, by

The current so-called “do-nothing Congress” has an impressive resume of legislation left on the table: corporate tax reform, the budget, and the border crisis.  Yet it was able to pass a trillion dollar 2014 farm bill. Why did the farm bill pass when so many other pieces of legislation didn’t?

It would be nice if Congress’s passage of the 2014 farm bill—and its creation of two new subsidy programs—indicated the arrival at a cost-effective solution to a problem that required federal involvement.  Unfortunately, it seems that good politics trumped good governance—and there’s an explanation as to why.

About 30 years ago Nobel Prize recipient Gary Becker developed a theory explaining the two attributes political programs that gain enough political support to pass will have. First, they will do less damage to the economy than alternatives because economic damage gives political ammunition to opponents. Second, they can be disguised as good governance rather than good politics to deflect criticisms of their true purpose.

The 2014 farm bill, that substituted two new farm subsidy programs for two old ones, provides a timely case study of the relevance of Becker’s theory.  The new programs the bill created—Price Loss Coverage and Agricultural Risk Coverage—were largely designed by House and Senate leadership with direct input from representatives of the beneficiaries of the programs.

Frank Lucas, chairman of the House Ag Committee (R-Okla.) stated the rationale for farm programs widely adopted by subsidy supporters:

“While they (farmers) do the hard work of producing our food, we have to do our part to support them. Without a safety net, a few bad seasons can put a farm out of business. When we lose that source of production, we don’t usually get it back. So maybe instead of speaking about this as a farm safety net, we need to start calling it a food safety net. Perhaps that will get the message out that commodity support keeps farmers in business, which keeps food on our plates.”

His rationale is easy to state and understand, and it allows supporters to argue that farm programs deserved taxpayer support because the public interest is served.

Yet in resolving the dilemma over whether the new subsidy programs would be tied to current crops and acreage or to a fixed number of acres based on what crops were previously planted, Lucas’s rationale was not implemented. His rationale for farm safety net programs would predict use of current acres because that would best compensate farmers for current financial losses. Becker’s rationale for farm programs, however, would predict that the new programs would use historical acreage because farmers would not have an incentive to plant for the program; thus economic damage—and the resulting political opposition—would be limited. The final decision to use historical plantings, insisted upon by leading Senate members of the 2014 farm bill conference committee, is consistent with Becker’s prediction of the importance of economic damage in determining the extent of political opposition.

Becker’s prediction that actual economic damage from new farm programs would be limited is borne out. But indirect damage arises from lost opportunities to reduce tax burdens or to fund programs that serve both farmers’ and the public’s interest. Examples include agricultural research, agricultural pollution prevention, invasive species control, transportation investments, food quality and food safety inspections, and nutrition programs.

This moves us to the second part of Becker’s theory: good politics disguised as good governance.  A lack of food supply doesn’t seem to be a problem. Record crop income in recent years and subsequent record high land prices make it absurd to argue that crop subsidies are needed to maintain agricultural production capabilities in the United States. The argument that food security depends on crop subsidies is belied by the 50 percent of US corn production diverted to ethanol and exports and the 50 percent of US wheat production that is exported.

The fact that no economic problem is solved by subsidizing farmers demonstrates that farm programs exist not because the public’s interest is being served but rather because the private interests of Congress are being served. It is no wonder that record farm income had no real impact on the question of whether farm subsidies would continue.

Becker would predict that cutting farm subsidies to better serve the broad public interest will not happen without a dramatic increase in the political power of groups advocating for the public good. This is not likely to happen, given the diffuse nature of public good benefits and the highly targeted nature of the current subsidy programs to a relatively small number of farm households.

The 2014 farm bill limited visible economic damage, as Becker predicts.  This kept the political climate amenable to its passage.  But the many indirect economic damages show that the bill is better politics than better governance.  Just as Becker’s theory states, Congress abdicated its responsibility to serve the public interest because politics demanded that private influential interests be served first.

Babcock is a professor of economics at Iowa State University and a contributor for the American Enterprise Institute’s agricultural policy research program.

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5 questions free-market advocates must ask about the 2014 farm bill

Published on January 28, 2014, by

Shutterstock.com

Editor’s note: This piece was co-authored by Brad Wassink.

On Monday night, conferees from the House and Senate Agriculture Committees filed a farm bill that has been two years in the making. The bill is large and complicated, with many changes from prior legislation. Given the tight timeline from submission to vote, market-oriented policymakers would do well to answer the basic question: are the agricultural subsidy programs contained in this bill better those they replace?

Five core facets of this question—and their answers—should assist policymakers in making this determination as they digest the bill’s farm subsidy provisions:

1. Does it save taxpayer dollars relative to existing legislation?

No. Compared to the farm programs contained in the 2008 farm bill—passed under the leadership of Sen. Harry Reid and Rep. Nancy Pelosi—it is highly unlikely that the conference committee’s bill would yield any budget savings. New provisions contained in the legislation become more costly as crop prices fall—and crop prices have fallen substantially in the past year. As a result, the costs of new provisions would likely exceed any savings that result from elimination of the Direct Payments Program. Should crop prices fall to their historical average levels, the programs could cost taxpayers up to $15 billion more per year.

2. Does it save taxpayer dollars relative to the Senate’s proposed bill?

No. The conference report adds a potentially very expensive program—the Price-Loss Coverage program—that is not contained in the Senate Agriculture Committee’s proposal. As a result, the conference report’s package of farm subsidies will be more costly to taxpayers than the Senate’s bill.

See this infographic for a picture of how the conference report stacks up.

Farm_Bill_infographic_012814

3. Does it eliminate more subsidy programs than it creates?

No. Policymakers deserve credit for eliminating the wasteful Direct Payments Program, which cut farmers checks simply for being farmers, as well as two other subsidy programs (the ACRE shallow loss program and a price-triggered Countercyclical Payments Program). Seventy-five percent of those programs’ benefits flowed to the top 10% of wealthy farmers.

Yet instead of simply eliminating wasteful and ineffective programs, the conference report adds three new ones: the Agriculture Risk Coverage (ARC) program, the Price-Loss Coverage (PLC) program, and the Supplementary Coverage Option (SCO). The ARC and SCO programs would essentially guarantee that farmers’ revenues never fall below 86% of what they earned in previous years, when crop prices were at historical highs. The PLC program is simply an updated version of the Countercyclical Payments Program, but one which will be much more lucrative for farmers. The new program guarantees them much higher prices for covered crops.

No other business could hope for such guarantees, much less ones funded at taxpayer expense.

4. Is it consistent with the intent of the House Budget Resolution?

No. The House Budget Resolution established that $3.1 billion in annual budget savings should be achieved from the farm subsidy portion of the farm bill. The conference report falls far short of that goal, partially masking the shortfall with savings from nutrition programs. It is unlikely that the new bill will yield any savings—let alone $3.1 billion.

5. Will it prevent additional World Trade Organization (WTO) violations and sanctions?

No. As a result of WTO violations, United States taxpayers pay Brazilian cotton farmers $147 million per year in compensation for the anticompetitive effects of protectionist US cotton policies. Fresh sanctions for other programs would be costly and must be avoided.

While the new farm bill would remove price support programs for cotton, it would introduce a new heavily-subsidized insurance program that provides substantial subsidies tied to current production decisions.  Moreover, the conference bill’s proposed new ARC, PLC and SCO subsidy programs for other major crops like corn, soybeans, wheat, and rice—which are tied to current production and/or current prices—are blatantly non-compliant  with WTO rules concerning domestic subsidies for agricultural commodities. As a result, taxpayers, farmers, and other export-oriented sectors of the US economy will become more vulnerable to trade sanctions resulting from WTO disputes.

A path forward

Simple reforms to the conference report would save taxpayers billions, shield the United States from costly World Trade Organization sanctions, and ensure that fewer subsidies flow to the wealthiest farming operations.

  1. Simply eliminate the wasteful Direct Payments Program and the related shallow loss program called ACRE, whose benefits flow largely to wealthy farming operations. Don’t create three new costly and WTO-violating revenue protection programs to replace them.
  2. Cap crop insurance subsidies for the wealthiest farmers. A recent amendment from Sens. Coburn and Durbin would reduce by 15% crop insurance subsidies for farmers making over $750,000 annually, and would be a step in the right direction.
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Truth in advertising: Are there really any federal budget savings in a new Farm Bill?

Published on January 8, 2014, by

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Congressional leaders are seeking ways to offset the increases in spending that would occur were federal benefits for the long term unemployed to be extended for several months. Some have suggested those savings could come from reductions in farm subsidies embedded in a new farm bill. Yesterday, for example, Senator Grassley (R-IA), a long-time member of the Senate Agriculture Committee, was quoted as saying: “We aren’t having direct payments because you can’t justify them when farm prices have been so high—here prior to right now—and we did it to save five billion dollars a year. I think that unemployment needs to be offset, but it ought to be offset with cuts in spending someplace else.” The Direct Payments program, introduced in 1996, is the program that currently sends welfare checks to farmers each year on the basis of what their farms produced 30 years ago

Senator Grassley is correct in claiming that terminating the Direct Payments program would save about $5 billion a year in subsidy payments, as long as a related program called ACRE is also discontinued. What he doesn’t mention is that the new farm bill about to be released by the bipartisan Senate and House Conference Committee would introduce four new subsidy programs.

One is a new price support program called Price Loss Coverage (PLC) that ratchets up the prices that would trigger subsidy payments to close to recent record high prices for major crops. The second is a shallow loss revenue program called Agricultural Risk Coverage (ARC) designed to guarantee that farmers receive gross revenues that are close to their recent record levels over the next three to five years. The third is a special program for cotton, called STAX, that would do essentially the same thing for cotton that ARC does for other crops. And the fourth is a new, heavily subsidized shallow loss insurance program for all major crops called the Special Coverage Option (SCO).

Jointly these four new programs, plus a new dairy giveaway program, are very likely to cost the taxpayer considerably more than $5 billion a year, especially because prices for some major crops such as corn are now moderating relative to their recent historically high levels. On balance, the new programs become more costly when crop prices (and therefore farm revenues) fall. Taxpayers foot the bill.

For example, by itself, ARC could cost as much as $7 billion a year and PLC even more (in excess of $10 billion), if prices for major crops like corn and wheat moderate towards their long run trend levels, as they now appear to be doing (detailed estimates for the ARC and PLC program costs can be found here and here). The Food and Agricultural Policy Research Institute at the University of Missouri has fairly conservatively estimated the annual cost of the Special Coverage Option program at close to $1 billion a year, and the Congressional Budget Office has estimate the annual cost of the STAX program for cotton to be close to $0.4 billion. Combined, under realistic assumptions about future crop prices, these four new bait and switch programs are likely to cost taxpayers at least $6-8 billion per year. These new subsidy payments would more than offset the savings obtained from eliminating the Direct Payments program.

So, in practice, it is increasingly unlikely that the new farm bill (as it is currently being written) will provide any savings in federal spending to offset increased spending on unemployment benefits. Real savings would exist in the new farm bill if Congress simply ended the Direct Payments program and did not invent new subsidy programs that, for the most part, transfer taxpayer dollars to large farm operations, wealthy farmers and wealthy landowners.

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Farmers truly deserve a Happy Christmas, but probably not a give-away farm bill

Published on December 26, 2013, by

farm_decorated_for_christmasChristmas is a time for love, thoughtfulness, and caring: even for farm organizations that seem to want almost nothing more than to send taxpayer dollars to wealthy farmers in the largest amounts they can possibly finagle.

The truth about most farmers in the United States is that, like so many wonderful people in America, they are simply good folks working hard to make a living, sometimes in very difficult circumstances. I think of farmers who raise cattle and grow wheat along Route 2 in Montana. The road runs from east to west, thirty miles south of the Canadian border for hundreds of miles. At this time of year, courtesy of the real polar express, day time highs are often below zero (that’s zero Fahrenheit), lows sink well below minus twenty or thirty, and the winds blow hard. The roads are ice cold slick and even the cattle exceptionally unhappy. Yet farmers and ranchers do their best to make sure the animals are safe, fed, and properly watered, which is much harder than you might think when all the H2O around you is more suited for a Jack Daniels on the rocks than anything else.

We should celebrate and pray for what these wonderful people do every day of their lives. They do raise the crops we all need, and many are wonderful servants in their communities.

None of which, of course, means the federal government needs to give farm households with incomes much higher than those of the average taxpayer hundreds of thousands of dollars each year in the form of multiple subsidies. But we do need to say a genuine thank you, Happy Christmas, and have a wonderful new year (with great crops and no animal diseases) to each and every farmer and rancher.

While we are at it, we also need to be just as grateful for the hard working young lady, a single mother with two children working a “close to minimum wage” job at McDonald’s, who handed us our Egg McMuffins on Christmas Eve as we rush do our Christmas shopping.  Now that may be the sort of person who really needs our fiscal help, as well as our prayers and appreciation for the job they do so well.

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Lower corn prices may deliver many farm bill blessings

Published on November 22, 2013, by

Image Credit: Fishhawk (Flickr) (CC BY 2.0)
Economists are often viewed as poor forecasters, but sometimes we get lucky—especially when government policies that are fairly obviously unsustainable over the long haul have been distorting prices in commodity markets. Such is the case with the price of corn, which is now falling. That fact has important implications for the costs of the farm subsidy programs being considered by the House-Senate conference committee on a new farm bill.

In 2012, in examining the Senate’s preferred new subsidy boondoggle, a “shallow loss” program called Agricultural Risk Coverage, Professors Bruce Babcock, Barry Goodwin and I estimated the likely costs of that program to the taxpayer in two price scenarios.

First, as the Congressional Budget Office (CBO) has typically assumed in computing its recent cost estimates for new farm subsidy programs, we based our estimates of program costs on the assumption that prices for major commodities such as corn, soybeans and wheat would remain at recent record or near record levels.

For corn, we followed CBO and assumed that prices would average about $4.70 a bushel over the life of a new farm bill (propped up by “industrial demand” for corn as an input into ethanol production). We calculated that, on average, corn producers would receive about $2 billion a year if corn prices remained at about that level. Total taxpayer costs of the Senate ARC program for all the major commodities receiving subsidies would be about $3.8 billion under this high price scenario.

Next, we assumed that crop prices would move downwards towards their long run trend levels and re-estimated the costs of the Senate ARC program assuming an average corn price of about $2.80 a bushel. In that price world, we estimated that the ARC program would pay corn growers about $4 billion a year. By the way, under the current Direct Payments program that sends farmers welfare checks for doing nothing (which the ARC would replace with, according to the Senate Committee, the goal of lowering government subsidies to corn growers), USDA estimated that corn growers would receive about $1.97 billion from taxpayers in 2013.

This year, in US markets, the price of corn has steadily declined from its average of $6.89 a bushel in 2012 to about $4.20 cents, a level would be likely to trigger ARC payments for corn producers measurably in excess of the current subsidies they receive under the direct payments program. Why the decline in corn prices? Four main reasons: corn acreage has increased (so more corn has come onto the market), technology innovations have increased corn yields over the longer term (again more corn for sale), growing conditions have been relatively good this year (as opposed to drought poor last year), and the ethanol industry’s demand for corn is shrinking.

One reason for the decline in the ethanol industry’s demand for corn is the recent roll back of the EPA ethanol use mandate for 2014, also known as the Renewable Fuels Mandate, by three billion gallons. This rollback is closely linked to the decrease in US demand for gasoline by that has taken place over the past three or four years. The other reason is that oil prices have declined, making corn based ethanol less competitive with traditional gasoline and ethanol production less profitable.

What does the future hold for corn prices? Further rollbacks in the renewable fuels mandate appear quite likely, especially for corn based ethanol, which has also lost its appeal to environmental groups as a means of reducing greenhouse gasses. And corn yields are likely to continue to increase because of technical change (in the form of higher yielding varieties that have shorter growing periods and can even be planted successfully in places like Montana were corn would never have been viable fifteen years ago). What does that mean for corn prices? They are likely to continue to go down. And what does that mean for subsidies to corn growers under both the farm bills proposed by the Senate and House Agricultural Committees: they will go up.

Today the focus is on corn, but what about the prices for other commodities like wheat and soybeans whose growers are also big time recipients of Direct Payments subsidies? Wheat prices, over the long run, are relatively closely linked to corn prices, because low quality wheat competes with corn in the animal feed market. Shrinking corn prices are likely to lead to shrinking wheat prices over the medium to longer term, which fairly quickly would mean wheat producers would receive substantial ARC payments or, if the House Bill’s Price Loss Coverage price support program were to become law, substantial subsidy payments under that program.  Soybean meal is also an animal feed and so soybean prices are also somewhat related to corn prices, and are also likely to moderate.

How large could the total subsidy costs of the Senate and House new programs become? Much larger than the $5 billion in current annual taxpayer outlays under the Direct Payments: anywhere from as much as $7 billion to well over $10 billion a year, depending on which of the two programs built into the House and Senate bills were eventually included in a new Farm Bill.

The cold hard fact that corn prices are falling away from recent record levels appears to have had a salutary “wake up call” impact on the House and Senate Farm Bill conference committee proceedings. Yesterday, negotiations between House and Senate members came to a grinding halt, not least because the price of corn had fallen to $4.20 and the conferees and their staffs were faced with a genuine inconvenient truth. No legislator wants a new farm bill that will transparently spend more on farm subsidies than the current farm bill, especially given that overwhelmingly those subsidies flow to farm households that are much wealthier than the average taxpayer. And the corn market is letting the Farm Bill conferees and other members of Congress know that such is likely to be the case if they push forward with their preferred programs.

So, today, taxpayers and food consumers should all be grateful for the news about lower corn prices. Anything that gives the Senate and House Agricultural Committees a reality check about potentially wasteful farm subsidy programs should be applauded. That lower corn prices will eventually make eggs, meat, and breakfast cereals a little bit cheaper for all of us who eat food on a daily basis is just a very pleasant bonus.

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Who benefits from food aid? Not whom you might expect

Published on November 12, 2013, by
Feed My Starving Children (FMSC) (Flickr) CC

Feed My Starving Children (FMSC) (Flickr) CC

 

In Coleridge’s classic poem, The Rime of the Ancient Mariner, the Ancient Mariner, a grizzled and unpleasant old sea salt, forces an unfortunate wedding guest to stop and listen to his story.

He (the Ancient Mariner) holds him with his glittering eye—

The Wedding-Guest stood still,

And listens like a three years’ child:

The Mariner hath his will.

In much the same way, USA Maritime (a coalition that lobbies on behalf of shipping companies) appears to be playing the role of the grizzly ancient mariner, holding the House and Senate Agricultural Committees still with its glittering eye. Its story? Food aid must be purchased in the United States and shipped by US shipping companies under an American flag to maintain the effectiveness of the US food aid program. The coalition has vigorously opposed changes to the Food for Peace program that would reduce the amount of food aid cargo handled by US shippers.

US shippers have played a key role in facilitating the distribution of aid when local procurement was not possible. 40 years ago, markets in many developing regions were not sufficiently reliable to provide the food that was demanded.

That landscape has now changed. Local markets are far more reliable and sophisticated, and the costs of shipping US-grown food abroad now outweigh the costs of purchasing it locally. It is time that the Ancient Mariner added a new verse to his Rime: how he stepped away from his previous glories so that more of the world’s poor could be fed.

As work by Cornell Professor Christopher Barrett and others has unequivocally demonstrated, the requirement that food aid be domestically sourced results in 30% to 50% of non-emergency food aid being wasted on unnecessary packaging and transportation costs.

A much wiser, more effective, and more efficient use of taxpayers’ dollars would be to allow the funds to be allocated with complete flexibility by USAID in its subsidiary programs, including allowing most of the funds to be used for local sourcing. Local sourcing allows US food aid dollars to be used to procure food aid much closer to the region of need, rather than from the United States. The impacts on genuine US shipping companies would likely be considerably less than imagined.

For example, one major shipping company, the Maersk Line, with local headquarters in Norfolk, Virginia, is apparently a wholly owned subsidiary of the Maersk Group, a multinational corporation with its headquarters in Copenhagen, Denmark, where the company was founded. The Maersk Group owns and operates a wide collection of subsidiary companies in the global energy and shipping industries. For the Maersk Group, having a US shipping subsidiary is useful precisely because it can then compete for the business of shipping  food aid around the world at US taxpayers’ expense.

A particularly unfortunate approach to non-emergency food aid, embedded in farm bill food aid legislation since 1985 is the practice of monetization. Monetization of food aid is the practice of shipping US food (in bagged or processed form) to developing countries and allowing private non-profit aid organizations to sell the food in urban markets to obtain monies, which in turn are used to carry out development and aid programs in other areas.

One result is that the monetization program wastes at least 30% of the monies spent by taxpayers on non-emergency food aid. The other is that the non-profit organizations which benefit from the monetization program have joined forces with the shipping companies to become avid lobbyists for its continuation. Some non-profit organizations – for example CARE, OXFAM, and Bread for the World – have heavily criticized monetization as a waste of tax dollars and damaging to aid efforts. But others have become the program’s strongest advocates.

In the Senate and House Agricultural Committees, therefore, the monetization beat goes on. So perhaps the best thing that could happen is first for agricultural groups who represent the interests of farmers to recognize that their members are being disadvantaged by the program. They would be better off if more corn, wheat, soybeans and peanuts were being purchased by US food aid dollars in world markets, instead of those dollars flowing to shipping companies owned by Danish and other multinational corporations.

Second, monetization could be made much less attractive to the non-profits who currently benefit from the process by capping the revenue they obtain from selling food-aid food in third country markets at 50% of what is called the import price parity for a commodity. This is a “delivered to foreign market” price that includes shipping and handling costs which is estimated by the US Department of Agriculture Agricultural Marketing Service for different commodities purchased in the United States and shipped to overseas ports. Any income they earn above that amount could be returned to the taxpayer or allocated for other aid programs.

Aligning incentives for non-profit groups who deliver US aid to support a food aid program in which taxpayer funds are used more efficiently to help more impoverished people is always a good idea. Making monetization less attractive and, at the same time, shifting federal food aid resources to local sourcing and direct aid programs through which many of the non-profits have done great work in the past would be a great deal for the world’s poor, the US taxpayer, and the non-profits themselves.

Follow AEIdeas on Twitter at @AEIdeas.

 

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Scoring the farm bill policy options

Published on October 29, 2013, by

Farm_bill_infographicThere is an easy way forward on farm policy, and it is not contained in either the House or Senate versions of the Farm Bill that are about be considered by a conference committee. The answer is to extend current law, minus the indefensible direct payments program that almost everyone agrees needs to go.

Ranking the current farm subsidy proposals in the bills that have been approved by the Senate and the House helps shed light on what’s happening, and why extending current law—with simple, common-sense reforms—is the best and most realistic option. Rankings generally use a positive scale, say from one to ten, where ten is great and one is abysmal. But from an economic efficiency and equity (income redistribution) perspective, neither of the farm subsidy proposals passed by the House and the Senate deserves even a ranking of one. So let’s use a scale of minus 10 (diabolically irresponsible) to 0 (at least does no more harm than current law).

We should start with the truly feckless House Farm Bill, which genuinely earns its ranking of minus 10. Why does the House farm bill represent such a nadir in farm policy initiatives, and why is it worse even than current law and the Senate bill?

First, it would introduce an astonishingly wasteful and distortive new price support program, called price loss coverage (PLC). PLC would cost taxpayers billions of dollars each year if prices for crops such as corn, wheat and soybeans moderate towards their longer run historical levels, as is quite likely over the next five years. It also guarantees rice and peanut producers very large subsidies in most years, and will allocate most of the total subsidies to the largest 15% of farms whose owners on average earn over $140,000 per year and whose wealth is measured in multiple millions of dollars. All of this from a brand new program.

Second, the House bill includes a new heavily subsidized crop insurance program (called the supplemental coverage option) that is likely to cost taxpayers over $2 billion a year—about 20% of which will flow to crop insurance companies for almost no work and absolutely no risk (the CBO cost estimates for this program, which are much lower than this number, are widely viewed as gross underestimates). Once again a new program.

Third, the House bill places no limits on crop insurance subsidies to individual farms, which in the case of thousands of the largest and richest farms, exceed $100,000 a year and, in some cases, one million dollars a year. Regardless of their political persuasion, who believes that is a just and equitable use of tax payer funds? Probably no one: apart from the recipients, legislators from the constituencies in which they reside, and crop insurance companies and agents.

Fourth, the House bill fails to reform US international food aid by allowing genuine flexibility for local and regional sourcing of food aid to help desperately poor and disadvantaged people in places like Darfur, Ethiopia and Bangladesh suffering from man-made or natural disasters. Professor Christopher Barrett of Cornell University and others have estimated that requiring US sourcing and transport of food on US flag ships increases the costs of providing aid by 50%. More problematically, this also slows the delivery of such aid by many weeks and months. The result is a failure to deliver life and health saving aid to millions of the poorest people in the world.

Fifth, the bill includes a new subsidy program for dairy farmers that smacks of a Soviet approach to managing milk production through central planning by guaranteeing a minimum margin between milk prices and feed costs.

Finally, a score of minus 10 seems reasonable because the House bill could well increase total federal spending on farm subsidies by about $10 billion a year, even though it would terminate the $5 billion a year Direct Payments program – the policy under which farmers receive welfare checks for doing nothing. And most of that increase would go to the wealthiest farmers and landowners involved in agriculture.

So what about the Senate bill? Let’s give it a score of minus 5. It too introduces and continues truly poor policies. The Senate bill includes the new supplementary coverage insurance program, which also fails to limit crop insurance subsidies, fails to substantially reform international food aid policy, and contains a dairy margin guarantee program. So why does the Senate bill receive a somewhat less abysmal score? The reason is that the Senate’s new subsidy give-away program, called the Ag Risk Coverage program, gives away a little less than the House’s Price Loss Coverage program by loosely tying levels of farm income protection and subsidies to recent trends in crop prices instead of locking in subsidies to current record crop price levels.

Why give the Senate bill a score of minus 5? Because, after accounting for savings from terminating the Direct Payments program, and under plausible circumstances, the Senate Bill could well increase total spending on farm subsidies by about $5 billion a year relative to current law. Again, these funds would for the most part flow to the richest farmers and landowners.

What about the farm subsidies built into current law (the 2008 Farm Bill)? Well, current law gets a score of zero: it contains wasteful, unfair, production distorting, WTO violating policies that make no sense, but it is less costly and less distortive in terms of economic efficiency and fairness than either the House or Senate Bills.

Is there an alternative that would get a positive score? The answer is yes. Current law minus the “let’s give welfare checks mainly to rich farmers and landowners for doing nothing” Direct Payments Program and minus a potentially expensive and production and trade distorting program called ACRE, introduced in 2008. That would save the taxpayer $5 billion a year; so we could give that alternative a score of plus 5. It would be a simple, fair, and easy-to-implement Farm Bill. The reforms would be far from perfect, but would move in the right efficiency and equity direction from current policy. More cuts in subsidies would be better, especially in relation to the federal crop insurance program, but a step towards a less distortive and more equitable Farm Bill would genuinely be a refreshing and historic policy initiative.

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US farm policy amounts to $80 billion for rich people

Published on October 16, 2013, by

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Editor’s note: This article originally appeared in Real Clear Markets on October 16, 2013.

Alice doesn’t just live in Wonderland anymore; she seems to be everywhere. On ABC, in numerous op ed columns (along with the entire Corleone family in one case), and even hiding out in multiple DC monuments. She has also, apparently, invaded many Congressional offices. Why? Because the chaos of Wonderland ‒ complete with various lunatic Queens of Hearts, Mad Hatters, Sleepy Dormice, and random Cheshire Cats on Cruz control ‒ seems to have become pervasive in Washington’s corridors of power over the past three weeks (you can pick your own cast for Charles Dodgson’s characters; there are many, many contenders for the leading roles).

But, in fact, the advent of Wonderland into the world of Congressional legislation is not a new phenomenon. And the House and Senate Agricultural Committees are prime examples of the long standing nature of the Wonderland legislative tradition.

You might think that no sensible policy maker would have handed out about $80 billion dollars in welfare checks mainly to very wealthy farm households at the rate of about $5 billion a year for doing nothing since the mid-1990s, but you would be wrong. The House and Senate Agricultural Committees have been more than happy to do exactly that through the Direct Payments program.

Then there is the fiscal fiasco called the federal crop insurance program. When you and I buy home owners or auto insurance, or small and large businesses purchase property and casualty insurance, we pay premiums that cover the full commercial costs to the private insurance companies that design, deliver, and service those insurance contracts. That is not the world of federally subsidized crop insurance. In that Wonderland world, taxpayers cover 70 percent of the insurance premium costs (all of the administrative costs and an average of about 62% of expected losses). Not quite the way a free enterprise market based system would envisage how a service should be offered or paid for.

Most farms are successful moderate-sized businesses (annual failure rates in agriculture run at about one of every 200 farms). Many of them would have to pay about $30,000 a year in premiums to cover crop losses on their operations if they had to pay the full costs of their policies. Instead, those farms get to pay $9,000 premiums and on average receive about $23,000 a year in indemnities. What a great deal, and wouldn’t many moderate sized main street and manufacturing businesses like to have the same deal for the property/casualty insurance they buy. But those businesses are not in the Senate and House Agricultural Committees’ versions of Lewis Carroll’s Wonderland.

Recently, National Crop Insurance Services, a major lobbying group for the crop insurance companies that deliver the federally subsidized program (in return for two to three billion dollars of tax payer funds in most years), also happily contributed to the Wonderland world of farm policy debates. They claimed that farmers paid large amounts for their insurance coverage each year, over $4 billion in 2012 and 2013, and, therefore, the program requires tough sledding on the farmers’ part.

How true with respect to the $4 billion, but what a wonderfully distorted Wonderland view of the world! Because, of course, in 2012, those same farmers also received a total of more than $16 billion in payments for crop losses (merely about $12 billion more than they paid into the program).

In a good year for crops, but a bad year for indemnity payments, the worst farmers are likely to do is pay $4 billion dollars or so in premiums and get back only about $7 or $8 billion dollars in indemnity payments (a mere transfer of $3 or $4 billion). An agricultural Mad Hatter might well say “How unreasonable, give those mainly very wealthy farmers more.”

And that is what the House and Senate Agricultural Committees want to do in the newest Wonderland crop insurance proposal they have included in the recent House and Senate agricultural bills, the Supplementary Coverage Option (SCO). It is not enough that farmers can buy heavily subsidized crop insurance policies that trigger payments when their revenues or yields from a crop fall below 85 percent or 75 percent of expected levels. Now both the House and Senate Agricultural Committees wants to give them even more protection, mainly at the expense of taxpayers, when in the county in which their farms are located average revenues or yields fall below 90 percent of their expected levels.

There are many other wonderland farm subsidy policies; for example, the U.S. sugar program (which costs consumers over $3 billion a year) and the ethanol mandate (which has more than doubled the price of corn but done little or nothing for the environment). And a recent claim by a senior Senate Agricultural Committee member that reducing crop insurance subsidies for millionaire farmers by 15% would undermine the fiscal integrity of the program comes straight out of the Lewis Carroll nonsense poem playbook. So, when it comes to farm policy, Alice and her Wonderland associates have been alive and kicking for many a long year. If only they would all go to sleep for a while and give the taxpayer a break!

 

Vincent Smith is a visiting scholar at the American Enterprise Institute (AEI), and a professor of economics in the Department of Agricultural Economics at Montana State University.