United States

During the 1980s there has been a major shift in U.S. farm policy. Prior to the 1985 Food Security Act the policy effectively supported the world price of grains at considerable budgetary cost. From 1985 this policy was changed, support prices were reduced, domestic farm incomes were supported by direct budgetary payments, and the subsidization of exports was introduced. Both policies have resulted in greater budgetary spendin than before. Import restrictions have been tightened, particularly for sugar. The United States has also made frequent use of GATT dispute settlement procedures and bilateral trade agreements. It has stated its willingness to completely liberalize its agricultural sector as part of its proposal in the Uruguay Round, which calls for the elimination of all distorting support programs by all major countries.

A characteristic of U.S. agricultural policy is that the major policy variables are mandated in the Food Security Acts (commonly known as Farm Bills) that cover four to five crop years. The 1981 Farm Bill, reflecting the optimistic outlook for prices at that time, fixed support prices (loan rates) at historically high levels and resulted in the large accumulation of surplus stocks by the Commodity Credit Corporation (CCC), particularly in grains and dairy products. This stock accumulation had the effect of a market price-support policy which, by virtue of the position of the United States in world trade in grains, bolstered their world price (at the expense of the U.S. budget) and permitted other countries with surplus production to expand their exports.

The Food Security Act of 1985 sought to redress the problems created by the previous Farm Bill by reducing the incentives for further CCC stock accumulation and providing subsidies for exports through the Export Enhancement Program (EEP) and the Targeted Export Assistance (TEA) program.¹²¹ The incentives for CCC stock accumulation were reduced by bringing support prices of grains and dairy products closer to market prices and stipulating that programs for some other commodities were to be run without CCC acquisitions. Farmers’ incomes were maintained by large deficiency payments. The EEP provided $2 billion to subsidize exports over the three-year period to September 1988 through a subsidy payable in cash or commodities, the latter entitling the exporter to additional commodities from CCC surplus stocks. In July 1987, additional funding for the EEP was authorized from other programs, and the 1988 Trade Bill has a provision to extend the EEP from 1990 until 1992 up to a limit of funding of $2 billion. As of end-June 1988, export sales of $5 billion had been assisted under the EEP, with the subsidy provided having a market value of $2.1 billion. The United States has defended the EEP as a means of countering unfair practices—including subsidies—by competitors and of encouraging exporters that subsidized to negotiate reform. However, the homogeneous nature of agricultural products means that the prices received by “fair” agricultural exporters are also affected. The inclusion of the TEA program in the 1985 Farm Bill aimed at countering the effects on U.S. agricultural exports of practices by foreign governments deemed unfair by the United States. However, the program has been administered as a market promotion fund rather than as a price-support policy. This combination of policies has contributed greatly to the decline in world prices for grains in 1985-87 and has increased U.S. budgetary costs. Budgetary spending on agricultural support rose from 0.3 percent of GNP in 1980 to 0.6 percent in 1987 (Table A35). The firming of world grain prices in late 1987 and 1988 has started to reduce the budgetary costs of these policies.

The United States has also continued to use and intensify a number of quantitative import restrictions. Under the 1955 GATT waiver for the products included in Section 22 of the 1933 Agricultural Adjustment Act, the United States maintains quantitative import restrictions on dairy products, peanuts, and cotton. This waiver was justified on the grounds that the United States needed time to adjust its agricultural policies although no specific time limit for doing so was included. The EC has requested a review of this waiver by a GATT panel. The quota on sugar is imposed under a “headnote” to the U.S. Tariff Schedule. Following successive reductions in the U.S. sugar import quotas, at the request of Australia, the GATT Council has agreed to establish a dispute settlement panel to review this situation. Quotas and voluntary export restraints are also used for beef and have not been approved by GATT. These restrictions are summarized in Table A36.

The long-running dispute in GATT over EC treatment of U.S. citrus exports and EC subsidies of pasta exports was settled in 1986 with a bilateral agreement for improved market access for U.S. citrus products and a limit on subsidies of EC pasta exported to the United States. Disputes and threats of retaliation have also arisen over U.S. access to the EC market for oilseeds and vegetable oils, over compensation for U.S. export markets for feedgrains to Spain and Portugal arising from the expansion of the EC, and issues affecting U.S. beef exports. The United States has also brought Japan’s restrictions of certain agricultural products before the GATT dispute settlement panel, which found them to be inconsistent with GATT. Japanese restrictions on beef and citrus products have been the subject of intensive negotiations resulting in new bilateral agreements for the liberalization of the markets. Complaints about Korea’s restrictions of beef imports have been lodged under GATT Article XXIII separately by the United States and Australia.

European Community

In the European Community the Common Agricultural Policy (CAP) provides the main framework for agricultural support, although national spending is still important. The CAP aims to maintain a fair standard of living for farmers and reasonable prices for consumers and to stabilize markets. The combination of market price-support mechanisms and increases in productivity has led to increases in production that have boosted selfsufficiency in all major agricultural commodities to well beyond 100 percent (Table A40). Surplus production, together with imports permitted under special arrangements, has necessitated the export of surpluses, with substantial restitutions (subsidies), and the stockpiling of large amounts of certain products, notably butter and beef.¹²² The use of these subsidies enabled the EC to become the largest exporter of food products in 1986. The EC was the largest net importer of food in the 1970s and is still a significant net importer. It has also used dispute settlement procedures to improve its market access.

In the period 1984-86 taxpayers in the EC are estimated to have paid an average of $18 billion a year for agricultural support through the European Agricultural Guarantee and Guidance Fund (EAGGF) (two thirds of the EC budget), and national and provincial expenditures are estimated to have provided an additional $8 billion (Tables A32 and A41 present these data in terms of ECUs). In 1988, EAGGF expenditures alone are estimated to be $30 billion, over two thirds of EC budget expenditure.

Proposals for the reform of the CAP have been made during much of its history. The most recent efforts came in the mid-1980s, reflecting the high costs of the CAP and the emergence of constraints on exporting surpluses because of their effect both on other industrial countries (particularly the United States) and on developing countries. The reform measures have taken the form of price restraint (including the use of guarantee thresholds), limits on the entitlement to support, and limits on the overall expenditures on price support from the EC budget. Some of these measures, including those agreed upon in February 1988, represent both a step to restrain the growth in the budgetary cost of the CAP and a first step on the path of reform. However, they do not include steps to increase market access for other exporters—and thereby reduce the cost of the CAP to consumers—or to reduce subsidized exports.

Price restraint has involved a freeze (and in some cases a slight reduction) in intervention prices in European currency units (ECUs) since 1983/84 (Table A42) and in the use of guarantee thresholds. However, these measures by themselves have not been effective in restraining production because of the initially high prices and productivity increases that have compensated for real reductions in prices. The effectiveness of guarantee thresholds depends on a realistic setting of the threshold level and the magnitude of price reductions. In July 1987, guarantee thresholds were introduced for soybeans and olive oil and renewed for oilseeds. Measures decided on in February 1988 set guarantee thresholds for cereals, oilseeds, tobacco, and sheep meat.

The impact of the above measures on price restraints has been partially offset in terms of prices in national currencies by the operation of monetary compensatory amounts (MCAs). Support prices for farm products are set in ECUs at the beginning of each marketing year and translated into the national currencies of the member states. MCAs have been introduced to enable member states to postpone some of the effect on agricultural prices of exchange rate changes within the Community. Countries that revalue their currencies adopt “positive” MCAs that serve as import taxes and export subsidies to mitigate reductions in support prices, whereas countries that devalue adopt “negative” MCAs that serve as import subsidies and export taxes to alleviate some of the inflationary impact of the devaluation. MCAs give rise to “green” currency rates that differ from actual exchange rates, and member states are obliged to phase out these differences over time.¹²³

From 1984 price increases in ECU terms became so small that strong currency countries in need of dismantling positive MCAs faced the prospect of reducing agricultural prices in domestic currency terms. To avoid this, the system was changed by effectively linking prices in ECUs to the strongest currency in the European Monetary System (EMS). This system effectively put a floor under agricultural prices in domestic currency terms and placed upward pressure on support prices in the Community (Table A43). At the end of June 1987 the European Commission adopted a scheme for phasing out MCAs, including the use of Community-wide reductions in price levels expressed in ECUs. Member states in which prices would have to decline as a result of these measures are entitled to grant to farmers aid financed from their own budgets, provided it is not linked to output. While the negative MCAs could be phased out more rapidly by green rate depreciations, countries with strong currencies, which face price freezes or reductions, have resisted this measure to prevent devaluing countries from improving their competitive positions. In addition, raising national currency prices would increase the cost of the CAP.

Limits on the entitlements to support have come from restricting the period of intervention purchases during a marketing year and from production quotas. Production quotas have been in place on sugar since 1981 and on milk since 1984. The February 1988 measures also included a land set-aside program. Participation for farmers is voluntary but each member country must have a program. In return for setting aside at least 20 percent of his arable area for at least five years, a fanner receives certain payments and exemptions from levies on the remaining production.

Expenditure limits were introduced as part of the February 1988 measures. These limit the increase in spending on agricultural support to no more than 74 percent of the increase in Community GNP. Total EC expenditure would be limited to 1.2 percent of Community GNP. The limit on agricultural spending is to be achieved by the use of stabilizers, such as guarantee thresholds, production quotas, and intervention limits, applicable on most CAP products.

Japan

The institutional framework through which Japan’s agricultural policies are implemented has remained much the same since the 1970s. Although its factor endowments would appear to favor other industries, Japan supports significant agricultural production. Despite recent reductions in the administered prices of all major products, import restrictions have raised the domestic prices of agricultural products to up to ten times world prices. A growing awareness of the high costs of Japan’s agricultural policies to consumers has been tempered by an official stress on food security for basic farm products,¹²⁴ as well as the influence of farm groups on the political process, characteristic of many industrial countries. As a result significant pressure for reform has come from major agricultural exporting countries. This pressure, together with the Government’s efforts to reduce food prices, has brought about some liberalization of several items, most recently beef and citrus products, and small reductions in producer prices over a range of products. Access to the Japanese market, however, remains a major issue.

Although Japan is the largest single net food importer, about 70 percent of food consumed in Japan is produced domestically (Table A44). Reflecting the special position of rice in Japanese agriculture, self-sufficiency in rice is over 100 percent. Since no rice is exported on commercial terms (some is exported as food aid), the disposal of excess production in rice has been a problem. Feedgrains have been the main source of import growth as the livestock industry has grown rapidly. With the inclusion of imported feedgrains in the measure of self-sufficiency (i.e., on a calorie basis), the rate is roughly 50 percent, which is lower than the rate in other industrial countries but about the same as in the United Kingdom before its entry into the EC.

Producer prices are shown in Table A45. Producer prices are generally set to encourage a certain level of production and, based on an estimate of input costs, to ensure that income from farming will be comparable to that of nonfarm jobs. In 1987 producer prices were reduced across the board, reflecting the lower costs of imported inputs as well as the need to improve farm sector efficiency and increase reliance on market prices. The 6 percent reduction in the price of rice was the first decrease in 30 years. In 1988, the producer price of rice is to be reduced by 4.6 percent. Despite these price reductions, the quantitative import restrictions coupled with the depressed world prices for agricultural commodities set in U.S. dollars and the appreciation of the yen against the U.S. dollar have meant that the ratios of the domestic producer prices to world prices (nominal protection coefficients) have risen to up to ten times the world price (Table A46).¹²⁵ This support is substantially financed by consumers (see Table A32) and was equivalent to a subsidy of 57 percent of the value of producers’ income (the PSE ratio) in 1979-81 and 69 percent in 1984-86, the highest among OECD countries (Table A34).

Most of the budgetary spending on agriculture is for long-term assistance, such as structural policies and the development of rural infrastructure (see Table A47). Budgetary spending on price-support policies, estimated at ¥ 353 billion for 1988, has been declining steadily over the past decade, from ¥ 767 billion in 1980. State-trading entities use some of the proceeds from profits on imports (quota rents) for price-support policies. The total of budgetary and extrabudgetary price-support spending (about ¥ 858 billion in 1980) increased during the early 1980s but declined to ¥ 760 billion in 1987; this decline is much smaller than for budgetary spending only.

In October 1986, the United States lodged a complaint with the GATT over Japanese import restrictions on 12 agricultural products (which account for a relatively small proportion of trade). A dispute panel found that restrictions on 10 of the products were not justified under Article XI:2(c). In February 1988 Japan accepted the report and undertook to liberalize restrictions on 8 of the products and initiated bilateral discussions on compensation for the remaining 2 products—starches and processed dairy products. These discussions have not been concluded. In June 1988, on the expiration of bilateral agreements on citrus (with the United States) and beef (with the United States and Australia), Japan reached new bilateral agreements with these countries for the phased liberalization of these markets.

Canada

Canada’s agricultural sector is largely export oriented and, despite its extensive land resources, has in recent years provided increased subsidies and support to agricultural producers, as evidenced by the increase in its PSEs from 24 percent in 1979-81 to 39 percent in 1984-86 (Table A34). Subsidies have increased substantially as a result of both the rapid decline in world prices and attempts by the Government to counter the impact of competitive export subsidization by the United States and the EC. Canada has also used countervailing duties to protect its producers from the subsidized exports of other countries; these included duties on beef imports from the EC and on corn imports from the United States. In 1986 a GATT panel found the former to be inconsistent with the GATT code (for details see Section IV).

Australia

Agriculture in Australia receives relatively little support from government programs. The average PSE for this sector was 15 percent in 1984-86 (Table A34). Relatively high levels of assistance are given to the dairy industry and minor products such as dried vine fruits and tobacco. In accordance with the general government policy of reducing assistance economy wide, all these schemes are under review. In particular, the dairy industry, which has by far the largest support in the Australian agricultural sector, is subject to the Australia New Zealand Closer Economic Relations Trade Agreement; under this agreement the Australian dairy industry is to be made competitive with the New Zealand industry by 1992. It was announced in May 1988 that assistance to the sugar, dried vine fruits, tobacco, and citrus industries would be reduced in line with tariffs on manufactured goods. The Government also undertook to eliminate the monopoly position of the Australian Wheat Board in the marketing of wheat.

New Zealand

The Government of New Zealand has embarked on an economy-wide program of reductions in assistance for industry, including agriculture. While New Zealand agriculture had a PSE of 23 percent in 1984-86, the elimination of subsidized credit, direct price supports, and some tax concession will eventually reduce it significantly. During the period 1985-87 assistance to agriculture remained high because of the write-off of certain types of loans made under previous policies. Although New Zealand is one of the most efficient producers of pastoral products, its rural incomes are very low as a result of low world prices, relatively higher interest rates on large loans made during the period of subsidized credit, a relatively strong New Zealand dollar, and the reduced but still high level of assistance to the manufacturing sector. While these factors led to a contraction of sheep flocks and lamb production, a diversification into more profitable nontraditional products and recent increases in wool prices have partially offset this situation. Although parts of the farm sector have faced problems in adjusting to the changed international circumstances, New Zealand has experienced an improved macro-economic and structural performance.

European Free Trade Association

All members of the European Free Trade Association (EFTA) provide extensive support for their agricultural sectors mainly through quotas on domestic production and variable levies on imports. The dairy industry is an important sector in these countries, which typically have a fairly high level of self-sufficiency and surpluses in dairy products, some of which are exported. Meat production is also important in the Scandinavian countries. In Austria, in which high levels of support for grains and dairy products have led to excess production, the upward trend in PSEs has been dampened by the requirement that producers pay an increasing share of the high cost of disposal of surpluses, resulting in a slight decline in PSEs, from 36 percent in 1979-81 to 35 percent in 1984-85. Switzerland was granted a waiver for its agricultural policies at the time of its accession to the GATT. The Swiss Constitution incorporates the principles for its policies for agricultural support, with provisions for the preservation of farms and the maintenance of secure food supplies. The OECD is currently updating PSE estimates for EFTA countries other than Austria.

Developing Countries

The agricultural policies of developing countries are much more diverse than those of the industrial countries and have been undergoing significant changes in recent years. A major review of their policies was presented in the World Bank’s 1986 World Development Report,¹²⁶ which highlighted the bias against agriculture in many developing countries, particularly low-income countries, in the late 1970s and early 1980s. This bias is particularly significant because the agricultural sector tends to be the most important in these economies in terms of employment and output. Also, household incomes are lower in this sector. Higher-income developing countries, including Korea, were found to have more neutral policies or policies that favor agriculture.

The 1986 World Development Report noted several sources of bias: (1) industrial protection resulting from inward-looking strategies both raises the cost of inputs in the farm sector and results in a less depreciated exchange rate, which reduces the price of traded goods, primarily agricultural commodities; (2) the control of domestic food prices reduces the prices received by farmers; (3) an overvalued exchange rate may also be used to hold down the cost of food imports, which reduces demand for domestic production and the profitability of exports; (4) export taxes often fall on agricultural exports; and (5) statutory marketing boards often have a monopoly on farm output for export or for domestic use, or on the supply of farm inputs. Inefficiencies resulting from these arrangements, as well as implicit price control, may also introduce a bias against agriculture.

The ratio of producer or consumer prices to world prices provides some indication of the overall bias for or against agriculture, particularly if adjusted for overvalued exchange rates. For wheat (Table A48), while some developing countries promote agriculture and maintain producer prices at around world levels, many countries hold these prices and especially consumer prices at very low levels (with Egypt showing the greatest bias), discouraging domestic production and strongly encouraging consumption of wheat, which is often imported.

During the 1980s, and particularly in recent years, there has been increased recognition of the problems that result from such policies, including the development of severe food shortages. This has led to the reversal of policies that discriminate against agriculture in some developing countries. Large exchange rate changes in many African countries (for example, The Gambia, Ghana, and Nigeria) have led to improved producer prices for agricultural products and have stimulated production. The relaxation of price controls and the liberalization of grain marketing arrangements have occurred in other countries (e.g., Tanzania). In the face of low world prices for their exports, Argentina and Thailand have reduced their export taxes.

Some developing countries, particularly in Asia, have placed emphasis on achieving self-sufficiency in food, particularly cereals, for a number of years. Subsidized inputs for agricultural production are a common form of assistance to agriculture in developing countries (see Table A33). Input subsidies typically relate to credit, irrigation, and fertilizers. However, the extent of these benefits is not clear. India subsidizes fertilizer for farmers, but much of the subsidy goes to high-cost domestic producers of fertilizer, rather than to farmers. Subsidized credit has been one of the main forms of assistance to farmers in Brazil, but the subsidy element, arising from interest rate controls and high and variable inflation, and access to credit have varied greatly in recent years.

Information is also available on the tariffs and trade restrictions imposed by developing countries.¹²⁷ A study of 50 developing countries found that, with the exception of manufactured goods other than chemicals and machinery and equipment, food has the highest average tariffs and across all levels of per capita income except the highest group. Similarly, food has the largest number of nontariff measures including the largest number of multiple nontariff measures applying to the same tariff item.¹²⁸, ¹²⁹ In addition, countries in lower-income groups tend to have higher average tariffs and frequency of nontariff measures than those in higher-income groups (Tables A22 and A23).

The apparent contradiction between the above finding, which indicates a greater incidence of border measures in low-income developing countries, and the earlier observation of a greater bias against agriculture in low-income developing countries compared with higher-income countries appears to be due to the heterogeneous nature of food items. A disaggregated analysis for Asian countries indicates that cereals typically have the lowest tariff rate, whereas meats, dairy products, beverages, and spices typically have higher tariff rates. ¹³⁰ This analysis suggests that nonessential foods may be considered luxury goods and are more heavily taxed.

The presence of import licensing and state-trading monopolies is not necessarily associated with domestic prices that are consistently above world levels. Many developing countries use licensing to gain more control over import flows rather than using more general macro-economic instruments. In addition, imports may be controlled to limit the higher demand for imported subsidized cereals.

Dairy Products

Within the agricultural sector, the dairy industry receives the highest level of assistance across OECD countries and within individual countries.¹³¹ In 1986 this support is estimated to have amounted to $1,139 and $833 per cow in the United States and the EC, respectively. For comparison, in 1986, 64 countries accounting for about half the world’s population had per capita GDP below the former level.¹³² The incentives for production provided by this assistance have led to surplus production, necessitating large expenditures to accumulate and store stockpiles, particularly in the EC but also in the United States. In 1985-86 stocks were at record levels and had to be disposed of at very low prices, partly reflecting the deteriorated state of the stocks owing to extended storage.

The problems in the dairy industry have been recognized for some time. After protracted discussions during the Tokyo Round, the International Dairy Arrangement (IDA) was established under the auspices of GATT in 1980. The IDA set minimum export prices for various types of dairy products, which have been periodically changed in light of market conditions. Despite the general observance of the IDA, very high stocks have forced some producers to enter into sales at very low prices: in categories excluded from the IDA (e.g., stock feed); in new categories created outside of the IDA (e.g., 18-month-old butter); or by obtaining a derogation from some parts of the IDA.

In 1984 the EC announced sales to the U.S.S.R. of 200,000 tons of old and deteriorated butter stocks at about 40 percent below the IDA minimum price. The United States and Austria left the IDA in October 1985 in protest. At the same time, it was agreed that butter at least 18 months old was not subject to the IDA minimum prices. In 1986 the EC sold an additional 475,000 tons of old butter and butter oil to the U.S.S.R., also at very low prices. In 1987, it was determined that sales of fresh butter to the U.S.S.R. could not be made at the IDA minimum prices and a derogation from the IDA was obtained to permit traditional suppliers to that market to sell at prices below the minimum during 1987. Also in 1987, New Zealand sold 50,000 tons of butter oil to Brazil at about half the minimum export price under a separate derogation of the IDA. Sales of cheese below export quality have also been below the IDA minimum price and milk powder for stock feed, which is excluded from the IDA protocols, has generally been sold at about half the minimum price of that for human consumption. ¹³³

Grains

World production of grains for export (except rice) is concentrated in the temperate industrial countries. Developing countries, including China, which is the world’s largest producer of wheat, grow large quantities of grain mainly for domestic consumption. Production of grain has grown strongly during the 1980s because of increases in yields and a number of favorable seasons. Trade volumes of grain declined during the 1980s as former large importers, such as China, India, and Indonesia, achieved a high degree of self-sufficiency. Stocks of grain, particularly those held in the United States, reached a peak in 1986/87 but have subsequently declined owing to conscious stock disposal policies. Reflecting changed intervention practices and the export subsidies of the United States and the EC, prices fell to very low levels in 1985/86 but appear to have bottomed out during 1986/87 owing to poor seasons in a number of countries and cutbacks in production.

Meat

Most meat is consumed in the country of production. Beef and veal form the main components of the international trade in meat, and exports account for less than 10 percent of total consumption. Since 1970 major changes have occurred in the pattern of trade. The relative and absolute importance of Latin American exporters (Argentina, Brazil, and Uruguay), where production is not subsidized, has declined, especially with Argentina facing reduced markets in Europe as Spain and Portugal entered the EC. In 1984, the EC emerged as the largest exporter of beef through the use of export subsidies. The EC exports mainly processed beef products and its markets are primarily in Egypt, Saudi Arabia, and the U.S.S.R. Recently the market for beef has been affected by dairy herd liquidations in the United States and the EC.

As a result of the Tokyo Round, in 1980 producers and consumers of meat agreed to an arrangement regarding bovine meat and the establishment of the International Meat Council. The Council aims to liberalize and expand trade and operates primarily to gather data and make market assessments.

Sugar

The international price of sugar remains extremely depressed at about one fourth of its peak in 1980 despite having risen slightly in 1988 owing to the impact of weather on some producers. Sugar provides an important example of the extent to which protection in temperate industrial countries has fostered large increases in domestic production at the expense of low-cost producers in developing countries. Low-cost sugarcane is grown in tropical and subtropical climates, while higher-cost sugar beets are grown in temperate zones. The high cost of sugar in industrial countries has encouraged the production of nonsugar sweeteners in some countries. Brazil has large tax incentives and subsidies on the use of alcohol made from sugarcane as a petroleum substitute. The gains from a less protective environment are likely to be large for developing countries even though the loss of special access to industrial country markets by some developing countries may offset some of this gain. The last International Sugar Agreement with provisions to affect market prices was effective from 1978, and market support operations were abandoned in 1984 as the free market price was well below the agreed price range. The EC refused to sign the last agreement on the grounds that its export quota was too low; earlier the EC had changed from being a net importer to being a major net exporter of sugar.

Direct Costs

The direct (or partial equilibrium) costs of agricultural support policies can be measured on a gross or a net basis. The gross costs to taxpayers and consumers have been used in the earlier part of this section, with the estimates by the OECD (Table A32) being among the most comprehensive.¹⁴² Some of these payments by taxpayers and consumers are reflected in producer incomes and hence represent transfer payments. In addition to this transfer, support policies also result in a net welfare “deadweight” loss that represents the difference between the cost to consumers plus net payments by the government, and the increase in producer income.¹⁴³ Some studies have focused on the net welfare effects on the grounds that the simple transfer of income from one group to another does not have a welfare effect. While the results of these studies vary with the products covered and assumptions on price elasticities, they show that these welfare losses are not insignificant.¹⁴⁴ The results of Tyers and Anderson are of particular note because of their broad coverage of products and their use of recent estimates of elasticities and transmission of world prices into domestic prices. In this study, the net welfare losses of all industrial countries from protection in the early 1980s are estimated at about $20 billion (in 1985 U.S. dollars) (Table A55).¹⁴⁵

More attention has been given to the gross value of the transfer in this section because the net welfare losses do not take account of distributional issues and are likely to underestimate significantly the effect on the economy, because the transfer to producers does not always reach the targeted group. The political decisions to support the agricultural sector are usually based on the goal of supporting small-scale farms. However, in the United States and the EC, the more efficient large farms have been able to capture most of the benefit, enabling them to compete with and take over small farms.¹⁴⁶ A farm sector based on very small farms, as in Japan, leads to inefficient production. Moreover, the benefit originally intended for actual producers is built into land or quota values, restricting new entrants, and generating pressure for support policies to preserve asset values. Also, financing this producer support by consumers through higher food prices places a relatively greater burden on lower-income groups. The consumer transfers, taxes, and deficits used to finance the transfers create additional problems: assistance to one sector has to be paid for by other sectors, with adverse effects on efficiency, competitiveness of the whole economy, and overall macroeconomic performance.

Macroeconomic Effects

Reflecting the above concerns, more recent studies of the costs of agricultural support policies have tended to focus on the macroeconomic effects. These studies, using general equilibrium models in which the agricultural sector is linked to the rest of the economy, show that the full costs of the support policies greatly overshadow the partial equilibrium net welfare losses.

The effect of the CAP on the European Community has been the set of policies most widely studied in this field. A study by Stoeckel and Breckling of France, the Federal Republic of Germany, Italy, and the United Kingdom has divided each economy into four sectors, including agriculture.¹⁴⁷ The study focuses on the gains from liberalization that are taken as the reverse of costs of the CAP, and examines the differential effects on the four countries in the study. Important assumptions of the model are use of an explicit consumption tax to finance the agricultural policies and rigid real wages. Thus, support policies reduce the competitiveness of manufacturing and service industries and, since the encouraged sector—agriculture—uses capital and land more intensively than labor, the unemployment resulting from the relative decline of the manufacturing and service sectors will not be fully absorbed by the agricultural sector. With liberalization, although jobs would be lost in agriculture, other sectors would gain, resulting in a net increase in employment of about two to three million depending on the actual flexibility of real wages. Liberalization is also likely to increase the share of agricultural output from small farms. Aggregate income increases by 1.6 percent on average; owing to their lower share of value added from agriculture, Germany and the United Kingdom would benefit the most from liberalization.

A study by Dicke and others on the Federal Republic of Germany reached similar conclusions about the employment and growth benefits from liberalization of the CAP.¹⁴⁸ While farmers lose, this loss would be reflected mainly in a fall in farm values. To overcome this loss, the authors note that farmers might be issued special bonds to compensate them for this one-time loss. The general equilibrium approach was also applied by Rosenblatt and others (1988), in measuring the effect of the CAP on the Federal Republic of Germany. They also assume rigid real wages and show that while an increase in agricultural prices from the CAP will increase agricultural employment and exports (if subsidized), these gains are more than offset by losses in other sectors. The authors suggest that the complete liberalization of agriculture would reduce consumer prices in Germany by 5 percent, increase employment by 4¾ percent, and raise GDP by 3 percent.

Studies on the impact of liberalization on the U.S. economy are less complete. The liberalization of agriculture would improve U.S. macroeconomic performance chiefly through the reduction in the budget deficit. As noted earlier, U.S. budgetary spending on agricultural support increased rapidly during the 1980s, to $27 billion in 1987/88 (Table A35). According to Feltenstein, the improvement in the current account deficit would be slightly more than the reduction in the budget deficit, although the actual result could vary depending on the response of interest rates and net private savings.¹⁴⁹ Hertel, Thompson, and Tsigas (1988) look at the efficiency gains from a transfer of labor and capital from the farm to the nonfarm sectors. While farmers bear the brunt of unilateral liberalization, the output of the manufacturing sector and overall GNP are significantly increased.

In a similar vein, two studies by Vincent show that support for agriculture is at the expense of manufactured exports and real wages in Japan and Korea.¹⁵⁰ Liberalization would also bring about a sharp drop in rural land prices, as the encouragement of agriculture places a large premium on land, which is relatively scarce in both countries. It is important to note that while these countries could gain from the liberalization of agriculture through the expansion of manufactured exports, this expansion is limited by quotas and VERs, or threats of such action, mainly by industrial countries.

Although Australia and New Zealand provide some support for their agricultural sector (currently much less than most OECD countries), it is offset to some extent by the higher protection for the manufacturing sector, which increases input costs to agriculture. As noted in Center for International Economics (1988, p. 45), the disadvantage with the use of PSEs is that they do not take into account the cost of inputs.¹⁵¹ More important, the potential problems are noted for a country such as Australia (and by implication, some developing countries) in which agriculture is relatively lightly assisted compared with the manufacturing sector; in this case if agriculture is liberalized and the manufacturing sector remains heavily protected, resource allocation is likely to worsen. This suggests that the focus on global liberalization of agriculture, in isolation from protection in other sectors, is misplaced. The removal of support for agriculture is important for many OECD countries because it is their most heavily protected sector. Countries with more heavily protected industrial sectors should place greater emphasis on removing these distortions.

While all the countries studied are likely to gain significantly from the unilateral liberalization of their agricultural policies, it is a practical reality that the countries with poor economic performance have the greatest incentives to liberalize. The underlying economic performance of Australia and New Zealand was weaker than most other OECD countries in the early 1980s, and growth was sustained by substantial foreign borrowing. Although these countries are traditional and efficient agricultural exporters, they have chosen to remove most of their own agricultural support policies while simultaneously reducing industrial protection and regulation. This has occurred despite the continued use of subsidies by less efficient agricultural producers to expand their market share. The agricultural sectors in Australia and New Zealand have sustained some loss of income, but this loss has been partially offset by the incentives to produce nontraditional agricultural commodities. These policies have fostered structural adjustment and, particularly in New Zealand, have helped to improve its fiscal position and overall macroeconomic performance. Similarly, many developing countries, under programs supported by the World Bank’s structural adjustment loans and the Fund’s structural adjustment facility and other facilities, have reduced the distortions faced by their agricultural sectors. Despite the great range of evidence supporting the view that the major trading countries can also gain from unilateral liberalization, they have not yet significantly reduced protection for agriculture.

International Effects