Yield Risk, Price Risk, and Political Risk: How Safe is Your Safety - PowerPoint PPT Presentation

Yield Risk, Price Risk, and Political Risk: How Safe is Your Safety Net? Robert J. Hauser Bruce J. Sherrick

If we’ve learned from the past, … Click to edit Master title style • 1933: AAA Agricultural Adjustment Act • Click to edit Master text styles • 1936: AAA Agricultural Adjustment Act • Second level • 1948: AA Agricultural Act • Third level • 1949: AA Agricultural Act • Fourth level • 1954: AA Agricultural Act • Fifth level • 1956: AA Agricultural Act • 1958: AA Agricultural Act • 1961: AA Agricultural Act 2 2 2

Click to edit Master title style • 1965: FAA Food and Agriculture Act • 1970: AA Agricultural Act • 1973: ACPA Agriculture and Consumer • Click to edit Master text styles Protection Act • Second level • 1977: FAA Food and Agriculture Act • 1981: FAA Food and Agriculture Act • Third level • 1985: FSA Food Security Act • Fourth level • 1990: FACTA Food, Agriculture, Conservation, • Fifth level and Trade Act • 1996: FAIR Food and Agriculture Improvement and Reform Act • 2002: FSRIA Farm Security and Rural Investment Act 3 3 3

Every program being used today has been Click to edit Master title style used before, in some form or another: • Click to edit Master text styles • PFC payments: – 1963-1973 support payments • Second level • Counter Cyclical Payments: • Third level – 1974-1995 deficiency payments • Fourth level – 1996-2002 MLA payments • Fifth level • Loan Program: – 500 B.C. - present 4 4 4

What is not being used today? Click to edit Master title style • Click to edit Master text styles • Set-aside requirements • Second level • Annual paid land diversions • Third level • Loan programs and CCC purchases that take large quantities off the market • Fourth level • Large export subsidies • Fifth level 5 5 5

What are we trying to accomplish Click to edit Master title style with the Farm Bill? • Click to edit Master text styles • Three popular political answers: • Second level – Stabilize farm income (reduce risk) – Raise farm income • Third level – Affect farm structure • Fourth level • Fifth level • Let’s consider these criteria for Illinois corn and soybeans. 6 6 6

Backdrop Click to edit Master title style • 1974 crop through 2001 crop (excluding 1983) in nominal dollars for Illinois: • Click to edit Master text styles – Average market revenue/acre before • Second level government payments • Third level • CORN = $263 • SOYBEANS = $215 • Fourth level • Fifth level – Accounting for non-land variable costs, average net market revenue/acre • CORN = $129 • SOYBEANS = $136 7 7 7

Click to edit Master title style • How much “risk” is associated with the average incomes per acre? • Click to edit Master text styles – Corn: $41 • Second level – Soybeans: $26 – Corn and Soybeans: $31 • Third level • Decomposition of this risk shows that it is • Fourth level dominated by “price risk.” • Fifth level 8 8 8

Click to edit Master title style Sources of crop revenue risk Corn Soybeans • Click to edit Master text styles Price Yield Price-Yield Price Yield Price-Yield Effect Effect Correlation Effect Effect Correlation • Second level Farm 67.4% 32.6% -42.5% 65.3% 34.7% -38.0% • Third level State 74.6% 25.5% -51.2% 77.5% 22.5% -40.8% • Fourth level • Fifth level • Additional diversification effect from combining corn and soybeans reduces risk by 23.6% at the farm level, and 14% at the state level relative to the average of individual crop risks. • How much of the risk is abated through farm programs? 9 9 9

Click to edit Master title style Corn and Soybean Farm Revenue Components • Click to edit Master text styles $190 • Second level $140 • Third level PFC Payments $/Acre Div + Def + Loan + MLA • Fourth level Farm Market Rev. $90 • Fifth level $40 -$10 4 6 8 0 2 5 7 9 1 3 5 7 9 1 7 7 8 8 8 9 9 9 9 7 8 8 9 0 9 9 9 9 9 9 9 9 9 9 9 9 9 0 1 1 1 1 1 1 1 1 1 1 1 1 1 2 Year 10 10 10

Click to edit Master title style Per acre effects of corn support • Click to edit Master text styles Without With price Change • Second level support support • Third level Average $129 $152 $23 • Fourth level Income • Fifth level Risk $41 $30 -$11 11 11 11

Click to edit Master title style Per acre effects of soybean support Without With price Change • Click to edit Master text styles support support • Second level • Third level Average $136 $143 $7 • Fourth level Income • Fifth level Risk $26 $22 -$4 12 12 12

Click to edit Master title style Two periods of large support in 2002 $ • 1986-1988: – $86 per corn acre • Click to edit Master text styles • 1999-2001: • Second level – $70 per acre w/o AMTA payments – $106 per acre with AMTA payments • Third level • Is it fair to compare these levels of support? • Fourth level – Adjusted to an acre basis – Adjusted for set-aside costs • Fifth level – Adjusted for inflation – NOT adjusted for • Effects of government program on market price and production • Technological changes leading to different sized farm units 13 13 13

If a typical farm in 1970 is 400 acres, Click to edit Master title style what is its equivalent in 2000? Soybean Corn Farm Growth in • Click to edit Master text styles Acres Acres Acres farm ac/yr • Second level 200 200 400 0 • Third level 500 500 1,000 20 • Fourth level 750 750 1,500 36.66 • Fifth level 1,000 1,000 2,000 53.33 1,250 1,250 2,500 70 1,500 1,500 3,000 86.66 14 14 14

Click to edit Master title style Support under different growth rate assumptions 2000 • Click to edit Master text styles W/O AMTA With AMTA 1987 • Second level Growth 2000 Farm $86 per $70 per $106 per • Third level total ac corn ac corn ac corn ac per year • Fourth level 0 400 $16,000 $14,000 $21,200 • Fifth level 20 1,000 $31,820 $35,000 $53,000 53 2,000 $55,900 $70,000 $106,000 87 3,000 $80,840 $105,000 $159,000 15 15 15

Looking back over three decades Click to edit Master title style • In 2002 $: – Income support, on average, has been about $23 per • Click to edit Master text styles corn acre with a risk reduction effect of $11. • Second level – The same level of risk reduction is achieved through soybean rotation. • Third level • Fourth level • The “large” recent support payments are: • Fifth level – About the same level in real dollars per acre as in 1986 through 1988 – Much larger on a “per farm” basis, depending on how the farm unit is defined 16 16 16

Click to edit Master title style How does present program stack up? • Click to edit Master text styles • Depends on your view of – The average price for corn and soybeans • Second level through 2007? • Third level – PFC payments versus price responsive • Fourth level payments • Fifth level – Market versus political risk 17 17 17

Click to edit Master title style Current Program Corn Price Risk • Click to edit Master text styles Price Support/Acre Reduction/Acre • Second level $1.57 $114 $18.46 • Third level $1.72 $93 $18.53 • Fourth level $1.89 $72 $18.09 • Fifth level $2.07 $50 $17.47 $2.28 $31 $14.86 $2.51 $15 $10.17 $2.76 $5 $4.81 18 18 18

In summary Click to edit Master title style • With CC and LDP, a corn price of $2.40 - $2.45 provides about the same income support and risk • Click to edit Master text styles reduction as past 30 years. Lower prices lead to more • Second level support and risk reduction • Third level – This does not include direct payments. – And does not account for farm size. • Fourth level • So, under reasonable assumptions, today’s program is • Fifth level “successful,” relative to past programs, in reducing the income risk present in year to year changes • But … 19 19 19

Click to edit Master title style “Political” Risk • Click to edit Master text styles • Associated with the uncertainty about what the next program will be • Second level • Depends greatly on three things: • Third level – Congress’s attitude toward PFC payments • Fourth level – Perceived level of “equilibrium” commodity • Fifth level prices (market conditions the year before …) – WTO negotiations 20 20 20

Click to edit Master title style Political risk, continued … • Click to edit Master text styles • Given the capitalization of payments into land prices, this creates a huge risk to land • Second level owners and lenders. • Third level • Suggest that when “penciling out” what • Fourth level land is worth as farm land, that you • Fifth level explicitly consider PFC and price-support programs separately 21 21 21

Effect on farm structure, or “optimal” Click to edit Master title style farm size • Click to edit Master text styles • Programs affect cost of entry, encouraging larger farms • Second level • Programs reduce risk, causing …? • Third level • These program effects, however, are • Fourth level arguably swamped by • Fifth level – Technological effects – Yield diversification effects 22 22 22