Price Stability Econ

Price Stability Read Chapter 7 of Schmitz, Furtan and Baylis “Agricultural Policy, Agribusiness, and Rent-Seeking Behaviour”

Stability Policy objective is price and income stability –What is stability? Constant over time Increasing over time

Price Stability Buffer stocks –Store commodity when prices low, release into the market when prices high –Needs to be a storable commodity –Storage costs can not be high

Price Stability Do producers and consumers really what stable prices? –Has been shown that under certain conditions, consumers prefer variable prices –Similarly for producers –However, when both considered, stable prices result in higher social welfare

Income Stability Price stability can reduce income stability –Demand and supply not perfectly elastic –When supply less, the lower sales are off-set by higher prices –When supply high, the higher sales are off-set by lower prices –A role for private storage to buy commodity when price is low and sell when high

Middle-Man Market Power A pure monopoly can gain from storing a commodity –With monopoly, price to consumers higher than perfect competition –Price to consumers constant over time –Price to producers lower than under perfect competition –Price to producers varies with supply

Middle-Man Market Power Agriculture – difficult to prove –Processors – not in storage business, storage costs could be high –Grain dealers – with only 3 or 4 major world players, they are often suspected of MP

Price Expectations Price forecasts –Naïve: E(P t+1 )=P t –Adaptive: E(P t+1 )=P t + γ[P t – E(P t )] –Rational Expectations: Use all current and past information (I t ) P t = E t (E t+1 | I t ) What info? PROs, WCE, Minneapolis, El Nino, La Nina, contracts, weather forecasts, …

Risk and Producer Uncertainty Models generally assume risk neutral Producers are typically risk averse If risk is reduced, through gov’t programs for example, supply will increase Increased supply -> lower prices If a gov’t program, does it fit within the WTO?

Farm Sector Stabilization Why for governments attempt stabilization? –Economic If highly variable prices and producers are risk averse, output will be less than socially optimal Producers make fewer long-term investments, reducing production in the long-term –Political

Causes of Price Variability Excess demand shifts –Droughts/surpluses in importing countries Excess supply shifts –Crop failure/bumper crop in exporting country Government intervention –Export subsidies, macro policies Other –Elasticity of excess demand and supply

Stabilization Can prices be stabilized? Conditions that exist – price trends –Stability vs. income support Causes of stabilization program failure –Income uncertainty and inability to project –Declining incomes –Political uncertainty

Canadian Support Programs Agricultural Stabilization Act (1958) –Guaranteed 90% of 3-yr moving average price –Fed funded –Payouts small until 1974 –In 1976, grains removed –Payments ‘exploded’ in 1980’s –Program ended in 1991

Canadian Support Programs Western Grain Stabilization Act (WGSA) –Stabilize crop income –To replace ad hoc policies –Gov’t and producer funded –Prices declining but production increasing, so incomes did not decline to trigger payments –By the late 1980’s, the WGSA was insolvent

WGSA impacts Reduced price variability Increased supply Raised producer incomes Payouts in 1977, 1978 (small) Payouts in 1987 to 1991 (huge)

Canadian Support Programs Special Grains Program –Payment due to low grain prices, 1986, 1987 –$1 billion each year –One-time special payment

Canadian Support Programs Tripartite Stabilization –Developed for non-grain –Fed., Prov. and producer contributions –Similar impacts to WGSA –Countervailing tariff actions by United States (especially red meats) –Programs discontinued by 1994

Canadian Support Programs Farm Income Protection Act (1991) –A) GRIP – gross revenue insurance –B) NISA – net income stabilization –C) crop insurance

Canadian Support Programs GRIP –Guaranteed gross revenue per acre –Sask. withdrew from program after 18 months, too expensive

Canadian Support Programs NISA –Fed., (later Prov.), and producer funded –Individual funds (Fund 1 gov’t money and taxable when withdrawn, fund 2 producer’s money and not taxable) –Funds can not go into deficit –Concerns – timing of payments, declining incomes, ‘savings’ accounts,

Canadian Support Programs Agricultural Income Disaster Assistance –1998 temporary –Designed with WTO rules –Payment if net income < 70% of moving avg. –Costly administration (producers and likely government) –Discouraged diversification

Canadian Support Programs Canadian Agricultural Income Stabilization (CAIS) –Replaced NISA –Based on production and reference margins –Inventory adjustments –Producer contributions initially required, then dropped –Replaced in 2007

Canadian Support Programs AgriStability (AS) and AgriInvest (AI) –AS – payment if current year margin falls below 85% of reference margin –AI – producer and government contributions deposited in an AgriInvest account

Canadian Support Programs Provincial Programs –Most provinces have ended their own programs and joined the federal programs. Provincial funding part of these programs.