Global Trade and Trade Policy Robert L. Thompson Gardner Professor of Agricultural Policy University of Illinois September 16, 2005

Outline of Today’s Presentation Trade Issues WTO Developments U.S. Farm Policy – Issues for the Future

TRADE ISSUES

Exports Are Key to U.S. Agricultural Profitability American agriculture exports ¼ to 1/3 of its production of many commodities. Without these exports, U.S. agriculture would have to downsize significantly. Exports can grow by expanding the total size of the market or by increasing market share. The only large potential growth market is in presently low income countries The outcome of the WTO trade negotiations will determine how much of this “potential” is realized

Changing World Food Trade Stagnant food demand in OECD; rapid growth in developing countries as middle class grows (more through supermarkets) Larger percent of world production traded Trade in high value & processed products growing faster than in commodities Explosion of commodity exports from South America; expect more from Eastern Europe and FSU, esp. Ukraine

European Union Shrinking population Policy reforms underway are real –even sugar Eliminating all export subsidies will force further reform of domestic ag policy –e.g. dairy, but how to get rid of quotas Tough environmental and animal welfare regulations significantly raise costs –All battery cages to be banned from 2007 Subsidized energy to greenhouses Rejection of ag biotech setting back its competitiveness Aggressive use of SPS barriers to ag imports

Eastern Europe & FSU Severely declining populations Excellent soils in Ukraine and parts of FSU mean great ag productive potential Weak applied research Inadequate property rights (esp. farm land), contact sanctity, & rule of law Slow development of necessary ag input and product markets

East and South Asia Huge population with large numbers of people at very low income levels mean huge future food demand growth Has much larger percent of world’s population than arable land, so food demand likely to outrun supply potential

China The 800-pound gorilla in all ag and mineral commodity markets today Rapid economic growth has generated rapid growth in meat consumption, but half of population still earns less than $2/day. Average farm size less than 1 acre leads to extensive rural poverty To reduce rural poverty (and associated political stresses), government abandoned grain self- sufficiency objective; letting farmers grow labor- intensive higher value per acre crops; e.g. fruits, vegetables; animal agriculture. Exporting them. Has largest number of pigs in world.

India Projected to have 250 million more people than China by Economy is starting to move; already 250 million middle-class consumers, but also 500 middle living on less than $1/day! Huge dairy product consumption; has more dairy cows than any other country Huge poultry product consumption Most people who don’t eat meat don’t by reason of poverty, not religion.

New Zealand & Australia After New Zealand went cold turkey on ag subsidies, agriculture never more profitable nor more entrepreneurial Reform also in Australia, but more gradual with buyouts –Their dairy sectors have thrived; Fonterra even markets US dairy products in world market Both have been extremely successful in penetrating Asian markets Neither is very big, so will never be marginal ag exporter

Canada North-South integration of North American markets –NAFTA –Reform of rail freight rates Dairy and poultry marketing quotas Gaining sugar-using industries from US Canadian Wheat Board reform? Revenue insurance programs possible model for US ag policy reform?

Middle East & North Africa Can never be self-sufficient in food due to water scarcity Israeli R&D “provides” state of the art technology in horticultural crops and efficient water use for entire Med. Basin –Can only afford to use water on highest value crops –What future role of Mediterranean countries in world fruit and vegetable trade?

South America One of only 2 regions with more land that can be brought into production Brazilian agricultural export miracle –Soybeans & frozen concentrated orange juice –Now pork and broilers gaining fast Key role of Brazil’s own ag research (EMBRAPA) Argentina’s negative producer support

Sub-Saharan Africa Many countries are “basket cases” with declining per capita food production Bad African governance the main reason for ag’s general underperformance – Underinvestment in rural infrastructure and education –There are a few success stories of global supply chains, e.g. vegetables & cut flowers to Europe –South Africa providing regional leadership

WTO DEVELOPMENTS

World Agriculture in Disarray* Most high income countries subsidize their agriculture, distorting returns to alternative outputs and inducing larger total investment in agriculture relative to other sectors. Many LDCs’ policies turn the terms of trade against farmers to keep urban food prices low, reducing the incentive to invest; agricul- ture underperforms relative to its potential. Protection against processed food imports remains higher than on raw ag commodities. Increasing SPS & technical barriers to trade. *to paraphrase D. Gale Johnson’s book World Agriculture in Disarray

OECD Producer Support Estimates, 2004, Percent of Gross Receipts Switzerland 68 Japan 56 European Union 33 Canada 21 United States 18 Mexico 17 Australia 4 New Zealand 3 30 Countries Overall 30 Source: OECD Agriculture Directorate

Average Producer Support in OECD Countries, 2004, in Percent Rice 75 Sugar 58 Milk 36 Beef & Veal 34 Wheat 33 Corn 31 Oilseeds 27 Pork 21 Eggs 9 Overall 30

Divergent Relative PSEs Distort Mix of What’s Produced Where, 2003 ProductAustral E.U.JapanPoland Switz.U.S.A. Wheat Corn Rice Oilseed Sugar Milk Beef Chicken Pork

Effects of Producer Support Distort what gets produced where and, in turn, ag trade flows Depress world market prices below long- term trend Reduce price and/or income risk to one country’s farmers while increasing price volatility in world market Largest producers and farm land owners get most of the benefits

World Market Prices Depressed Below Long Term Trend Rice % Sugar 20 – 40 % Dairy Products 20 – 40 % Cotton 10 – 20 % Peanuts 10 – 20 % Source: World Bank. Global Economic Prospects 2002, Chap. 2.

Global Trading Environment Impedes LDC Growth OECD protectionist barriers to LDC goods reduce their foreign exchange earning capacity & economic growth. OECD agricultural production and export subsidies depress world market prices below long term trend and increase variance around that trend. Food aid is most available in years of OECD surplus, not LDC deficit. Depressed world market prices reduce returns to poor farmers, increasing their poverty, and slowing agricultural and national economic growth. Widespread poverty in LDCs impedes growth in their food demand, preventing them from fulfilling their potential as growth markets.

World Trade Organization A voluntary association of 148 countries which meet periodically (“rounds”) to review and revise the rules of the road on international trade (by consensus) Its Secretariat, located in Geneva, organizes these meetings, as well as a dispute settlement process to resolve differences among members over whether these mutually agreed upon rules are being broken Dispute settlement panels and an appellate body (effectively the “supreme court” of international trade) interpret agreements and build up a body of case law (necessary when wording of agreements is fuzzy) WTO cannot force any country to change its policies, but it can authorize the victims of violations to collect compensation via import duties on the violator’s exports

Uruguay Round Agreement on Agriculture: Accomplishments Increased market access as percent of consumption Required scientific basis for all SPS barriers Reduced export subsidies (value & volume) Converted all non-tariff barriers to tariffs Acknowledged that some domestic agricultural subsidies can distort trade and categorized them by degree of trade distortion: –“Green box” = non trade distorting investments in public goods and decoupled income transfers –“Amber box” = trade-distorting (bound and reduced) –“Blue box” = trade-distorting, but offset by production controls or set-asides

Doha Round Must Do Better Uruguay Round established a useful framework But, it did little to open markets, and OECD countries are still spending over $750 million per day subsidizing their farmers (30% of farmers’ incomes) Doha Round needs to be more ambitious than the Uruguay Round by closing loopholes and tightening disciplines to prevent circumvention of the intent of the agreement.

Key Players in Doha Round Agricultural Negotiations United States European Union G-20 (Brazil, India, China, S. Africa, +) Cairns Group (Australia, New Zealand, +) G-10 (Japan, Korea, Norway, Switzerland,+) Other developing Countries (the majority of members, but heterogeneous interests)

Why U.S. Agriculture Should Support Developing Country Priority in WTO Developing countries are the only potential growth markets of the future -- but only if they enjoy broad-based economic growth -- which will come only if they are allowed to export what they produce relatively most efficiently. Developing countries now make up the majority of WTO members. There will be no agreement in the current trade negotiations until they feel there is something of value in it for them (unlike past trade agreements).

Doha Round Agricultural Agreement: What Is Possible? Eliminate all forms of ag export subsidies Reduce trade-distorting domestic subsidies (highest the most, but exceptions possible) Reduce tariffs (highest the most, but exceptions allowed if increase minimum market access) Tighten definition of what subsidies are “non- trade distorting” Allow developing countries smaller cuts over longer period (definition? exempt LDCs completely? exempt “sensitive products”?)

WTO Ag Negotiations Hung Up on Who Goes First U.S. has proposed reducing its ag subsidies substantially, but only if other countries provide much greater access to their markets. The EU is proceeding with its reforms, including sugar, while the US reversed course in the 2002 farm Bill Developing countries won’t open their markets as long as world market prices are depressed by ag subsidies in OECD countries (and they have more than half of the votes in the WTO) Despite rhetoric at July 2005 G-8 Summit, no more progress in WTO ag negotiations occurred this summer. After almost losing CAFTA-DR vote, other countries doubt U.S. ability to deliver on commitments. Unclear that U.S. negotiators have authority to strike meaningful deal.

Timetable 2005: –Extend Trade Promotion Authority (“fast track”) & decide to stay in the WTO [done] –WTO negotiations to put meat on the skeleton of the 7/31/04 Framework Agreement (Hong Kong Ministerial to assess progress in Dec. 2005) –Modest farm policy changes to accommodate WTO cotton decision and budget deficit reduction 2006: –Serious offers & requests in WTO negotiations 2007: –Congressional approval of new WTO Trade Agreement and signing before TPA expires (6/07) –2007 Farm Bill

U.S. FARM POLICY: ISSUES FOR THE FUTURE

U.S. Was a Leader in Uruguay Round Ag Negotiations Got domestic agricultural policies on the negotiating table and got production- and trade- distorting subsidies capped Sold importance of decoupling payments from production of specific commodities Got export subsidies capped and reduced Sold importance of converting all non-tariff barriers to tariffs and to reduce them Hung tough on requiring sound science basis for sanitary & phytosanitary barriers

2002 Farm Bill Seen as Abdication of U.S. Leadership The U.S., which had led global effort to reduce ag subsidies appears two-faced: increasing its budget authority for agricultural subsidies while telling the rest of the world to cut theirs. Retreat on decoupling: By allowing bases to be updated, U.S. farmers know that “fixed payments” are not necessarily “fixed.” Counter-cyclical payments reduce U.S. farmers’ responsiveness to (downside) market signals. Marketing loans are effectively export subsidies, as are some forms of food aid and export credits.

Forces Supporting Status Quo in U.S. Farm Policy

Who Reelected President Bush? Rural America Source: Univ. of Michigan

Campaign Contributions Congressional and Presidential elections are extremely expensive in the United States. Little real campaign reform has been achieved. Farm organizations and commodity groups are generous campaign contributors, and there is a correlation between relative size of campaign contributions and the size of farm program benefits

Ag Commodity PAC Contributions to Federal Candidates, 2004 Election Cycle Commodity Contributions ($ 1,000) Sugar 2,375 Dairy 1,757 Cotton 479 Rice 283 Peanuts 218 Citrus 167 Wheat 100 Potatoes 57 Corn 37 Soybeans 17 Source: Center for Responsive Politics (FEC data)

U.S. Producer Support, (Percent of gross farm receipts) Sugar 58 Milk 44 Rice 44 Sorghum 37 Wheat 34 Barley 30 Corn 20 Soybean 19 Wool and lamb 17 Pork, beef and broilers 4 Overall 19 Source: OECD PSE database

U.S. Farmers’ Changing World View Losing confidence in their international competitiveness (benefits of URAA oversold) Think URAA was unfair in that allowed EU and Japan much higher AMSs See world market as a zero-sum game (If you increase your exports, I have to reduce mine.) Don’t recognize potential growth in LDC markets Reluctant to accept that being a large exporting country constrains our freedom of action in domestic policy making. You cannot have it both ways.

Forces for Change in Future Farm Policy

“A successful Doha Round will reduce and eliminate tariffs and other barriers on farm and industrial goods. It will end unfair agricultural subsidies… Today, I reiterate the challenge I have made before: We must work together in the Doha negotiations to eliminate agricultural subsidies that distort trade and stunt development, and to eliminate tariffs and other barriers to open markets for farmers around the world. Today I broaden the challenge by making this pledge: The United States is ready to eliminate all tariffs, subsidies and other barriers to free flow of goods and service as other nations do the same.” George W. Bush United Nations, Sept. 14, 2005

“Something Has to Be Done About the Federal Budget Deficit”

Agricultural Solidarity Fragmenting Many farm group leaders recognize that there will be less budget authority for agriculture in next farm bill. Large differences among program crops and regions in support per farmer and per acre are creating “subsidy envy” Profitability of the 2/3 of agriculture not producing program crops is calling into question what the programs accomplish Traditional solidarity among commodity groups and among commodities in general farm organizations is starting to show cracks –North vs. South –sugar vs. the rest –fruits and vegetables vs. program crops.

Recognition that Farm Programs Aren’t Achieving Stated Objectives Low farm family income –Most payments go to larger producers whose family incomes & wealth are well above average –Low income farmers receive very little from programs Variability of farm income –Farmers have income averaging and cash accounting Increase competitiveness –Capitalization of payments into land values raises U.S. cost of production and undercuts international competitiveness –Public investments in ag research declining Food security –Not a credible problem when U.S. ag grows 1/3 more than we use domestically Rural development –Payments facilitate consolidation; don’t create more jobs

Implications of Cotton Decision for 2007 Farm Bill Congress heeded the URAA AMS cap when it wrote the 2002 farm bill, but it ignored the fact that marketing loans work as export subsidies and can depress world market prices. Need to change marketing loan, LDP and CCP provisions for cotton and other program crops. The fruit and vegetable production exclusion in qualifying for direct payments needs to be changed. This will bring huge political opposition from fruit & vegetable growers, esp. Calif. & Fla. Note: The U.S. cannot claim any credit in the Doha Round agreement for changes it makes in policies found to be in violation of the URAA.

Environmental Groups’ Role 1985 Farm Bill was first in which environmental groups were a real player –Long-term conservation reserve –Conservation compliance –Swamp buster and sodbuster. All budget cuts from agriculture since 2002 have come out of conservation programs. The Environmental Working Group has increased transparency of who gets most farm program payments ( Mobilizing LDC opposition to OECD farm subsidies “Doubly green”* payments (decoupled payments for conservation that fit in the “green box”) are a likely winner in the WTO ag negotiations. *To paraphrase Gordon Conway’s Doubly Green Revolution book

Other Issues Driving 2007 Farm Bill Food safety and bioterrorism Rural development: Acknowledgment that ag commodity programs make weak rural development policy. Science: Implications of shifting investments in ag research from public to private sector are being recognized. Food aid: when is it an export subsidy? Concerns re structure of agriculture. Future role of ethanol and bio-diesel in U.S. energy policy Crop insurance: would Congress keep hands off to allow an actuarially viable approach to function? Gross revenue insurance to replace disaster payments, crop insurance, marketing loans, LDPs, and CCPs?

Conclusion Most likely outcome in 2007 Farm Bill is only modest changes from 2002 Farm Bill BUT, there are just enough forces for change that you should be prepared that bigger change is possible –Federal budget deficit –WTO trade negotiations –Public perception that farm programs are not achieving their objectives The most-discussed alternatives are –Some forms of subsidized gross income insurance –Payments for conservation or environmental services –Rural infrastructure investments