1 of 17 Principles of Microeconomics: Econ102

Price & Income instability results from:  An inelastic demand for agricultural products  Very low price elasticity of demand  Biological factors  Rapidly diminishing marginal utility  Very large price cuts are needed to induce small increases in food consumption  Fluctuations in farm output  Natural events are beyond farmers’ control  Small changes in output result in relatively larger changes in prices & incomes  Shifts of the demand curve for farm products  Dependence on world markets  Weather & crop production abroad  Cyclical fluctuations  International politics, foreign exchange, etc of 17

Source: Derived from the authors from Foreign Agricultural Trade of the United States, and Bureau of Economic Analysis, of 17

Source: Author calculations using nominal values from Global Financial Data, globalfinancialdata.com, adjusted for inflation with the GDP deflator published by the Bureau of Economic Analysis, bea.gov of 17

 Technological Progress  Significantly increased the supply of agricultural products  Amount of capital increased 15 times between 1930 and 1980, permitting a fivefold increase in land cultivated per farmer  One unit of farm labor / units of farm output  1950: 14; 1970: 43; 1980: 60; 1990: 91; 2000: 128; 2008: 154  Productivity in agriculture has advanced 2x as fast as in the nonfarm economy  Lagging Demand  Income-Inelastic  Increases in consumer incomes produce less-than- proportionate increases in spending on farm products  Population Growth of 17

Long-run decline of agricultural prices and farm income D1D1 P1P1 Q 0 P P2P2 Q1Q1 b a D2D2 S1S1 S2S2 Q2Q2 c of 17

 Major consequences  Increased minimum efficient scale (MES)  Consolidation  Agribusiness  Massive exit of workers  Farm labor 2% of labor force  Farm-Household Income 19-7 Year In Millions Of People As % Of Total Employm ent # Of Farms, (000) *Includes self-employed farmers, unpaid farmworkers, and hired farmworkers Source: derived by the authors from Economic Report of the President, 2010, Table B-100; U.S. Bureau of Labor Statistics, and Department of Agriculture, Economic Research Services, 7 of 17

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 Subsidized since 1930s  Support for agricultural prices, income, and output  Soil and water conservation  Agricultural research  Farm credit  Crop insurance  Subsidized sale of farm products in world markets of 17

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 Necessities of life  Many farmers have relatively low incomes so they should receive higher prices & incomes through public help.  “Family farm” institution  It is a fundamental U.S. institution and should be nurtured as a way of life.  Extraordinary hazards  Droughts, floods, insects and other disasters not faced by other industries  Competitive markets for output while inputs have significant market power  The Parity Concept: Rationale for price supports of 17

 Effective price floor  Generates surplus output  Gain to farmers  Loss to consumers  Higher burden on the poor  Efficiency losses  Over-allocation of resources  Other social losses  Environmental costs  International costs Q 0 P b a S S D D PePe QeQe PsPs Tax Burden Of Surplus QcQc QsQs Surplus c 12 of 17

 Restricting supply  Acreage allotments  Bolstering demand  Gasohol  Biodiesel  Corn-based ethanol  The ethanol program  Higher food prices  Secondary effects of 17

 Criticisms of parity concept  Criticisms of price supports  Symptoms not causes  Misallocation of resources between agriculture and the rest of the economy  Too many farmers……low prices……..low incomes  Supports encourage much of the same  Misguided subsidies  Policy contradictions  Free-trade policies  Wildlife habitats  Health problems of 17

 Public choice theory revisited  Rent-seeking behavior  Special-interest effect  Political logrolling  Changing politics  Declining political support  World trade considerations of 17

 Recent farm policy  Freedom to Farm Act of 1996  Ended price supports and acreage allotments  “Freedom to Plant” approach; Markets……...not government  Transition payments  Declining annual payments through 2002  Based on a farmer’s previous production levels  No regard to current prices or output  In 1999, reduced export demand & strong crop production  Resulted in larger subsidies than before Act  Food, Conservation, and Energy Act of 2008  Direct payments (do not decline year to year; permanent transfers  Countercyclical payments  Marketing loans of 17

 Price supports  Import Quotas  Domestic Costs  32 percent above world price  Developing countries  Exclusion  Increased world supply  U.S. ….from a sugar-importing nation to a sugar-exporting nation  U.S. efficiency loss  Global resource misallocation of 17