THE ECONOMICS of AGRICULTURAL SUBSIDIES Xiri ,0
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THE ECONOMICS OF AGRICULTURAL SUBSIDIES xiri ,0 Stellingen 1. De stelligheid waarmee macro-economische voorspellingen worden gepresenteerd staat vaak in schril contrast met de betrouwbaarheid van deze voorspellingen. 2. Studenten in de economie kunnen meer inspiratie opdoen door van Keynes te lezen dan door over Keynes te lezen. 3. Het beleid inzake het verminderen van handelsbelemmeringen tegen export van ontwikkelingslanden dient meer afgestemd te worden op de exportbehoefte van ontwikkelingslanden dan op de gewenste bescher- ming van eigen produktie. 4. De levensvatbaarheid van een uitgebreide E.G. is onder meer afhan- kelijk. van een politieke aanvaarding van agrarische inkomensverschillen die ontstaan zijn door verschillen in economische efficiency. Een eerste stäp in de richting van deze acceptatie is de recente consensus om output subsidies aan kwantitatieve bovengrenzen te binden. 5. Popper's adagium, dat een theorie die veel uitsluit waardevo ler is dan een die weinig uitsluit maar vaker bevestigd wordt, lijkt bij veel maatschappij-wetenschappelijk onderzoek een ondergeschikte rol te spelen. 6. De invloed van een aantal specifieke eigenschappen van de E.ngelse taal op Wittgenstein's latere denken inzake begripsvorming zcu een nadere Studie verdienen. 7. "Gesundes Volksempfinden" is gevaarlijk als enige bron van recht, maar de huidige Nederlandse strafrechtpleging lijkt deze bron geheel te veronachtzamen hetgeen kan leiden tot rechtsvervreemding. 8. Het is eenvoudiger een xenofobe politieke stroming te verocrdelen dan de oorzaken ervan weg te nemen. 9. Wanneer de huidige criminaliteit een toenemende functie is van jeugd- werkloosheid en politioneel personeelstekort, dienen met meer spoed en creativiteit extra vacatures bij de politie vervuld te worden door werkloze jongeren. 10. Groepsbesluiten zijn door compromis - inflatie vaak minder intelligent dan individuele beslissingen. Een consequentie hiervan voor het over- heidsbeleid zou kunnen zijn dat, binnen de grenzen van democratische contrôle, besluiten zoveel mogelijk door één verantwoordelijk persoon genomen worden. R.A. Bosch The Economies of Agricultural Subsidies 15 mei 1985, Wageningen ecoNOM-csoFAcmcu^^suBsmms R.A. BOSCH (c) R.A. Bosch, Nieuwveen 1985 Roeland A. Bosch The Economics of Agricultural Subsidies Proefschrift ter verkrijging van de graad van doctor in de landbouwwetenschappen, op gezag van de rector magnificus, dr. C. C. Oosterlee, in het openbaar te verdedigen op woensdag 15 mei 1985 des namiddags te vier uur in de aula van de Landbouwhogeschool te Wageningen Promotor: dr. F.P. Jansen, hoogleraar in de landhuishoudkunde van de tropen en de Subtropen Si'JBlIOTHEEE DER iAlfDBOUWHOGESCHOOL TABLE OF CONTENTS INTRODUCTION SUMMARY AND POLICY RECOMMENDATIONS PART ONE THE CONCEPT OF AGRICULTURAL SUBSIDIES CHAPTER I A DEFINITION OF AGRICULTURAL SUBSIDIES Subsidies as a Government Induced Change of Relative Prices of Goods, Services and Factors of Production 18 A Classification of Subsidies 20 The Incidence of Direct Agricultural Subsidies 21 The Incidence of Direct Farm Income Subsidies 21 The Incidence of Direct Farm Output Subsidies 22 The Incidence of Direct Farm Input Subsidies 24 The Incidence of Indirect Agricultural Subsidies 27 Examples of General Subsidies Affecting Agricultural Prices 28 Industrial Subsidies Affecting Agricultural Prices 29 NOTES 31 CHAPTER II THE ECONOMIC RATIONALE OF AGRICULTURAL SUBSIDIES The Existence of Domestic Distortions in Commodity and Factor Markets 34 Agricultural Price Instability 42 The Infant Industry Argument 45 NOTES 52 7 CHAPTER III ESTIMATING THE WELFARE EFFECTS OF AGRICULTURAL SUBSIDIES Partial versus General Equilibrium Analysis: Theoretical and Practical Implications General Equilibrium Implications of Agricultural Sub• sidies Limitations to the Use of Macro-Economic Models General Equilibrium Effects Partial Equilibrium Analysis of Agricultural Subsidies A Brief Review of the Literature Partial Welfare Analysis: Pros and Cons Direct Farm Income Subsidies The Impact of Farm Income Subsidies Utility Comparison between Farm Income Subsidies and Farm Input Subsidies Direct Farm Output Subsidies Farm Output Price Support Measures Partial Equilibrium Effects Methods of Implementation Farm Output Price Stabilization Measures Partial Equilibrium Effects of Minor Price Fluc• tuations Variations in Production Value Analysed into a Market and a Production Component Methods of Implementation Farm Import Restrictions Partial Equilibrium Effects Methods of Implementation Farm Export Subsidies Partial Equilibrium Effects Methods of Implementation Direct Farm Input Subsidies Partial Equilibrium Effects 8 The Operational Dynamics of Farm Input Subsidies 95 NOTES 98 PART TWO AN EMPIRICAL STUDY OF AGRICULTURAL SUBSIDIES AND FARM LABOUR DISTORTIONS IN TRINIDAD AND TOBAGO CHAPTER IV THE INCIDENCE OF FARM LABOUR DISTORTIONS Risks and Limiting Factors for Increasing Farm Produc• tion 106 The Estimation of Production Functions 108 Economic Efficiency: A Prerequisite of Agricultural Subsidies 116 NOTES 120 CHAPTER V ECONOMIC ANALYSIS OF FARM INPUT SUBSIDY PROGRAMS Ex-post Analysis of Farm Input Subsidy Programs 121 Administrative Design 121 Monopoly in Supply of Subsidized Farm Inputs 124 Utilization of Farm Inputs and Production 125 The Relevance of Production Functions to Subsidy Ana• lysis 132 Ex-ante Analysis of a Subsidy on Fertilizer 137 NOTES 1« CHAPTER VI ECONOMIC ANALYSIS OF FARM OUTPUT SUBSIDY PROGRAMS Ex-post Analysis of Farm Output Subsidy Programs 145 Administrative Design 145 Actual Production Response to Guaranteed Price Systems 147 Analysing Variations in Agricultural Production Value into a Market and a Production Component 149 Ex-ante Analysis of Anti-Distortive Farm Output Subsi• dies 152 The Concept of an Anti-Distortive Guaranteed Thres• hold Price 153 Partial Equilibrium Effects of a Guaranteed Thres• hold Price System 155 Methodology and Assumptions 155 Sensitivity Analysis 160 NOTES 164 APPENDIX 1 THE NORMALIZED RESTRICTED PROFIT FUNCTION APPROACH 165 NOTES 171 APPENDIX 2 ON ECONOMIC SURPLUS 176 NOTES 185 TABLES 187 INDEX OF NAMES 203 10 Introduction This study on the economics of agricultural subsidies consists of two Parts. In the first Part I have reviewed and analysed the comprehensive but hitherto scattered literature on the subject. The second part contains the findings of an empirical study on agri• cultural subsidies in the Caribbean carried out by the author from April 1982 to March 1984. I am greatly indebted to Prof. Dr. F. P. Jansen who read the earlier drafts thoroughly. His invaluable suggestions have considerably improved the quality of this work. As far as the empirical study is concerned I was greatly aided by Mrs. M. Maharajh, Mr. H. Maharaj and Prof. Dr. G. Schieffer. They assisted me in the supervision and organisation of data collection. I was also fortunate in obtaining frequent counsel from Mr. D.I. Field in organising and analysing the data on dairy farming. The Department of Agricultural Economics of the University of the West Indies was most helpful in providing the necessary facilities for the administration of the collection of a large amount of farm data. Finally, I wish to express my gratitude to Mr. F. B. Lauckner. He ensured that my substantial requests for computer facilities were fulfilled efficiently despite the limited resources at his command. 11 SUMMARY AND POLICY RECOMMENDATIONS PART ONE 1. Agricultural subsidies have been defined as a government induced change of relative prices of goods, services and factors of produc• tion in the agricultural sector. These agricultural price changes may result from a large number of different government measures varying from direct cash transfers to government trade policy. Workable definitions have been derived by a further classification into specific categories of agricultural subsidies. 2. Agricultural subsidies have been considered to be economically justified when under a system of laissez-faire public welfare de• creases. They have been defended on three grounds, viz. the existence of domestic distortions, price instability, and the infant-industry ar• gument. 3. Domestic distortions like monopoly power, pollution and other ex• ternalities, can theoretically be overcome by a subsidy policy in the direction opposite to the distortion. 4. Large price fluctuations of basic foodstuffs have a detrimental impact on the economy. Conversely, minor price variations are needed for profit maximization and for attuning supply to demand. The principal problem in designing an appropriate agricultural price policy is how to prevent large price fluctuations without undercut• ting the function of price as a market signal. 5. The infant-industry argument can not be adequately defended on theoretical grounds as developed by Mill, Bastable, Kemp and Meade. In accordance with modern equilibrium theory, protection has to be based on the existence of dynamic internal economics, i.e. the net positive diffuse impact on welfare stemming from the learning 12 process of the industry under protection. 6. Subsidies do not only have the desired effects. Suboptimal behaviour by subsidized agents often leads to welfare losses. Also, welfare in non-subsidized sectors may decline because of a reallocation of resources towards the subsidized sectors. 7. In theory, the distorting and inter-sectoral impact of agricultural subsidies can best be ascertained by the use of macro-economic models. Total impact analysis, however, has not been very succes- ful so far,