Lecture Economics (18th edition): Chapter 19 - McConnell, Brue, Flynn''s

Chapter 19
Agriculture:
Economics and
Policy
McGraw­Hill/Irwin

        Copyright © 2009 by The McGraw­Hill Companies, Inc. All rights reserved.


Chapter Objectives
• Unstable agricultural prices and farm
income
• Employment exodus from agriculture
• Farm subsidies and price supports
• Criticisms of the price-support
system
• Existing Federal farm policy

19-2


Agriculture Industry
• Extreme diversity
• Farm products and food products
• Short-run price and income
instability
– Inelastic demand
– Fluctuations in output
– Shifts in the demand curve

• Dependence on world markets

19-3


Economics of Agriculture
Effects of Changes in Farm Output on
Agricultural Prices and Income
P
p

Pp

n

Pn

Pb

Normal Farm
Income

b
D

0

Qp

Qn

Qb

Q

Increases in output reduce farm income

19-4


Economics of Agriculture
The Effects of Changes in Demand on
Agricultural Prices and Income
P

a

P1
P2

0

b

D2 D1
Qn

Q

Shift in demand causes large change in price
19-5
and farm income

Agriculture: a Declining Industry
• Supply increased rapidly
– Technological progress

• Demand increased slowly
• Inelastic with respect to income
• Population growth

19-6


Agriculture: a Declining Industry
• Inflation adjusted prices have
declined through 2005
• Rising prices 2006-2007
– Demand from China
– Ethanol

19-7


Economics of Agriculture
The Long-Run Decline of Agricultural
Prices and Farm Income
P

P1

P2

0

S1

S2

a

c

b

D1 D2
Q1

Q2

Q

19-8


Agriculture: a Declining Industry
• Major consequences
– Increased minimum efficient scale
(MES)
– Consolidation
– Agribusiness

– Massive exit of workers
– Farm labor 2% of labor force
19-9


Agriculture: a Risky Business
•
•
•
•
•

Futures markets
Contracting with processors
Crop revenue insurance
Leasing land
Nonfarm income

19-10


Labor in Agriculture
Percentage of Labor Force in
Agriculture, Selected Nations 2002-2004
0

Madagascar
Bangladesh
Thailand
China

Brazil
Russia
Japan
France
Germany
United
States

25

50

75

100

Source: World Bank World Development Report, 2008
19-11


Economics of Farm Policy
• 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

19-12


Agricultural Subsidies
Government Subsidies as a Percentage of
Farm Income, Selected Nations, 2006
0

20

40

60

80

Norway
Switzerland
South Korea
Japan
European Union
Turkey
Canada
Mexico
United States
Australia
Source: Organization for Economic Cooperation and Development
19-13

Economics of Farm Policy
• Rationale for farm subsidies
– Necessities of life
– “Family farm” institution
– Extraordinary hazards
– Competitive markets for output
while inputs have significant
market power
19-14


Economics of Farm Policy
• Agricultural Adjustment Act of
1931 established parity concept
– Particular real output results in
same real income
– Preserve purchasing power
– Rationale for price supports
Parity Ratio =

Prices Received by Farmers
Prices Paid by Farmers
19-15


Economics of Price Supports
•
•
•
•

•
•
•
•

Effective price floor
Generates surplus output
Gain to farmers
Loss to consumers
Efficiency losses
Other social losses
Environmental costs
International costs
19-16


Economics of Price Supports
P
D

S
Surplus

Ps

a

Tax Burden
Of Surplus
Pe

b

c

D

S
0

Qc Qe Qs

Q
19-17


Reduction of Surpluses
• Restricting supply
– Acreage allotments

• Bolstering demand
– Gasohol
– Biodiesel
– Corn based ethanol

• The ethanol program
– Higher food prices
– Secondary effects
19-18

Criticisms and Politics
• Criticisms of parity concept
• Criticisms of price supports
• Symptoms not causes
• Misguided subsidies

• Policy contradictions

19-19


The Politics of Farm Policy
• Public choice theory revisited
• Changing politics
– Declining political support
– World trade considerations

• Recent farm policy
– Freedom to Farm Act of 1996
– Farm Act of 2008
19-20


The Sugar Program
•
•
•
•
•

•

Price supports
Domestic costs
Import quotas
Developing countries
U.S. efficiency loss
Global resource misallocation
19-21


Key Terms
•
•
•
•
•
•
•
•

farm commodities
food products
agribusiness
parity concept
parity ratio
price supports
acreage allotments
Freedom to Farm
Act

• Food, Conservation,
and Energy Act of
2008
• direct payments
• countercyclical
payments (CCPs)
• marketing loan
program

19-22


Next Chapter Preview…

Income Inequality
and Poverty

19-23