The Reform of the Common Agricultural Policy

THE REFORM OF THE COMMONAGRICULTURAL POLICY

Also by K. A. lngersent

AGRICULTURE AND ECONOMIC DEVELOPMENT(with S. Ghatak)

AGRICULTURE AND THE URUGUAY ROUND (with A. J. Raynerand R. C. Hine)

ECONOMIC ANALYSIS OF AGRICULTURE (with B. E. Hill)

Also by A. J. Rayner

AGRICULTURE AND THE URUGUAY ROUND (with K. A. lngersentand R. C. Hine)

CURRENT ISSUES IN AGRICULTURAL ECONOMICS(with D. Colman)

RESOURCE STRUCTURE OF AGRICULTURE (with K. Cowling andD. Metcalf)

Also by R. C. Hine

AGRICULTURE AND THE URUGUAY ROUND (with A. J. Raynerand K. A. lngersent)

GLOBAL PROTECTIONISM

THE POLITICAL ECONOMY OF EUROPEAN TRADE

The Reform of theCommon AgriculturalPolicy

Edited by

K. A. IngersentSenior Research FellowCentre fo r Research in Economic Developmentand International TradeUniversity ofNottingham

A. J. RaynerProf essor ofAgricultural EconomicsUniversity ofNotti ngham

and

R. C. HineSenior Lecturer in EconomicsUniversity ofNottingham

First published in Great Britain 1998 by

MACMILLAN PRESS LTD Houndmills, Basingstoke, Hampshire RG21 6XS and London Companies and representatives throughout the world

A catalogue record for this book is available from the British Library.

ISBN 978-1-349-26103-1 ISBN 978-1-349-26101-7 (eBook) DOI 10.1007/978-1-349-26101-7

First published in the United States of America 1998 by

ST. MARTIN'S PRESS, INC., Scholarly and Reference Division, 175 Fifth Avenue, New York, N.Y. 10010

ISBN 978-0-312-21009-0

Library of Congress Cataloging-in-Publication Data The reform of the common agricultural policy I edited by K. A. lngersent, A. J. Rayner, and R. C. Hine. p. em. Based on a one-day conference held in March 1996 at the University of Nottingham, under the auspices of the Centre for Research in Economic Development and International Trade (CREDIT). Includes biblio~raphical references and indexes. ISBN 978-0-312-21009-0 (cloth) 1. Agriculture and state-European Union countries-Congresses. I. lngersent, K. A. II. Rayner, A. J. Ill. Hine, R. C. HDI918.R43 1998 338.1'84-dc21 97-28031

CIP

Selection, editorial matter and Chapters I and I 0 © K. A. lngersent, A. J. Rayner and R. C. Hine 1998

Chapter 6 © R. W. Ackrill, R. C. Hine and A. J. Rayner 1998 Chapters 2-5 and 7-9 © Macmillan Press Ltd 1998

Softcover reprint of the hardcover 1st edition 1998 978-0-333-68771-0

All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission.

No paragraph of this publication may be reproduced, copied or transmitted save with written permission or in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, 90 Tottenham Court Road, London WIP 9HE.

Any person who does any unauthorised act in relation to this publication may be liable to criminal prosecution and civil claims for damages.

The authors have asserted their rights to be identified as the authors of this work in accordance with the Copyright, Designs and Patents Act 1988.

This book is printed on paper suitable for recycling and made from fully managed and sustained forest sources.

10 9 8 7 6 5 4 07 06 05 04 03 02 01

3 2 00 99 98

1

Contents

List of Tables

List ofFigures

Preface

Notes on the Contributors

List ofAbbreviations

1 Introduction and OverviewK. A. Ingersent, A. J. Rayner and R. C. Hine

Vll

ix

x

Xl

xiii

2 An Ex-post Review of the 1992 MacSharry Reform 12Stefan Tangermann

3 Agricultural Policy Reform in the USA and the EU: AComparison of CAP Reform and the 1996 US Farm Bill 36Tim Josling

4 Implications of the EU East Enlargement for the CAP 54Monika Hartmann

5 Modelling the Outcomes of CAP Reform 76William H. Meyers, Michael D. Helmar and Chad E. Hart

6 CAP Reform and Implications for Member States:Budget and Trade Effects 104R. W Ackrill, R. C. Hine and A. J. Rayner

7 The CAP and the Environment 132Michael Winter

8 The Reform of the CAP and its Impact on Consumers 156S. M cCorriston and C. W Morgan

9 The CAP and the WTO after the Uruguay RoundAgriculture Agreement 175Kenneth J. Thomson

v

VI Contents

10 PostscriptK. A. Ingersent, A . J. Rayner and R. C. Hine

Notes and References

Bibliography

Author Index

Subject Index

189

200

208

218

221

List of Tables

1.1 The CAP: agricultural budget expenditure and importlevy receipts 2

3.1 FAIR timeline 403.2 Agricultural market transition programme (FAIR, Title 1) 423.3 Trade provisions of the Farm Bill (FAIR, Title II) 433.4 Conservation provisions of the Farm Bill (FAIR,

Title III) 443.5 Comparison of MacSharry reform (1992) with US FAIR

Act (1996) 454.1 Importance of agriculture in the CEECs and the

EU-15 (1993) 564.2 Comparison of agriculture in the CEECs and the EU-15 574.3 Agricultural producer prices in selected countries of

Central and Eastern Europe relative to equivalent pricesin the EU-15 (1994) 59

4.4 Comparison of agricultural protection in the EU-12 andselected CEECs (1994) 61

4.5 Agricultural prices and wages in the CEECs relative to EUprices and output/input price structure in the CEECsrelative to the EU (1994) 62

4.6 Gross agricultural productivities in the CEECs and the EU 644.7 Absolute and relative labour productivity and intensity of

labour use in agriculture (1993) 664.8 Determinants of food demand in the CEECs and the

EU-15 (1993) 694.9 Budgetary effects of EU East enlargement 725.1 Assumptions of the baseline and CAP reform scenarios 785.2 Set-aside rates for EU crops under the CAP reform

scenario 835.3 Selected EU grains and oilseeds under the baseline and

CAP reform scenarios 865.4 EU livestock, dairy and poultry meat sectors under the

baseline and CAP reform scenarios 915.5 WorId agricultural commodity prices under the CAP

reform scenario 925.6 Classification of studies, models and base periods 95

vii

viii List of Tables

5.7 Results for EU cereals production, consumption and netexports 99

5.8 Results for EU oilseeds production, consumption andnet imports 100

5.9 Results for EU meat production, consumption and netexports 100

5.10 Results for EU dairy production, consumption and netexports 102

5.1I Results for world price changes 1026.1 Transfers in a 2-country, net-exporting union - summary

of effects 1I26.2 Commodity support policies - a summary 1I46.3 The preferential trade effect 1I66.4 The budget effect 1I76.5 The total budget and trade effect (BTE) 1I86.6 BTE (ECU per capita and percentage of GDP) 1I96.7 Key changes under the 1992 reforms 1216.8 Overall impact of the reforms (1992) 1246.9 Member state gains and losses 1267.1 Number of farmers claiming HLCA in Britain asked to

de-stock 1528.1 Four-firm seller concentration ratios , European food

processing industries 1618.2 Market shares of leading 2/3 firms in the UK food

processing sector 1628.3 Market shares in the UK and German food retailing

sectors (1994) 1638.4 Price transmission and change to consumer surplus with

alternative vertical market structures 1728.5 Price incidence following EU banana market reforms 173

List of Figures

2.1 AMS for cereals in the EU 282.2 FEOGA guarantee expenditure 302.3 FEOGA guarantee expenditure on cereals and set-aside 316.1 Transfers in a 2-country, net-exporting union 1076.2 Gains and losses pre-MacSharry reform 1256.3 Impact of MacSharry 1267.1 Social value of land by intensity of production 1367.2 UK agriculture output, current prices 1387.3 UK agriculture, key input indicators at current prices 1397.4 Fertiliser inputs in England on an average farm 1397.5 Arable fertiliser usage in Great Britain 1407.6 Grassland fertiliser usage in Great Britain 1407.7 Land prices in England and Wales 1437.8 Area of set-aside in England, Scotland and Wales 1457.9 Set-aside in Great Britain in 1992/93 1457.10 Set-aside in Great Britain, 1993/94 1467.11 Set-aside in Great Britain, 1994/95 1467.12 Percentage of eligible ESA land under agreement or

with applications pending 1548.1 The food chain 160

1X

Preface

The original inspiration for this book came from a one-day conference,'Common Agricultural Policy Reform: What Next?', held in March1996at the University of Nottingham, under the auspices of the Centrefor Research in Economic Development and International Trade(CREDIT). Four chapters of this book are based upon papers presented at that conference. A further four are by authors who weresubsequently invited to make contributions. It has been a pleasureworking with our contributors and we are extremely grateful to all ofthem, not only for their hard work but also for their patience with us inbringing this enterprise to a successful conclusion.

Notes on the Contributors

R. W. Ackrill is Lecturer in European Economics, University of Leicester.

Chad E. Hart is a Research Assistant, Centre for Agricultural andRural Development (CARD), Iowa State University, USA.

Monika Hartmann is a Research Fellow in the Institute of AgriculturalDevelopment in Central and Eastern Europe, University of Halle,Germany.

Michael D. Helmar is a Senior Research Analyst, Centre for Agricultural and Rural Development (CARD), Iowa State University, USA.

R. C. Hine is Senior Lecturer in Economics and Research Fellow inCREDIT, University of Nottingham.

K. A. Ingersent is a Research Fellow in CREDIT, University of Nottingham.

Tim Josling is Professor and Senior Fellow, Food Research Institute,Stanford University, USA.

S. McConiston is Reader in Agricultural Economics, University ofExeter.

William H. Meyers is Professor of Agricultural Economics, Centre forAgricultural and Rural Development (CARD), Iowa State University,USA.

C. W. Morgan is Lecturer in Economics and Research Fellow inCREDIT, University of Nottingham.

A. J. Rayner is Professor of Agricultural Economics and ResearchFellow in CREDIT, University of Nottingham.

Stefan Tangermann is Professor ofAgricultural Economics, Institute ofAgricultural Economics, University of Gottingen, Germany.

xi

xii Notes on the Contributors

Kenneth J. Thomson is Professor of Agricultural Economics, University of Aberdeen.

Michael Winter is Professor of Rural Economy. Cheltenham andGloucester College.

List of Abbreviations

AAPSACP

ADASAMSAMTAARPBEBSPBSEBTECAPCARDCARICOMCCCCEECsCEFTACLACRPDEIPECECUEEPEMSEMUEQIPESAEUFACTAFAIRFAPRIFEOGA

FFAGATT

Arable Area Payment SchemeAfrican, Caribbean and Pacific developing countriesthat are signatories with the EC to the Lome ConventionAgricultural Development Advisory ServiceAggregate Measure of SupportAgricultural Market Transition ActAcreage Reduction ProgrammeBudget EffectBeef Special PremiumBovine Spongiform EncephalopathyBudget and Trade EffectCommon Agricultural PolicyCentre for Agricultural and Rural DevelopmentCaribbean Community Customs UnionCommodity Credit CorporationCentral and Eastern European CountriesCentral European Free Trade AgreementCountry Landowners AssociationConservation Reserve ProgrammeDairy Export Incentive ProgrammeEuropean CommunityEuropean Currency UnitExport Enhancement ProgrammeEuropean Monetary SystemEuropean Monetary UnionEnvironmental Quality Incentive ProgrammeEnvironmentally Sensitive AreaEuropean UnionFood, Agriculture, Conservation and Trade ActFederal Agricultural Improvement and Reform ActFood and Agricultural Policy Research InstituteEuropean Agricultural Guidance and GuaranteeFundFreedom to Farm ActGeneral Agreement on Tariffs and Trade

xiii

XIV

GDPGNPHLCAlACSLFALUMAAFMCAMERCOSUR

MGAMGQMISSNAFTANEIONFUOECD

PHARE

PSEPTERCRSPBSAPSSCPSMUSSSISWOPSIMTASSURAAUSDAWTO

List ofAbbreviations

Gross Domestic ProductGross National ProductHill Livestock Compensatory AllowancesIntegrated Administration and Control SystemLess Favoured AreaLivestock UnitMinistry of Agriculture , Fisheries and FoodMonetary Compensatory AmountThe Common Market agreement between Argentina,Brazil, Paraguay and UruguayMaximum Guaranteed AcreageMaximum Guaranteed QuantityModele International Simplifie de SimulationNorth American Free Trade AgreementNew Empirical Industrial OrganisationNational Farmers UnionOrganisation for Economic Co-operation and DevelopmentPoland and Hungary Action for Restructuring of theEconomyProducer Subsidy EquivalentPreferential Trade EffectNon-Agricultural Resource ContributionRoyal Society for the Protection of BirdsSheep Annual Premium SchemeSuckler Cow PremiumSupport Measurement UnitSpecial Site of Scientific InterestStatic World Policy Simulation ModelTrade Analysis Simulation SystemUruguay Round Agreement on AgricultureUnited States Department of AgricultureWorld Trade Organisation

1 Introduction andOverviewK. A. Ingersent, A. J. Rayner and R. C. Hine

1.1 BACKGROUND TO REFORM OF THE COMMONAGRICULTURAL POLICY

From the earliest days of agricultural protection in Western Europe,the central objective of government policy has been to maintain farmprices on the domestic market above the level set by the price ofimports. For many decades, the simple import tariff was the mainprotective instrument employed. The variable import levy - a sophisticated variant of the tariff - was the cornerstone of the protectivecommodity regimes established by the Common Agricultural Policy(CAP) in the 1960s. A threshold price was set in relation to an internal' ta rget' price and a variable levy equal to the difference between thethreshold price and the lower world price was imposed on imports.Exports, not very important at that time, benefited from a variableexport subsidy (restitution) equal to the difference between the marketprice in the Community and the selling price on the world market.Intervention buying put a floor to the market, at the intervention price.The system proved to be remarkably resilient for many years butmainly budgetary pressures eventually led to reductions in real supportprices and to limits being placed on the guarantees. The central problem was that aggregate supply, influenced by autonomous technological innovation and maintained by high support prices, grew rapidlyand faster than consumption, whose growth rate was limited by a lowincome elasticity and low population growth. With productionexpanding faster than consumption, the Community was transformedfrom a net importer of temperate zone agricultural products to a netexporter in the aftermath of the first expansion of the EC-6 to EC-9 inthe early 1970s. The CAP became an increasing burden on the ECbudget as the volume of subsidised exports rose and interventionstocks increased. Moreover, low world prices in the mid to late 1980smeant that the gap to be bridged by export subsidies widened in theseyears . As a result , support costs grew inexorably and the ratio of

2 Reform of the Common Agricultural Policy

total agricultural import levies to total CAP guarantee expenditureschanged radically for the worse over the period 1976-91. The relevantstatistics relating to the EC-9 are shown in Table 1.1. Even at thebeginning of this period, import levy receipts only covered about 20per cent of guarantee expenditures but by the end the proportion wasdown to about 5 per cent and apparently still declining.

Table 1.1 The CAP: agricultural budget expenditure and importlevy receipts

Year

1976197719781979198019811982198319841985198619871988198919901991

FEOGA Import Levy Import Levy ReceiptsGuarantee Receipts as % GuaranteeExpenditure (m.ECU) Expenditure(m.ECU)

5721 1040 186830 1868 278673 1873 22

10314 1679 1611315 1535 1411141 1265 1112406 1522 1215956 1347 8.416543 1947 1220464 1122 5.522911 1176 5.123876 1626 6.828830 1505 5.227225 1419 5.229742 1152 3.933306 1218 3.7

Source: Ingersent and Rayner (1993)

The first attempt to reform the CAP came in 1968 with the MansholtPlan (EC Commission, 1968) which proposed a 'prudent' price policyand measures to stimulate structural adjustment. A watered-downversion of Mansholt's structural plan was put into effect in 1972 butessentially the CAP remained unreformed. Despite the publication ofvarious Commission papers addressing the need for reform, no reallysignificant policy changes occurred until the 1980s when the spirallingbudgetary costs of the CAP forced the issue onto the political agenda.In 1982, 'guarantee thresholds' were introduced for grains such thatprice cuts were to be triggered if production exceeded threshold quantities. In 1984, dairy quotas were introduced to restrict milk production.

Introduction and Overview 3

In 1988, guarantee thresholds were extended to other products such asoilseeds and their operation made more effective; they were renamed'stabilisers' to indicate that price support was no longer open-ended.At the same time a budget ceiling was placed on agricultural expenditure and it appeared (and the Commission hoped?) that with containment of the agricultural budget a viable CAP was in place for theforeseeable future.

In the event, the CAP reform measures undertaken in the 1980sturned out to be mere holding devices. Pressures external to the ECre-opened reform issues. Trade tensions created by the emergence ofstructural surpluses of major commodities on world markets by themid-1980s and the budgetary and political costs of competitive exportsubsidisation brought agricultural protectionism to the forefront of theinternational economic policy agenda. In the Uruguay Round ofthe GATT launched in 1986, a high priority was given to reformingtrade in agriculture which had previously been subject to variouswaivers from normal GATT rules and disciplines. Pressure to includeagricultural trade in the Round came from the major producers whoenjoyed a comparative advantage in temperate zone farm productssuch as Argentina, Australia, Canada and New Zealand and , mostimportantly, from the United States. At the outset of the Round, therewas conflict between the major players - the US, the EC, the CairnsGroup (a group of 14 agricultural exporters) and Japan - over thenature, extent and pace of the reform of trade in farm products (see,for example, Ingersent et al. 1994). Whilst the US and the CairnsGroup were determined to reduce, if not eliminate, trade-distortingprotection the EC was equally resolved to preserve the mechanisms ofthe CAP. After protracted and convoluted negotiations, including abreakdown of the talks in 1990 (at the Brussels meeting), the contracting parties agreed in 1991 to work towards an agreement on the basisof reducing farm supports in each of three areas: internal assistance,border protection and export subsidies. However, in 1991 , as from thestart of the Round, agreement appeared possible only if the CAP wasreformed in a manner which reduced its trade-distorting impacts. Aquite radical CAP reform proposal- the MacSharry plan - first tabledwithin the EC Commission in February 1991 and finally agreed by theEC Council of Farm Ministers in a revised form in May 1992 provided the impetus for a conclusion to the Round towards the endof 1993. The central elements of the MacSharry plan are a phasedreduction in support prices towards world market levels, particularlyfor cereals, coupled with set-aside in the arable sector and the


supplementation of fanners' incomes with direct income payments.The direct payments are two types of compensation payments : first,for the support price reductions on a fixed production base and,second, for taking arable land out of production.

The radical element of the 1992 MacSharry reform ofthe CAP is thereplacement of the variable levy/variable export refund by taxpayerfinanced direct income payments as the principal instrument for thestate support of agriculture. Trade distortions emanating from supportare reduced, although not eliminated given the partial commoditycoverage, incomplete decoupling and incomplete removal of thewedge between domestic and world prices embodied in the reformedCAP . The budgetary cost of direct payments is more controllable andpredictable than the export subsidy cost ofmarket price support and iscapped by the combination of the unit rate of subsidy and the fixedproduction base. The overall budget cost of the CAP rises if theexpenditure on compensation payments exceeds the reduction inexport subsidies stemming from price reform. Finally, users/consumersof farm-produced commodities benefit from any reduction in marketprices stemming from the (partial) switch away from price support.

1.2 SUMMARY DETAILS OF CAP REFORM

The 1992 CAP reform covered most farm sectors (although not sugaror wine) but discussion here is confined to the arable sector (cereals,oilseeds and protein crops) and ruminant livestock (sheep and beef).

In the arable sector, cereal support prices have been reduced in aphased manner by 29 per cent over the three crop-years 1993/4-95/6.Compensation for the price cut takes the form of a fixed area paymentbased upon the product of the gap between the 'old ' and 'new' supportprice and the 'fixed' regional average yield.I Eligibility to receivecompensation is conditional upon participation in a scheme of 'voluntary' arable land set-aside, with the set-aside percentage initially set at15 per cent. In order to avoid production spillovers into other farmproduction, scheme participants are not allowed to produce any foodcrops on set-aside land. Small-scale producers, defined as those thatproduce not more than 92 tonnes of cereals per annum (approximately20 hectares at the Community average yield), are exempt from setaside. Fanners receive compensation area payments not only on landplanted with arable crops but also on set-aside areas. In fact, sinceland which is set-aside yields no crop revenue, set-aside payment rates


are somewhat higher than area payments on land in production.Finally, as far as oilseeds and protein crops are concerned, area payments, similar but larger than those for cereals, are available providedproducers cross-comply with arable set-aside.

In the sheep sector, open-ended ewe headage payments were replacedby total payments to individual flock owners limited by the size of flockfor which they claimed a headage payment in the pre-1992 period(termed the 'reference flock'). The number of ewes comprising thereference flock is a sheep quota. The penalty for exceeding the quotais forfeiture of the headage payment on all 'surplus' ewes. Quota rightsare transferable amongst flock owners within a region except that 15per cent of all transfers must be surrendered without payment to anational reserve (for the benefit of new entrants). Regardless of reference flock size, there is a ceiling upon the maximum number of ewes ina single flock eligible to receive the full payment - 1000 and 500respectively for flocks in less-favoured (mainly upland) and other(mainly lowland) regions. Above these ceilings, flock owners qualifyfor headage payments on the surplus ewes at half the normal rate.

Reform of the beef sector was similar to that of the sheep sector,though differing in detail. A first difference is that an element ofintervention buying is retained for beef; however , the interventionprice was cut by 15 per cent and a tighter ceiling placed on intervention sales. In compensation for the price cut, cattle headage rates wereraised by around 100 per cent but were subject to tighter qualifyingrestrictions. Two categories of cattle qualify for beef headage payments: suckler cows and 'male bovine animals' (bulls and steers) . Inboth cases, the number of animals qualifying for the full headagepayments is subject to restrictions. First, total regional payments arerestricted to the regional reference herd; second, payments on adultcattle are restricted to a maximum of 90 per claimant; third, all payments are subject to a maximum stocking rate or 'density factor' .Exceeding the stocking rate ceiling disqualifies herd owners fromreceiving headage payments, but if the stocking rate is 'low' herdowners qualify for an additional payment (or extensification payment).

The 1992 reform left the dairy quota regime combined with administered prices of milk and milk products virtually intact, apart from asmall-producer price reduction. The budgetary cost of the dairy regimearises from the costs of storing and disposing of excess production atthe support price.

Bearing in mind that Ee sugar producers are subject to supplycontrol in the form of production quotas (although the 1992 reform


did not alter the sugar regime), it is apparent that virtually all themajor temperate zone agricultural sectors, except wine, are now subjectto ceilings, either on the quantity of production (milk and sugar), orthe crop area (arable crops), or the number oflivestock (sheep and beefcattle) eligible for support financed either from the budget or byconsumers . The only significant exceptions to this generalisation arepigs, poultry and horticultural products, all of which receive onlyminimal support under the CAP.

1.3 MOTIVATION, IMPACTS, IMPLICATIONS AND FUTUREDIRECTIONS OF CAP REFORM

The radical nature of the 1992 CAP reform prompts two questions.First, what motivated the switch away from market price support todirect income support? Second, what determined the timing of thereform? In Chapter 2, 'An Ex-post Review of the 1992 MacSharryReform', Stefan Tangermann provides answers to these two questionsand explains how the motivation for, and timing of, reform wereintertwined. His central premise is that whilst CAP reforms prior to1992 were essentially budget-driven, 'the major political force behindthe MacSharry reform was the need to prepare the CAP for a GATTagreement on agriculture' . Having set the reform in context, Tangermann examines its effectiveness in relation to the commitments madeby the EU in the Uruguay Round Agreement on Agriculture (URAA).He concludes by noting that although the MacSharry reform was aremarkable achievement, it was the start rather than the end of theredirection ofagricultural policy in the EU. Specifically,further reformis required to allow the EU to comply with its commitments under theURAA, to prepare for the next round of negotiations, scheduled for1999, under the auspices of the World Trade Organisation (WTO) andto incorporate the Central and Eastern European Countries (CEECs)in the Union at some future date .

It is evident from Tangermann's chapter that policy innovationoccurs in circumstances where an existing policy has become untenableand has to be amended in the light of new realities. Tim Joslingexpands on this theme in Chapter 3 in discussing 'Agricultural PolicyReform in the USA and the EU: A Comparison of CAP Reform andthe 1996US Farm Bill'. Josling notes that whilst there are fundamentalsimilarities in the forces pushing for reform in the EU and the US, theEU has been slower than the US in revising out-dated commodity


policies. In particular, he points out that the MacSharry reform issimilar to the 1985 US Farm Bill with its quasi-decoupled paymentswhereby farmers had to plant specific crops and comply with set-asideconditions in order to obtain subsidies. By contrast, the 1996 FarmBill, the Federal Agricultural Improvement and Reform Act (FAIR),represents a sharp departure from past policy in that it decouplessubsidies from production decisions - farmers receive 'contract' payments without any preconditions except that of past participation incommodity programmes. Whilst CAP reform has moved EU agriculture further down the supply control route by making set-aside acondition of compensation, the FAIR Act has removed restrictionson US farmers and increased market orientation in a number ofcommodity sectors. Josling contends that the EU could usefully learnfrom the FAIR Act in adapting the CAP to the reform imperatives thatare common to both the US and the EU. He asserts that a redirectionof EU policy like that taken by the US is required to rationaliseproduction, reduce transatlantic agricultural trade tensions and facilitate the integration of the agriculture of the CEECs into the CAP.

Taken together, the chapters by Tangermann and Josling providethe reader with both analytical insights and a historical perspective onthe current state of agricultural policies in the EU and the US. Theydiscuss the driving forces leading to recent reforms, the effectivenessofthe measures adopted, the likely permanence of the latest policies andthe reasons why further policy revisions are required .

The prospective difficulties of Eastern enlargement of the EUwithout further CAP reform is a policy issue noted by both Tangermann and Josling. Monika Hartmann takes up this theme in Chapter4, 'Implications of the EU East Enlargement for the CAP' . Sheexplains why agriculture is a sensitive sector in the integration of theCEECs into the EU. Hartmann reviews estimates of the budgetaryimpact on the EU of implementing the current (1992 reformed) CAP inthe CEECs. She explains that substantial cost increases would beincurred in both the guarantee and structural sections of the CAPbudget imposing a significant burden on the EU budget. Hartmannconcludes by examining alternative integration strategies and notesthat a positive strategy would entail a continuation of the MacSharryreform.

The radical nature of the 1992CAP reform gave rise to considerableinterest by policy-makers and industry groups as to the likely impactsof the reform. It was expected that the MacSharry plan would havesignificant effects on EU and world markets and quantification of the


direction and magnitude of the changes was the concern of a numberof modelling groups on both sides of the Atlantic. One such group inthe US, the Centre for Agricultural and Rural Development (CARD)in conjunction with the Food and Agricultural Policy ResearchInstitute (FAPRI), carried out a particularly comprehensive forwardlooking modelling exercise soon after CAP reform was announced.CARD Research Fellows, William Meyers, Michael Helmar and ChadHart report on 'Modelling the Outcomes of CAP Reform' in Chapter5. They describe their modelling system, present estimates of impactsand compare their results with those from other studies and with actualoutcomes on the main EU commodity markets over the period 1993-5.Meyers et al. find that their predictions and those from the othermodels surveyed were in accordance with actual outcomes for thedirection and size of changes in EU production of cereals, oilseeds,meat and dairy products and net trade in cereals and oilseeds. However, the predictions for the impact of CAP reform on net trade in meatand dairy products diverged significantly from actual outcomes. Estimates are also given for the impact of the 1992 reform on world pricesbut these are not compared to actual price changes given the importantinfluence that variables other than CAP policy changes have on suchprices. The forward-looking modelling of CAP reform described inChapter 5 is an important component of positive policy analysis. Itprovides insights into the probable impact of policy change on keyvariables of interest to policy- and other decision-makers. Furthermore , the process of modelling is instructive in providing an understanding of the interaction between policy instruments and markets.

Chapters 6, 7 and 8 deal with some of the implications of the 1992CAP reform not covered in detail in the earlier chapters. They examinesequentially the burdens and benefits of the CAP for member states,the influence of the CAP on the environment and the transmission ofCAP support prices to the consumer.

Chapter 6 by Robert Ackrill, Robert Hine and Tony Rayneraddresses the issue of redistribution of the burdens and benefits ofthe CAP between the member states of the EU arising from the 1992reform. The so-called 'three pillars' of the CAP - community preference, common prices and common financing - give rise to transfersbetween member states. An EU exporter gains from market pricesupport (and an importer loses) by selling farm produce to (buyingfrom) partner countries at the support price which is higher than theworld price. This element of redistribution is known as the PreferentialTrade Effect (PTE) of the CAP on a member state. An exporter who


disposes of a surplus on the world market with the aid of an exportsubsidy gains by virtue of a transfer from the EU budget; conversely,an importer who buys from the world market transfers import levies tothe EU budget. The transfer of net agricultural receipts from (to) thebudget to (from) the member state minus any cross-subsidisation ofagricultural spending from other, non-agricultural resources paid tothe budget by the member state represents the net budgetary transfer ofthe CAP. This element of redistribution is known as the Budget Effect(BE) of the CAP on a member state. The overall benefit (or burden ifnegative) of the CAP for a member state is the sum of the PTE and theBE. A crude generalisation of the pattern of transfers arising frommarket price support, the 'old' CAP, is that an importer loses fromboth the PTE and the BE whilst the exporter gains from the twoeffects. Ackrill et a/. provide both a simple abstract model and estimates of the impact of 1992 CAP reform on these transfers . They findthat both from the theoretical perspective and empirically the 1992reform is broadly neutral as far as redistribution between memberstates is concerned; that is, the reform makes no substantial differenceto the distribution of the burdens and benefits amongst member states.

The theme of Chapter 7, by Michael Winter, is 'The CAP and theEnvironment' with special reference to the available evidence on theimpacts of the 1992 reform on landscape and wildlife habitats. Winterdistinguishes between direct impacts linked to the intensity of production and indirect impacts due to structural change. He also analyses theinfluence of changes in sector-specific programmes such as the introduction ofarable set-aside and alterations in the compliance conditionsfor beef and sheep subsidies. As Winter points out , 'prior to 1992,developments in the CAP were inimical to the natural environment'and he finds that the reform has done little to bring about an improvement . He puts forward two reasons why the 1992 reform has, so far,had a negligible impact: firstly, the reform measures were insufficientlyfocused on environmental improvement and, secondly, unexpectedmarket developments altered the course of these measures. Winterconcludes by noting that market, technological and political signalsinteract with policy programmes to determine production practices onthe farm and thereby the landscape and other aspects of the ruralenvironment.

Chapter 8 by Steven McCorriston and Wyn Morgan examines 'TheReform of the CAP and its Impact on Consumers'. Their overridingconcern is with the distribution of the benefits of a reduction in farmsupport prices to agents in the food chain; that is, the extent to which


food processors, food retailers and consumers each receive increasedrents (economic surpluses) when commodity prices at the farm gatedecline. The specific focus of their chapter is on vertical links in thefood chain and how market structure influences the transmission ofchanges in farm support prices into changes in retail prices. McCorriston and Morgan point out that the food processing and retailingsectors are highly concentrated so that there is a prima facie case forassuming that firm behaviour will be imperfectly competitive in thesesectors . They present a formal theoretical model of price transmissionwhich incorporates imperfect competition throughout a vertical chainof markets and permits consideration of alternative forms of contractsbetween the vertical stages. The result ofthe model is that the degree ofprice transmission is endogenously determined by the nature of competition, firm behaviour and the number of firms throughout the foodchain . The main implication of the model is that without perfectcompetition throughout the food chain, the degree of price transmission of changes in farm support prices will be less than perfect; aportion of the anticipated gain in consumer surplus from policy reformwill be reflected instead in increased rents to firms in the food chain.

Kenneth Thomson provides a forward-looking perspective in Chapter 9, 'The CAP and the WTO after the Uruguay Round AgriculturalAgreement '. He begins by surveying the commitments made by the EUunder the URAA as regards agricultural policy over the six years1995-2000 with specific reference, inter alia, to domestic support,market access and export subsidies. Thomson next reviews the implementation of the URAA by the EU and notes that because of recentmarket conditions ('high' world prices for certain commodities) few ofthe commitments 'have begun to bite'. He then examines the Commission's views for developing the 1992 reform, as laid out in the recentAgricultural Strategy Paper (EC Commission 1995), in relation to theED's commitments under the URAA. He also notes the implicationsfor enlargement of the EU in respect of the CEECs ' URAA commitments and the requirement for URAA signatories to initiate furthertrade negotiations in 1999. The likely interaction of accessionnegotiations with the post-1999 WTO negotiations will be a factorcomplicating the future direction of the CAP but Thomson is sanguinethat the ED will be able to arrange enlargement according to itsdomestic interests without there being subsequent major changesrequired by the WTO negotiations. Thomson concludes that in anyfurther reform of the CAP there will be a choice, as in the past,'between supply control and price reduction with the issue of compen-


sation a sensitive and important side-issue'. He doubts if there ispressure in the short-run for any major changes in the 1992 CAP,but an overhaul of the policy may be required in the next decadewhen the URAA export commitments have to be met in full and asCEEC enlargement looms.

There is broad agreement amongst the authors that the 1992 CAPreform is permanent in that further policy change will represent anevolution of the MacSharry policy and there will not be a reversion towholesale price support and protection. In addition, there is a consensus that there is no great urgency for further CAP reform in theshort term (see Tangermann, Josling and Hartmann as well as Thomson) but policy revision is generally regarded as inevitable in themedium term (say by the turn of the century) . The next step alongthe path of reform seems likely to be taken as a response to internaland/or external pressures rather than for the ideological reasons thatpartly prompted the FAIR in the US. Internal budgetary pressuresconnected especially perhaps with EU enlargement are likely to exertan influence on the pace and timing of future adjustments to the 1992CAP reform package. In this regard, unforeseen political events withinEurope which slow enlargement may put a brake on CAP reform.External political pressures through the WTO negotiations scheduledto begin in 1999 are also likely to require the EU to continue reducingexport subsidies, improving market access and reducing support levels;they may also require an adjustment to the form in which compensation payments are made (elimination of the 'blue box') . However, theeffectiveness of such pressures may be affected by world market developments (especially price trends) and/or policy adjustments elsewhere,particularly in the US.

Some informed speculation concerning future reform of the CAP inresponse to perceived pressures is contained in the commissionedchapters. The editors have chosen not to attempt to add to this speculation. Rather, in a final 'Postscript' chapter, we briefly review recentdevelopments in official (Commission) thinking about further CAPreform beginning with the Commission's 'Agricultural StrategyPaper' published in November 1995 (EC Commission 1995).

2 An Ex-post Review of the1992 MacSharry ReformStefan Tangermann

2.1 INTRODUCTION

The long and multifarious history of the CAP could easily be writtenup as a history of attempts at reforming this policy - mostly failedattempts, one should say.' It was not until the CAP had existed forabout two decades that the first notable adjustments were made in themid-1980s, with the introduction of milk quotas and budgetary 'stabilisers'. However, these policy changes cured symptoms rather thancauses. Another decade had to pass before more fundamental changeswere introduced under the MacSharry reform. Now the process ofCAP reform appears to accelerate. The third and last annual step ofimplementing the MacSharry reform was made in mid-1995, as thenext round of CAP reform appeared, introduced by CommissionerFischler's Agricultural Strategy Paper in the context of preparing theEuropean Union for Eastern enlargement.i

This may, therefore, be an appropriate moment to review pastCAP reforms, and in particular the MacSharry reform. In the presentpaper I shall not assess the economic achievements and failures of theMacSharry reform in any general sense.' I shall, rather, discussthe motivation behind the MacSharry reform, and comment on theeffectiveness of that reform in the light of its own aims.

For this purpose, I shall start with a short look at CAP reformsbefore MacSharry (Section 2.2). I shall , then , briefly review the reasoning provided by the Commission for the MacSharry reform proposal(Section 2.3). Against this background I want to discuss the relationship, as I see it, between the MacSharry reform and the UruguayRound negotiations on agriculture in the GAIT, telling a somewhatspeculative story of the political strategy that CommissionerMacSharry may have pursued at the time (Section 2.4). As a laststep I want to make a few comments on the effectiveness of theMacSharry reform (Section 2.5), before drawing some conclusions(Section 2.6).

12

Review of the MacSharry Reform 13

In my view, the MacSharry reform was an absolutely remarkableachievement, and a major departure from earlier attempts at reformingthe CAP. This is a political judgement, based on the way the MacSharry reform was staged. I also believe that in economic terms thisreform made a step in the right direction, though this step was notlarge enough. I also feel that the economic improvements broughtabout by this reform were bought at an unnecessarily high cost interms of imposing more government control on farmers. Thus in myview much unfinished business remains after the MacSharry reform.However, this is not what I want to discuss in this particular paper.Hence, when I praise the MacSharry reform as a major achievementhere, the reader should note that this is not intended to say that furtherimprovements cannot be made.

2.2 CAP REFORMS BEFORE MACSHARRY

The CAP was just about established in the late 1960s, after a difficultprocess of finding agreement among the then six member states withwidely diverging agricultural conditions and policy philosophies, whenthe first major attempt at reforming it was made by the Commissionerresponsible for agriculture at the time, Sicco Mansholt. The MansholtMemorandum called for a 'prudent' price policy and strong measuresto foster structural adjustment in agriculture. After three years ofheated debate, this first attempt at reforming the CAP boiled downto no more than a set of weak socio-structural measures (farm modernisation, early retirement of farmers and retraining for agriculturalworkers). At the time, structural change in agriculture was rapid anyhow, and was at best mildly enhanced by the Mansholt measures. Pricefixing under the CAP, which may have been 'prudent' for a few yearsafter Mansholt had issued his proposals, became definitely less sowhen inflation rose sharply in the early 1970s and world marketprices for agricultural products boomed in the mid-1970s. The'prudent' price policy was replaced by the 'objective method' whichcalculated the CAP price increases necessary to keep the trend of farmincomes in line with incomes outside agriculture. Not much thenremained of Mansholt's plans for reforming the CAP and Europeanagriculture.

Not much more effective were the various reform documents produced by successive Commissioners for agriculture in the 1970s. The'Improvement' paper of 1973, issued by Commissioner Lardinois,


addressed the important issue of price ratios among products - withoutmuch effect on actual policy-making in the years to come - andintroduced the notion that farmers should contribute to financing thedisposal of surpluses, a concept which five years later was turned intothe co-responsibility levy collected from dairy farmers . The 1975'Stocktaking' paper of Lardinois had something more fundamentalto say about the appropriateness of the CAP and the need for reform.However, it coincided with the boom in world market prices, andremained largely ineffective as pressures for reforming the CAP werenot really felt in that period. Similar was the fate of CommissionerGundelach's two reform papers, on 'The Future Development' of theCAP in 1978 and the 'Reflections' document of 1980.

More momentous were the Commission's responses triggered by theCouncil mandate of May 1980 and by market and budget developments in the early 1980s.The Commission's 'Mandate Report' and the'Guidelines for European Agriculture', both issued in 1981,introducednew notions. The level of CAP support prices, the Commission proposed, should be brought in line with those of major competing countries (in particular the USA), and price guarantees should be limited togiven quantities. However, not much happened until a major budgetary crisis emerged. After a somewhat more relaxed period, FEOGAguarantee expenditure jumped by 20 per cent in 1983 and another 10per cent in 1984.The Community's budget was (more than) exhausted,and trick solutions had to be found to save the Community frombankruptcy. The policy response came promptly and was pronounced.In 1984 milk quotas were introduced. In 1988 a ceiling was placed onFEOGA expenditure, and 'stabilisers' were adopted which triggeredprice cuts and co-responsibility levies if agricultural productionexceeded predetermined thresholds . These measures amounted to apolicy change which could, for the first time in the history of theCAP, be called a true 'reform'.

By their very nature; these reforms of the 1980s were directly targeted at achieving one central aim, control of the budgetary implications of the CAP. The introduction of quotas on milk production didnot cure any underlying problem resulting from high price support formilk. Indeed, it perpetuated the old policy, and just suppressed one ofits most visible symptoms, the increasing level of surplus and, inparticular, FEOGA expenditure. The establishment of 'stabilisers'was directly targeted at the budget, and left policy adjustments to thefuture. Indeed, in that part of the history of the CAP the ebb and flowof the intensity of efforts to reform the CAP was a direct function of


the budgetary situation of the Community. When enough money wasavailable, there was little interest in discussing CAP reform. Whenthe budgetary situation became tighter, thinking about a reform ofthe CAP intensified. Even the annual rates of change in support pricescould be directly related to the development of FEOGA expenditure."In other words, at that time any debate about CAP reform, and eventhe day-to-day pursuit of the CAP, was strongly driven by budgetaryconsiderations.

Analysts of CAP reform in the 1980s largely agree on this view of theprocess of policy-making under the CAP. Moyer and Josling (1990, p.24) have noted that 'the economic pressures for agricultural policyreform in the EC at present [i.e. in the late 1980s] come largely fromthe high financial cost of the policy. The recent escalation of CAPcosts, relative to the resources available to the EC to spend on allpolicies, provides the most urgent signal that change is necessary.'They summarise their findings on agricultural policy reform in theUSA and the EC in the 1980s in the statement that 'all of these reformscame during a budget crisis when policy-makers were concerned aboutrapidly increasing expenditures. We have seen that a budget crisisprovides a strong impetus for agricultural reform' (Moyer and Josling,1990, p. 209). Petit et al. (1987)5 describe the process of CAP reformas being mainly driven by the 'fundamental budget-farm income contradiction', where concerns about insufficient farm incomes leadpolicy-makers to raise CAP support prices, while budgetary constraints trigger reforms.

2.3 THE REASONING BEHIND THE MACSHARRY REFORM

It is against this background of past CAP reforms driven by the budgetconstraint that we must ask ourselves what the motivation was whichled Commissioner MacSharry to submit his reform proposal, and whatthe reasons were for the Council of Ministers in the end adopting it. Inan attempt to find answers to these questions, let us, first, take a lookat what the relevant Commission documents said at the time. Thedocument which proposed the concrete structure and parameters ofthe MacSharry reform'' had little to say about the reasons behind it,but referred back to the 'Reflections Paper' of the Commission whichhad been issued five months before and had made the real start to thedebate about this round of reform," In that earlier document,the Commission pointed out that the CAP had been created when


Europe was in deficit for most food products, but that it had revealed anumber of deficiencies as the Community had moved into surplus formost products. These deficiencies identified by the Commission werethe following :

• Production grew much more rapidly than consumption. Hencestocks had built up, the Community had to export more and moreon to a stagnant world market, and tensions had arisen between theCommunity and its trading partners.

• Support linkedto production had stimulated negative environmental externalities.

• Price support concentrates support on the largest and most intensivefarms. 80 per cent of support provided by FEOGA went to 20 percent of farms.

• Per capita incomes in agriculture had improved very little, while theagricultural population was declining sharply.

• This was difficult to accept in the context ofever-increasing FEOGAexpenditure. The contrast between rapidly growing budget expenditure and a slow growth of farm incomes showed clearly that the CAPwas not able to attain its objectives as laid out in Article 39 of theTreaty of Rome.

In the Commission's view, the reforms of the 1980s had not sufficedto solve these problems. Surpluses continued to grow, and the trend onthe cereals market was especially worrying. The FEOGA budget for1991 was 20 per cent above that for the previous year, and anotherincrease by 12.5 per cent was expected for the 1992 expenditure. Thestabilisers policy had 'not involved - and indeed did not have as anobjective - fundamental reform of the CAP' as it had not attacked theunderlying problems. The CAP found itself 'once again confrontedwith a serious crisis', both internally as farmers were confused andworried, and externally where the Community's trading partnersaccepted less and less 'a Common Agricultural Policy whose increasingsurpluses weigh more and more heavily on world markets' .

The objectives of the new reform were specified as follows.

• Sufficient numbers of farmers had to be kept on the land.• Growing emphasis was to be placed on the role of farmers as

managers of the environment.• Rural development should be promoted not only in the primary

sector, but also through other forms of economic activity.


• Production should be controlled 'to the degree necessary to bring themarkets back into balance'.

• The market organisations should also encourage extensification.• The Community had to 'accept its responsibilities as the leading

world importer and second leading exporter' of agricultural products.

• The CAP principles of a single market, community preference, andfinancial solidarity had to be applied 'as originally intended'. Thismeant 'correcting the excesses which had developed over the years'.Financial solidarity implied 'the need also for a better distribution ofsupport', and support instruments were to have 'a more directimpact on the returns to producers'.

• 'The agricultural budget should then become an instrument for realfinancial solidarity in favour of those in greatest need.' Direct aidwas to be 'modulated in function of factors such as size, income,regional situation or other relevant factors'. Quotas and set-asideshould also be modulated in this way.

None of the deficiencies identified by the Commission, and none ofthe objectives set for the MacSharry reform, was new in any way. Allof them can be found, in one way or another, in earlier Commissiondocuments on the need to reform the CAP. At best there was a certainshift in emphasis. Perhaps the most notable innovation was theincreased weight placed on the effects of the CAP on income distribution within agriculture. The statement on the distributional implications of FEOGA expenditure to the effect that 80 per cent of supportgoes to 20 per cent of farmers (a claim which, to my knowledge, hasnever been statistically substantiated by the Commission) became astandard argument in the agricultural policy debate, and it was muchused to emphasise the need for 'modulation' of policies in favour ofthesmaller farms . However, even the term 'modulation' had been used inearlier Commission documents. Another interesting innovation, in thesame context, was the reinterpretation of the principle of financialsolidarity, which had earlier been used exclusively to describe theneed for common financing of the CAP by the Community (ratherthan individually by the member states). The 'Reflections Paper', in avery clever way, now suggested that financial solidarity ('as originallyintended') implied the need for a better distribution of support amongfarmers .

Another somewhat less obvious change in emphasis was the lowerimportance given to the need to make budgetary savings. The 'Reflec-


tions Paper' clearly outlined the shift from price support to directpayments in the cereals sector, though the quantitative parameterswere not yet publicised in that document. There could not be anydoubt that such a policy change would require more budget expenditure, rather than less. The way the 'Reflections Paper ' dealt with thatproblem was interesting. Rather than making the straightforwardstatement that a reform along these lines would raise spending, thisissue was dealt with, at the end of the paper, as one of the two aspects'likely to dominate the discussion', which was 'why the Commissionconsiders it necessary to respond to them at this stage'. g As if quotingan outside critic the paper had the following citation (in invertedcommas in the original text): 'The guidelines outlined above maylead to higher budgetary cost insofar as part of the support nowprovided by the consumer (by virtue of high prices) would be henceforth charged to the budget .' The 'Reflections Paper ' played suchpossible criticism down by arguing that the budgetary consequenceswould depend on the parameters chosen and on market developmentsin the longer term. It also (quite rightly) made the points that savingsfor consumers 'should not be forgotten in the balance sheet of theentire operation', and that money spent on the new policy would betterattain the objectives of the policy. And it asked 'the fundamentalquestion ... Is the Community prepared to make a contribution inthe budget context to resolving its agricultural problems, internallyand externally?'

In the end it turned out that the Community was prepared to doexactly that. But why was it willing, at that particular point in time, toengage in a CAP reform which deviated so fundamentally from theearlier types of budget-driven reforms? To outside observers it wasperfectly clear that a shift from price support to direct payments wasbound to raise budget expenditure dramatically. At the time the Commission de-emphasised this budget implication, among others, bygrossly understating the financial effect of the reform. I shall comeback to this issue below. However, it must have been clear to everybody involved in the process that this was the first reform of the CAPwhich was not going to cost less, but significantly more. Hence theMacSharry reform was a fundamental departure from the traditionalparadigm of agricultural policy reforms. What triggered this departure, at this point in time?

Probably many different factors were involved. The time may havebeen ripe for reconsidering the fundamental concepts on which traditional forms of agricultural support policies had been based. Eco-


nomists had long argued that agricultural price support was an inefficient, and in the longer run, ineffective method of improving thestandard of living of people in rural communities. Though it is doubtful whether such academic arguments have had much direct effect onthe thinking of agricultural policy-makers, they may have found theirway into actual policy considerations through the activities of theOECD, which had engaged in work on the Ministerial Trade Mandatein the mid-1980s. Among the results of that OECD work was themessage that price support was less effective in supporting farmincomes than agricultural policy-makers had tended to believe, andthat a mutual and balanced reduction of support in all countries wouldbe less harmful for farm incomes than politicians might have thought."Hence there may have been a genuine discontent with traditional formsof agricultural policies, and a resulting willingness to consider alternative policies. In addition, growing awareness of the negative environmental implications of traditional agricultural policies may havestrengthened the impetus to look for better approaches. Such factorsmay well have contributed to creating an atmosphere in which fundamental CAP reform was no longer ruled out. However, I believe thatthey had much less weight than one single concern which at that timewas of overriding importance. This major force behind MacSharry'sattempts at moving the CAP in a new direction, I believe, was theongoing GATT negotiation on agriculture in the Uruguay Round.

2.4 MACSHARRY REFORM AND THE GATTNEGOTIATIONS

In these negotiations, the message had been forcefully driven home tothe Community, by both the USA and the Cairns Group, that theimplications of the CAP for international agricultural trade were simply no longer acceptable for the Community's trading partners. This isnot the place for a detailed description of how the EC position onagriculture developed during the Uruguay Round, and how the Community was pushed by its negotiating partners." However, let usconsider the situation in these negotiations which had been reachedby the end of 1990, shortly before MacSharry issued his proposals forCAP reform.

In July 1990, Aart de Zeeuw, Chairman of the GATT NegotiatingGroup on Agriculture, had issued his important draft which in effectalready outlined , in general terms, all the elements which later became


part of the agricultural accord. This document called upon all countries to submit their final offers by 1 October 1990. These offers weresupposed to include numerical targets for commitments in all areas, i.e.improvement of market access, reduction of export subsidies andlimitation of domestic support. Many countries met this deadline andsubmitted their offers. The EC, by contrast, had major difficulties withgetting its act together.

The EC offer, tabled on 7 November 1990 only after seven acrimonious debates among EC ministers, went only a little way towardsmeeting the US and Cairns Group positions . Instead of reductionsby 75-90 per cent over ten years in levelsof support and protection, theEC offered support reduction as measured by a product-specificAggregate Measure of Support (AMS) of 30 per cent for cereals,oilseeds, olive oil, sugar beet and livestock products, and of 10 percent for other products, over five years.11 It agreed to 'the tarifficationof certain border measures and a concomitant reduction of the fixedcomponent resulting therefrom, together with a corrective factor' butinsisted that tariffication be 'subject to rebalancing '. This element ofrebalancing was defined (for the EC) as a tariff on oilseeds, proteincrops, com-gluten feed and other non-grain feed ingredients based onthe cereal levies, with tariff-rate quotas for quantities equivalent toexisting imports which could enter at 6 to 12 per cent tariffs. The tariffsthe EC was prepared to accept under tariffication were based on thegap between EC support prices plus 10 per cent and world marketprices in the base period 1986 to 1988. For most products, these tariffswere significantly below the levieswhich had been collected during thatbase period . Rather than quantifying directly the rates of reduction forthese tariffs over the expected five-year implementation period, the ECoffer suggested that 'the reduction will be made once a year and by anabsolute amount which reflects the incidence of the SMU reduction' .(The Support Measurement Unit, SMU, was the term the EC at thetime used in place of the AMS.) On export subsidies, the EC did nottable concrete numerical offers. Instead, it predicted that 'the proposedreduction of support and protection will lead to a considerable reduction of export subsidies'. However, the EC was 'ready to quantify theresults [for export subsidies] flowing from the reduction in internalsupport' (presumably at a later stage in the negotiations) . The EC alsoagreed not to introduce 'export subsidies for commodities for whichthey have not been applied in the past'.

In the 'final' negotiations of the Uruguay Round, in Brussels inDecember 1990, these EC offers proved unacceptable to the negoti-


ating partners, and the EC was also not sufficiently prepared to gobeyond these offers. Eventually the overall Uruguay Round negotiations had to be suspended because a compromise over agriculturecould not be reached with the Community. I shall come back to theseDecember negotiations below. However, at this point let us for amoment consider what would have happened had the other countriesaccepted that November 1990 offer on agriculture made by the EC.

It is my hypothesis that the EC could not have delivered on thatoffer , with the CAP being what it was at the time. At that time theAMS reduction commitments were still expected to be product-specific(Blair House had not yet taken place). A 30 per cent reduction ofproduct-specific support would have required significant price cuts.For cereals (and some other products), the 1990 SMU in the EC wasalready somewhat below the 1986 level (from which the EC hadpromised to reduce by 30 per cent). However, by far the largest partof the reduction was still to be made between 1991 and 1995. With astill growing volume of cereals production (which, as such, would havepushed up the SMU for cereals), the price cuts necessary to achieve thepromised SMU cut would have been significant. Even with a stagnantvolume of cereals production, prices would have had to be cut noticeably because of the tariff reductions promised by the EU. Such pricecuts would probably not have been politically feasible.

In addition, the EC had implicitly offered to limit and reduce exportsubsidisation (it was 'ready to quantify' the required commitments onexport subsidies) and it could hardly expect to get away without atleast some reduction of subsidised exports. To be sure, rebalancing waspart of the EC offer, but the way it was designed it would not havereduced, but only stabilised, the volume of cereal substitutes coming onto the EC market. Hence the trend towards growing exports of subsidised cereal exports could hardly have been halted - except withsignificant price reduction, which earlier had proved politically unfeasible in the EC. Alternatively, the EC could have engaged in set-aside.However, under the CAP as it stood at the time, set-aside was voluntary and would have had to be paid for dearly, threatening the financial viability of the EC budget.

In other words, had the offer which the EC had actually (thoughreluctantly) made in November 1990 been accepted by the Community's negotiating partners, the EC would have had to do something inits CAP which it had not been able to do before. Moreover, it wouldhave had to do that under the external pressure of an internationalagreement it had signed in the GAIT. Imagine the political turmoil


which this would have caused in the EC. The Council of AgricultureMinisters would have had to get together, year after year, to agree onprice cuts and supply controls which effectively would have beenimposed on the EC by the GAIT. It is not difficult to imagine thehostile response of EC farmers, and the pressure they would haveimposed on EC politicians to go to Geneva and negotiate the abandonment of GAIT commitments the EC had accepted, under international law, a short while ago. This was hardly a recipe for politicalsuccess.

And here is my story of how Commissioner MacSharry felt andbehaved at the time. I should say right away that it is a completelyhypothetical story, as I have never had a chance to check it with theman himself. But to me at least this story sounds plausible, and I shalltherefore tell it as if it were true. It is a story of the mastermindedprocess of CAP reform.

MacSharry knew that the situation was untenable. It was clear thathe had to reform the CAP before he could allow a GAIT agreement tobe concluded . The EC offer already made was potentially inconsistentwith the CAP as it stood. An agreement with the Community's negotiating partners, if it was to be found at all, would necessarily have togo beyond that EC offer, and therefore be even more inconsistent withthe CAP. Hence MacSharry could not accept a GAIT agreement atthe time. He needed time to reform the CAP first, and he needed tosecure the political support of the Council in order to push reformthrough. Hence there was only one strategy he could adopt at theBrussels meeting of the GAIT in December 1990. He had to letthe negotiations come as close as possible to a compromise , so as toshow the Community's negotiating partners that there was, in principle, the possibility of a successful conclusion of the Uruguay Round.But he then had to break the negotiations sharply, before the pointwhere success was in reach. This would show the heads of state in theEC that a serious effort was required on their side to convince theirministers of agriculture that they had to give in, in order to allow aconclusion of the overall negotiations in this extremely importantGAIT Round which was to make progress in so many new areas,including trade in services. At the same time, MacSharry had to convince Ee ministers of agriculture that he was firmly on their side, sothat they trusted him to work out a satisfactory solution. This strategyprovided MacSharry's script for the December 1990 GAIT negotiations on agriculture . The actual course of events, as described in thefollowing paragraphs, may have come close to fulfilling that strategy.


When the negotiations started, the negotiators had before themthe various national positions and some 'clarifications' elicited by theSecretariat. The task of finding an agreeable compromise fell to theSwedish Minister of Agriculture Mats Hellstrom , as Chairman ofthe Agricultural Negotiating Group at the ministerial level. For thefirst few days, no significant progress was made in the negotiations. On6 December, Hellstrom requested all delegations to respond to ninequestions on agriculture drafted earlier by GAIT Secretary-GeneralArthur Dunkel. In its written response, the EC Commission obviouslyindicated that it might be prepared to make new commitments, including commitments on the quantities of subsidised exports, and to limitrebalancing to a smaller set of products. In an attempt to get a finalagreement, Hellstrom in the afternoon circulated a 'non-paper', basedon the written responses to Dunkel's questions which he had receivedfrom the delegations . The Hellstrom paper suggested a 30 per centreduction in internal support, border protection and export subsidies,from a more recent base than that postulated in the original ECposition. 12 The draft found broad support from the US and the CairnsGroup, and from a number of other delegations. For a few hours itappeared there was a breakthrough. The US delegation quickly beganto move in other areas, above all services, and other delegations alsobegan to prepare for final agreement.

However, later the same day France and Ireland told the EC Commission that in its response to the Hellstrom draft it had exceeded itsnegotiating mandate. When the Agricultural Negotiating Group gottogether for its next meeting in the 'Green Room' on the night of 6December, it first appeared that a compromise could be reached.However, when MacSharry was asked to state explicitly whether hewas prepared to negotiate on the basis of the Hellstrom text, he replied,in notable anger, that he could only negotiate within the limits of themandate given to him by the EC member states. The atmosphere wasdramatic, and it soon became clear that no compromise could bereached. The other negotiating groups waited for word that a breakthrough had been achieved in agriculture . However, when the expectations that the Hellstrom formula might be acceptable were dashed , theUS and the Cairns Group countries withdrew their delegations fromthe other negotiating groups within five minutes. The Brussels meetinghad failed and the Round had to be suspended. Amid confusion andconsternation the Brussels GAIT ministerial meeting was adjourned.

Now it was time to engage in CAP reform, By responding to theconcerns of some EC ministers of agriculture and not accepting a


GAlT deal on agriculture, MacSharry had well prepared the groundfor the internal reform negotiations. Indeed , the plan for what laterbecame known as the MacSharry reform was in the drawer already.The internal Commission document which laid out that reform carriedthe date of 6 December 1990, exactly the day on which the GAlTnegotiations broke down. This must have been a coincidence, but it issymbolic. In any case it shows that the GAlT negotiations and theprocess of preparing for CAP reform went in parallel. This internalCommission document, which never was published, already specifiedall the elements of CAP reform, including the quantitative parametersfor price cuts and compensation payments. However, MacSharry wasclever enough to take no more than one step at a time. In February1991 he issued only a general qualitative description of the reform (the'Reflections Paper', COM(91) 100)and called for a broad discussion ofthe principles. Ministers of agriculture and farmers were not overlyhappy with these principles, but also did not rule them out altogether.Then, in July 1991 the full outline of the reform proposal was issued(COM(91) 258), including all the quantitative parameters.

The responses from member states to these radical proposals, whichwent far beyond any earlier attempt at reforming the CAP, varied,from hostile to mildly friendly. The debate in the Council was partlyheated, but generally constructive. In a surprisingly short time, afterno more than ten months, the reform was finally adopted, in May1992. Most of the reform elements proposed by MacSharry wereincluded in the final package. The major omissions were modulationof compensation payments so that large farmers would have receivedsmaller payments, and quota reductions and somewhat larger pricecuts for milk. Also, the price reduction for cereals was marginally lessthan originally proposed by MacSharry. However, MacSharry's success in pushing his reform plan through in an extremely short period oftime was overwhelming. Of course the official language in the reformdebate was that this reform had nothing, nothing at all, to do with theongoing GAlT negotiations, but was needed for internal reasons inthe EC.

Officially, therefore , it was a coincidence that the GAIT negotiations on agriculture gained speed again in the course of 1991. A firstculmination was the Draft Final Act (usually called the Dunkel Draft)of December 1991, which brought the provisional texts from thevarious negotiating groups together into one document. On agriculture, that draft essentially foreshadowed, in most details, the finalagreement. Also in December 1991 the EC adopted a new policy for


oilseeds, in response to the (first) GATT soybean panel, which hadbeen adopted, with minor reservations by the EC, in January 1990.Theacreage-based direct payments to oilseed producers to be made underthat new regime were exactly what MacSharry had proposed in hisoverall reform plan, and thus became the precursor of the new CAP forcereals (and protein crops). In November 1992,at the first Blair Housemeeting, a number of adjustments to the Dunkel Draft on agriculturewere agreed between the USA and the EC. In the last-minute negotiations in December 1993 (Blair House II), a few further amendmentswere negotiated. In April 1994, the Final Act of the Uruguay Roundnegotiations was signed by GATT ministers in Marrakesh, less thantwo years after the adoption of MacSharry's proposals for CAPreform.

This story is told here in so much detail in order to explain my viewof why the CAP was reformed in 1992. Contrary to earlier CAPreforms, the MacSharry reform was not triggered by budgetaryconcerns. On the contrary, the way in which this reform was designednecessarily meant that it would result in higher budget expenditure.However, the MacSharry reform allowed the Community to bind andreduce tariffs and export subsidies for cereals in the GATT, and tomeet the US request for adjustments on the EC market for oilseeds. Itwas therefore a necessary prerequisite of EC acceptance of a deal onagriculture in the GATT and , by the same token, of an overall successof the Uruguay Round negotiations. Hence the MacSharry reform, inmy view, was not only the first fundamental overhaul of the CAP sinceits establishment, it also was the first CAP reform which was drivenmainly by external forces. There were good internal reasons forreforming the CAP in the early 1990s, and some elements of theMacSharry reform (not the least the accompanying measures) haveresponded to these internal reasons. However, the major political forcebehind the MacSharry reform, as far as I can see, was the need toprepare the CAP for a GATT agreement on agriculture.

2.5 HOW EFFECTIVE WAS THE MACSHARRY REFORM?

If ability to accept a GATT agreement on agriculture was the majorreason behind the MacSharry reform, then an important question toask is whether this reform indeed allows the EU to live with theagreement reached in the Uruguay Round. The final answer to thisquestion will have to wait a few more years, because only market and


policy developments in the years to come will show whether the EUwill be able to meet its WTO commitments until the end of theimplementation period under the Agreement on Agriculture in theyear 2000, without undergoing another round of major CAP reform.However, some indications can be provided at this time.

The cereals sector obviously was at centre stage in both the MacSharry reform and the Uruguay Round negotiations on agriculture.Was CAP reform in that sector effective in the sense of allowing theEU to live with its WTO commitments? It clearly was, at least initially,in all three areas of WTO disciplines on agriculture (market access,domestic support, export competition).

The reduction of the threshold price for cereals decided under theMacSharry reform was more than sufficient to provide for the requiredcut in the newly established specific tariffs. Indeed, this 'over-fulfilment' of the required tariff reduction, ironically, created problems. IfEU tariffs on cereals had been implemented in accordance with themainstream of tariffication under the WTO Agreement on Agriculturethere would have been much surplus water in these tariffs, becausemuch lower tariffs would have been sufficient (except in times ofextremely low world market prices) to defend the new MacSharrythreshold price. This was spotted by the Community's negotiatingpartners, and in the Blair House II negotiations the EU was pushedinto accepting a clause under which it must not charge tariffs on mostcereals higher than necessary to bring the landed price up to the level ofthe new threshold price (55 per cent above the intervention price).Unfortunately the way this clause was worded (probably in haste andwithout sufficient thought) would have required the EU to chargeshipment-specific duties, which would have had economically absurdresults.P When it came to implementing the new WTO commitments,it took the EU some time and negotiating efforts to work out aprocedure which allows it (for the time being) to live with the implications of this particular clause resulting from 'over-fulfilment' of tariffreductions for cereals.

In the area of domestic support, the MacSharry reform has alsoallowed the EU to meet its new WTO commitments. Indeed, thecombination of the MacSharry reform and the WTO Agreement onAgriculture in the way it was finally negotiated has even created roomfor support for other products. Under the 'blue box' arrangement,negotiated between the EU and the USA at the Blair House I meeting,the new MacSharry compensation payments do not need to beincluded in the AMS calculation, and the AMS now is sector-wide


rather than product-specific. Because of the large reduction in the EUsupport price for cereals this means that the AMS for cereals in theEU is much below its base level, and the difference can be 'utilised' forother products. This is clearly shown in Figure 2.1. The AMS forcereals.l" exclusive of compensation payments, has dropped significantlyafter 1992, due to the cut in support prices and the reduction ofcereals output because of set-aside. It may rise a little in the years tocome as production grows. IS However, it will safely remain below theAMS commitment which would have resulted for cereals had the finalagreement required a product-specific commitment, and the slack canbe transferred to other products. However, had compensation payments not been put in the blue box, then the EU might have been inslight trouble towards the end of the implementation period for theWTO Agreement on Agriculture (in the year 2000).

Incidentally, Figure 2.1 also illustrates a point made above, i.e. thatthe EU would have been in major trouble had its GATT offer ofNovember 1990 been accepted by the other GATT parties . Underthat offer, the EU had promised to reduce its 1986 AMS for cereals(and other products) by 30 per cent. The EU AMS for cereals, inclusiveof compensation payments, is likely to be significantly above that levelof AMS commitment in the second half of the implementation period .Of course, in the absence of the MacSharry reform, which was not yetdecided at the time, there would not have been compensation payments . However, had support prices been kept at their 1992 level, thesame AMS would have resulted. As a matter of fact, in the absence ofMacSharry set-aside, EU cereals production would have been larger,and the resulting AMS would have been even greater. All the excessAMS would then have had to be reduced through (uncompensated)price cuts, resulting in the political difficulties referred to above.

As far as export subsidisation is concerned, the MacSharry reformso far also has sufficed to meet the WTO constraints. It has certainlyallowed the EU to live comfortably with the constraint on exportsubsidy outlay, because of the large price cut and the resulting reduction of export subsidies per tonne. As far as the quantities of exportsare concerned, the situation at this time is also easy.16 The MacSharryreform has resulted in both a reduction of cereals production and anincrease of cereals use. As a result, EU exports of cereals have declinedsignificantly compared with the WTO base period, and for the timebeing are safely below the commitment levels. In 1995 the EU-15commitments for subsidised wheat exports stood at 20.408 milliontonnes.!" Actual wheat exports in the crop year 1995/96 are expected


8000

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2000199819961994199219901988o-t---1---I--1---I-----lf---t--If---t--I--t--I---t--t--l1986

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Figure 2.1 AMS for cereals in the EUSource: Own calculations, based on EUROSTAT production data andEU WTO Schedule

to be around 16 million tonnes, some 4 million tonnes below thecommitment.P For coarse grains, the 1995 commitment was 13.690million tonnes, against expected exports in 1995/96 of 11 milliontonnes, more than 2 million tonnes below the commitment.

However, as the WTO implementation period proceeds, things maychange . EU cereals production is likely to grow again because of yieldgains. The growth in domestic cereals use is likely to be less, and as aresult exports will increase. Analysts differ in their views on the quantities involved. However, let us take the latest published projection bythe EU Commission. It appeared, in November 1995, in the Agricultural Strategy Paper in which the EU Commission discussed the agricultural implications of an Eastern enlargement of the Union. 19 In thisdocument the Commission predicts that in the year 2000 cereals production in the EU-15 will exceed domestic use by 30 million tonnes . Asthere will also be some (gross) imports, the potential for gross exportswill be even larger . If EU cereals imports continue to be at the levelexpected for 1995/96(7.2 million tonnes), the export potential in 2000will be above 37 million tonnes . This has to be compared with the EU15 export subsidy commitment for 2000, which is 25.281 million tonnes


for wheat and coarse grains on aggregate.2° In other words, the EUCommission now implicitly assumes that by the year 2000 theEU export availability for cereals will be some 12 million tonnesabove the allowable volume of subsidised exports. This is a dramaticnumber, which clearly shows that, at least in the eyes of the current EUCommission, the MacSharry reform will not suffice to live with theWTO Agreement on Agriculture, as far as cereals are concerned.

This is not the place to assess in detail the situation for otherproducts. Except for beef, where prices were cut and premia introduced, the MacSharry reform did not change the situation very muchoutside the sector of grandes cultures. Hence there is not much point inasking whether the MacSharry reform was, for these non-affectedproducts, effective in the sense of allowing the EU to live with aGATT agreement. Suffice it to say that the constraints on the quantities of subsidised exports, generally assumed to be the most bindingconstraints, may in the EU require policy adjustments for productssuch as sugar, cheese, other dairy products, beef, and possibly poultryand pork."

Another indicator of 'effectiveness' of the MacSharry reform is theimplication it had for FEOGA expenditure. This indicator is interesting because, as argued above, one distinctive difference between theMacSharry reform and earlier CAP reforms was the much loweremphasis placed on budgetary implications in the MacSharry reform.Indeed, it was to be expected that the MacSharry reform would resultin a significant increase of FEOGA guarantee expenditure. Hencethere was the potential problem of FEOGA guarantee expenditureexceeding the agricultural budget guideline set in 1988. As a matterof fact, in his original reform proposal of July 1991 MacSharry suggested that it might be necessary to raise the budget guideline by 1.5billion ECU (though part of this increase was said to be necessarybecause of German unification). However, the budget guideline was infact not adjusted in the context of the MacSharry reform. Against thisbackground it is surprising to note that actual FEOGA guaranteeexpenditure has not grown very much since 1993. Indeed , in 1995actual FEOGA guarantee expenditure remained significantly belowthe guideline (by some 3.4 billion ECU) . Does this signify that, contrary to expectations, the MacSharry reform in fact reduced the budgetary burden resulting from the CAP?

FEOGA guarantee expenditure since 1990 is shown in Figure 2.2.The rapid increase in spending until 1993 is clearly visible. Then therewas actually a decline in 1994,and only a modest increase in 1995.Part


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Figure 2.2 FEOGA guarantee expenditureSource: EU Commission

of that increase in 1995 is due to EU enlargement, such that expenditure in the EU-12 has increased even less. However, as is alsoobvious from Figure 2.2, expenditure on cereals and set-aside hasincreased significantly in 1994 and 1995. Hence, the easing of thebudget situation is certainly not due to the MacSharry reform. It hasbeen caused mainly by a decline of spending on 'other products andmeasures' (mainly olive oil, with a decrease of expenditure by 1.6billion ECU between 1993 and 1995; wine, with a decrease of 0.7billion ECU; and 'clearance of previous period', with a net effect ofminus 0.8 billion ECD), and on dairy products. In the beef sector, theincrease of expenditure on premia, resulting from the MacSharryreform, has roughly been outweighed by the decline in expenditureon market measures.

It is interesting to look in somewhat more detail at the changes inexpenditure on cereals and set-aside. As shown in Figure 2.3, actualFEOGA expenditure on cereals and set-aside has increased significantly between 1993and 1995, by 5.7 billion ECU . The large budgetaryeffect of the MacSharry reform becomes evident if one looks at expenditure on the different types of measures: storage, other domestic


16000,.-------------------------,

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8000

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Figure 2.3 FEOGA guarantee expenditure on cereals and set-asideSource: EU Commission

measures (net of revenue from co-responsibility levies), set-aside, compensation payments, and export refunds . Expenditure on set-aside wasjust 0.4 billion ECU in 1993 and has increased to 2.4 billion ECU in1995.22 Compensation payments (on cereals alone), which still werezero in the 1993 budget,23 required 7.2 billion ECU in 1995. In the firstbudget year with final, full MacSharry payments, 1996, they will be 9.7billion ECU, some 78 per cent more than total expenditure on cerealsin 1992. Aggregate expenditure on cereals and set-aside has increasedmuch less than this additional expenditure on compensation payments,for two reasons. Expenditure on storage has been nearly eliminated,and export refunds have declined greatly . Both savings can be directlyattributed to the market changes brought about by the MacSharryreform. However, I suggest a somewhat cautious interpretation of bothof these savings.

Intervention stocks of cereals have indeed declined very significantlyin the EU, from a peak of 33.3 million tonnes in mid-1993 to no morethan 6.5 million tonnes in mid-1995.24 This reduction has beenachieved because exports have been reduced by far less than the changein domestic market balance. Behind this policy obviously was the aim


of getting rid of intervention stocks before the start of the implementation period of the WTO Agreement on Agriculture. This decline inintervention stocks has greatly reduced the cost of physical storage,interest etc. To this extent, the fall in storage expenditure cannot reallybe attributed to the MacSharry reform. After all, even with the highersurpluses in the past the Commission could have managed the cerealsmarket with a much lower level of intervention stocks (or, conversely,it could have kept these stocks at their old level in spite of the decline inthe current surplus). However, the budget item 'storage' also includes,for the quantities bought into intervention, the write-off of their value,reflecting the difference between the domestic EU price and the worldmarket price.25 This type of 'expenditure' comes very close in nature toexport subsidies. Its reduction after 1993 reflects both lower surplusesand a smaller gap between EU and world market prices .

In assessing the decline ofexpenditure on export subsidies one has toremember that world market prices have increased very significantlybetween 1993 and 1995. Though part ofthis increase may be a result ofthe changed market condition in the EU, most of it probably cannot beattributed to the MacSharry reform. We have, therefore, calculated theexport refunds which would have been necessary had world marketprices remained at the level of the average of calendar years 1991 and1992. The difference against actual export refunds has been added, asanother hypothetical expenditure item, in Figure 2.3, so that the totalreflects expenditure on cereals which might have resulted under 'normal' world market conditions.

Taking everything together, and assuming that 0.5 billion ECU ofthe decline in storage expenditure cannot be attributed to the MacSharry reform, the expenditure effect of that reform in the cerealssector and for set-aside may have been in the order of magnitude ofan additional 6.3 billion ECU between 1993 and 1995. The final levelof compensation payments on cereals will be about 2.5 billion ECUhigher than payments in the 1995 budget year. Thus the total budgeteffect of the MacSharry reform in the cereals sector (inclusive of setaside) may be in the order of magnitude of an additional 8.8 billionECU. From this sum one would have to deduct the savings made inother sectors because of lower cereal prices . In particular, exportrefunds for pork and poultry could be reduced because of their lowerprices, reflecting lower feeding costs . It is beyond this chapter to makean estimate of these savings . In the original MacSharry proposal(COM(91) 258) they were estimated at 0.7 billion ECU. The total effectof the MacSharry reform, as far as changes in the cereals sector and


set-aside are concerned, may then be in the order of magnitude of 8billion ECU. To this has to be added expenditure on the accompanyingmeasures introduced as part of the MacSharry reform, budgeted ataround 2.3 billion ECU for 1996 (but used much less in 1995, anotherreason why actual expenditure remained below the guideline).

At this stage I want to come back once more to the point I havemade above about the reasons for the MacSharry reform, compared toearlier CAP reforms. In the 1980sit would probably have been difficultto imagine that a CAP reform might be adopted which, rather thanreducing the budget burden, would add another around 10 billionECU to FEOGA expenditure. Indeed, when the MacSharry reformwas decided, the projection of its budget implication was much belowthis sum. In the original MacSharry proposal, an estimate of its budgeteffect of some 2.3 billion ECU per year was provided.P This includedall product sectors for which adjustments were proposed. For thegrandes cultures alone, the estimate was 1.7 billion ECU. Maybe thereform would not have been accepted, had a higher estimate of itsbudget implications been provided. In any case, even with the lowerestimate available at the time, and the more so with the higher expenditure effect the reform may have had in reality, what was achieved byRay MacSharry was a remarkable departure from past rounds of CAPreform.

2.6 CONCLUSIONS

The MacSharry reform was not the first reform of the CAP. But it wasthe first reform of a new type. Earlier reforms were mainly targeted atreducing the budgetary implications of the CAP. The MacSharryreform, however, resulted in higher FEOGA expenditure. It was clearfrom the beginning that this would be the case, though the extent towhich spending would rise may have been (deliberately?) underestimated at the time. In my view, the real motivation behind the MacSharryreform was the need to make the CAP consistent with internationalobligations on agricultural policy which the EU could not haveavoided unless it was prepared to let the Uruguay Round of overallGATT negotiations go down the drain. Indeed, as I have argued in thispaper, the first and decisive step on the path which finally ended in theMacSharry reform was implicitly made when the European Community made its GATT offer on tariffication and support reductions inNovember 1990. This offer was probably inconsistent with the CAP as


it stood at the time. Even more inconsistent with an unreformed CAPwould have been any result of the Uruguay Round negotiations onagriculture which could conceivably have been achieved in the finalnegotiations between the EU and the other GAIT parties. For political reasons the sequence of events needed to be CAP reform first, anda GAIT agreement second. Otherwise the Council of AgricultureMinisters would have had to adjust the CAP significantly under thepressure of an international obligation. This would have been a recipefor political frustration and, probably, failure. Thus the CAP neededto be reformed before the Uruguay Round could come to a conclusion .MacSharry achieved exactly this.

However, it is likely to tum out that even the MacSharry reform willnot, in the longer run, suffice to prepare the CAP for the UruguayRound Agreement on Agriculture as it was finally concluded. In thecereals sector, the core of the MacSharry reform, future market developments in the EU may be inconsistent with the new EU commitmentson subsidised exports . In other sectors, which were not yet, or onlymarginally, reformed by MacSharry, adjustments will probably alsohave to be made in order to allow the EU to live with its commitmentsin the WTO. The pressure for further reforms will, moreover, intensifyas the EU prepares for Eastern enlargement, not the least because theapplicant countries from Central Europe bring with them WTO commitments which are too restrictive to allow an extension of the currentCAP to them. Commissioner Fischler appears to see this clearly, andhence he is beginning to argue for a completion of the MacSharryreform. In a way we may, therefore, see that the MacSharry reformbecomes a victim of its own success. The success of the MacSharryreform, in part, was that it allowed the EU to accept a GAIT deal onagriculture. Now that this deal has been struck, the WTO commitments on agriculture may take over and may push the EU into anotherround of CAP reform.

However, there are also other reasons why the EU should continueto reform the CAP. Support has only partly been decoupled fromproduction under the MacSharry reform, and only for a limited setof products. The remaining element of coupled support (the linkbetween support and acreage) requires massive state interference withfarmers' decisions, in the form of set-aside and the huge amount of redtape necessary to enforce it. The residual export subsidies for cereals(which are required under 'normal' world market conditions), in combination with the WTO commitments on subsidised exports, requirethe EU to engage in supply control, and prevent EU farmers from


participating in the growth of world market demand for cereals. Thebeef market is in danger of moving to new imbalances again. The CAPfor milk and sugar has not yet been revised at all. The ongoing'reforms' of the regimes for southern products (fruit, vegetables,wine) are more cosmetic than fundamental . The prospect of Easternenlargement creates a completely new environment for the CAP. Theagricultural mini-round of WTO negotiations, to be initiated in 1999,may result in further agreed reductions of support and protection, andpossibly in an elimination of the 'blue box', requiring adjustments tothe way compensation payments are implemented in the EU. In otherwords, the need to reform the CAP will continue to exist. The MacSharry reform was the start, rather than the end, of a new era of CAPreforms.

3 Agricultural PolicyReform in the USA andthe EU: A Comparison ofCAP Reform and the 1996US Farm BillTim Josling

3.1 INTRODUCTION

The story of agricultural policy reform in the USA and the EU is oneoflong periods of inaction interspersed with sudden bursts of activity.In the EU the inaction corresponds to the period of gestation thatseems to be necessary for every policy change, passing from the stageof denial that changes are needed to the first soundings of possibleinitiatives, and then from the publication of a reform proposal itselfthrough to the brokering of an agreement in the Council of AgricultureMinisters . The US process is more concentrated and is focused on therenewal of the basic legislation, with competing bills working theirways through the committee stages to the floor of the Senate and theHouse and eventually to the desk of the President for signature, butafter that the policy is generally not changed greatly until the legislation again needs renewal.

The fact that the USA and the EU face similar issues with respectto the reform of farm policies is well understood.1 There is thefundamental similarity of the forces pushing for reform. Agricultureon each side of the Atlantic faces the same economic pressureswhich tend over time to reduce the relative price of farm products(or at least the price of homogeneous raw materials) whilst technicalchange reduces the demand for farm labour. Both the USA and theEU have powerful groups in their respective societies which caneffectively lobby for income support to offset these tendencies. Ingeneral the population has supported the need to keep rural areasfrom becoming depressed and deserted. However, disillusion with

36

Policy Reform in the USA and the EU 37

the policies is now widespread even among those that wouldargue for continued government intervention. In particular, it is nowwidely agreed that the support of a price regardless of whether amarket exists at that price leads down the road to surpluses and highbudget cost.

The manipulation of commodity prices in an attempt to keeprural areas prosperous has a 60-year history in the USA. Thoughnever without controversy, policies to this end have now come underserious attack. The realisation that these commodity policies were notassisting the people who were most in need dawned slowly in the USAin the 1970s, and has now reached the point where little attempt ismade to fabricate an economic rationale for their continued existence.Instead the debate has switched to one of entitlements for the commercial farmers as a group, along with the issues of environmental useof farmland and of rural development. The EU was slower to realisethe futility of keeping resources in the production of goods for whichno economic outlets existed in order to placate the vocal farm lobby.The main reason for this was probably the strong national interest ofcertain countries in the status quo and the difficulty of getting enoughmembers of the Council of Ministers to agree to any policy change. Inthe end, reform in the EU came about from a combination of domesticand foreign pressures each pushing in the direction of reducing thelevel of subsidised production that was distorting domestic and foreignmarkets.

This chapter looks at the latest episode in the long-running saga ofreform in the policies of the USA and the EU. It focuses on the 1996Farm Bill, the Federal Agricultural Improvement and Reform Act(FAIR) in the context of US-EU agricultural trade relations . After abrief account of the process which led up to the passage of the Bill, adiscussion of its main features, and a comment on the likely impact onmarkets, an attempt is made to compare the FAIR with the reformedCAP, bringing out the different circumstances under which they wereconceived and implemented. A final section then poses five questionswhich summarise the issues faced by the USA and the EU in reform oftheir respective farm policies: (a) Are the reforms 'permanent'? (b)What new instruments are emerging to take the place of the pricerelated support policies? (c) What do the new policies imply for theprocess of multilateral reform of the trade system? (d) What implications do they have for regional trade liberalisation in agriculturalproducts? and (e) Will they markedly reduce the trade tensions in theAtlantic area?


3.2 THE TORTUOUS PASSAGE OF THE FARM BILL

The 1995 Farm Bill (as it was optimistically known before its passagewas delayed until April 1996)was the occasion for one of the periods ofintense debate and introspection that permeate the US farm policyprocess. US farm legislation needs to be periodically updated, or else itreverts to the 'basic' 1949Act. This would be massively expensive, withprice supports tied to 'parity', the 80-year-old price relationshipbetween inputs and outputs. The need for new legislation is thereforeagreed by everyone; the questions revolve around what should be inthat legislation to guide agriculture for the next five or so years.

This process of periodic revision does lead over time to significantchange . US farm policy has been modified considerably in recent farmbills. In 1974 the Farm Bill saw the introduction of target prices anddeficiency payments, set over rather low loan rates. In 1981, however,there was relatively little reform, despite efforts by the new ReaganAdministration, as price supports were raised for fear of shortage andUS agriculture was in a state of shock from rising interest rates . Amore significant change in policy came in 1985, when payments weredecoupled from yield (i.e. an historical yield and acreage were used tocalculate the deficiency payments)? Yet more 'flexibility' was introduced in 1990 (flex acres) to plant other crops, but with reduced levelsof payments.

Traditional farm policy debates take place in the Agricultural Committees of both the House and the Senate, reacting to a set of alternative bills both from within the Committees and from outside ,including the Executive Branch (the USDA) . The Committees arehelped by a range of special interest groups and their lobbyists, eachwith firm ideas as to the outcome. Although the two political partieshave tended to take diverging views on certain issues, farm policy hasbeen essentially non-partisan.

The situation in the run-up to the 1995 Farm Bill was somewhatdifferent. This time there was a new actor in the play, the Republicanmajority in Congress which was elected in 1994 with a tough budgetcutting mission, wielding a sharp axe to all sacred cows. The newRepublican majority began on the basis of their 'Contract with America' to attack much of the legislative programme of the previous 40years of Democratic control. The degree of partisanship increasednoticeably, with votes along straight party lines becoming common,in particular in the House of Representatives. In this climate it is notsurprising that farm policy became more involved in party conflicts.


The push to reduce public spending in all areas in line with the desireto 'balance the budget' dominated much of the political agenda of thenew Congress . The big question was whether agricultural programmeswould be subject to their full share of these cuts. Or, would farmprogrammes be spared because of their strong political connections?In the end, the desire for an equitable distribution of the burden outweighed the arguments of the farm interests and their supporters inCongress. In June 1995 Congress adopted its overall budget strategy.Agriculture was to meet a target reduction of $13.4 billion over theseven-year period leading to a balanced budget. 3

The main Congressional actors were the chairmen of the respectiveAgricultural Committees : Congressman Pat Roberts from Kansas , astrong supporter of traditional farm programmes, and SenatorRichard Lugar from Indiana, a free-trader and critic of conventionalfarm support programmes." Lugar at least was ready to contemplate aradical reform: he had earlier sent to farm leaders (and academics) aquestionnaire which asked fundamental questions about the need forfarm supports. Roberts, on the other hand, was widely seen as the mostpowerful voice for the agricultural coalition of commodity groups andfarm organisations. The Administration kept a low key and did notsubmit a farm bill proposal of their own.

Senator Lugar introduced a bill in August 1995(seeTable 3.1) whichwas perhaps less radical than might have been expected from such aproponent of liberal markets. It was, however, in the tradition ofgradual reform started in the 1970s. It would have given farmersgreater flexibility to farm set-aside acres but cut price supports toreduce budget exposure. Later in August 1995 Congressman Robertslaunched the Farm Bill debate into high gear with a more radicalproposal, dubbed the Freedom to Farm Act (FFA), which would endall constraints on farmer planting decisions in return for guaranteedcontinued payments for seven years. Neither bill was voted out ofCommittee. The Lugar Bill lost as a result of failing to garner thesupport of the Democrats and the more traditional farm-state Republicans. In its place the Senate Committee reported out a bill whichessentially preserved the current programmes, subject to sufficientreductions in price to stay roughly within budget targets . The defeatof the House Bill was even more surprising, and can be attributed tothe inability of the chairman to convince peanut and sugar intereststhat the bill would not harm them.

The fact that no farm bill emerged from the House was unprecedented. Agricultural Committees jealously guard their position as


initiators of legislation. On this occasion the momentum of the budgetprocess impelled by the zeal of the Republican freshmen overruled theprotection of agricultural turf, and the House leadership chose to putthe provisions of the FFA into the budget bill that they sent to thePresident. The budget bill was, however, rejected, causing a shut-downof the government (on two separate occasions) until the appropriationsfor the administrative departments had been agreed. Although theUSDA was not among the agencies without a budget, there wassome urgency in reaching agreement on agricultural legislation forthe upcoming year.

In response to this urgency, a fresh attempt was made to introducelegislation in the House and the Senate, including a Agricultural Market Transition Programme (which reproduced the main provisions ofthe FFA). Finally, in February 1996, two versions of this new FarmBill were passed in the House and Senate which included the keyelements of the FFA, and a reconciled version of the bill went to thePresident for signature in April. The Secretary ofAgriculture expressedsome lingering doubts on the wisdom of total decoupling and PresidentClinton pronounced himself dissatisfied with the weakening of thesafety net for farmers, but in April he signed the Federal AgriculturalImprovement and Reform Act (FAIR) into law.

Table 3.1 FAIR timeline

June 1995

August 1995

September 1995

November 1995

January 1996

February 1996

March 1996April 1996

Budget Resolution by Republican majority stipulates $13.4bn cut in agricultural spending over 7 years, to help 'balancethe budget ' (based on Feb. 1995 CBO baseline)Pat Roberts introduced Richard Lugar introducedFreedom to Farm Act in more liberal bill in SenateHouse Agricultural Agricultural CommitteeCommitteeFFA blocked in Committee Lugar bill rejected inby 22-27 vote CommitteeFFA re-emerged as Title 1 in budget bill adopted byCongressPresident Clinton vetoed budget reconciliation bill (BalancedBudget Act) and government shuts down (twice)New version of FFA passed Senate version adopted,committee as AMTA and including AMT A, 64-32brought to floor, passed270-155Modified House version agreed in ConferencePresident signs FAIR (includes AMT A)


3.3 PROVISIONS OF THE 1996 US FARM BILL (FAIR ACT)

The novelty of the Farm Bill lies in its replacement of the deficiencypayment programme with decoupled payments. The major provisionsof the bill are summarised in Tables 3.2 and 3.3. The payments arespecified as a budget subvention of $36 billion spread over seven years.The first year payment is $5.6 billion, reduced to $4 billion in the lastyear of the programme, a 28 per cent decline.i The total is divided upby commodity and paid to fanners as if they were still in the acreageprogramme. They do not , however, have to comply with specific acreage commitments. Any crop can be grown on the acreage that waspreviously in the programme (and thus is eligible for the payment) withthe exception of fruits and vegetables (unless already double croppedwith arable acres). Set-asides are no longer required as a condition ofreceiving payments . Thus the flexibility which has been increasing withthe last two farm bills is now complete.

The present system of loan rates is broadly preserved. Fanners candeed their crops to the Commodity Credit Corporation (Ccq at thetime of harvest and receive a loan. If they wish to sell the crop to acommercial buyer they repay the loan. If, however, the market price isbelow the loan rate the fanner can leave the title with the CCC andkeep the loan amount. This 'non-recourse' loan is a convenient (andpopular) way of putting a floor in the market. The loan rate also puts alimit on the size of the deficiency payment, defined as the differencebetween the target price and the higher of the loan and market price.More recently the concept of a 'marketing' loan has become common.Originally the notion was to combine an element of export assistancewith the domestic support. If the price in overseas markets fell belowthe loan rate the fanner who sold abroad had only to pay back thelower amount. The fanner in effect got the loan rate even on foreignsales. This instrument spread from rice to other crops. Together withthe deficiency payment the effect was to give the target price on salesregardless of market price. The loans for cereals, oilseeds, cotton andrice under the FAIR Act are all converted to marketing loans. As thedeficiency payments no longer exist as such but are now transformedinto 'contract' or 'transition' payments the main effect is to strengthenthe role of the loan rate as a price floor. The loan rates are in generalset rather low relative to current market price levels (and in relation toED prices) and so they may not be a major factor in the market.Moreover they can be reduced if the level of stocks (CCC-heid commodities against non-recourse loans) is high.


Table 3.2 Agricultural market transition programme (FAIR, Title I)

(a) Contract payments: Producers who participated in wheat , feed grain ,cotton, & rice programmes in past 5 years can sign 7-year contracts. Thefarmers are then eligible for payments based on previous crop base: 50% onsigning; 50% at end of crop year. The total cost is set at $36 billion over 7 years($5.6 bn in 1996 falling to $4 bn in 2002).(b) Fkxibility: Any commodity can be grown on land previously in theprogramme (including forage crops), with the exception of fruits andvegetables.(c) Loan rates stay in effect (can be reduced if stocks are high)

$2.58/bu wheat ($95/ton) 52 ¢ nb cotton (50¢ min.)$1.89/bu maize ($74/ton) $6.50/cwt rice$5.26/bu soybeans 80 ¢ nb ELS cottonAll become marketing loans.

(d) PeallUts: Support price for quota lowered from $678 to $610/ton.Introduction of a minimum quota - but allow trade in quotas.(e) Sugar: Loan rate stays at 18 ¢ (raw cane) 22.9 ¢ (refined best). Loan isrepayable on demand if imports are less than 1.5 mn tons. Loan is nonrecourse if imports are above that level.End to marketing allotments, but assessment is retained on sugar producers.(f) Dairy: Reduction of support price levels for manufactured milk

$10.35/cwt in 1996 to $9.90/cwt in 1999then recourse loans at $9.90/cwt replace support pricesConsolidate marketing orders from 33 to 10--15 in 3 years.(g) Payment limitation: $50000 limit reduced to $40000: Three-entity rule keptfor farm eligibility.

The situation in the commodities other than cereals and oilseeds isshown in Table 3.2. For peanuts there is a small reduction in price andsome increased flexibility in the ability to trade quotas. However,peanuts continues as a highly protected commodity generating substantial rents to those who hold the production quotas. Sugar policywas changed in minor ways, with the type of loan being dependentupon the quantity of imports . When the level of imports is high theloan becomes of the non-recourse variety, giving producers a littlemore security in the price. Dairy policy is modified somewhat in thedirection of reduction of government support, even if not totallyliberalised. Support prices come down over a period of four years, tobe replaced by loans of the recourse variety. This gives the CCC theopportunity to withdraw slowly from the purchase and storage ofbutter, skimmed milk and cheese. The Bill also allows for the rationalisation of the current Milk Marketing Orders, the regional networkwhich controls the sale of liquid milk from farms. Finally, the market


provisions of the Bill place a slightly more restrictive ceiling on theamount one individual may obtain from the programme.

The trade provisions of the Farm Bill contain a few items which arelikely to be significant in determining the impact on other countriesand on the trade system (Table 3.3). The emphasis is on export promotion (in part because import policy is now quite restricted by theGAIT schedules of bindings). The current programme for promotingexports has been trimmed a little (as a contribution to the budget limit)and the eligibility has been tightened to reflect the criticism that largecorporations were gaining most of the benefits. In addition there is anobligation to help form an export company (a potential parastatal?)which could market US exports. Expenditure on the Export Enhancement Programme (EEP) is authorised to go up from the low levels ofthe past two years to the limit allowed under the GAIT schedule. TheDairy Export Incentive Programme (DEIP) is also authorised at themaximum GAIT-agreed level.

Table 3.3 Trade provisions of the Farm Bill (FAIR, Title II)

(a) Re-authorisation of export promotion programme.Spending down from SIlO million to S90 million.Eligibility confined to small businesses, co-ops, etc.

(b) USDA to help establish export company (Title I) for such items as dairyproducts.

(c) USDA to study impact of cheese imports on milk producers, monitorcompliance with UR obligations and report violations to Congress.

(d) Protection against embargoes.(e) Use DEIP (Dairy Export Incentive Programme) at maximum GATT levels

(Title I).(f) Sliding scale for EEP (cf. S500 million in the 1990 Bill)

1996 S350 ron 1999 S550 ron1997 S250 ron 2000 S579 ron (GATT limits)1998 $500 ron 2001102 $478 ron (GATT limits)

(g) PL 480 Food for Peace curtailed: other programme continued but withprivate-sector participation.

(h) Food Security Wheat Reserve continued as Food Security CommodityReserve: maize, rice, sorghum now eligible (limit of 4 million tons stays thesame) .

The conservation provisions of the new Farm Bill are also of interest(Table 3.4). Although the Conservation Reserve Programme (CRP) iscontinued and over 36 million acres can benefit from payments whenplaced in the reserve, it will now be possible to bring land into and out


of the reserve. This means that with high world prices one is likely tosee an expansion of production as acres are withdrawn from the CRP.This reinforces the effect of the removal of the short-term AcreageReduction Programme (ARP) which used to define the criteria forbeing eligible for deficiency payments. US agriculture will be moreresponsive than before to market signals.

Table 3.4 Conservation provisions of the Faun Bill (FAIR, Title III)

(a) Conservation Reserve Programme contracts up to 36.4 million acresauthorised. Land can go in and out of programme .

(b) 'Fauns for the Future Programme' - preserves farmland from commercialdevelopment ($35 million).

(c) Environmental Quality Incentive Programme (EQIP) authorises $1.2 billionin grants for soil and water management.

3.4 THE FAIR ACT AND THE CAP

The importance of the FAIR can be judged in two dimensions. Itchanges the economic conditions for farmers in the most importantagricultural exporting country in world markets. As such the policychange will have a direct impact on farmers and consumers in othercountries through its effect on world prices. In addition the policychange in the USA has important implications for the continuedprocess of agricultural policy reform in other countries and in particular in Europe. This section deals with the impact on markets beforemoving on to the impact on CAP reform in an indirect way throughthe process of diplomatic pressure and trade negotiation.

The impact on markets can be summarised as follows: the FAIR Actis likely to encourage an expansion of agricultural production, as aresult of the removal of set-asides as condition for payments, theremoval of constraints on what to plant, and the reduction of acreagein the CRP when prices are high. The impact on production is likely tobe greatest for wheat and maize. Estimates run as high as 30 per centincrease in production, but it seems more likely to be about 20 mn tons.One would expect this additional production to keep prices somewhatlower than they would have been, though with strong demand fromAsia they may not decline too far in absolute terms. As a result of theFAIR, export subsidies will be used up to GATT limits until 2002 (ifthe authorised budget is actually appropriated). Export promotion


programmes will also be expanded modestly, tending to depress worldprices further. As a result of these factors, world prices are likely todecline sooner and faster than otherwise.

It is interesting to compare FAIR with the MacSharry (1992) reformof the CAP. This is attempted in Table 3.5. The two policy reforms aresuperficially similar but have somewhat different impacts. The MacSharry reform reduced support prices (for cereals) and replaced therevenue to producers by hectarage payments which were based onregional yield and base year hectares. This introduced a quasidecoupled payment for which the farmer had to plant the particularcereal or oilseed crop in order to get the subsidy. The 1985 Farm Bill inthe USA had already fixed base hectares and yields, and indeed theMacSharry reform picked up many of the features of the US scheme.In the decoupling stakes the US policy is now 'ahead' again by askingfor no conditions for receiving the programme payments other thanprevious participation. The FAIR Act tends to remove restrictions onfarmers; the MacSharry reform increased restrictions on farmingthrough the set-aside programme and the criteria for compensation.

Table 3.5 Comparison of MacSharry reform (1992) with US FAIRAct (1996)

MacSharry FAIR

Adds to short-run budget cost, withpromise of lower costs laterReturn to previous policy not ruled outNot much change likely in next sevenyears (some changes possible afterelection, and in other commodities)

I. Reduces market price and payshectarage payments

2. Makes set-aside compulsory3. Lowers production through

reduction of incentives

Replaces deficiency payments withcontract paymentsRemoves set-asideIncreases production throughincreased flexibility and removal ofrestrictions

4. Cuts need for export subsidies Makes full use of export subsidies5. 'Accommodates' USA by allowing 'Challenges' EU by increasing

GAIT agreement to be concluded competitiveness of US agriculture6. Adds regulations to ensure Removes regulations and lowers

set-aside compliance and administrative costadminister compensationprogrammes

7. Adds to short-run budget costand promises continued payments

8. Return to previous policy unlikely9. Next reform due in a few

months, in particular in dairysector


The pressure on the CAP therefore is likely to come from the fall inworld prices, and the increased competitiveness of the US agriculturalsector. How will CAP react? Some of the remedies which have workedin the past are no longer available. Export subsidy quantities arelimited in WTO, and it will be difficult to expand those enough innegotiations to relieve the pressure on domestic markets. On the otherhand, set-asides are increasingly unpopular, and lead to loss of overseas market share as well as competitiveness. A completion of theMacSharry process, with further price declines for cereals to avoidthe export subsidy constraints, and true decoupling of compensatorypayments, accompanied by a further step in the process by expandingcompensated price cuts to other goods, would allow EU agriculturealso to adjust.

3.5 INTERPRETING POLICY REFORM IN THE USA ANDTHEEU

Agricultural policy reforms in the USA and the EU are both reflectionsof the same process of change in the relationship between governmentand agriculture. This process has domestic, regional and multilateralmanifestations . Domestically, the reform is a function of the spread ofthe neo-liberal paradigm which advocates the reduced intervention bygovernments in markets and in the commercial decisions of the privatesector. If farms are viewed as private-sector enterprises then theirowners and managers should be able to borrow capital, bear risk andmake marketing decisions in the same way as other small businesses.At the regional level the corresponding argument holds that reductionof trade barriers within regional markets enhances efficiency andspeeds up adjustment to competitive industrial structures. Agriculture,until now treated differently in regional trade agreements, should besubject to the same forces of regional competition as other sectors. Andat the multilateral level the search for rules which would allow theliberalisation of the world market has emphasised transparency of anyprotective policies at the border and the trade-neutrality of domesticsupport. Thus the use of bound tariffs and decoupled domestic incomeor infrastructure payments is the preferred type of agricultural supportpolicy.

It is interesting to interpret the significance of both the US and theEU reforms in this framework. This is attempted in this section byposing a set of questions.


(a) The first question to be asked of the recent policy changes iswhether farm policy reform in the EU and the USA is 'permanent' .If a policy change is a short-term expedient masquerading as reformthe tendency will be to revert to type. Will the policy in, say, ten years'time look like an evolution of the reformed policies or will it resemblethe policies of the early and mid-1980s? Should it be thought of as thelast gasp of the old entitlement approach to farm programmes (notbased on need but on participating in a programme) or the firstglimpse of a 'new age' policy which takes the government out ofmaking farming decisions, shifts payments to people rather than hectares, and 'buys out' the political obligation to commodity and farmgroups.

In the case of the USA there is some doubt about the longevity of thereform engendered by the fact that the underlying legislation, the 1949Agriculture Act, is still on the books. Failure to enact new legislation inthe year 2003 will cause the policy to revert to the permanent legislation. This threat (since the 1949 Act would create an expensive chaos)has been the stimulus for the timely passage of the past many farmbills, but it is not clear how credible it is. It would surely be more likelythat a compromise bill could be put together whenever needed. Themain reason why the failure to repeal the old legislation in 1996 wasimportant was that it missed the opportunity to clear the decks.The fact that there has to be new legislation is itself an importantadvantage to those who will argue for the revival of traditional farmprogrammes. The Commission that is to recommend the appropriaterole for government in agricultural markets at the end of the sevenyears will have to propose something: they will find it less easy tododge the issue.

The issue can be put in a different way. Is it likely that the coalitionthat has kept farm programmes in the USA going long after generalsupport in the urban areas had dwindled can stay together and bringback price supports? The coalition relies on the cohesion of commoditygroups despite their widely differing interests, solid support from the(relatively few) Congressmen from overwhelmingly rural constituencies, and the unlikely alliance with those supporting the food stampprogramme. The coalition is beginning to look shaky. The commoditygroups were not united on this occasion. Most of the pressure for theFFA came from Midwestern cereal and oilseed interests, whereasdairy, sugar, peanuts and other powerful sectors provided lukewarmsupport or outright opposition. In the end, separate deals were cut toplacate the sugar and dairy lobbies. Next time around it seems unlikely


that the arable interests will come running to save these sectors fromthe reformers' scalpel.

CAP reform is likely to be permanent for rather different reasons.Both internal and external forces will act to keep the policy frombacksliding. Internally, the benefits of a lower cereal price are clearlyevident to the livestock sector and the renewed use of domestic grain inanimal feed has made market management easier. Externally theGATT agreement, and the schedules of export subsidies incorporatedinto the EU's bindings, add up to an effective brake on any significantrecidivism. And if the EU is to welcome new members at the end of thedecade the policy needs to be able to accommodate their absorption.The enlargement of the Union will leave no room for the type ofpolicies that the EC-6, the EC-9 or the EC-12 pursued for manyyears. A Union of 20 or more will neither be able to afford theexpenditure nor be able to justify the economic costs of such a policy.Of course the CAP could be 'rescued' by the device of a 'green wall'around the existing member countries and using border taxes as a wayof preserving a higher price level for those countries . The politicalimplications of this are worrisome. The message would be sent thatagriculture is valued highly in the existing members but not in the newmembers. Any semblance of equity would be lost if the agriculturalexports of Hungary and Poland cannot sell freely in Germany afteraccession. In other words, political reality will require the CAP tochange to allow for enlargement, which will in tum lock in the secondround of reforms.

(b) The second question is that of instruments in the reformed policiesof the USA and the EU. Ifthe policy reforms are to become permanentthere has to be a set of instruments which address the continuedproblems of the rural economy. Without such instruments the removalof price supports is essentially dependent upon favourable (i.e. firm)world market price levels. The armoury of possible weapons for dealing with rural employment, farm income levels and social stability isextensive. Unfortunately most of it is untested, or tried only on a smallscale. The fate ofdecoupled payments over time is itself uncertain. Willthey become truly portable, attached only to the individual that wasfirst the recipient? That may have some implications for land pricesand raise some interesting landlord-tenant problems. Will they becomesaleable? If the payments are portable assets there is no reason whythey should not be sold to others, presumably at a discount reflectingthe credibility of the commitment to future payments . If they did


become portable and saleable the impact on the rural economy couldbe significant, as investment shifted from agriculture to other areas.Will they become truly green, being tied to environmental farmingpractices? This is certainly the way the ED is pointing, but it remainsto be seen whether the farm interests will object to the layer of supervision necessary to make significant payments in a fair and effectiveway. Will farm income stability be dealt with by other instruments?Crop insurance is likely to be one such instrument. But farmers in theUSA are experimenting with a variety of monetary instruments foroffsetting risk, such as the use of options. The terms of sale of farmproducts could over time evolve to include more contracts. Incomeinsurance and tax equalisation schemes can prevent the major swingsin income that often beset the farm sector.

(c) The third question is whether the new policies are compatible withthe development of regional trade agreements and the process ofmarket integration in the Americas and in Europe. In the Americasthere is an ambitious objective to achieve free trade throughout thehemisphere within ten years. NAFTA has made a start in pointing theway to a free trade area in North America, and MERCOSUR ispursuing the same path in South America. Those countries caught inbetween have their own somewhat less liberal trade pacts (AndeanPact, CARICOM and the Central American Common Market) andare scurrying to find an accommodation with the two large blocs onthe Continent. The new Farm Bill makes a significant contribution tothis process by reducing the involvement ofthe government in supporting prices. One could imagine a free market in cereals and oilseeds andperhaps beef in the next few years. Nevertheless there will be frictionover sugar and over fruits and vegetables, as well as over dairy products . In these areas the Farm Bill makes only a hesitant step towardsregional market integration.

In the case of the ED there is little doubt that the MacSharry reformat a stroke made the economic integration of the European economies,west, central and east, markedly easier. By lowering the price level andcompensating with direct payments it is less likely that the market willhave to be kept segmented between east and west. That is not to saythat there will not be problems of deeper integration. There will alwaysbe those in the existing EU that will object to the importation of goodsfrom the new members. After all, French farmers still protestagainst agricultural imports from Spain, Italy and the United Kingdom on the smallest pretext. But the political imperative to allow the


Central European countries access to Western markets will over timeallow the economic benefits of specialisation and trade within theenlarged EU.

(d) The fourth question is whether the policies as reformed are compatible with the parallel reform of the multilateral agricultural tradesystem and the adoption of a new set of rules under the WTO. TheMacSharry reform of the CAP made a conclusion of the UruguayRound possible. However, the trade reform has only extended to theestablishment of new rules (no non-tariff barriers, no new exportsubsidies and a definition of acceptable domestic subsidies) and hardlytouched the level of protection. Access to agricultural product marketsis still more highly protected than in other traded goods. While themajor countries were having to calculate the impact of trade agreements on their own ability to manage markets the negotiations oversubstantive agricultural trade liberalisation were difficult. But thenew reformed policies in the USA and the EU may be changing thissituation.

Is FAIR, then, the policy change that makes a liberal global tradesystem possible for agriculture? It could be, if the US negotiatingposition in the 1999 Mini Round of the WTO is strengthened and ifit has not needed export subsidies in the meantime . The EU runs therisk of being isolated in the WTO. The 'blue box' in which the USAand the EU agreed to shelter their deficiency payment and compensation payments from reduction and challenge will now by occupied onlyby the EU. Hence the pressure to get rid of this anomaly will beirresistible. The Mini Round is scheduled to begin in 1999, and theshape of the agenda is already being determined. This will includepressure to continue export subsidy reduction, to improve marketaccess, and further reduction in AMS. There are reasons to hope thaton this occasion the necessary shift in EU policy to bring it intoconformity and strengthen the bargaining position will take placewithout the six years of contention and confrontation that characterised the Uruguay Round negotiations.

(e) The fifth question is whether the combination of the MacSharryreform in Europe and the FAIR in the USA will reduce the tensionsacross the Atlantic in agricultural matters. In the long run there is littledoubt that the act of decoupling farm support payments from outputwill help to reduce the tensions between the USA and the EU. However, the benefit may not be felt at once. Indeed, for a time there may


actually be an increase in transatlantic tension. The pressure is now onthe EU to make the next move in further policy reform. The Commissioner for Agriculture has said that he looks forward to a time whenEU agriculture is internationally competitive without the aid of exportsubsidies. Such an eventuality would be hastened by a continuation ofthe policy reform of 1992. If'MacSharry II' were to bring EU prices toworld market levels, transatlantic agriculture relations could improve.Otherwise, tensions will tend to continue.

If tensions did lessen, this could pave the way for an agriculturalelement in the transatlantic agenda. One aspect of this agenda hasbeen the liberalisation of trade between the USA (and Canada) andEurope. Agriculture is obviously a sticking point in such discussions.But difficult trade issues must be faced rather than avoided if thetransatlantic agenda is to be credible. No one is sanguine aboutthe prospects for a free trade area including agriculture spanning theAtlantic. However, there are other steps which would be beneficialto both the direct participants and the rest of the trading world. Oneof these is a bilateral pact putting a moratorium on the use of exportsubsidies. Rather than raise fears about trade diversion and corrosivebilateralism, the rest of the world could welcome such a pact ascontributing to peace and stability on world markets. The recent USreform and the expected further evolution of the CAP give some hopethat such a moratorium would not be impossible to negotiate .

The climate of transatlantic relations may in the end depend onwhether the USA is really out of agricultural commodity support.Will the next administration raise the safety net? Will the USA revertto the old legislation when the current bill expires?If so then there willbe resistance to the negotiating away of farm support instruments.Congress may also not allow USA to lose market share to the EU.Export subsidies have been authorised, though that does not ensurethat the funds will be appropriated. They may be kept as a weapon forthe conduct of trade wars long after their use as cost-effective domesticmarket management (if such it ever was) has disappeared. Under thesecircumstances the prospects for peace look dim. But if the FAIR Actreally represents a major shift away from Congressional involvementin farm markets then the possibility of a different US-EU relationshipis not so far-fetched. The outcome may in the end depend largely onworld price developments. High prices would lead to less tension andless tendency to revert. Low prices, on the other hand, could befollowed by increasing pressure to go back to commodity marketsupport.


3.6 CONCLUSION

Is FAIR the final act in the 63-year history of US domestic marketintervention in agriculture? The answer is not yet clear. Have farmersbeen 'bought out' by the seven-year payments? If so then the USA canbargain from strength and push the EU harder in trade negotiationssuch as the Mini Round due to get underway by 1999. In this senseFAIR may be the last straw for the 'old' CAP. The continuation of theEU reform process might be an inescapable consequence of US policyreform. It might be impossible for the EU to be the only country tocarry the market support for major commodities. The USA would nolonger need to play that role, as the short-run stabilisation of commodity prices would no longer dominate farm policy. It is a little tooearly to be sure that the Farm Bill will have this effect, but this seemsquite likely to be the case.

The needed changes in dairy and sugar policies will not come easily.But it is worth speculating on the types of policy change which wouldmake the transatlantic dialogue more fruitful. What could one do aboutsugar? Could one make EU sugar quotas transferable and allow 'C'sugar onto the domestic market in limited form, and allow quota buyout? How does one get around the fact that both the EU and the USAgive preferential quotas to certain supplying countries? In the case oftheEU the ACP sugar exporters sell at 'internal' market prices. They wouldbe vulnerable to cuts in price. But these changes too could be compensated. One could monetise ACP sugar quota rents, for example, alongwith those for bananas. EU dairy policy could be modified by simplyletting producers sell milk over and above quota levels abroad at theprevailing world market price without a subsidy. Such a price would notbe adequate for the smaller and the less efficient producer, but it wouldestablish the fact that Europe could develop a competitive dairy industry . Allowing milk quotas to be saleable across national boundarieswould also go a long way to rationalising milk production.

Can the EU 'leap-frog' the USA and regain the lead in policyreform? This seems unlikely, as the decision process is more cumbersome in the EU and the ability to take bold action is circumscribed.However, the EU could by instituting a further reform settle thetransatlantic cereals and oilseeds issues as well as reforming the tradesystem for dairy and sugar. The EU could, for instance, institute aversion of the FAIR Act by paying acreage payments as a seven-yearfixed sum, unrelated to output. This is, of course, easier to do in a timeof high world prices.


FAIR unleashes US agricultural potential by increasing the efficiency of US agriculture and improving the competitiveness of thesector on world markets. The challenge for the EU is to do the same.The USA is rationalising production in its own agriculture through thebetter use of resources previously idled or in inappropriate productionas a result of the incentives of the policy. The EU needs to free itsagriculture also from the incentives to produce goods for which nocommercial outlet exists, and from the need to produce just to collectthe hectarage payments. There is, however, a larger issue of resourceallocation. The aim of the EU should be to end the division betweenEast and West and integrate Central Europe quickly into the mainstream of EU agriculture. Under the old CAP this would have beenimpossible and wasteful. Under the existing CAP it is feasible but stillproblematic. But under MacSharry II, with markets clearing at or nearworld prices, firms exporting with no export subsidies, and farmersproducing with no quota limitations, such an integration is bothfeasible and desirable.

4 Implications of the EDEast Enlargement for theCAPMonika Hartmann

4.1 INTRODUCTION

The collapse of the central economic systems in the East has led toconsiderable changes in the world economic environment, inducingadjustment pressures not only in Central and Eastern Europe butalso in the rest of the world. This holds for the private sector as wellas for the political sphere. The European Union (ED) is aware of thisnew responsibility. The conclusion of Europe Agreements (EAs) withten Central and Eastern European countries (CEECs)l can be regardedas a first step towards opening up EU markets to the East. Beyond this,the integration of the CEECs into the EU is wanted on both sides foreconomic and political reasons. As one of the main obstacles to theplanned East enlargement, however, agriculture has come under firefrom all parties. Sensitivity with respect to agriculture is pronounced inthe CEECs, as well as in the EU. Due to the relative importance oftheir agricultural sectors, the CEECs have great interest in open WestEuropean agricultural markets, while at the same time the EU ishaunted by the fear that it might be flooded by agricultural productsfrom the East, thus making it impossible to keep up protection for EDfarmers. The design of the Europe Agreements reveals this concern.The preferences granted in these agreements are especially modest withrespect to agriculture. Regarding the East enlargement, the highbudgetary costs of extending the Common Agricultural Policy(CAP) of the ED to countries in which agriculture is a relativelylarge part of the economy is seen as a major obstacle. In addition,there exist some doubts with respect to the conformity of an Eastenlargement of the CAP with the GAIT. Thus, it is questionedwhether the integration of the CEECs can really be regarded as arealistic option assuming a continuation of the CAP. But what wouldbe the alternatives?

54

Implications of the EU East Enlargement 55

This chapter attempts to find first answers to these questions . Itstarts by discussing and comparing the importance of agriculture in theEU and the CEECs (section 4.2). It then analyses the price, technology,efficiency and distributional effects as well as the GAIT congruity oftransferring the present CAP to the CEECs (section 4.3). Section 4.4examines the EU budgetary effects of CEEC membership while section4.5 briefly discusses options for alternative accession strategies.

4.2 IMPORTANCE OF AGRICULTURE IN THE CEECS ANDTHEEU

The integration of the Visegrad countries (Hungary, Poland, the Czechand Slovak Republics) and possibly Slovenia is planned in the mediumterm. In the long run the Baltic states as well as Bulgaria and Romaniamight enter the EU too. For the CAP this presents a historical challenge since these countries

• have a considerable agricultural production potential;• are much poorer;• protect their agriculture less than the EU.

The favourable resource base as well as the considerable importance ofagriculture in the overall economy of the CEECs are revealed in Table4.1. The endowment with agricultural land per capita is about 50 percent higher in the CEECs compared to the EU. The Baltic countriesespecially have a very large resource base for agricultural production.Further, in Central and Eastern Europe the ratio of arable land topopulation is about twice as high as in the EU.

The relative weight of agriculture in the overall economies of theCEECs, as well as in the EU-15, is indicated by agricultural productionvalues as a percentage of gross domestic product (GDP) and agricultural employment as a percentage of total employment (see Table 4.1).Measured with respect to GDP, the relative importance of agriculturein the CEECs is about three times as high as in the EU-15. The share ofagriculture in GDP is especially pronounced in Romania (20 per cent).The employment indicator reveals an even more noticeable differencebetween West and East Europe. With respect to this ratio the relativeimportance of agriculture in the CEECs is more than four times higherthan in the EU. In Poland 25 per cent of all employed persons areworking in agriculture. In Romania, indeed, every third person earns

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income in agriculture. In comparison only 6 per cent of all employedpeople in the EU are active in agriculture.

Since the CEFfA2 countries and Slovenia might be the first to enterthe EU it seems worthwhile to pay special attention to these nations .The data in Table 4.1 reveal that the land endowment per capita as wellas the relative importance of agriculture in the overall economy is alsohigher in these countries than in the EU. However, compared to all tenCEECs the differences are much smaller.

An integration of the CEFfA countries with the EU would, ceterisparibus, increase the agricultural land endowment of the enlarged EUby about 30 per cent and agricultural production volume by about 15per cent, while agricultural production value and GDP would onlyincrease by 4 per cent and 2.6 per cent respectively (see Table 4.2).3

Table 4.2 Comparison of agriculture in the CEECs andthe EU-15 (EU-I5 =100)

Indicator CEEC-101 CEFI'A+2

Agriculturalland' 44 23Arable land! 55 31Agricultural employment' 116 56Agricultural production value" 7 4Production volume or- Grain 43 (47) 26 (29)- Oilseeds 28 (38) 17 (26)- Sugar 18 (25) 15 (19)- Fruits and vegetables 28 (34) 16 (20) .- Milk 22 (31) 15 (21)- Beef 18 (21) 10 (15)- Pork 25 (36) 18 (25)- Poultry meat 18 (27) 12 (17)

. . . ~: .:.:*»~ .....x..

Notes:1 Bulgaria, Czech Republic, Estonia, Hungary, Latvia,

Lithuania, Poland, Romania, Slovak Republic, Slovenia2 Czech Republic, Hungary, Poland, Slovak Republic, Slo-

venia3 The data refer to 19934 The data refer to 1994 (data in parenthesis refer to 1989)Source: Own calculations based on European Commission,The Agricultural Situation andProspects in the Central andEastern European Countries: Summary Report, WorkingDocument, Brussels 1995.


Even more pronounced, if all CEECs are considered, are the differences between the increase in the resource base and the productionvolume on the one hand and the rise in GOP on the other hand (seeTable 4.2).

The analysis so far reveals that the East enlargement will induce amuch larger increase of the agricultural sector compared to the overalleconomy. This explains why the consequences for agriculture andagricultural policy have become a main focus in the discussion of anED-East enlargement.

4.3 IMPLICAnONS OF AN EAST ENLARGEMENT OF THEPRESENT CAP TO EMBRACE THE CEECS

What would be the effects ofextending the ED system of price support,as well as its quotas, set-aside and subsidies, to the CEECs? Whatwould be the budgetary consequences and the efficiency and distributional outcome of such an East enlargement of the CAP? The answersto these questions mainly depend on

• the relative input and output prices and the relative level of technology in the CEECs compared to the ED at present;

• the production and consumption structures in the CEECs at present;• the price and technology induced adjustments of the production

structures and the commodity price induced adjustment of the consumption structures.

4.3.1 Price Effects

Some preliminary evidence with regard to farm gate prices of selectedCEECs in relation to those in the EU are summarised in Table 4.3.In this table, 1994 prices in the CEECs are expressed as a percentageofthe equivalent ED price. It is worth noting that, with the exception ofwheat in Slovenia and pork in Poland, all price ratios are below 100. Ingeneral, the prices in the CEECs only amount to about 50 per cent ofthe respective ED prices and often the ratio is even smaller. This holdsespecially for the Balkan countries and those in the Baltic," as well asquite generally for milk and beef. This reveals that agricultural prices inthe EU are much higher than those in the CEECs.

Even more interesting than investigating the price ratios between theCEECs and the ED is the analysis of the relative price structure. This


can be obtained by dividing the CEECIEU price ratios for each product by the respective wheat price ratio (Table 4.3; numbers in parenthesis). The results reveal especially low relative prices of beef andmilk. So, for example, in Latvia, the relative price of beef is only about20 per cent of its level in the EU. Similarly, in the same country, therelative price of milk is only about 30 per cent of its EU level.

Table4.3 Agricultural producer prices in selected countries of Central andEastern Europe relative to the equivalent prices in the EU-IS (1994)1

Price in the EU =100

Country Wheat Corn Milk Beef Pork Poultry

Poland 73 (100) 33 (45.2) 40 (54.8) 103 (141.1) 88 (120.5)Hungary 56 (100) 52 (92.9) 70 (125.0) 52 (92.9) 98 (175.0) 77 (137.5)Czech Rep. 66 (100) 72 (109.1) 54 (81.8) 59 (89.4) 94 (142.4) 68 (103.0)Slovak Rep. 63 (100) 67 (106.3) 52 (82.5) 50 (79.4) 88 (139.7) 74 (117.5)Slovenia 131 (100) 89 (67.9) 74 (56.5) 32 (24.4) 92 (70.2) 64 (48.9)Romania 60 (100) 54 (90.0) 57 (95.0)Bulgaria 40 (100) 51 (127.5) 36 (90) 24 (60) 53 (132.5) 44 (110.0)Lithuania 45 (100) 21 (46.7) 22 (48.9) 81 (180.0)Latvia 90 (100) 26 (28.9) 18 (20.0) 77 (85.6)Estonia 56 (100) 26 (46.4) 12 (21.4) 43 (76.8)

Notes :1 The numbers in parenthesis indicate the relative price structure in the CEECs com

pared to the EU. They arc calculated by dividing the CEECIEU price ratio of theconsidered agricultural product by the respective wheat price ratio. Vacant cells in thetable indicate the absence of relevant price data.

Source: Own calculations based on European Commission, The Agricultural Situationand Prospects in the Central and Eastern European Countries: Summary Report, WorkingDocument, Brussels 1995 and European Commission, The Agricultural Situation andProspects in the Central and Eastern European Countries - Various Country Reports ,Brussels 1995.

There might be three main explanations of these differences withrespect to the level and structure of agricultural prices. First, there issome reason to believe that product quality and standards differbetween the CEECs and the EU, for example, quality assessmentaccording to the classification system EUROP has not yet been introduced in many CEECs. Especially with respect to meat and dairyproducts manufactured in the CEECs, relatively lower quality mightpartly explain why farm prices are lower in the CEECs.

Inefficiencies in the food industry and deficiencies of wholesalemarkets seem to be a second reason. Up to now the food industry inmost CEECs has suffered from severe overcapacity, high input costs,low labour productivity, outdated processing facilities and a lack of


managerial market orientation. Besides these inefficiencies, monopolistic market power is still persistent in the food industry and distribution systems and can be regarded as an additional factor explainingrelatively low farm gate prices in the CEECs.

Third, and of great importance as well, are pronounced differencesin protection rates which exist between the CEECs and the EU. Table4.4 reveals that in 1994 protection measured in producer subsidyequivalents (PSEs) amounted to about 50 per cent for all agriculturalproducts in the EU, while it reached only about 20 per cent in Poland,Hungary and the Czech Republic . Agricultural protection is negligiblein Latvia (1 per cent). In Lithuania and Estonia governmental intervention even induces a small discrimination against the agriculturalsector. No comparable information is available for Slovenia, the Slovak Republic or the Balkan countries. However, there is some evidencethat whereas the latter discriminate against their agricultural sector,the former probably protect their fanners to a similar extent to theother CEFTA+ countries.

However, although the level and structure of protection both differconsiderably between the CEECs and the EU, it is rather similar inthose transition countries considered in Table 4.4. All CEECs protecttheir non-ruminant meat sector (pork, poultry and eggs) to a muchlarger extent than is the case in the EU. In Hungary, for example, eggproducers receive support eight times higher than in the EU. The highPSEs for non-ruminant meat products are partly due to discriminationin the feed sector (wheat and coarse grain) which implicitly favourssectors that use wheat and coarse grain as an input.

An East enlargement of the CAP would lead to an elimination of thedifferences in the protection levels between the EU and the CEECs,thus inducing a sharp rise in producer incentive prices in the CEECsfor all commodities but non-ruminant meat products. Given theseprice increases a considerable rise in agricultural production might beexpected. The price effect and thus the production incentives would,however, be reduced if the CEECs were not successful in

• increasing the quality of their agricultural and food products;• reducing the inefficiencies in their food industry and wholesale

markets

and thus in lessening the price disparities due to these factors .At this point it should also be noted that integration with the EU

will not only induce a rise in agricultural producer prices in the CEECs,

Tab

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.


but will also lead to an increase in input prices which, at present, arefar below the equivalent EU level. The relative wage rate in theCEECs compared to the EU amounts on average only to about 20per cent and is in many cases even smaller (see Table 4.5). Slovenia,where the relative wage ratio is higher at 40 per cent, is an exception inthis respect. In Table 4.5 the CEECIEU price ratio for selectedagricultural products is divided by the CEECIEU wage ratio.The results reveal that product prices are high relative to the wagerate in the CEECs. For all products and all countries in Table 4.5(except beef in Slovenia) the proportion of the CEECIEU productprice ratio to the respective wage ratio is more than 100 per cent. Inmost cases it lies well above 300 per cent. An adjustment of input pricessuch as wages in the CEECs, following an integration with the EU,could further lower the heightened production incentives previouslydiscussed.S

4.3.2 Adjustment in Productivity

Not only prices but also productivities differ considerably between theCEECs and the EU (see Tables 4.6 and 4.7). Table 4.6 summarisesyields per hectare for major crops as well as milk yields per cow. Theresults reveal that, with the exception of rapeseed in Slovenia, agricultural productivity has been much lower in the CEECs compared to theEU. In the Baltic states and Romania yields per hectare only reached40 per cent to 50 per cent ofthe equivalent level in the EU, while in theCzech and Slovak Republics, Hungary and Slovenia they were somewhat higher at about 80 per cent to 90 per cent of the EU level. Ingeneral, the difference in productivity is smaller for wheat and rapeseed6 than for com, sugar beet and milk.

Table 4.6 also shows that all CEECs underwent a considerabledecline in agricultural yields as one side effect of the farreachingtransition process to greater market liberalisation. Yields in 1994amounted by and large to only 80 per cent of their 1989 levels. Likelyreasons for this development were the decline of the ratio of product toinput prices, the lack of inputs and insecurity with respect to propertyrights in agricultural land. Thus, with full agricultural recovery, production might increase considerably. The potential for growth in thelong run might be especially good in those countries with very lowproductivity levels due to depressed producer prices and backwardtechnology prior to the beginning of the transition process (Balticand Balkan states).

Tab

le4.

6G

ross

agri

cultu

ralp

rodu

ctiv

ities

inth

eC

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and

the

EU

Cou

ntry

1989

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9192

9394

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9189

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8688

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Tab

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6(C

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Rap

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d(d

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t(d

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30.4

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27.4

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399

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308

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3654

3660

2970

3130

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Pol

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18.2

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316

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Additional information on the productivity of agriculture in theCEECs compared to the EU can be obtained from absolute andrelative labour productivity values (see Table 4.7). The contributionof agriculture to GDP per agricultural worker is defined as agriculturallabour productivity while the non-agricultural part of GDP per nonagricultural worker is defined as labour productivity in the rest of theeconomy. The relation between the two is the relative labour productivity of agriculture (Dicke, 1995). The data in Table 4.7 suggest thatthe agricultural and non-agricultural labour forces in the CEECs areboth less productive than their counterparts in the EU. Only Hungaryand Slovenia reach about 30 per cent ofthe EU productivity level. TheBaltics and the Balkan countries achieve even less than 10 per cent ofthe EU productivity level inside and outside of agriculture . Theseresults indicate that the CEECs have an absolute disadvantage in theproduction of agricultural and other goods. However, it is notthe absolute but the relative or comparative advantage that is decisivein determining the international competitiveness of a sector. Therelatively higher productivity of agricultural labour in all CEECs,except Poland and Bulgaria, indicates a comparative advantagefor agriculture." The low relative labour productivity of agriculturein Poland and Bulgaria is mainly due to the high intensity of labourusage (see Table 4.7). Thus , if labour productivity in agriculturecan keep pace with that in the rest of the economy, most CEECsshould be able to become net exporters of agricultural products in anintegrated European market in which goods are traded withoutprotection.

4.3.3 Efficiency Effects

Assuming that integration of the CEECs into the EU does not lead tochanges in the CAP, and thus in agricultural price levels and quantityrestrictions applied at present in the EU, efficiency and distributionaleffects in the EU will only be induced due to the necessity of raisingtaxes to pay for the budgetary consequences of the enlargement. Theimplications in the new member states - the CEECs - are, in contrast,numerous and quite ambiguous. There is some reason to believe thatconsiderable efficiency losses will occur in the CEECs for three reasons.

First, losses in efficiencywill occur since the extension of the presentCAP to the CEECs will induce or aggravate the misallocation ofresources in these countries. This is due to misleading price signals


and especially to the EU quota and set-aside schemes. The implementation of quantity restrictions in the CEECs would be even moredetrimental than they have been in Western Europe, since the modernisation of production structures has only just started in the transitioncountries where large intrasectoral and intersectoral resource flows arestill in progress. Transferring EU quantity restictions to those countries would prevent the CEECs from adjusting their production structures so as to maximise their comparative advantage.

Second, the CEECs may adapt their prices to the EU level beforethe advent ofenlargement in order to have a high production base oncequotas are allocated. This would induce additional efficiency losses inthe CEECs and an unnecessary budgetary burden prior to enlargementas well as increasing the future budgetary burden of the EU.

Third, additional efficiency losses are likely to occur due to theconsiderable administrative costs of implementing and controllingquantitative restrictions. In this respect it is ironic that countriesadhering to a central planning system for so long might be encouragedto adopt a system of quantity restrictions in agriculture.

4.3.4 Distributional Effects

From a distributional point of view the resource transfer from the EDto the CEEC member states seems desirable, given the much lowerincome level in these countries (see Table 4.8). However, such transferswill not primarily favour the most needy people, since

• as they will tend still to be linked to production volumes, largeagricultural units will benefit most from integration into the EU;

• low income families are hardest hit by higher food prices (Engel'slaw);

• boosting incomes in agriculture compared to other sectors of theeconomy cannot be justified.

The second of these points seems particularly a problem in the CEECs.Table 4.8 reveals that in these countries an average 36 per cent of totalhousehold expenditures is devoted to food . In Romania the proportionis even higher at 60 per cent. The data in Table 4.8 are only averagevalues across the entire population of each country. For the poorestsection the proportion of income expended upon food is indeed muchhigher. Transferring the high price level of the ED into the CEECcountries might have considerable negative implications for the foodsecurity level of the poorest people there .


Table 4.8 Determinants offood demand in the CEECs and the EU-15 (1993)

Country Population

in Mio

Gross domesticproduct/capita

in ECU in ECUpppi

Food expenditure as% of total household

expenditure

Poland 38.5 1907 4838 30Hungary 10.3 3150 5967 31Czech Rep. 10.3 2586 7507 32Slovak Rep. 5.3 1643 6367 38Slovenia 1.9 5018 7697 28"'17"'~flBll~?~~I·1?_.Romania 22.7 961 2941 60B 8.5 1110 3754 48

Lithuania 3.8 627 58Latvia 2.6 850 45Estonia 1.6 938 391!i1{f~~""i1lMBW'~f'I0~~~1ICEEC-IO 105.5 1786 36EU-15 369.7 15972 15879 22

Notes1 Purchasing power parity.2 The aggregate CEFTA+ includes Slovenia.3 The aggregates were calculated by weighting the data for the respectivecountries with the GDP of that country.Source : Own compilation and calculation based on data of European Commission, The Agricultural Simulation and Prospects in the Central and EasternEuropean Countries: Summary Report, Working Document, Brussels 1995.

4.3.5 GATTIWfO-Conformity

Integration of the CEECs into the EU would not only induce unfavourable efficiency and distributional effects in the countries concerned but would also violate some GATIIWTO obligations forHungary, Poland, the Czech Republic, the Slovak Republic andRomania who are GATIIWTO signatories as well as for other countries that strive for membership. The problem for the CEECs is not somuch that the Uruguay Round Agreement obliges them to reduce theirtariffs to an unacceptably low level. Indeed, most tariffs were bound at


a comparatively high level.8 However, the export subsidy commitmentsand/or the Aggregate Measure of Support (AMS) bindings would bebreached for the CEECs were the provisions of the existing CAP to beapplied to them (OECD, 1995a). This would apply especially to theCzech and Slovak Republics and Hungary which bound their exportsubsidies and their AMS in their national currencies. Hungary hasalready breached its export subsidy commitments due to high inflationrates and other miscalculations. This indicates that implementing thehigh EU agricultural price level in those countries prior to or followingintegration would probably lead to major violations of GAIT obligations," This holds especially with respect to export subsidy commitments since countries which did not report export subsidies for aproduct in the base period in their country schedules are now disallowed from using this policy measure for those products (OECD,1995b, p. 16; Agra-Europe, 1995, No. 153, p. 2).

4.4 EU BUDGETARY EFFECTS OF IMPLEMENTING THECAP IN THE CEECS

The exposition in section 4.3 indicated that the CEECs have a relativehigh agricultural potential which, at this point, has not been fullyutilised. The incentive effect of adjusting their agricultural outputprices to the EU level would inevitably boost production to a majordegree. The exact magnitude of these effects very much depends onconcomitant price changes in input markets, adjustments in agricultural product quality, in the food industry and in wholesale markets, aswell as upon induced technical innovations.

At the same time, demand would decline. Several studies haveestimated that under this scenario the CEECs would become netexporters of main agricultural products. Under the terms of EUmembership the financial costs for export subsidies, intervention measures, direct subsidies and other instruments would be covered bythe EU budget (due to application of the principle of financial solidarity), although the countries of Central and Eastern Europe wouldhave to pay part of the budget cost according to their share in EUGDP.

Estimates of the budgetary cost of extending the CAP to the CEECsvary from a low of 2.4 billion ECU to a high of more than 37.6 billionECU (see Table 4.9).10 The wide differences in cost among the studiesare mainly due to assumptions regarding


• production changes due to an agricultural restructuring in theCEECs and to higher agricultural prices following ED membership;

• consumption changes due to higher food prices;• world market prices;• mode of integration (e.g. no transition period or a lengthy one);• the state of the CAP at time of entry;• the number of countries covered.II

Beyond this, the studies also vary concerning the consideration of

• direct payments;• changes in input prices;• induced world market price changes.

The highest estimates would lead to a doubling of the 1996 FEOGAGuarantee budget of 41 billion ECD . But even more realistic estimatesof around 10 billion ECD to 20 billion ECD for enlargement to admitthe four Visegrad countries seem substantial in comparison to thepresent budget. This points to the view that the ED must furtherreform the CAP to be able to accommodate the CEECs.

This conclusion has, however, been met with objections. Based on asimple forecasting model of the FEOGA Guarantee Section budget,Matthews (1996) shows that a significant positive margin will emergebetween the agricultural guideline'{ and the cost of ED agriculturalpolicy by the beginning of next decade. Depending on the assumptionswith regard to key variables affecting the resources available for agricultural expenditure.P he calculates a margin of between 1.6 billionand 7.4 billion ECD (5.9 billion and 14.5 billion ECD) in the year 2000(2005). Given these results it seems that substantial resources would beavailable in the FEOGA Guarantee Section to fund at least most of thecosts of an East enlargement.

It should, however, be noted that the structural funds'? representanother problem of similar dimension not covered either by the estimates of the costs of CAP enlargement so far discussed, nor in thestudy by Matthews (Rollo, 1995, p. 469). It may be assumed that,similar to the new Bundeslander, the whole area of the CEECs willbe accepted as an 'Objective I' region, i.e. as a region of highestpriority for structural aid, although, in the past, it was mainly thesouthern European countries that were granted these subsidies. Calculations based on the receipts per head of the poorest four members of

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the ED suggest costs of 26 billion ECD for the Visegrad-4 alone(Baldwin, 1994, p. 169). This would add another significant burdento the ED budget which might well breach the agricultural guideline.

4.5 ALTERNATIVE INTEGRATION STRATEGIES

The exposition so far indicates that an extension of the CAP to theCEECs would induce detrimental efficiency and distributional effectsin these countries while, at the same time, increasing the burden for theED budget to a major degree. In addition the GATTIWTO commitments of the new member countries would be violated. Two basicsolutions which might possibly be adopted to try to overcome theseproblems are now briefly outlined and compared.

Option 1: Wait andSee Approach

The ED might adopt a 'wait and see' approach having the effect ofdelaying as long as possible the date of agricultural accession, andpossibly also of integration in other economically sensitive areas(Bofinger, 1995). Thus, agriculture might be exempted from integration with the internal market for a long, preferably indefinitely long,transitional period . Such a strategy would, however, have a number ofnegative political and economic repercussions, especially if it was alsoapplied to other economically sensitive areas. First, it might well bethat the initial enthusiasm in the East for integration with the EDmight cool down, since the countries concerned are interested only infull membership, including especially unrestricted access to ED agricultural markets. Given the relative importance of agriculture in theEast, an expanding and dynamic agricultural sector seems to be acrucial factor for achieving full prosperity as well as for reachingeconomic and political stability. Reducing the CEECs to the status ofsecond-class members, by a 'wait and see approach' with respect toagriculture, might increase resistance in these countries against EDmembership, given the fact that signs of growing nationalism arealready in evidence.

In addition, a strategy of accession without agriculture would violatethe principle of the single internal market. Border checks would needto stay in place solely to administer agricultural policy. This wouldinfringe an important cornerstone of the process of integration in theED.


Thus there appear to be serious objections to the adoption of thewait and see approach as a viable option for EU East enlargement withrespect to agriculture.

Option 2: Transformation in the EU and the CEECs

An alternative to the passive 'wait and see' approach would be anactive 'accession strategy' affecting both the EU and the CEECs. 1S Forthe EU this would imply a continuation of the 1992agricultural policyreform by

• further reducing price support for those products already covered bythe reform, mainly grains and oilseeds;

• lowering price support for other commodities excluded so far fromthe agricultural reform;

• eliminating set-aside schemes and removing the quota systems formilk and sugar;

• granting recompense for reduced price support in the form of'compensatory payments', which should be decoupled fromproduction and preferably financed at a national level. If decoupling was achieved there would be no necessity for extending compensatory payments to the CEECs given that prices there areunlikely to decrease but rather to increase (Tangermann, 1995, p.282).

The CEECs on the other hand would need to work on improving thequality of agricultural products and the performance of their foodindustry and their wholesale markets, as well as the institutional settingfor agriculture and food processing. Emphasis is needed on the entireprocess of privatising the agribusiness sector, as well as upon theimplementation of quality standards, and better market and priceinformation systems, to improve the functioning of the markets.Support by the EU to foster these reforms is already given by thePHARE programme and should be extended. The existing EUand the CEECs would both need to set a common strategy for theupcoming GATIIWTO Round in 1999, since even a further liberalisation of the CAP might not be sufficient to guarantee that the CEECswould be able to keep to their GATI commitments after integrationwith the EU. Thus both the EU and the CEECs ought to thinkabout possible concessions they could offer their respective tradingpartners.

Implications of the EU East Enlargement

6.6 CONCLUSIONS

75

The relative importance of agriculture in the economies of the CEECsis substantially greater than it is in the existing EU. In addition, in theCEECs, agricultural price levels are generally lower and technology isless advanced than in the EU. Thus, integration of the CEECs into theEU at the current EU price level would impose an unsustainableburden on the EU budget. It follows that, for EU enlargement tothe East to become a feasible proposition, further CAP reforms willbe needed to bring prices down nearer to CEEC levels. Althoughagricultural integration of the EU-15 with the CEECs is undoubtedlyfraught with many problems, the best accession strategy would appearto be one of adopting and implementing measures of economic transformation on both sides, in order to minimise the costs of integrationwhenever it takes place. This strategy is likely to be superior to one ofputting off the making of key decisions on the integration process (the'wait and see' approach) in the hope that delay will somehow make iteasier to reach the 'best' decisions.

5 Modelling the Outcomesof CAP ReformWilliam H. Meyers, Michael D. Helmar andChad E. Hart

5.1 INTRODUCTION

Preceding and just following the 1992 Common Agricultural Policy(CAP) reform, there were numerous analyses by modellers on bothsides of the Atlantic. Information provided by these analysts was ofinterest to decision-makers and industry groups in the EuropeanUnion (EU) as well as to those in the United States, Canada, Australiaand others that expected to see significant impacts of these changes ontheir agricultural markets. Policy-makers in Europe and elsewhereexpected significant impacts of these policy reforms, but quantificationof the impacts could be useful in evaluating the direction and magnitude of the changes.

This chapter presents in some detail the analysis conducted by theCentre for Agricultural and Rural Development (CARD) and theFood and Agricultural Policy Research Institute (FAPRI) soon afterthe CAP reform was announced in 1992.We then compare these resultsin summary form to the results of several other studies publishedbetween 1991 and 1993 and to actual changes in EU production,consumption and trade from 1993 to 1995. The purpose is not todetermine which analysis was most reliable but to see how much consistency there was in the analytical studies and, in general, how wellthey correctly anticipated the directions and magnitudes of the impacts.

In the following sections, the modelling system used by CAROlFAPRI in the analysis is briefly described . Assumptions for CAPreform changes and other conditioning variables are outlined and theestimated impacts of the reform package on the EU and world marketsare presented. We then summarise several other models used to evaluate CAP reform impacts and the processes used to obtain comparablefigures. Finally, we compare the results from these studies to actualchanges in EU cereals, oilseeds, livestock and dairy markets between1990 and 1992 and between 1993 and 1995.

76

Modelling the Outcomes of CAP Reform

5.2 ANALYTICAL SYSTEM AND PROCEDURES FOR THECARDIFAPRI ANALYSIS

77

To assess the impact of the proposed CAP reform, the market outlookfor EU and world agriculture over the period 1992-7 was comparedunder two alternative scenarios:

1. a baseline scenario that continued existing policies in the EU andother major trading countries; and

2. a CAP reform scenario that incorporated expected changes in EUagricultural policies but assumes no changes in agricultural policiesin other countries.

The analysis was conducted by utilising the agricultural commoditymodels of FAPRI and additional international models developedat CARD. For major trading countries, the FAPRI models areeconometric, non-spatial equilibrium models that estimate the supply,utilisation, net trade and prices of wheat, feed grains, rice and soybeans disaggregated into major countries and regions of the world(Devadoss et al., 1993). For purposes of analyses related to the GATTnegotiations, CARD developed models of the world beef, pork, poultry meat , dairy and sugar markets (CARD, 1991). All the components of the modelling system used in this analysis are dynamic,meaning that both short- and long-term effects of policy changescan be identified. The models are calibrated to reproduce recenthistorical data as closely as possible and to generate projections forthe next ten years that are plausible, given what we know aboutthe forces likely to shape world agricultural markets in the yearsahead.

For the European Union, models of the wheat, barley, com, soybean, rapeseed, beef, pork and poultry meat sectors are structuraleconometric models, based on historical relationships among prices,quantities produced and consumed, and other economic variables. Asynthetic model of the EU dairy sector was used to determine resultsfor the EU milk, butter, cheese and skimmed milk powder markets.Projections of total EU commodity supply and utilisation includedresults for the new eastern states of Germany, based on syntheticmodels of eastern German agriculture . In all models, policy interventions were explicitly specified so that policy changes could also beexplicitly represented.


5.3 CONDITIONING ASSUMPTIONS FOR THE ANALYSIS

The results of the analysis are conditional upon the underlyingassumptions used in the baseline and CAP reform scenarios (Table5.1). Assumptions about the macroeconomy, rate of technologicalchange, and agricultural policies in countries outside the EU were

Table 5.1 Assumptions of the baseline and CAP reform scenarios

1992 1993 1994 1995 1996 1997

(per cent)

Real GDP Growth 2.5 2.9 2.6 2.5 2.2 2.1GDP Deflator Inflation 4.4 4.3 4.3 4.4 3.8 3.9

(DollarslECU)

Exchange Rate 1.23 1.25 1.26 1.27 1.28 1.30Wheat and Com Prices (ECU/mt)

Baseline Net ProducerSupport" 151 146 141 137 133 129

Scenario Intervention 159 117 108 100 100 100Scenario Net Producer

Support" 159 142 143 145 145 145Barley Prices

Baseline Net Producer 142 138 133 129 125 121Suppo~

Scenario Intervention 150 117 108 100 100 100Scenario Net Producer

Support" 150 142 143 145 145 145Soybean Net Producer Support"

Baseline 308 294 300 302 300 286Scenario 310 316 329 321 318 305

Rapeseed Net Producer Support"Baseline 326 326 326 326 326 326Scenario 326 333 338 329 326 315

Beef Intervention PriceBaseline 3430 3430 3430 3430 3430 3430Scenario 3430 3259 3087 2916 2916 2916

Milk Target PriceBaseline 268 268 268 268 268 268Scenario 268 261 255 255 255 255

Butter Intervention PriceBaseline 2928 2928 2928 2928 2928 2928Scenario 2928 2855 2781 2781 2781 2781

Crop Set-Aside Rate (per cent)Baseline 0 0 0 0 0 0Scenario 0 15 15 15 15 15

Note" Guaranteed producer price, minus effects of stabilisers, plus government pay-ments.

Modelling the Outcomes of CAP Reform 79

common to both scenarios . Agricultural policy assumptions for the EUwere changed in accordance with the May 1992 CAP reform agreement. One potential source of error in the analysis is that actual policyprovisions implemented may have differed from what was assumed inthis and other early analyses.

5.3.1 Assumptions Common to Both Scenarios

Macroeconomic assumptions used in the analysis were based on theforecasts of the WEFA Group (January 1992) and Project LINK(December 1991). For the European Union, Project LINK. forecastedan increase in the rate of real economic growth in 1992 and 1993 fromthe low 1991 level. Assumed growth rates averaged between 2 and 3 percent per year through 1997, with inflation at moderate levels of justover 4 per cent. In the baseline scenario, reduction occurred in nominalpolicy prices because the stabiliser system remained in effect. Duringthe 1993-5 transition period , inflation exacerbated these price reductions but the adjustment in the switchover coefficient dampened thepolicy price reductions for the EU producer. After strengthening in1991, the US dollar was forecasted to depreciate relative to the European Currency Unit (ECU) by an average of approximately 1 per centper year throughout the period of analysis. Even though a weaker USdollar implied that EU commodities were less competitive on worldmarkets, the magnitude of the price reductions resulting from CAPreform would more than offset any effects of the depreciating USdollar. If the US dollar were to appreciate in value relative to theECU, the potential would exist under CAP reform for some commodity prices to fall to world market levels. If this situation were to occur,the European Union could compete in world markets without usingexport subsidies.

Normal weather conditions were assumed to prevail in all regionsfrom 1992-7. Under this assumption, yield growth was not affected byyear-to-year variations in rainfall and temperature. Projected agricultural productivity growth rates depended on trends reflecting technological change. Rates of technological change were assumed to be thesame in the projection period as in the recent past. It was furtherassumed that producer response to prices would be similar to that inrecent years and that any underlying trends in producer responsewould continue.

Agricultural policies in countries outside the EU were assumed toremain in force. In the United States, the Food, Agriculture, Conser-


vation and Trade Act of 1990 (FACTA-90) provided the frameworkfor agricultural policy through 1995, and it was assumed that provisions of FACTA-90 would be extended through 1997. In Japan,Canada and all other countries and regions included in the model,agricultural policies were assumed to continue unchanged through1997. N0 GAIT agreement or North American Free Trade Agreement(NAFTA) was assumed. Conversely, no protectionist response wasassumed from any country without a GATT agreement or NAFTA.For example, the United States was assumed to continue to use theExport Enhancement Programme (EEP) to subsidise wheat exports,and the per unit subsidy was assumed to average around US $35 permetric ton (mt), which was comparable to 1991 levels.

The baseline assumed that the CAP that existed in 1991192 continued throughout the analysis period. Under this assumption, pricepolicies that existed in 1991192 remained unchanged. This assumptionmeant that target, threshold, intervention, guide and minimum pricesof various EU agricultural commodities remained at the 1991192 levelsor would be reduced in accordance with stabiliser mechanism triggersas they existed in 1991192, as in the case of grains and oilseeds. Milkquotas were frozen at 1991192 levels. With nominal support pricesremaining constant or faIling, real support prices fell between 1992and 1997.

EU cereal production (excluding the states of eastern Germany)exceeded the maximum guaranteed quantity (MGQ) of 160 millionmt in each year of the analysis period . This production level triggeredthe stabiliser mechanism, resulting in 3 per cent reduction in basiccereal intervention prices for 1993/94. The accumulated support reduction amounted to 22 ECU/mt from 1992/93 to 1997/98.

The reformed EU oilseed regime was assumed for the baseline,beginning in 1992/93. Under this regime, oilseeds prices were supportedat similar levels in each year. The oilseeds prices were composed ofEUreference prices (meant to reflect a world equilibrium price) and anaverage compensation payment of 384ECU/mt per hectare. Because ofa built-in adjustment in the model designed to equalise the world priceand the EU reference price, the world price had to be either 8 per centabove or 8 per cent below the reference price before any price variability would affect the price to EU producers. A 1 per cent price penaltywas assumed for each 1 per cent that the maximum guaranteed acreage(MGA) for each individual oilseed was exceeded. Because MGAs werefairly high and the oilseed support was reduced under this regimecompared to that of the late 1980s and early 1990s, little adjustment


to oilseed support existed in the baseline, resulting in relatively stableoilseed prices.

In the livestock and dairy sectors, there were no automatic stabilisermechanisms under the 1991/92 CAP. There was a maximum 100 percent producer levy on milk deliveries exceeding the milk marketingquota, but this levy had no effect on support for production under thequota. Beef, butter and skimmed milk powder intervention prices andmilk target prices were assumed to remain constant at 1991 levels in thebaseline. With no change in support prices, beef producer prices wereassumed to remain unchanged, and pork, poultry meat and muttonprices were assumed to remain constant in nominal terms. Milk marketing quotas were assumed to remain frozen at 1991/92 levels.

5.3.2 Assumptions in the CAP Reform Scenario

The CAP reform scenario assumed that the reform package agreed toin May 1992 was taken at face value. Set-aside land was taken in equalproportions out of each affected crop in each region. ED market pricesfor grains, meats and some dairy products were reduced as support wascut, but direct payments to producers in each sector offset much of theaccompanying decrease in market receipts. Compensation for set-asidereduced the financial impact of farming reduced area ; likewise,increased livestock premiums helped offset the effects of extensification.

Institutional prices were reduced under CAP reform over a threeyear period. All co-responsibility levies were deleted from 1992/93onward. The cereal stabiliser mechanism was completely removedfrom the CAP beginning in 1993/94. Beginning in 1995/96, the cerealtarget price was set at 110 ECD/mt and the intervention price at 100ECD/mt. (The actual level was set at 98.7 ECD/mt, which is equivalentto 119 ECD/mt after the elimination of the switchover that occurred inApril 1995.) Beginning with the phase-in period in 1993/94, the threshold price was set at 45 ECUlmt above the target price, resulting in athreshold price of 155 ECD/mt in 1995/96and thereafter.

To offset the reduction in market prices, the producer was eligible toreceive a compensatory payment (multiplied by the regional averageyield) that increased from 25 ECD/mt in 1993/94 to 45 ECD/mt in1995/96 and thereafter. Because the payments were not based on eachproducer's actual production, they were assumed to be decoupled fromdecisions about input usage and therefore from yields. The paymentswere not decoupled from decisions on area planted at levelsbelow base


area, however, because the base area had to be planted to receive thecompensatory payment. With the compensatory payment, the effectivesupport price related to area was similar, but not identical as yieldswere not frozen in the baseline scenario, in 1993/94and 1994/95 in theCAP reform and baseline scenarios. Because the stabiliser mechanismcontinued to reduce the effective intervention price in the baselinescenario, support levels in the CAP reform scenario exceeded supportlevels in the baseline scenario beginning in 1994/95. Because of the setaside programme, however, area in the CAP reform scenario fell belowthat in the baseline scenario.

In the oilseed sector, the reformed oilseed regime was included in thebaseline, leaving relatively little change to introduce under the CAPreform scenario. The compensatory payment was reduced from 384ECUlha in the baseline to 359 ECUlha under CAP reform in 1993/94and thereafter. The addition of set-aside requirements was the onlyother change in assumptions for oilseeds under CAP reform.

A 15 per cent compensated, rotational set-aside of combined cereal,oilseed and protein crop area was assumed for every year. An exemption was made for producers whose farms would produce less than 92metric tons of cereals, based on historic regional average yields. Withsuch exemptions available, approximately 27 per cent of land wasassumed to be exempt from set-aside, and the effective set-aside levelfor the European Union as a whole was approximately 11 per cent.Slippage, a factor related to base area exceeding actual projectedplantings, further reduced the calculated effective set-aside level toapproximately 9 per cent. Because farm size generally increases fromsouth to north in the European Union, some countries had higherproportions of land exempt from set-aside than others. For example,Greece had the highest proportion of area in farms small enough to beexempt from set-aside of any EU country. Based on the area thatwould be exempt, Greece was assumed to have an effective set-asiderate of approximately 2.5 per cent, before accounting for slippage. Onthe other hand, the United Kingdom had relatively little land on farmsthat would be exempt from set-aside requirements, resulting in anassumed effective set-aside rate of 14.5 per cent before slippage. However, since this was an aggregate EU model, these differences were notrepresented except in differences across crop aggregates. Because allcrops are not produced uniformly over the European Union, differentcrops had different assumed effective set-aside rates (fable 5.2). Cropsproduced predominantly in the south, such as soybeans, tended tohave lower-than-average effective set-aside rates, and those produced


predominantly in the north, such as rapeseed, tended to have higher-than-average rates.

Table 5.2 Set-aside rates for EU crops under the CAP reform scenario

1993/94 1994/95 1995/96 1996/97 1997/98

(percent)

Set-aside 15.0 15.0 15.0 15.0 15.0Average for Cereals" 11.0 11.0 11.0 11.0 11.0Wheat

FromBase Area 11.0 11.0 11.0 11.0 11.0FromBaseline 8.9 8.7 8.5 8.4 8.2

BarleyFromBase Area 11.2 11.2 11.2 11.2 11.2FromBaseline 7.5 7.2 6.9 6.7 6.6

CornFromBase Area 10.4 10.4 10.4 10.4 10.4FromBaseline 10.7 11.4 12.0 12.2 12.3

SoybeansFromBase Area 8.0 8.0 8.0 8.0 8.0FromBaseline 0.4 1.2 1.4 1.2 0.2

RapeseedFromBase Area 13.0 13.0 13.0 13.0 13.0FromBaseline 23.1 22.8 22.4 21.9 21.3

TotalFromBase Area 11.1 11.1 11.1 11.1 11.1FromBaseline 9.5 9.3 9.2 9.0 8.9

e Based on IS percent set-aside adjusted for27 percent exemption based on farm size.

The beef intervention price was reduced from the 1992 level by 15per cent over the 1993-5 period. This reduction was assumed to resultin a corresponding 15 per cent reduction in the beef producer price. Totemper the impact of the reduced intervention price, the requirementsfor beef special premium rates or headage payments were revised underthe CAP reform agreement. A regional reference herd, equal to thenumber of premiums paid in the reference year (1990, 1991 or 1992),was assumed to be established for regions within member countries.The reference herd set a limit on the number of animals eligible forpremium payments. The stocking density limitation of premiums wasprogressively phased in, starting at 3.5 livestock units per hectare in1993 and decreasing to 2.0 livestock units per hectare by 1996. Anextensification premium of 30 ECU per head was assumed to beavailable to producers who reduced the stocking density to 1.4 livestock units per hectare or less. Suckler cow premiums for small-scale


producers were set at 120 ECU per animal and were limited to thenumber of premiums paid in 1990, 1991 or 1992. Intervention ceilingson beef purchases were reduced from 750000 mt in 1993 to 350000 mtin 1997. Given the vast differences in herd sizes and stocking densitiesamong member countries, it was assumed that 50 per cent of EU cattlewould qualify for the premium payments. These premium paymentswere translated into an adjustment to the beef producer price thatentered the supply equation of the model by adding the per metricton equivalents to the market price for beef.

CAP reform did not make specific recommendations for the porkand poultry sectors. Basic prices for pork and sluicegate prices forpoultry were based on average production costs, of which a majorportion are feed costs. The cuts in cereal prices to lower feed costswould result in increased pork and poultry production relative to beefproduction. To maintain relative competitiveness among these industries within the European Union and relative to producers outside theEU, it was assumed that pork and poultry producer prices would bereduced in line with the reductions in the beef price.

The limit to ewe premium eligibility was set at 1000 head in lessfavoured areas and 350 head elsewhere. These proposed changes in thesheep sector were incorporated into the analysis via a correspondingreduction in the ewe premium (headage payment) levels and in thesheep meat producer price.

Because no specific reduction in milk marketing quotas wasannounced at the time, none was assumed. A 2.5 per cent cut in thebutter intervention price was set for both 1993 and 1994. Policy pricesfor cheese and skimmed milk powder were left unchanged.

Other provisions of the reform agreement were not explicitly considered in this analysis although some of them could prove to beimportant. Environmental proposals such as additional set-asidecould change cropping patterns in some regions of the EuropeanUnion, depending on the amount of compensation that would beapplied to these areas. Measures promoting early retirement couldresult in aggregation of land into larger farms, resulting in the possibility of changes in products grown and productivity. The 15 per centset-aside requirement was attached to the aggregate of cereal, oilseedand protein crop land. In a particular region, there was no requirementthat set-aside must come proportionally from all crops. It was probable that some crops would be favoured over others in certain regions ,resulting in little set-aside for crops such as wheat and larger amountsfor crops such as protein crops, rapeseed and some feed grains. This


analysis assumed that set-aside would be distributed in equal proportion among all the crops to which it applied. It also assumed that setaside would be maintained at 15 per cent over the analysis period. Inreality, the set-aside requirement changed with year-to-year changes inEU and world market conditions.

5.4 RESULTS OF THE ANALYSIS

Conditioned on the assumptions outlined in the previous section,F APRI models ofEU and world agriculture were solved to obtain resultsfor baseline and CAP reform scenarios. This section reports results forthe EU crop, livestock, poultry and dairy sectors and world prices.

5.4.1 EU Cereal Sector Results

The estimated aggregate area for wheat, barley, com, soybeans andrapeseed declined by an average 9.2 per cent in the CAP reformscenario relative to the baseline (Table 5.3). The reduction of 3.2million hectares from baseline levels was less than the set-aside areaof 3.9 million hectares, because of slippage. Most of the difference canbe explained by the effects of the stabiliser programme in the baseline ,in which producer support fell over time as intervention prices werereduced by 3 per cent per year, contributing to less base area in thebaseline than under CAP reform. In the CAP reform scenario, area fellfor all crops relative to the baseline ; however, relative reductions werenot equal for all crops. Several factors contributed to this disproportionate reduction. First, support reductions were relat ively larger forsome crops than for others. For example, under CAP reform, wheatand corn effective support prices were reduced by more than barleysupport prices, resulting in relatively less impact on barley than oneither wheat or com. (In the baseline, barley intervention prices werelower than those for com and wheat; while in the CAP reform scenario, support prices and compensation payments were identical for allcereals.) Second, because of regional cropping patterns, not all cropswere subject to the same percentage set-aside . In general , however, thedifference in reductions attributable to regional cropping patternstended to partially offset the effects from differences in relative supportchanges. The third, and perhaps most important, reason for differencesin area reduction between crops was the area path under the baselinescenario. Barley area was declining at a faster rate than either wheat or


com, so the reductions necessary to meet set-aside requirements underCAP reform were less for barley than for the other grains.

Table 5.3 Selected EU grains and oilseeds under the baseline and CAP reformscenarios

1993-97 Average Levels

Baseline CAP Change from BaselineReform Level

Grain and Oilseed Area (1000 ha) (1000 ha) (1000 ha) (per cent)Harvested 35013 31802 -3211 -9.2Set-Aside 0 3951 3951 0.0Total 35013 35682 669 1.9

Wheat (1000 mt) (1000 mt) (1000 mt) (per cent)Production 84817 74635 -10182 -12.0Consumption 66650 68115 1465 2.2Net Exports 18376 6912 -11464 -62.4

BarleyProduction 51009 45488 -5521 -10.8Consumption 43971 44886 915 2.1Net Exports 7131 990 -6142 -86.1

ComProduction 26823 22620 -4203 - 15.7Consumption 28320 29251 930 3.3Net Imports 1548 6676 5128 331.4

SoybeansProduction 1911 1894 -17 -0.9Crush 12815 14203 1388 10.8Net Imports 12698 14216 1517 11.9

RapeseedProduction 7065 5330 -1735 -24.6Crush 6828 5265 -1563 -22.9Net Imports 222 295 73 32.9

Soybean and Rapeseed MealProduction 14217 14398 181 1.3Consumption 24986 24655 -331 -1.3Net Imports 10771 10271 -500 -4.6

Market Prices (ECU/mt) (ECU/mt) (ECUlmt) (per cent)Wheat 137 105 -32 -23.5Barley 129 105 -24 -18.4Com 138 112 -26 -19.1Soybeans 191 212 21 11.0Rapeseed 167 188 21 12.6

Net Producer Support"Wheat and Com 137 144 7 4.8Barley 129 144 15 11.7Soybeans 296 318 22 7.3Rapeseed 326 328 3 0.8

& Guaranteed producer price, minus effects of stabilisers, plus government payments.


Average EU crop yields also declined under CAP reform. Thereduction in market prices and the fact that yields were decoupledfrom compensatory payments resulted in lower yields. It was unclearhow the set-aside scheme would affect crop yields. In the United States,where set-aside programmes have been used for years, producerstend to idle their least productive land, so average yields increase.However, set-aside under CAP reform is subject to rotational requirements so that, in the long run, higher quality land would also be idled.However, the rotational effects could enhance yields somewhat on allarea . Thus, this analysis reduced yields slightly based on the effects ofreduced and decoupled support, but did not adjust for the effects ofset-aside.

A possible alternative to idling higher quality land on a rotationalbasis was non-rotational set-aside, which was subject to higher setaside rates . Under this provision, yields would increase with theidling of less productive land, but idling a larger area could offsetproduction increases caused by yield increases. In the CAP reformscenario, rotational set-aside was assumed, so price effects were themajor factor affecting yields. Cereal yields decreased by an average of4 to 5 per cent by 1995/96, when support price changes were fullyimplemented.

Area and yield reductions resulted in an average decrease of 12 percent in wheat production from baseline levels. Barley production fellby 10.8 per cent, and corn production decreased by 15.7 per cent. Thedecrease in com production was considerably larger than that foreither barley or wheat because com area in the baseline was slightlyabove the base area calculated for CAP reform, whereas area for theother cereals was below CAP reform levels. The decrease in totalwheat, barley and com production averaged 19.9 million metric tons(mmt).

Despite the large cut in cereal production, cereal market prices fellrelative to the baseline because the underlying support levelsdecreased.Wheat prices averaged 23 per cent below baseline levels, andbarley and com market prices averaged 18 per cent and 19 per centbelow baseline levels, respectively. Lower prices resulted in more cerealuse in livestock rations, despite little change in livestock inventoriesfrom the baseline. Some of this increase in cereal utilisationwas because of lower prices, but much of the change resulted fromsubstituting cereals for alternative non-grain feeds formerly usedextensively by the EU . Cereal utilisation increased an average of3.3 mmt, with wheat increasing the most in absolute terms and


barley increasing the least. As expected, the smaller relative pricedecline for barley resulted in the smallest percentage increase in utilisation.

It was assumed that the CAP would be run in a manner thatmaintained market prices of exported commodities such as wheatand barley near the intervention level. It is possible, however, thatlarger export subsidies could be applied and that these market pricescould be supported near the target price level. Corn prices averagedsomewhat above the intervention price level. The decreased level ofcorn production resulted in greater excess demand than under thebaseline, making it necessary for the average market price to increaserelative to the intervention price and relative to the prices of wheatand barley. If the price were to increase enough to exceed thethreshold price in the most grain-deficit regions, imports wouldincrease.

Net cereal trade averaged 24 mmt of exports in the baseline but wasdramatically reduced to just over 1 mmt under CAP reform. Whilemaintaining net exports of wheat at an average of nearly 7 mmt, theEU became a net importer of 5.7 mmt of feed grains, on average.Exports of 1 mmt of barley were more than offset by imports of6.7 mmt of corn. If CAP reform policies were assumed to hold furtherinto the future, productivity gains would likely increase wheat andbarley exports and reduce corn imports, but net trade would notreach export levels similar to those that would have existed withoutCAP reform.

5.4.2 Oilseed Sector Results

The oilseed policies implemented in 1992/93 were little changed underCAP reform. The major difference between the oilseed regime in thetwo scenarios was in the set-aside requirement affecting oilseeds beginning in 1993/94under CAP reform (none was in place under the baseline). Because of the set-aside requirement, the soybean support levelunder CAP reform was actually higher than under the baseline. In thebaseline, soybean area exceeded the MGA and penalties were assessed,reducing the producer support level. Under CAP reform, the set-asidereduced area, thereby reducing the amount by which the MGA wasexceeded, drastically reducing the MGA penalty . For rapeseed, theMGA was not exceeded in either scenario. For both oilseeds, worldprices under the CAP reform scenario were considerably higher thanunder the baseline. Once the world price exceeded the EU reference


price of 163 ECU/mt by more than 8 per cent, price increases weretransmitted to the domestic oilseed price. With increases in this portionof the oilseed support price, total oilseed support under CAP reformincreased marginally for rapeseed but by more than 7 per cent forsoybeans.

Baseline soybean area was less than the calculated base area for theCAP reform scenario. Because of the relatively low area, reductionsrequired to meet set-aside requirements were marginal under CAPreform. Soybean area was reduced by less than 1 per cent, on average,from baseline levels. Baseline rapeseed area, on the other hand, waswell above the calculated CAP reform base area, which led to substantial reductions under CAP reform when set-aside requirementswere met. In this analysis, rapeseed area declined more than the areafor any other crop under the CAP reform scenario.

Because soybean area was only marginally lower in the CAP reformscenario, average production decreased by less than 1 per cent. Rapeseed production was reduced nearly 25 per cent, because of imposedbase area restrictions and the effects of set-aside on area.

Because of reduced rapeseed production and limited supplies fromexporters such as Canada, EU rapeseed crush decreased by 23 per cent.Reversing the trend of the 1980s and early 1990s, soybeans wereexpected to substitute for most , but not all, of the reduced rapeseedcrush as processors continued to produce soybean meal and oil. Withlittle change in soybean production, increased crush made it necessaryto import more soybeans than in the baseline scenario. Soybeanimports increased by approximately 1.5 mmt, while rapeseed importsincreased only marginally .

Because soybeans and rapeseed have different meal and oil yields,maintaining crush in the CAP reform scenario at nearly baseline levelswould not produce baseline levels of meal and oil. Soybeans havehigher meal and lower oil percentages than does rapeseed, so replacingrapeseed with soybeans in crushing resulted in changes in relativequantities of meal and oil production. Although total crush wasslightly lower in the CAP reform scenario than in the baseline, totalmeal production was actually higher under CAP reform, and total oilproduction was lower.

Although livestock production was similar in the two scenarios,total protein meal disappearance was approximately 300000 mtlower under CAP reform. Reduced grain prices resulted in somesubstitution of grains for protein meals in livestock rations. In addition, meal prices were generally higher in the CAP reform scenario.


Rapeseed meal consumption was reduced by approximately 1 mmtbecause of lower production and limited capabilities to increaseproduction in other countries. Some of this lost consumption wasreplaced by increased soybean meal consumption and some shifts tograins .

With production increases of soybean meal greater than consumption increases, net soymeal imports declined in the CAP reform scenario. Rapeseed meal imports increased only marginally from baselinelevels, so net meal imports were reduced by 500000 mt. Oilseed production, consumption, and trade changes in the CAP reform scenariowere small compared to changes in grains, because the market forgrains is larger than that for oilseeds, and CAP reform resulted inmuch more substantial changes in grain policies than in oilseedpolicies.

5.4.3 Livestock, Poultry and Dairy Sector Results

Lower beef intervention prices, lower feed prices, and revisions inextensification premiums resulted in modest increases in cattle inventories (Table 5.4). The net effect of these changes was a slight increasein beef production, averaging 0.5 per cent per year during 1993-7. Onaverage, pork production under CAP reform was estimated to beunchanged relative to the baseline as lower feed prices offset the effectof an assumed reduction in pork producer prices. On the other hand,lower poultry producer prices had a greater effect on poultry production than did lower feed costs, resulting in a modest decrease in poultryproduction. The announced changes in ewe premiums resulted in a 5per cent reduction in mutton producer price by 1997 and a slightdecrease in mutton production.

Lower domestic meat prices resulted in increased consumption of allmeats. Per capita meat consumption in the CAP reform scenarioincreased by an average of 3 per cent for 1993-7, relative to the baseline. The largest increase occurred for beef, where consumptionincreased an average of nearly 6 per cent. Per capita meat expenditureswere reduced by an average of 6 per cent from 1993-7, despiteincreased consumption. Consumers were clearly beneficiaries of thereform, as they spent less on meat but consumed more than inthe baseline. With unchanged or lower domestic production andincreased consumption, net exports of beef, pork, and poultry substantially declined under CAP reform . In the case of sheep meat,imports increased to meet the increase in domestic demand.


Tah/e5.4 EU livestock, dairy and poultry meat sectors under the baseline andCAP reform scenarios

1993-97 Average Levels

Baseline CAP Change from BaselineReform Level

Inventories (million) (million) (million) (per cent)Dairy Cows 23.24 23.22 -0.02 -0.08All Cattle and Calves 81.16 81.70 0.54 0.66Hogs 108.85 108.95 0.10 0.10

Beef (1000 mt) (1000 mt) (1000 mt) (per cent)Production 8234 8271 37 0.45Consumption 7665 8106 441 5.75Net Exports 589 173 -416 - 70.55

PorkProduction 13769 13789 20 0.14Consumption 13276 13450 173 1.30Net Exports 493 340 - 153 -31.08

PoultryProduction 7083 7027 -57 -0.80Consumption 6699 6915 216 3.22Net Exports 384 112 -272 -70.88

Dairy ProductsMilk Production 114056 114097 41 0.04Consumption

Fluid Milk 30936 30973 37 0.12Butter 1460 1467 7 0.46Cheese 4711 4711 0 0.01Non-fat Dry Milk 1000 998 -2 -0.18

Net ExportsButter 244 226 -18 -7.50Cheese 335 360 25 7.38Non-fat Dry Milk 432 421 -10 -2.42

Prices (ECU/mt) (ECU/mt) (ECUlmt) (per cent)Beef Unit Value 2600 2288 -312 -12.0Pork Unit Value 1600 1489 -111 -6.95

(ECU/mt) (ECUlmt) (ECUlmt) (per cent)Poultry Unit Value 1450 1276 -174 - 12.0Milk Producer 303 300 - 2 -0.82

Per Capita Consumption- (kg) (kg) (kg) (per cent)Meat and Poultry 65.41 67.39 1.98 3.03

Per Capita Expenditures" (ECU) (ECU) (ECU) (per cent)Meat 162.13 151.81 -10.32 -6.36

Notes:_ Retail weightb Valued at producer prices

Reductions in the butter intervention price coupled with extensifica-tion premiums resulted in very little change in milk cow inventories


and milk production. The 2.5 per cent cuts in the butter interventionprice in 1993 and 1994 resulted in a modest reduction in butter andnon -fat dry milk production and in exports of these products. With nocuts in cheese prices or milk-marketing quotas assumed in this analysis,cheese production increased marginally and cheese exports increased.The lower butter intervention price resulted in a lower milk farm priceand lower average prices for dairy products.

5.4.4 World Price Results

The only provision attached to the CAP reform agreement thataffected grains for 1992/93 resulted in a slight decrease in grains prices(Table 5.5). Deletion of the co-responsibility levies for the 1992/93marketing year induced slightly higher production and lower consumption. Wheat and barley exports increased and com importsdecreased. The end result was lower world prices of these grains. Forthe remainder of the period beginning in 1993/94, reductions in EU netexports of cereals and meats under CAP reform resulted in world priceincreases for those products.

Table 5.5 World agricultural commodity prices under the CAP reformscenario

1992 1993 1994 1995 1996 1997 1993-97average

(per cent change from baseline)Wheat (US Gulf FOB) -1.7 21.4 25.9 18.2 12.3 11.3 17.8Barley (US Pacific FOB) -1.0 11.8 8.0 12.9 4.6 5.8 8.6Com (US Gulf FOB) - 0.7 14.6 10.2 12.4 9.4 9.0 ILlSorghum (US Gulf FOB) -0.8 12.2 5.1 9.9 4.2 4.0 7.1Soybeans (US Gulf FOB) 1.0 14.8 17.9 9.1 8.3 9.9 12.0Soybean Meal (US Decatur) 2.3 7.4 6.2 -2.0 - 1.6 1.0 2.2Soybean Oil (US Decatur) -1.7 22.0 29.9 26.1 20.5 17.6 23.2Rapeseed (W. Canada) 1.0 20.9 25.8 14.4 12.5 14.5 17.6Beef (US Omaha Steers) 0.0 2.4 4.7 5.7 4.2 2.7 3.9Pork (US Barrows & Gilts) 0.0 3.1 4.1 2.3 5.5 7.0 4.4Broilers (US Wholesale) 0.0 2.2 5.8 6.4 4.7 5.0 4.8Butter (N. Europe FOB) 0.0 1.3 2.4 1.8 1.6 1.9 1.8Cheese (N. Europe FOB) 0.0 - 1.0 -2.7 -3.6 -4.1 -4.0 -3.1Non-fat Dry (N. Europe FOB) 0.0 0.9 1.7 1.5 1.2 1.4 1.3

World prices increased for wheat in the CAP reform scenario. Theeffect of the set-aside on EU wheat exports was dampened somewhatin 1993/94 by a stock reduction; however, there was still a large price


increase as production and consumption in other countries took timeto adjust. The United States, Canada, Australia and other countriesincreased production in response to these higher prices. After 1995/96,price declines ceased in the EU, and productivity increases resulted inannual increases in exports. These changes contributed to the easing ofupward pressure on world prices by 1997. For the 1993-7 period,world wheat prices increased an average of 17.8 per cent from baselinelevels but fell back to a rise of only 11.3 per cent in the last year. TheGulf Port price does not include export subsidies from the EEP. Ifthese subsidies were removed or substantially reduced, the EU afterCAP reform could have exported wheat without subsidy, making theEU competitive in the world wheat market at world prices.

In contrast, barley and com price increases were not dampened inthe first year by a large drawdown in EU stocks. Similar to wheatprices, barley and com prices stabilised once CAP reform was fullyimplemented and other countries had increased production in responseto higher world prices. The estimated increases in com and barleyprices relative to the baseline were less than those for wheat. Thereductions in exports of coarse grains were also smaller than reductionsin wheat exports, putting less upward pressure on prices. Much of theproduction increase in response to higher prices came from the UnitedStates, which has a comparative advantage in com production andcould respond rather quickly to increases in excess coarse graindemand. However, reduced livestock exports from the ED shiftedsome world meat demand to other countries, and more coarse grainwas used for livestock feed in those countries . EU internal coarse grainprices remained substantially above world market levels in the CAPreform scenario. It would take an extreme production shortfall in theUnited States, and perhaps other major coarse grain producers as well,to push prices high enough for the EU to be competitive at worldprices. Even if this were to happen, it is not likely that world priceswould remain at this level for an extended period of time.

Average oilseed and oilseed product prices increased in the CAPreform scenario relative to the baseline. The reduction in rapeseedproduction resulted in increased excess demand for oilseeds and products, particularly soybeans and soybean oil. Although there was somesubstitution of grains for protein meals in the EU under CAP reform,it was not enough to completely offset reduced oilseed and vegetableoil production.

Because world grain prices increased in the CAP reform scenario,grains in other countries competed with oilseeds for land, adding


upward pressure on oilseed prices. Similar to grain utilisation, proteinmeal utilisation increased as other countries increased livestock production in response to lower meat exports from the EU and higherworld meat prices. Soybean prices increased by an average of 12 percent and rapeseed prices increased by 17.6 per cent for the 1993-7period. The soybean price increase was larger than the meal priceincrease because the EU imported less soybean meal but more soybeans. Soybean oil prices also increased by more than meal prices, assoybean oil exports from the EU were reduced and soybean oil substituted for some rapeseed oil in EU domestic consumption.

In contrast to declining meat prices and feed costs in the EU, worldmeat prices increased because of reduced EU exports and the effects ofincreased feed costs in the world . Beef and pork prices increased by anaverage of 4 per cent during the 1993-7 period, and broiler pricesincreased nearly 5 per cent. Competing exporters of these meats benefited from these price increases . For example, the United States andEastern Europe gained market share in broiler trade lost by the EUunder CAP reform.

While EU net butter and non-fat dry milk exports declined underCAP reform, net cheese exports increased an average of 7 per cent overthe analysis period. The results were higher world prices for butter andnon-fat dry milk and lower prices for cheese. The world cheese pricedeclined by between 1 and 4 per cent during 1993-7. The worldprice increases for butter and non-fat dry milk induced increasedproduction and exports from countries such as Australia and NewZealand.

5.5 BRIEF DESCRIPTIONS OF OTHER MODELS

Each of the other analyses used a different approach to derive theimplications of CAP reform on the EU and the rest of the world (Table5.6). Some were done prior to decisions on CAP reform and assumed aspecific scenario on the nature of the reformed CAP.

Roningen (RON) used a Static World Policy Simulation (SWOPSIM) model to find the CAP reform effects. The model was calibratedfor 1989 data. It is a static model incorporating II regions of the worldand 22 commodity groups. Roningen made these assumptions basedon the MacSharry proposal: a 37 per cent reduction in 'administered'grain prices, and a 10 per cent drop in production for all set-asidecommodities.


Table 5.6 Classification of studies, models and base periods

Model

Code Author Name Type Comparison Period

RON Roningen SWOPSIM Static 1989IT Josling & Tangermann Sub-Mods' Dynamic 1992CEW Cahill, Ewing and TASS Static 1986-8 average

WebberGMR Guyomard, Mahe and MISS Dynamic 1989-90 for crops

RoeHSE Helmar et al. FAPRI Dynamic Baseline projections

(1992-2000)HW Henrichsmeyer and SPEU Dynamic Reference run (1991-7)

Weber MFSSHMH Helmar, Meyer and FAPRI Dynamic New CAP reform

Hayes projections(1992-2000)

Josling and Tangermann (IT) used six separate 'sub-models' forWheat, com, other coarse grains, beef, milk and sugar. Cereal yieldand area were functions of real producer prices. Set-aside and compensation plans were imposed in the models. The milk and sugarmodels included the existing quota systems. The ED support priceswere reduced as specified by CAP reform. World price changes in thismodel were endogenous, being functions of the EU's previous netexports and an assumed outside world import demand elasticity. Inaddition, a 1 per cent reduction in the milk quota was assumed tooccur in 1994.

Cahill, Ewing and Webber (CEW) applied the Trade Analysis Simulation System (TASS) model based on 1986-8 average data. It is a staticmodel of world trade, and the authors updated the model for policychanges that occurred between the base period and 1990. Assumptionsmade were that the ED wheat price would drop 37.3 per cent, the EDfeed grain price would fall 37 per cent, oilseed deficiency paymentswould be eliminated, and the set-aside programme would decrease EDwheat and feed grain production by 6 per cent. The compensationscheme was assumed to be fully decoupled for both cereals and oilseeds.Milk production quotas were reduced 7.8 per cent. Prices for fluid milk,butter, and skimmed milk powder were reduced by 6.4, 22 and 6 percent, respectively. The ED beef price was reduced by 18.4 per cent, andno adjustments were made to the pork and poultry markets. Also, othercountries were assumed to hold their policies fixed.


Guyomard, Mahe, and Roe (GMR) used the Modele InternationalSimplifie de Simulation (MISS) model to project results from CAPreform and FACTA-90. The MISS model is a 'price-equilibrium projection model, but time shifters in supply and demand equations areused in order to take into account technical change effects'. The modelincludes four regions of the world, eleven outputs and ten inputs.Matrices of direct- and cross-price elasticities for supply and demanddrive the model. The elasticities originate from profit functions whichhold the theoretical economic properties of homogeneity, symmetryand convexity. The shifters are formed to reproduce past datapatterns. Two world price scenarios were examined. In the first scenario, the May 1992 CAP reform was imposed without internationalmarket linkages. The second scenario introduced internationalmarket linkages to provide more complete EU and world marketimpacts.

Henrichsmeyer and Weber (HW) analysed CAP reform impacts onlyon production of agricultural commodities within the European Unionusing the SPEL/MFSS model system. This approach utilises activitybased tables of account which serve as a database for the model runs.Medium-term supply is modelled in a two-step process, with the firststep being farmer decisions about inputs and the second being decisions about levels of production activities, such as area planted invarious crops. Responses of activity levels are determined by changesin gross value added per unit of production. Two runs were included inthe study. The first (run A) was the MacSharry proposal in its originalform and the second (run B) was the reform package as adopted by theCommission. These were compared against a reference run where prereform agricultural policy remained in place from 1990-7. Cereal andmilk prices were different between runs A and B. In run A, cereal pricesfell 35.5 per cent and milk prices dropped 10 per cent relative to 1990;whereas in run B, the price reductions were 32.3 per cent and 2.3 percent, respectively. Other differences in run B were the elimination ofthe upper limit on the area eligible for compensated set-aside; reductions in compensatory payments for cereals, oilseeds and pulses; a 45ECUlhead increase in the suckler cow premium; and a 30 ECUlheadextensification premium for livestock.

The analysis reported by Helmar et al. (HSE) is the one summarised in the first part of this chapter using the 1992 CARDIFAPRImodels.

Helmar, Meyer and Hayes (HMH) used the 1993 version of theFAPRI system of models to study CAP reform and a GAIT agree-


ment scenario. Three scenarios were examined. The baseline scenariowas the implementation of CAP reform and the Blair House oilseedsagreement. A GAIT scenario included the Dunkel proposals toview their effects after CAP reform. The third scenario assumedthat neither CAP reform nor GAIT took place, but the BlairHouse oilseeds agreement was in place. The estimates of CAPreform impacts were obtained by comparing the third scenario to thefirst.

5.6 ADJUSTMENTS MADE TO ACHIEVE COMPARABLERESULTS

To form the comparison tables shown later, some manipulation of theoriginal results from the studies is performed to arrive at more easilycomparable figures. These manipulations will be explained here; theactual results from the papers, as well as the computations, are given inHart et al. (1994). For the Roningen study figures, the actual percentage changes for the production effects and the world price effects aretaken directly from the paper. The net export figures are derived bydividing Roningen's change in net trade value by the 1992 total value(in dollars) of EU trade in the market examined. Adjustments to theHelmar et al. paper include aggregating individual commodity data toobtain the general classes of goods used in this chapter. Also, the netexport results are calculated in terms of 1992prices and values of totaltrade. The Guyomard, Mahe and Roe net export figures were left inquantity percentage changes from 1992 levels since their forecasts areaggregated such that they could not be translated into monetary units.For the Helmar, Meyer and Hayes paper, the changes from thebaseline scenario are used to solve back for the no-CAP reform scenario levels. Individual commodity effects are summed to reach groupaggregates. All percentage changes are based on the no-CAP reformscenario, and the net exports/imports figures are valued at 1992prices.

The Josling and Tangermann figures are obtained by taking quantity changes in the specified markets from graphs in the paper. Thesechanges are used as the basis to form the percentage changes needed,except for the net export numbers, which are converted to dollar valuepercentage changes. For cereals, the averages of the wheat, com andother coarse grain percentage changes are used as the cereal figures.For the Cahill, Ewing and Webber paper, the production and


consumption figures are the averages of percentage changes forindividual goods in each group. The net export/import numbers arethe percentage changes of these from the average 1986-8 base tothe CAP reform projection valued in 1992 prices. For the Cahill,Ewing and Webber, Helmar et al., and Helmar, Meyer andHayes papers, the world price changes are averages of individualproducts in each group. The Henrichsmeyer and Weber productionimpacts are converted to percentage changes. Beef and pork aresummed to give the impacts for meat before conversion to percentagechanges.

5.7 COMPARISON OF RESULTS

This section compares the changes in average levels of variables from1990-2 to 1993-4 and 1993-5 with results of papers by Roningen(RON), Josling and Tangermann (IT), Cahill, Ewing and Webber(CEW), Guyomard, Mahe and Roe (GMR), Henrichsmeyer andWeber (HW), Helmar et al. (HSE), and Helmar, Meyer and Hayes(HMH). The effects are broken down into cereals, oilseeds, meats anddairy product changes in the EU and world price changes in thesemarkets. All figures are given in terms of percentage changes. In thecases of net exports/imports, these are percentage changes in the dollarvalue of trade (except for the actual figures and those from Guyomard,Mahe and Roe) . All other market changes are in quantity terms. Foreach market, production, consumption, net exports/imports, andprices are examined.

There was general agreement about CAP reform effects on the EUcereals markets (Table 5.7). Production was expected to decrease,with amounts varying by the assumptions about the amount of setaside land and the 'decoupledness' of the compensatory payments.Cereal consumption was expected to increase slightly, in most respectsdue to its falling relative price as a livestock feed. Net exports wereexpected to decline markedly in all studies. The actual changes since1992 were all in the same directions indicated by the studies,but the production decline was smaller and the consumption increasewas larger than most studies estimated. The decline in net exportswas smaller than all the estimates. The smaller production and exportdeclines in reality are consistent with the fact that set-aside ratesdid not stay at the maximum rates that were assumed in moststudies.


Table 5.7 Results for EU cereals production, consumptionand net exports

99

Study Percentage Change from Reference Period

Production" Consumption" Net Exports"

HSE -12.2 2.4 -73.1RON -5.7 n.r. -62.7IT -12.0 6.3 -SO.3CEW -11.5 0.5 -61.SGMR (case 1) n.r. n.r. -47.5·

(case 2) n.r n .r . -63.3·HW(runA) -10.1 n.r. n.r.

(run B) -4.S n.r. n.r .HMH -7.9 1.4 -50.6Actual

93-9S/9a-92 -6.4 S.S -3S.S·93-9419a-92 -6.7 7.1 -22.S·

Notes:• Quantity percentage changesb Dollar value percentage changesn.r.: not reported

For oilseeds, there was agreement on the direction of changes inthe market, but the magnitudes of these changes were very different(Table 5.8). These differences were most likely to emanate from themodelling of the 'decoupledness' of the oilseed compensation schemeand the amount of set-aside land. HMH found essentially no effects onoilseed markets. This was because the study was done after the BlairHouse oilseeds agreement, so the base run already included reforms inoilseed markets. The actual production declines were much smallerthan most estimates, but the consumption of oilseeds actuallyincreased slightly rather than decreasing. Thus, the actual changes innet imports were between the highest estimates (CEW) and lowestestimates (HSE).

The studies consistently indicated a slight increase in meat consumption (Table 5.9). However, there were divergent views on thereaction of meat production and net exports to the CAP reform.RON, IT and CEW estimated that ED meat production woulddecrease with the implementation of CAP reform. HSE and HW(run B) estimated no change in total meat production, while HMHand HW (run A) estimated that ED meat production would riseslightly under CAP reform. Only GMR expected net exports ofmeats to rise after CAP reform; in fact, more than doubling past


Table 5.8 Results for EU oilseeds production,consumption and net imports

Percentage Change from Reference Period

Study Production Consumption" Net Imports"

HSE -19.5 -0.9 11.0RON -4.9 n.r. 19.4CEW -82.0 -9.5 33.4HW (run A) -30.7 n.r. n.r.

(run B) -38.6 n.r. n.r.HMH 0.04 -0.02 0.03Actual

93-95190-92 -7.8 3.6 14.8a

93-94190-92 -10.8 2.5 15.8a

Notes:a Quantity percentage changesb Dollar value percentage changesn.r.: not reportedIT arid GMR did not explicitly cover oilseeds

Table 5.9 Results for EU meat production, consumptionand net exports


Study Production" Consumption" Net Exports"

HSE 0.0 3.0 - 59.2RON -1.2 n.r. - 138.8IT -5.0 0.0 -60.0CEW -2.5 4.8 -249.8GMR (case 1) n.r, n.r. 68.7a

(case 2) n.r, n.r. 122.0a

HW(runA) 0.4 n.r. n.r.(run B) 0.0 n.r. n.r.

HMH 0.5 2.6 -38.7Actual

93-95190-92 -0.1 0.2 33.9a

93-94190-92 -0.2 0.3 32.3a

a Quantity percentage changesb Dollar value percentage changesn.r.: not reported

exports for case 2. HSE, IT and HMH expected net exports todecrease, but still had the EU as a net exporter of meat. But RONand CEW found, as a result of CAP reform, that the EU would


become a net importer of meat. Some of these differences can beattributed to the handling of internal meat price reductions and compensation payments. HSE used a 15 per cent reduction in the beefintervention price and a low intervention ceiling in beef. They includedthe compensation package, assuming that 50 per cent of the cattle inthe ED would qualify for it. Also, they assumed that pork and poultryprices would be reduced in line with beef prices. IT and HW alsoassumed a 15 per cent beef price reduction and the compensationpackage. HMH included the 15 per cent beef support price reduction,the compensation package, and assumed that pork and poultry pricesdeclines would follow the fall in feed prices. CEW assumed an 18.4 percent fall in beef support prices, had a majority of cattle in the compensation programme, and maintained the pre-reform 'sluicegate price'support system for pork and poultry.

The actual changes in meat markets were at neither of the extremes. Beef production declined, while pork and poultry meat increased,leaving total meat nearly the same as before. Beef consumptiondeclined less than production, while pork and poultry consumption increased less than production, so total meat consumption changed little. However, beef exports declined and pork and poultry exportsincreased significantly, leading to a more than 300 per cent increase intotal meat exports .

The assumptions used in the dairy analysis could explain some of thevariation between the studies, especially in production and net exports(Table 5.10). HSE and HMH assumed no milk quota reduction, butterintervention prices that fall 2.5 per cent in 1993 and 1994, and cheeseand skimmed milk powder prices that remained at 1992 levels. Theirestimated impacts were very small. IT adopted a 5 per cent decrease inthe butter price and a 1 per cent drop in the milk quota in 1994. CEWhad the milk quota falling by 7.8 per cent and fluid milk, butter, andskimmed milk powder prices declining by 6.4, 22, and 6 per cent,respectively. The large export declines estimated by IT were mostlydue to increasing consumption at lower prices. In the CEW study, itwas the large production decline that reduced exports. The actualchanges were relatively small declines in production, consumption,and net exports.

The world price effects (Table 5.11) were dependent upon the resultsreported in Tables 5.7 through 5.10. The reaction of the ED marketsto the CAP reform package determined changes in net exports/imports, which affected world price movements. With the exceptionof the GMR (case 1) dairy result, all of the studies agreed that


Table 5.10 Results for ED dairy production, consumptionand net exports


Study Production" Consumption" Net Exports"

HSE 0.04 0.1 0.4RON -0.6 n.r. -13.6IT -0.2 3.0 - 44.0CEW -22.6 - 2.0 -65.4GMR n.r . n.r. _ 21.1&(case I)HW (run A) - 2.6 n.r, n.r .

(run B) -1.8 n.r. n.r .HMH 0.02 0.1 2.4Actual

93-95190-92 - 2.5 -3.8 0.3&93-94190-92 -2.9 -3.7 _ 8.2&

& Quantity percentage changesb Dollar value percentage changesn.r.: not reportedGMR (case 2) dairy was not reported

Table 5.11 Results for world price changes


Study

HSERONCEW

GMR (case I)(case 2)

HMH

Cereals Oilseeds Meats Dairy

12.5 14.8 4.4 0.03.4 0.4 2.4 3.45.0 8.4 1.9 16.0

1.1 n.r, 3.5 - 1.97.3 n.r, 7.3 2.98.2 2.0 2.2 0.0

n.r.: not reportedIT and HW did not cover world price changes

CAP reform would result in world prices that were equal to orhigher than those in the baseline. The actual EU trade changesreported in Tables 5.7 to 5.9 are consistent with the significant priceincreases for grains, oilseeds and meats estimated by most of thesestudies. The relatively small EU trade changes for dairy productsindicate a smaller potential price impact, as indicated by most of thestudies.


5.8 SUMMARY

103

Overall, the studies indicated that CAP reform would have significantimpacts on the European Union and world markets. They estimatedthat EU cereal and oilseed production would fall, cereal net exportswould decrease sharply, oilseed net imports would rise moderately, andmeat and dairy production would remain steady or decrease slightly.These impacts are consistent with what has actually happened since1992. The main disagreements among the estimated impacts of CAPreform were the directions and magnitudes ofchanges in both the meatand dairy net exports for the EU. These are also the results that had thelargest differences in policy assumptions and differed most from theactual outcomes .

There are clear limitations to the comparison of actual outcomeswith results of model simulations. The most obvious one is that themodels are making comparisons of controlled alternative scenariosover the same time period, while actual outcomes are influenced bymany factors other than these policy changes. The 1995 markets werealso affected by other policy changes implemented under the UruguayRound GAIT agreement. For these reasons we did not include comparisons to actual world price changes, which are influenced by evenmore factors .

It would perhaps be more informative to have the modellers performa counterfactual analysis from 1992 to 1995 to assess under actualtechnology , weather, and other conditions how the pre-reform CAPwould have performed. However, policy-makers are more interested inforward-looking analysis prior to policy decisions. These results andcomparisons suggest that policy-makers and industry groups can gainuseful insights from forward-looking policy analysis by modellers.These insights are likely to be more reliable when more than onestudy is available, when these studies are based on the same or verysimilar assumptions, and when the results fall into a consistent pattern.

6 CAP Reform andImplications for MemberStates: Budget and TradeEffectsR.W. Ackrill, R.C. Hine and A. J. Rayner

6.1 INTRODUCTION

The 1992 MacSharry reforms represented the most substantial modification of the instruments of the CAP since its inception. Before thereforms, support had been administered through high market pricesengineered by import restrictions and support buying. The new system,by contrast, depended to a large extent on direct payments fromgovernment to farmers to supplement a lower market price. Moreover,whereas support except for the dairy and sugar sectors had previouslybeen open-ended, now the EC sought to constrain the quantities ofproduction eligible for support (see Swinbank, 1993 as well as partsof other chapters of this book for information on the details of the1992 reforms). From a support instrument perspective, therefore,the 1992 reform marked a significant change from the past. The CAPhad moved to a new trajectory.

Not only did the method by which farmers received support change,but also the source of support was significantly changed. The burdenof support from consumers was lightened with the fall in market prices,whereas the burden on taxpayers increased sharply - despite initialreassurances on this score. By way of rather minor compensation forthis, the taxpayer burden would become more stable and predictable.Compared with previous CAP reform discussions in the I980s, thisdevelopment was rather surprising since the conventional wisdom wasthat CAP reform would be precipitated by the need to control theescalating budgetary cost of the policy. Faced with a choice between aconfirmation of the stabiliser regime which would impose a progressive, uncompensated cut in producer prices in the arable sector, and acompensated price cut under the MacSharry reforms, the Council of

104

CAP Reform and Implications for Member States 105

Ministers opted for the latter even if it imposed higher taxpayer costsbut a lighter burden on consumers. The 1992 reforms suggest aclear priority for the Council of Agriculture Ministers attempting toprotect farmers' incomes, over a particular method of agriculturalsupport and a particular pattern of support costs, at least in theshort term.

In apparent contrast to the sharing of support costs domesticallybetween consumers and taxpayers, the distribution of the burdens andbenefits of the CAP between EU member states has been a much moresensitive issue. This is particularly highlighted by the prolonged conflict over the UK's contribution to the EU budget which has beenprovoked by the disparity between UK burdens and benefits under theCAP. This dispute, and the unwillingness of Germany to shoulder theentire cost of a budget settlement with the UK, indicates the sensitivityof governments to the international redistributive effects of the CAP.This suggests that any proposed reform of the CAP would have tohave a largely neutral effect on the pattern of net contributions to theCAP to stand any chance of acceptance. Failing this, those countrieslikely to experience a deterioration in their net position in relation tothe EU budget would beexpected to block any change. In other words,unless there is a fundamental change in the institutional frameworkwithin which CAP decisions are taken, policy reformers are likely to beconstrained by the need to maintain broadly the status quo regardingnet balance of payments effect. A qualification to this might be that aredistribution in favour of poorer countries might meet with lessresistance than measures which benefited primarily the richer memberstates.

This chapter, therefore, sets out to explore two issues, one abstractand one empirical. First we consider the nature of the 1992 reforms inrelation to their international redistributive implications: are therereasons for supposing that the 1992 reform measures are inherentlyneutral with regard to the international balance of burdens and benefits, and hence that they would not meet strong resistance from anymember state on the grounds that the reforms harmed its position withregard to the terms of trade and its EU budget contribution? Morespecifically we consider the impact on net importing and net exportingcountries of a switch from the traditional CAP variable import levy/export subsidy system to a compensation payment/set-aside regime.The second issue explored is an empirical investigation of the international redistributive effects among member countries of the 1992CAPreforms. Across a range of commodities we seek to establish ex ante


whether a significant change in the incidence of budget cost and preferential trade effects could be anticipated as a result of the MacSharryreform of the CAP. Our working hypothesis is that the CAP reformswere designed to have a broadly neutral redistributive effect internationally, even though, as we have pointed out earlier; the redistributiveeffect within countries, that is between consumers and taxpayers, isquite marked.

6.2 THE NEUTRALITY OF REFORM: A STYLISEDANALYSIS

6.2.1 A Simple Two-Country Model

Support for farmers under the CAP has been provided in a number ofways depending on the commodity in question . However , for corecommodities such as cereals, support of the internal price above thecorresponding world market price, maintained by a system of intervention buying, variable import levies and export refunds, was prevalentunder the 'old' pre-1992 CAP. The principal change brought about bythe 1992 reform was to amend this form of support to a compensationpayments/set-aside regime whilst cutting the support price severely.

In this section we employ a simple model to analyse the implicationsof this change in support on the transfers between member statesarising from the operation of the CAP. The model consists of a twocountry union with support given to a single homogeneous commodity; country 1 (the importer) imports from country 2 (the exporter) andthe latter disposes of any residual excess supply on the world marketwith the aid of export refunds from the union budget. There are noimports from third countries into the union.

Under the 'old' CAP, redistribution occurs between member statesvia both preferential trade effects and budget effects. The preferentialtrade effect (PTE) of the CAP is a consequence of intra-EU tradetaking place at the support price rather than at the world marketlevel; in our simplified model, the importer suffers from a negativePTE by paying this premium on imports from its partner whilst theexporter benefits in terms of a corresponding positive PTE. The budgeteffect (BE) of the CAP arises from the direct transfer of funds from theEU budget in the form of agricultural expenditure and the crosssubsidisation of this spending from other, non-agricultural 'ownresources ' paid to the budget.' In our simplified model, the 'old'


CAP generates a negative BE on the importer who receives nothingfrom the budget but nevertheless makes a resource contribution to it;conversely, the exporter gains by virtue of a positive BE since CAPbudget receipts outweigh the resource contribution (see the discussionbelow and Table 6.1 for a proof) . The net transfer from a member statearising from the CAP is the sum of the two effects and is conventionally known as the budget and trade effect (BTE = PTE + BE). In thismodel the 'old' CAP imposes a negative (positive) BTE on the importer (exporter) .

Figure 6.1 presents a stylised diagrammatic representation of the EUtype market for a 'core' agricultural commodity (typified by cereals)before and after the 1992reform with two member states - an importerand an exporter - comprising the two-country customs union . Prior tothe reform, there is a common support price, Pc, prevailing across theunion; this support price being substantially higher than the worldprice, Pw. This support price determines domestic production andconsumption in each state.' Under the reform, the support price isreduced to price Pr and set-aside shifts the supply curves inwards,reducing production in each state, from Sm to S'm and Sx to S'x.Compensation payments are made to producers in each state equivalent to the price reduction (pc-Pr) times the pre-reform quantity ofproduction. Using the diagram, we analyse the impact of reform on thePTE, BE and BTE.

Exporting Country

S'x Sx

,,,a : x,,,-.·~ ·_ ·_ ·- ·- ·-r _._.J, Y : z

OxP

Importing Country

S'm Sm Om

h

P

Pr

Pc t-----,+-+--it--------+----t-....,...------,++-

a Smr Sme Ome Omr Q a OxeOxrXe Xr Sxr Sxe Q

Figure 6.1 Transfers in a 2-country , net-exporting union


6.2.2 Pre-Reform Analysis

The importing country produces Smc and consumes Dmc at the support price Pc so that Dmc--Smc represents intra-union imports. Theexporting country produces Sxc and consumes Dxc at the supportprice; it sells Xc-Dxc (=Dmc-Smc) to the importer (intra-unionexports equal to intra-union imports) and disposes of Sxc-Xc on theworld market with the aid of export refunds from the central budget ofthe union, the unit refund being Pc-Pw.

The PTEs and BEs are set out in Table 6.1. The PTE arises becausethe importer purchases imports from its partner state at the supportprice rather than buying the equivalent quantity from the world market at the lower world price. In Figure 6.1 this loss is represented byarea (a+b). Conversely, the exporter gains by selling to its partner staterather than to the world market and this gain is represented in Figure6.1 by area (a+i+j)=(a+b). Budget gains and losses, that is BEs,arise from the refund of export subsidies from the central budget. InFigure 6.1, the exporter gains by receipt of refunds equal to area(x+v+y+z+u). The 'drain on the budget' from the operation of thestylised CAP is financed by non-agricultural resource contributions(denoted by RC in Table 6.1) from member states. The 'drain on thebudget' occurs because budget expenditure is only partially covered bylevies on imports from outside the union (due to the CAP, the ED hasbecome increasingly a net exporter of agricultural products). Thus thatportion of budget expenditure which is not covered by importlevy revenue has to be financed via the non-agricultural resourcecontributions of member states. The budgetary cost of the stylisedCAP is denoted in Table 6.1 by B and the importer makes an RCpayment of 9B whilst the exporter pays (1- 9B). The BE for eachmember state is equal to net agricultural spending in that countryminus its RC and is negative (positive) for the importer (exporter) inthe model for the two-country one-commodity case. Finally, the BTEis the sum of the PTE and the BE and is negative (positive) for theimporter (exporter); the BE and BTE losses and gains are set out inTable 6.1.

6.2.3 Post-Reform Analysis

The importer now produces Smr and consumes Dmr at price Pr afterallowing for the effect of set-aside on supply. Compared to the prereform situation, production falls and consumption rises so that intra-

CAP Reform and Implicationsfor Member States 109

union imports increase to quantity Dmr-Smr. The exporter producesSxr and consumes Dxr; it sells Xr-Dxr (=Dmr-Smr) to its partnerstate and disposes of Sxr-Xr on the world market with the aid ofexport refunds, the unit refund being Pr-Pw. In addition, compensation payments are introduced to offset the income reduction from thelower prices. These are paid on the pre-reform production area andcover the difference between the old and new support prices, Pc-Prtimes a fixed base yield.

In Figure 6.1, the loss (gain) to the importer (exporter) representedby the PTE is area (d+b+e), noting that area y=d+e+i . Agriculturalreceipts from the central budget in the importing state are due tocompensation payments, represented by area (h+k). In the exportingstate , agricultural spending is the sum ofcompensation payments, area(g+a+x+v) and export refunds, area (z). The budget cost of thereformed stylised CAP is denoted in Table 6.1 by C with RC sharesbeing unchanged at 9 and 1- 9. The budgetary loss/gain to eachmember state of the reformed CAP depends to a large degree on therelative size of the shares of each state in Union production, determining relative compensation payments, and on the RC shares. Assume, asis likely, that the importer's share of production is less than its RCshare; the importer will continue to lose and the exporter continue togain on the PTE and on the BE.3

6.2.4 Impact of the Reform

Reform leads to a reduction in Union exports to the world market andan expansion of intra-Union trade. The importer pays a much smallerpremium on intra-Union imports following the large cut in supportprices and this gain is likely to be much larger than the loss associatedwith the expansion of imports, given inelastic supply and demand.Budgetary spending rises with the introduction of compensation payments and it may be assumed that overall CAP spending rises considerably; the cost of compensation payments far outweighs the savingon export refunds. It is likely that the importer bears the main burdenof this increase in budgetary expenditure in terms of a rise in itscontribution to the budget which is larger than its receipts from compensation payments. Overall, the trade and budgetary impacts tend tooffset each other so that the net impact of reform on member states islargely neutral.

We present a more detailed analysis of these impacts of reformbelow. The analysis focuses on the impacts on the importer noting


that gains and losses to the exporter are equal to the losses and gains tothe importer.

1 Impact on PTE

The reduction in the support price, Pc falling to Pr, gives a benefit tothe importer on the pre-reform volume of intra-union trade (benefit =area a). However, the volume of imports rises with the introduction ofset-aside and the increase in excess demand induced by the price fall;this increase in trade imposes a loss on the importer valued at the pricepremium, Pr-Pw (loss = area d + e). In Figure 6.1 it is assumed thata > d + e so that the PTE of the stylised CAP on the importer becomesless negative with reform; that is, the importer gains and the exporterloses from reform.

2 Impact on CAP expenditure

CAP spending rises with the introduction of compensation paymentswith the value of payments being linked to the size of the price cut,Pc-Pr, However, traditional spending falls because of the reduction insubsidised exports; and the fall in exports to the world market is linkedto the set-aside rate and the reduction in excess supply induced by thefall in the support price. It can be assumed that CAP expenditureincreases overall as a result of these changes so that in the depictiongiven by Figure 6.1, area (h + k + g + a - y - u) is considerably morethan zero.

3 Impact on BE

The impact of reform on the BEs of the CAP depend on relativeexpenditures (dominated by compensation payments) in each memberstate and RC shares determining relative contributions to the increasein budgetary spending. It is convenient for further analysis to considerthe RC share of a country as equal to the sum of the share of thatcountry in Union aggregate consumption and a divergence factor,reflecting the extent to which the budget share and the aggregateconsumption share may not be equal. In Table 6.1, the consumptionshare of the importer is denoted by y and the divergence factor by J.L sothat the RC share, e= y + J.L. The importer's share of CommunityGNP is a major determinant of both its RC share and its consumptionshare and so the RC share and consumption shares are likely to befairly close in size. The importer makes a larger contribution to the


increase in CAP spending than it gains from compensation paymentssince its consumption share is larger than its production share andbecause net payments made to the Union budget by the importer risefollowing reform. In Table 6.1 the increase in net payments is splitinto three components, two of which are negative indicating anincrease in net payments and one which is positive, indicating adecline in net payments. The first term (area -a) represents a transferfrom the importer to the exporter via compensation payments fromthe budget paid on the pre-reform intra-union trade produced by theexporter and sold to the importer. The second term (area y(y + u))represents a saving to the importer in budgetary contributions resulting from valuing the fall in the volume of subsidised exports at a rategiven by the post-reform unit export refund; if there were no reductionin exports to the world market the importer would pay a share, y, ofthe subsidy cost of these exports. The third term (-I!(C - B))accounts for any divergence between the RC share and the consumption share in attributing the burden of the increase in CAP spendingbetween the two countries. The importer loses if the RC share isgreater than the consumption share. The overall impact of reformon the BE of the importer depends directly on the extent of theprice cut and indirectly on the induced response of supply and demandin the two countries to the price fall, on the set-aside rate and on theextent of any divergence between the RC share and the consumptionshare of the importer.

4 Impact on BTE

The major gain on the PTE and the major loss on the BE stemmingfrom reform are directly offsetting (areas a and -a respectively). Theimporter benefit from the price reduction on the pre-reform intraunion trade volume is cancelled out by the contribution to compensation payments made to the exporter on this production quantity. Thenet impact of reform on the BTE of the CAP then consists of threecomponents as displayed in Table 6.1. The first component is the losson trade expansion valued at the new lower price premium, Pr-Pw,and is represented by area (i - y) = (-d - e < 0). The second component is the budgetary gain on the reduction in subsidised Unionexports valued at Pr-Pw and is represented by area y(y + u) > O.The third component is the loss/gain resulting from any divergencebetween the RC share and the consumption share and is denoted by-Jl(C - B). The first two components depend directly on the size of


Table 6.1 Transfers in a 2-country, net-export ing Union - summary ofeffects

Component Importer Exporter Union

Pre-RefonnPTE -(a + b) (a+i+ j) = (a + b) 0Export Refund 0 (x + v + Y+ z + u) B

ExpenditureRC - 9B -(1- 9)B -BBE -9B 9B 0BTE -(a+ b) - 9B (a+ b) + 9B 0

Post-RefonnPTE - (b + d+ e) (j + y) = (b+ d+e) 0Compensation h+k g +a+x+ v

PaymentsExport Refund 0 z

ExpenditureAggregate CAP (h + k) (g+a + x+v+ z) C

ExpenditureRC -9C - (1- 9)C - CBE (h + k - 9C) (g+ a + x+v+z) 0

- (1- 9)CBTE (h + k- 9C) - (b + d+ e) «g+ a+ x+v+z) 0

-(1 - 9)C) + (b + d + e)

Impact of Refonn:on PTE (a - d - e) (y - a - i) = 0

(a - d - e)on CAP C - B =

Expenditure (h + k+ g+a-y- u)

on BE (h + k)-9(C - B) (g+ a-y- u)- 0(1- 9)(C - B)

onBTE (h +k+a-d- e)- (g - u - i) - (1 - 9) 09(C - B) = (h+ k+ (C - B)a + i - y) - 9(C - B)

Impact of Refonn: Supplementary Analysis

on BE - a+ y(y+ u)- a - y(y + u)+ 0II(C- B) II(C - B)

onBTE i - y + y(y + u)- y - i - y(y + u)+ 0II(C- B) II(C - B)

Noles:(i) e = RC share of importer (share of Union own-resources paid by theimporter)(ii) 'Y = pre-reform consumptio n share of the importer = Dmcl(Dmc-t-Dxcjearea (h + k + a)/ area (h = k + a + g)(iii) I.l = e- 'Y = divergence of consumption share from RC share


the reduction in the support price and on the reduction in EU excesssupply induced by the price fall and by set-aside. If the supportprice were to be reduced to the level of the world price and therewas no divergence between the RC share and the consumption sharethen there would be a zero impact on the BTE of the CAP followingreform.

6.2.5 Summary and Implications

The stylised representation of traditional price support given to asingle commodity in a two-country union illustrates the propensityfor redistribution between member states inherent in the CAP. The1992 reform generates a significant increase in agricultural budgetary spending whilst lowering support prices by a wide margin.Under the stylised representation of CAP reform as depicted inFigure 6.1 the reform generates substantial impacts in the incidenceof the PTEs and BEs arising from the CAP. The magnitudes of theimpacts depend inter alia on the size of the cut in the support priceand on the rate of set-aside. However, the net impact of the reformon gains and losses to member states will be largely neutral since theprincipal components of the impacts directly offset each other,providing there is a close correspondence between member stateRC shares and consumption shares. In practice the pre-reformCAP covered many commodities using a variety of support mechanisms so that costs and benefits to member states depended upon thedegree and type of support given as well as relative contributions(largely GNP driven) to the EU budget. The reform was bothpartial, affecting only a subset of commodities, and differential inextent across the commodities affected. In order to assess the quantitative impact of reform on gains and losses to member states wetum now to empirical studies of the PTEs and BEs of the CAP onmember states .

6.3 TRANSFERS UNDER THE 'OLD' CAP

6.3.1 Commodity Support Policies: BEs and PTEs

Table 6.2 summarises support policies by commodity regimes underthe traditional CAP and indicates how they generated BEs and PTEson member states . The cereals, dairy, beef and veal and oilseeds


regimes dominated CAP expenditure. Spending on the first three ofthese regimes was concentrated in the 'Northern' states and led tosignificant budgetary transfers between member states. The Northernexporters of these commodities - France, the Netherlands, Ireland andDenmark - gained whilst the Northern importers - Germany and theUK -lost from the BEs and the PTEs of the CAP. The Southern states- Italy, Greece, Spain and Portugal - tended to lose from the PTEs

Table 6.2 Commodity support policies- a summary

Commodity Is Peu>Pw?t BE PTE

cereals yes Extra-EU trade Intra-EU tradeimport levies to budget importers pay

P>Pwexport refunds from exporters receivebudget price above Pwintervention storage

oilseeds no direct payments toproducers

sugar* yes (quota as for cereals as for cerealsregime)

fresh fruit & some** direct payments tovegetables producersdairy*** yes (quota import levies as for cereals

regime) export refundsbeef and veal yes import levies as for cereals

export refundsdirect payments toproducers

sheep and goats prices direct payments toconverging producers

pigs and poultry yes limited export refunds affected by cerealssupport - main feedinput

Notes:t Under normal market conditions and by a significant margin.*The sugar regimeis complicated by the inclusion of imports from the African,Caribbean and Pacific countries under the Lome Convention. This entailsimporting a limited quantity from these countries at the EU support price.More details are given in Ackrill et al. 1994.**This regime is complicated because of the range of products included.***The dairy regime is also complicated by the range of commodities it covers.The analysis below considers just the three most important, butter, cheese andskimmed milk powder.


arising from the imports of northern products but gained from budgetary support on oilseeds, fruit and vegetables and sheep and goats .

6.3.2 A Synthesis of Estimates from Various Studies

A number of studies have been carried out over several years estimating the preferential trade and budget effects of the CAP. Although theyall use slightly different methodologies, they do allow a picture to bedrawn tentatively which shows how these transfers have evolved underthe CAP over time prior to the 1992 reforms. Tables 6.3, 6.4 and 6.5summarise the estimates from the various studies.

From these tables, it can be seen that the magnitude of the PTE wasvery large, in some cases considerably larger than the BE. Thus anystudy which only considers the explicit fiscal transfers made via the EUbudget is missing a very large element in the overall redistributive effectof the CAP. Second, there are a number of cases where the PTE andBE are of opposite sign and therefore act to cancel each other out inthe overall BTE. However, it should be noted that fiscal transfers arefar more accurate than estimated PTEs which depend on estimates ofappropriate world prices for their calculation. In interpreting the datapresented it should also be noted that PTEs tend to be volatile overtime because world prices are volatile.

Table 6.5 presenting BTEs confirms Germany as the major loserfrom the CAP since the mid-1980s, with Italy's large negative PTEmeaning that both that country and the UK are close together insecond place, despite some studies indicating a positive BE for Italy .BLEU was also generally a net contributor, although its contributionwas declining slightly over time. On the other hand, Denmark, France,Ireland and the Netherlands were clearly beneficiaries from the CAP,with positive PTE and BE. Interestingly, given the concern over cohesion within the EU, the three poorest countries ofGreece, Portugal andSpain all lost from the PTE but gained from the BE. Indeed , thepoorest - Portugal - is seen generally to lose overall from the CAP.

Over time, the net budget contribution for Germany was risingsteadily. The PTE was also rising (in terms of loss), but was alsoquite variable. For the UK, there was no clear trend in the PTE,whereas the net (negative) budget position rose until the mid-1980sand declined thereafter. The PTE and the BE for Italy varied over timewith no clear trend in either . For France, whilst both the PTE and BEwere unstable, they appear generally to be rising over the period of the1980s. The same picture appears for Ireland. Of the three poorest

Tab

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countries, Spain, Greece and Portugal, the BE was rising for all ingeneral, but the PTE was stable or declining for Greece and Portugal,with only Spain's position appearing to improve. However, the accession arrangements for these countries will have influenced budgetarytransfers over the period 1986-93.

Table 6.6 presents the estimates by the present authors of the BTEsof the CAP on member states on a per capita basis and as a percentageof GDP. The results for ECU per capita confirm Germany as themajor loser whilst Ireland was the largest beneficiary by some considerable margin, with one of the richest countries in terms of GDP percapita - Denmark - the second largest beneficiary.

Turning to the results expressed as a percentage of GDP, we can seejust how significant the transfers to Greece and Ireland were. Thesefigures also serve to emphasise how much Denmark gained from the'traditional' CAP. To a slightly lesser extent, the same can be said ofthe Netherlands. The net losers from the CAP, the Benelux countries,Germany, the UK and Italy all contributed similar percentages.

6.4 TRANSFERS UNDER THE REFORMED CAp4

6.4.1 Introduction

In 1992, a number of sectors underwent major reform. These affectedthe basic support mechanisms and thus affected the internal price atwhich intra-EU trade is carried out. They also affected budgetarytransfers because of the new relationship between internal and worldprices (affecting refunds in particular) and because lower price supportwas generally replaced with direct compensation payments to producers. Table 6.7 summarises the main reforms implemented.

6.4.2 Sectoral analysis

(i) Cereals

Support prices were cut by about one-third and farmers now receivedirect payments in compensation. In addition, all but the small-scalefarmers have to set aside a percentage of their land in order to qualifyfor compensation and land which is set-aside also attracts compensation. The original set-aside rate was 15 per cent of all arable land(cereals, oilseeds and protein crops plus land previously set-aside).


Table 6.7 Key changes under the 1992 reforms

Sector Changes Impact on:

ExpendituresCereals Lower support prices (resulting in 29 per cent

cut in market price) .Introduction of compulsory set-aside for large

farmers.Introduction of compensation payments for PTE/BE

lower prices and set-aside.Oilseeds 7 per cent cut in area deficiency payments. BEBeef Lower intervention price (15 per cent price

cut) and lower quantity ceiling.Approximate doubling of beef and suckler PTE/BE

cow premia (subject to quantity limits).Pigs and Poultry Lower price for the main feed input (cereals) PTElBE

and lower trading prices for pigs andpoultry products.

RevenuesAgricultural Lower internal prices resulting in lower levy BE

Levies revenues.

Note: Following a GAIT Panel ruling in 1991, the oilseeds regime wasreformed, broadly along the lines of the subsequent changes to the cerealsregime. The 1992 reforms adapted support levels and incorporated oilseedsinto the new broader arable regime for purposes of set-aside obligations.

Subsequently, this has been cut to 10 per cent and then, for the 1997harvest, to 5 per cent.

There is an important distributional aspect to this, because only'large' farmers must set-aside land. They are defined as those who, atbase historical yields," farm an area capable of producing at least 92tonnes. Countries like the UK, with a high average arable farm size, setaside more than countries where there are large numbers of small-scalefarmers. Allanson (1993) shows that with the 15 per cent base figure,total set-aside in the EU will be about 9 per cent, or 60 per cent ofbase.Estimates for 1993 set-aside rates indicate this to be very close indeedto the actual figure.

Changes in internal prices affect both production and consumption,in turn affecting trade flows. Consumers benefit from lower prices.Taxpayers benefit from lower refund and intervention storage expenditures , but have to pay the additional cost of the compensation payments. To simplify analysis, it is assumed that production falls solelyfrom set-aside, with no response to the lower support price. Consump-


tion is assumed to rise by 5 per cent because of higher cereals usage inanimal feed.6 With shifting trade flows, it is assumed that extra-Elftrade is given precedence over intra-ED trade, such that surplus EDproduction will continue to be exported outside the ED and that eachmember state will maintain its 1992 share of total exports. This allowsfor the maintenance of established historical and trade links betweenthe member states and their main external trading partners." Theresults indicate that the price cut is extremely important for traderelated transfers, but the budget effect overall is dominated by theintroduction of the compensation payments.i

( ii) Oi/seeds

This sector was reformed in 1991, so the impact of additional changesin 1992 are less than for other sectors. With no border protectionin this sector, the reforms affect only budgetary expenditures. Theestimation has, however, faced a number of problems. Most notably,in claiming payments for oilseeds production, producers can use oilseeds yields or cereals yields. An attempt to account for this has beenmade.

(iii) Beef

Over a three-year transitional period, the intervention price for beefhas been cut by 15 per cent, with the ceiling on sales into interventioncut from 750000 tonnes in 1993 to 350000 tonnes in 1997.9 The twomain forms of compensation payment - the suckler cow premium(SCP) and the beef special premium (BSP) - have been increased, butsubject to a lower stocking rate. The SCP has risen from 65 ECD to120 ECD per head of eligible cattle and the BSP from 40 ECD to 90ECD per head . The gap between world and internal prices is expectedto remain large despite domestic reforms .

(iv) Pigs and Poultry

Pigs and poultry can essentially be thought of as converters of cerealsinto meat/eggs. No direct reforms were undertaken in 1992, but thePTE has been affected by the changes to the cereals regime. Ackrill(1992) indicates that about half of the feed requirement for theseanimals comes from cereals. Assuming a 30 per cent cut in the cerealsprice and a full transmission through to the price of the products ofthese animals, the PTE is recalculated for a 15 per cent price cut . The


total volume is assumed to be unaffected. Again, this study is focusingon the static effects of the reform, not the dynamic consequences.

6.4.3 Impact of the Reforms

Details of the calculations used to measure the impact of the reformson the PTEs and BEs of the CAP on member states are given in Ackrillet af. (1995 and 1997). A number of regimes have been excluded fromthe analysis. Sugar was excluded from the 1992 reforms, to be reviewedat a later date; the reforms to the dairy regime were expected a priori tohave an insignificant effect on PTE and BE; and the reforms to thesheepmeat sector were designed to be neutral with respect to thebudget.

To make the analysis tractable, simplifying assumptions have beenmade. The results are presented for 1992 assuming a full immediateintroduction of the reform package, rather than a three-year phasedintroduction. It is assumed that overall CAP spending remains withinthe guideline, achieved comfortably in recent years. Thus increases inCAP spending will not affect non-CAP spending.

Finally, changes in overall expenditure will be funded from theGNP-based own-resource, as all other own-resources are assumed tobe fully utilised (as has been the case for several years) . The budgetaryconsequences of changes in total expenditure are directly related to therelative GNPs of the member states. These changes also affect therebate payable to the UK.

Table 6.8 summarises the main results of the study. This table showsthat following a reduction in support prices and the introduction ofcompensation payments, most countries face opposing movements intheir PTEs and BEs. The exceptions are Germany, Spain and Portugalwho obtain gains on both counts, and Ireland who suffers a doubleloss .

France and Italy were respectively the main beneficiary and mainloser from the PTEs of the 'old' CAP. The fall in support prices reducesthe benefit to France by some 50 per cent and the loss to Italy by some30 per cent. However, these PTE impacts are offset, partially in thecase of France and completely in the case of Italy, by the impact of the1992 reforms on BEs. As a result, the large net benefit of the CAP toFrance, as measured by the BTE, falls whilst the large net loss to Italyis virtually unaffected.

Germany, the largest loser from the CAP, derives a marginal benefitfrom the reforms as does the United Kingdom, the next largest loser,

Tab

le6.

8O

vera

llim

pact

of

the

refo

rms

(199

2,m

illi

onE

CU

)

BL

EU

DK

DG

RE

FR

IRE

IN

LP

TU

KE

D

1992

pre-

refo

rmn

etC

AP

exp

1299

1146

4364

2571

3885

6924

1521

5063

2003

665

2085

3152

6co

ntri

bto

agex

p13

1157

496

4041

726

7658

9326

146

4119

5143

537

2631

525

BE

-12

572

-527

621

5312

0910

3112

6042

252

229

-164

1-1

PT

E-2

5776

9-

1219

-27

3-5

224

7597

0-2

807

1594

-332

-111

2-2

44B

TE

-269

1341

-649

518

8011

5735

0622

30-2

385

1646

-103

-275

3-2

45

Cha

nges

with

1992

refo

rms

Ii.n

etC

AP

exp

-74

299

1685

216

979

1906

-175

301

-178

7495

159

84Ii.

cont

rib

toag

exp

202

118

1598

7451

211

3836

1091

264

6988

259

84Ii.

BE

-276

181

8714

246

776

8-2

11-7

90-4

425

690

Ii.P

TE

288

-97

128

-20

87-1

283

-88

775

141

146

-20

57Ii.

BT

E12

8421

512

255

4-5

15-2

99-1

5-3

0115

149

57B

TE

:ne

wC

AP

-257

1425

-628

020

0217

1129

9119

31-2

400

1345

48-2

704

-188

Not

es:A

sw

ith

prev

ious

tabl

es,

the

PT

Esh

ould

sum

toze

ro,

bu

tdoe

sn

ot

beca

use

of

roun

ding

erro

rsan

ddi

scre

panc

ies

intr

ade

dat

abe

twee

nin

tra-

Elf

impo

rts

and

expo

rts.

Net

CA

Pex

p:N

etC

AP

expe

ndit

ure

(CA

Pex

pend

itur

esm

inus

CA

Ple

vies

).C

ontr

ibto

agex

p:N

on-a

gric

ultu

ral

own-

reso

urce

cont

ribu

tion

toag

ricu

ltur

alex

pend

itur

e.


despite the substantial increase in budget costs stemming from theintroduction of compensation payments. However, Germany, the United Kingdom and Italy remain the three largest losers from the CAP.The Benelux countries are virtually unaffected by the reforms in thatthe gain on the PTE is cancelled out by a loss on the BE. Of thecountries who benefited from the 'old' CAP, Ireland and the Netherlands join France in losing from the reforms whilst Greece, Spain andDenmark increase their gains. Nevertheless, France, Greece, Ireland,Spain, Denmark and the Netherlands continue to be the main beneficiaries from the CAP. Finally, Portugal who suffered a small net lossunder the 'old' CAP derives a small gain as a result of the reforms.

6.4.4 Budget and Trade Effects of the CAP: A Summary

Under the 'old' CAP, exporters with a positive balance of trade on'Northern' agricultural products had a positive PTE and were alsobeneficiaries from the BE. Importers producing 'Northern' commodities lost via both the PTE and the BE. The Southern member statesobtained budgetary gains from direct subsidies more than offsettingtheir PTE losses with the exception ofltaly which is a large importer of'Northern' products.

The 1992 reforms are largely offsetting; losses (gains) on the PTEbeing opposed by gains (losses) on the BE for seven member states.Ireland suffers double losses and Germany and Portugal obtain

BE BTEgain loss gain loss

gain FR FRNL NLIRE IRE

PTE OK OK

loss GR BLEU GR PT

I UK E BLEUE 0 UKPT I

n

Figure 6.2 Gains and losses pre-MacSharry reform


ABE ABTEgain loss gain loss

gain 0 BLEU BLEU I

E I 0 NLPT NL E

APTEPT

loss OK IRE OK FRFR GR IREGR UKUK

Figure 6.3 Impact of MacSharry

double gains. As is shown in Table 6.9, the net impacts on memberstates are relatively small in terms ofboth total BTE and the per capitaBTE.

Ranking the impact of the reforms by change in total BTE showsthat most of the poorer countries benefit in terms of an improvement

Table 6.9 Member state gains and losses

Total BTE (Million ECU) Per capita BTE (ECU)Rank order impact of reform Rank order impact of

reform

Member Pre- Re- Impact Member Pre- Re- Impactstate" reform formed of Stater" reform formed of

CAP CAP Reform CAP CAP Reform

E (444) 1157 1711 554 DK (21) 259 276 17D (1499) -6495 -6280 215 PT(7) -11 5 16PT (74) -103 48 151 E(l1) 30 44 14GR (60) 1880 2002 122 GR(6) 183 193 10DK (110) 1341 1425 84 D (21) -100 -97 3UK (806) -2808 -2703 50 UK (14) -49 -47 2BLEU (177) -270 -257 12 1(16) -42 -41 11(945) -2384 -2400 -15 BLEU (17) -26 -25 1IRE (39) 2229 1931 -299 FR (18) 61 52 -9NL (248) 1646 1345 -301 NL (16) 108 89 -19FR (1020) 3506 2991 -515 IRE (11) 628 554 -84

Notes:• Figures in parentheses are approximate GDP (billion ECU).•• Figures in parentheses are approximate GDP per capita (thousand ECU).


in their BTE and that most of the richer countries who gained from the'old' CAP see a deterioration in their position. Denmark and Irelandare notable outliers; Denmark is a rich country who benefits, whilstIreland is a poor country who loses. Ranking the impacts by change inper capita BTE emphasises the loss to Ireland.

6.5 FUTURE PROSPECTS

The international redistributive effects of the CAP are large and politically sensitive. This chapter has shown that these effects have notaltered greatly as a result of the significant modifications in the natureof the CAP brought about by the 1992 reforms. This suggests thatthere is considerable resistance on the part of net contributors to anyincrease in payments, whilst net beneficiaries seek to retain their existing receipts. Given the present institutional arrangements for the CAP,therefore, the pattern of redistributive effects may act as a considerableconstraint on future adjustments to the policy. Nevertheless, the internal and the external circumstances of the CAP will generate pressuresfor change over the next few years. Internally these will be persistent(e.g. through the upward movement of yields) or episodic (e.g. adverseweather leading to a lower harvest), or both (e.g. the BSE crisis).External factors will include especially the further enlargement of theEU, changes in world commodity market conditions and developmentsin world trade diplomacy.

Changes in EU membership have direct implications for the revenueaccruing to the European Budget and for expenditure on the CAP andother EU policies. This is already apparent in the case of the 1995enlargement of the EU which brought in Austria, Finland and Sweden.As affluent countries, the new members' contribution to the EuropeanBudget will be relatively large. There will also be consequences for theCAP, notably in the cereals sector. Rayner et af. find that by 2000 thethree new members could together be a net cereals importing bloc,importing about 1-2 million tonnes a year. For the EU-l2, this wouldrepresent a switch from extra-EU trade, where exporters gain frombudgetary transfers, to intra-EU trade, where exporters gain from thePTE. As shown above, however, the latter will be reduced markedly bythe 1992 reforms. Overall, given the relatively small size of the threecountries joining the EU in 1995, it is unlikely that their accession willhave a significant effect on the distribution of gains and losses amongthe member countries.


This is not the case for the prospective enlargement to admit to theED a number of Central and Eastern European countries such asPoland, Hungary and the Czech Republic. As low-income countries,their contribution to the European Budget would be relatively modest,and each would expect to be a net beneficiary from the budgetaryprocess. As discussed in Chapter 4, the implications for the CAP arefar-reaching. It is difficult to see how the fundamental ED principle ofnon-discrimination amongst ED member states can survive withoutfurther significant evolution of the CAP and other ED policies. Thefocal issue here is the future of the compensation payments andwhether they could be continued for farmers in the ED-15 withoutbeing extended to farmers in the prospective member countries, thecost of which would probably be prohibitive as far as the net contributors to the European Budget are concerned. Given the resilience ofthe CAP redistributive effects noted in this chapter, a possible wayforward would be a transformation of the compensation payments intosome form of rural development assistance in the ED-15. The counterpart in the new member countries would then be regional developmentaid, to which the ED would in any case be committed.

Apart from ED enlargement, developments in world commoditymarkets will have implications for the redistributive effects of theCAP. Even in the short term, the impact can be considerable, as wasillustrated by the cereals market in 1996. In the previous two years,production had suffered through adverse climatic factors, althoughperhaps not by as much as some believe (Tangermann and Pilzecker,1996). By contrast, consumption remained closer to trend and this ledto world stocks being drawn down to extremely low levels and to highworld market prices. In the ED, cereals stocks were at their lowest levelfor 15 years, a pattern reflected in many grain-exporting countries,especially the DSA. However, in 1996 world wheat production was arecord and prices eased substantially.

This episode illustrates the sensitivity of the redistibutive effects ofthe CAP to world market conditions. High world market prices in 1996directly affected member states in two ways. First there was the elimination of the PTE as the price gap between the ED and world marketsdisappeared. Indeed, the PTE was for a period reversed as the EDmade occasional use of export taxes. Secondly, the BE was affectedbecause subsidies to exporters were discontinued, while importingcountries no longer contributed import levies. This resulted in netlower expenditure, meaning less cross-subsidisation from non-agricultural own resources. The tighter markets also meant less going into


intervention, with further budget savings. The outcome is clearly notneutral among member countries - a rising world price relative to theEU support level reduces both the costs of the CAP to importers andthe benefits of the CAP to exporters . Although the EU has retained itstrade intervention measures, the reforms of 1992 greatly attenuate theeffect of fluctuating world prices on the absolute magnitude of theredistributive effects. This is because set-asides have reduced the exportsurplus at least in the short term. Indirectly, changes in world pricesmay have further redistributive effects through the EU's policyresponse to the changing cost of export subsidisation.

What conclusions may be drawn from this brief discussion aboutcommodity markets and the future redistributive effects of the CAP?Much depends on the future course of world prices. World grain pricesagain fell below EU support prices in the latter half of 1996and exportrefunds were reinstated on sales to the world market. In the short tomedium term this situation seems likely to continue for cereals as itdoes in other key sectors. Hence any major changes in the incidence ofthe budget costs and preferential trade effects seem less likely to arisefrom movements in world prices than from EU enlargement or fromfurther reforms of the CAP.

In the past CAP reforms have been a response to both internalpressures - especially budgetary - and external factors . The MacSharryreforms have stabilised the budgetary expenditures, dampening downinternal forces for change. Externally, the CAP is now subject to theterms of the Uruguay Round agreement. Compensatory payments which now form the bulk of budgetary expenditure in the cereals andlivestock sectors - must not be increased beyond their present levels.Given the commitment to EU farmers to maintain the present level ofpayments at least until 1999,10 this argues for considerable stability inthe redistributive effects of the CAP over the next few years. Thereafter, much depends on any arrangements for further enlarging theEU, as discussed earlier, and on the attitude of trade partners inthe WTO on the retention of the compensatory payments, perhapswith further decoupling. There are two interrelated issues here:(i) should compensation payments remain at all? and (ii) if they surviveshould they be further decoupled from production?

The Uruguay Round agreement imposes other constraints on theCAP, for example with respect to the volume of subsidised exports,which may become binding for some commodities over the next fewyears. The EU would then have to respond by adjusting the CAPsupport mechanisms such as the level of intervention prices and the


rates of set-aside. A lowering of intervention prices without an accompanying change in the compensation payments would reduce the PTEand BE of the exporting countries and correspondingly improve thesituation of the importing countries .11

The redistributive effects of changing rates of set-aside depend onthree main factors - national self-sufficiencyrates and farm size structures, and relative EU/world prices. From a BTE perspective, set-asideshave a negative domestic impact (e.g. an importer has to import more atunfavourable terms of trade) but a positive impact in relation to othermember countries (there is a reduction in the contribution that a country must make to the subsidised disposal of other countries' surpluses).For net importers the net effect of set-asides tends to be positive, and fornet exporters negative. Reductions in the set-aside rate - the 1997 ratewas reduced to 5 per cent in response to low EU stock levels- thereforetend to benefit exporters and harm importers; the opposite would hold ifmore land were taken out ofproduction. However, this discussion mustbe qualified in relation to national farm size structures. Small farms areexempt from arable set-asides and hence the initial 15per cent set-asiderate had a bigger effect in countries like the UK with relatively largerfarms than elsewhere. Thus the negative domestic effect noted above isaccentuated for countries with large farms and diminished for thosewith small farms . This suggests that an importing country with smallfarms would be more favourably disposed towards an increase in setaside rates than an exporting country with large farms. The ratio ofworld to EU prices is also relevant - the closer the EU prices are to worldmarket levels, the less impact set-asides have on the BTE.

In short, the future redistributive effects of the CAP among themember countries are likely to be relatively stable until the end of thedecade. Thereafter, the CAP will be subject to strong pressures forfurther change, particularly if the eastward enlargement is implemented. In the absence of significant institutional change in the EU, thelesson from the past appears to be that those countries which are netbeneficiaries from the CAP will strongly seek to preserve their BTEgains. In other words, the existing redistributional effects of the CAPare an important constraint on further policy change.

6.6 CONCLUSIONS

This study has presented estimates of the distributional transfersbetween member states of the EU resulting from the operation of the


CAP. It has compared the preferential trade and budget effects arisingfrom the traditional CAP with those generated under the CAP asreformed in 1992, assuming a full and instantaneous implementationof the reforms. Changed methods of support and modified price support levels produce income redistribution between member states.Three countries, namely France, Ireland and the Netherlands, whoare substantial beneficiaries from the CAP, suffer absolute net lossesof more than 10 per cent by value from the reform with the greatestimpact in per capita terms falling on Ireland. On the other hand , Spain,Greece and Portugal benefit whilst Germany and the UK, the twolargest contributors to the budget, gain less. For most countries, theimpact of the reforms on BEs and PTEs are largely offsetting and, evenfor the exceptional cases, the net impacts are small in the sense that theranking and scale ofnet transfers are not substantially altered. Furtherreform of the CAP reducing support prices to world levels but increasing compensation payments is expected to have a fairly neutral impacton net transfers unless the basis for allocating direct payments isdrastically altered .

7 The CAP and theEnvironmentMichael Winter

7.1 INTRODUCTION

This chapter examines the available evidence on the impact of the 1992MacSharry commodity measure reforms on the natural environmentin Great Britain. For the purposes of the research, the 'environment'refers to landscape features and wildlifehabitats. The chapter draws onwork funded by a consortium of British environmental departmentsand agencies.1

To date, surprisingly little research has been conducted on the directimpacts of the MacSharry reforms on the natural environment. Thusthe approach in this chapter is to consider the environmental implications of the reform by drawing inferences from a wide range of sources,the majority of which do not explicitly tackle issues from an environmental perspective. It is important at the outset, therefore , to stressthat many of the data-sets used in this way can only provide indications of likely environmental effects. Indeed, it is one of the basicpremises of this research that many of the data available, drawnfrom the June census or the farm business management surveys, provide for macro-explanations of change based on aggregate responses.Such data are commonly used to predict or demonstrate national orregional changes in production levels and the use of inputs, thusindicating broad environmental impacts. However, aggregate levelresponses, by definition, involve an aggregation of contrasting individual responses. For many highly site-specific environmental features,to know the likely range of responses, and the processes involved, ismore important than the aggregate. Indeed the aggregated predictionsof modelling may serve to mask changes rather than to highlight them:

the need is for explanations which can relate patterns to farm-levelprocesses in order to understand where the pressures for landscapechange are coming from and why they have implications for landscape in some situations and not others.

(Potter and Lobley, 1995, p. 5)

132

The CAP and the Environment 133

Thus, this chapter might best be seen as providing a set of broadindications of change, which are being further tested in on-farm surveywork not yet completed at the time of writing."

7.2 KEY FEATURES OF THE 1992 REFORM ANDENVIRONMENTAL ISSUES

It is probably fair to say that the key features of the MacSharryreforms are well known but the details so Byzantine in their complexityas to defy all but the most dedicated Euro-watchers. Therefore anysummary is of necessity a simplification and is given here merely to setthe scene and to indicate which areas of the reformare considered to beimportant for this research.' This section briefly considers the arable,beef and sheep regimes. In addition it is worth noting that the 1992reform continued the system of dairy quotas established in 1984 andincluded a number of accompanying measures including an AgriEnvironment Programme (EEC Regulation 2078/92),4 neither ofwhich is considered in any great detail in this chapter.

In broad terms, the reform did not call into question the fundamental principles of the CAP - price unity, Community preference andfinancial solidarity. Rather the reform was based on a recognised needfor change to be compatible with the GATT agreement, to reduce thefood surpluses created by intervention buying, and to limit the uncontrolled rise in budgetary expenditure (General Secretariat of the Council of the European Union, 1993).

The main feature of the reform in the arable sector was a cut in thetarget market prices for grain (by 29 per cent by 1995/96). In returneach eligible producer is entitled to receive compensatory paymentsunder the Arable Area Payment Scheme (AAPS),s conditional uponset-aside of a proportion of eligible arable land . Fanners can participate in one of two ways under the AAPS,s in both instances requiringthe submission of detailed farm maps and supporting informationunder the Integrated Administration and Control System (lACS).Under the simplified scheme, all payments are made at the same rateas for cereals and there is no set-aside requirement. This scheme islimited to fanners claiming on a limited area of land (approximately15.51 ha in England). Under the main scheme, payments per hectareare made at different rates for different crops and participants areobliged to set-aside a proportion of their eligible arable land aseither rotational set-aside, flexible set-aside or guaranteed set-aside.


Rotational set-aside is land which must not have been set-aside underthe AAPS at any point during the previous five years. Farmers canonly qualify for rotational set-aside if all their set-aside land farmed isin six-year rotational set-aside. If any of their land is not in a six-yearrotation, they have to choose the flexible set-aside option. Flexible setaside may be left in the same place or moved as chosen. Differentfields or parcels of land within fields can be treated differently, buteven if the farmer rotates some of the land he or she must choose theflexible option for all set-aside. Guaranteed set-aside is land whichthe farmer undertakes to keep set-aside for five years. In addition,the farmer may choose to set-aside land in excess of his or her basicobligation (known as voluntary set-aside), although the total setaside area may not exceed the cropped area on which the farmer isclaiming.

Turning to the beef sector, the key measures were a cut in intervention prices by 15 per cent over three years from 1993/94 and theintroduction of a beef special premium (BSP) with claims limited to aceiling of 90 male beasts per holding, and further restricted by theintroduction of individual producer quotas on the suckler cow premium (SCP).6 Entitlements to BSP and SCP are limited by stockingdensity rules. The stocking density limit has fallen in successive yearsfrom 3.5 livestock units (LUs) per hectare offorage area in 1993 to 2.0LUs in 1996. The calculation of stocking densities is complex andrequires a submission under lACS (unless a farmer is exempt fromthe stocking density rules because of claiming less than 15 LUs in totalon the holding) . A further extensification premium is available forstocking levels below these limits which a farmer can claim if he orshe can demonstrate a stocking density of eligiblecattle of less than 1.4LUs per hectare of forage area. Additional Hill Livestock Compensatory Allowance payments (HLCAs) are payable within less favouredareas (LFAs).

The sheep sector reforms involved the introduction of individualproducer quotas for the Sheep Annual Premium Scheme (SAPS),which apply to breeding ewes, with headage limits on premiums setat 1000 in LFAs and 500 elsewhere until 1995. The regime is administered through the lACS when sheep farmers are applying under morethan one scheme and/or if applying for HLCAs.

There are a number of ways in which the reforms may have impactedon landscape and wildlife habitats. Any overall increase or reduction inthe intensity of agricultural production will have a direct impact.Linked to these changes there may be indirect impacts due to structural


changes in the industry brought about, in part, by CAP measures.There may also be sector-specific impacts as a direct result of theoperation of particular policies.

It is important to emphasise that the reform measures are not thesole cause ofenvironmental change in agriculture. Indeed, many wouldargue that, in Britain, their direct impact has been considerably lessthan originally anticipated in the period since 1993 because of theoperation of the agri-monetary system and the level of market andintervention prices. As is well known, the impact of the reform in theUK, particularly in the arable sector, has been considerably softenedby the prevailing sterling exchange rate vis a vis the ECU since theUK's withdrawal from the European Monetary System (EMS). Thepound has experienced a 20 per cent devaluation and British farmershave benefited from price rises rather than the expected price fallsresulting from the reforms. Sterling's devaluation has shielded farmersfrom cuts in commodity support prices. In 1993, the arable sector wasfurther buoyed up by the unexpectedly high price for cereals due to apoor harvest in the USA. In addition, in 1994 and 1995, UK cerealmarket prices remained, in the most part, higher than interventionlevels and, at times, above world market prices.

When considering broad and general trends, it is impossible toisolate the reform from the wider issue of exchange rates and worldmarket prices and it would be foolish to attempt to do so. However,there are specific policy effects, linked to the detail of individualschemes, which can be isolated. The focus of this chapter, therefore,is first to examine general trends in the intensity of agriculture, andsecondly to consider some specific cases of environmental issues thathave emerged in the light of the detailed application of the reformmeasures.

7.3 IMPACT ON THE INTENSITY OF AGRICULTURALPRODUCTION

This section examines whether the MacSharry reforms might beexpected to lead to a significant reduction in the intensity of production (excepting the impact of set-aside) beyond the savings that wouldbe expected from greater efficiency. Consequently, in general terms, itis suggested that the direct and immediate effect of the reforms, albeitdistorted by the exchange rate, has been at best to preserve the statusquo and at worst to impact negatively on the countryside.

136

HIGH

Value

LOW

Reform of the Common Agricultural Policy

LOW Intensity of Production HIGH

...... Wildlife Value___ Landscape Value-Ar- Public Access Value__ Agricultural Output Value-- Total Social Value of Land

Figure 7.1 Social value ofland by intensity of production (after Harvey, 1995)

The relationship, and potential conflict, between intensity of production, measured as quantity of physical inputs per unit of land, andenvironmental value can be represented figuratively as a series ofhypothetical relationships between intensity and the various socialand economic values of the rural environment, including agriculturaloutput itself, as shown in Figure 7.1. The arrow indicates the point ofmaximum value, implying a socially optimal intensity of production(Harvey, 1995). However, as Harvey explains, outside the environmental schemes or regulations 'the social value of wildlifeand environmental assets is seldom reflected back to farmers and land occupiers inthe form of incentives or penalties for particular land use practices' .Consequently actual production levels may be well to the right of thesocially optimal.


Figure 7.1 suggests that both wildlife and landscape values canincrease at the early stages of agricultural activity as low-intensityagricultural systems may increase ecological and landscape diversity.It is important to emphasise that the relationship between intensity ofagricultural production and environmental value will vary from farmto farm so that the socially optimal point will also vary. Moreover,skilful management and the application of appropriate knowledge cango a considerable way towards altering the negative impacts of agriculture on the environment. Indeed, much of the thrust of modemresearch into integrated farming systems, precision farming and soforth is designed to substantially modify the relationship betweenintensity and environmental value. However, it is fair to say that inaggregate terms increasing intensity can beassociated with a decline ofenvironmental value or, at the very least, should give rise to concern.Certainly in terms of political/environmental discourse on this subject,intensity, as measured by the application of inputs such as fertilisersand pesticides, is a motif of particular significance.Thus, regarding theimpact of CAP reforms, claims have been made in influential quartersthat a significant decline in the use of inputs has been a direct consequence of the reform of the CAP. The European Commissioner forAgriculture, Franz Fischler, addressing the main cereal co-operativesof France in February stressed the 'substantial drop in the use ofchemical fertilizers and pesticides', to the advantage of the rural environment that had arisen as a result of the reform package.

However, other sources of information, presumably available to theCommissioner, take a far less sanguine view. The European Environment Agency (1995) accepts that there has been a Community-widedownturn in fertiliser use from the late 1980s, but questions whetherthis is entirely due to price signals emerging from the CAP. The reportalso cites the increasing environmental awareness linked to regulationsand agri-environmental schemes as well as a decrease in cattle numbersmeaning less need for cattle-feeding crops. More crucially, the reportalso points out that the Community-wide figures mask considerablevariation with significant reductions in high input countries, such asBelgium, Germany and the Netherlands, and increases in most othercountries. A similarly cautious note is struck by the Commission'sreport on 'Towards Sustainability' (Commission of the EuropeanCommunities, 1996), which notes the lack of research on the preciseenvironmental consequences of recent policy changes. Similarly, areport of the EU Committee of the Regions in January 1996 suggeststhat some CAP measures may still constitute an unintentional


encouragement to intensify production in the most competitive (i.e.agriculturally productive) regions of the Union, whilst converselyencouraging an abandonment of agricultural activity elsewhere (Committee of the Regions, 1996). And a report on wetlands by the Commission calls for a deeper integration of agriculture and wetlandconservation:

Up to now, the CAP instruments with positive effects on wetlandconservation mainly offer ad hoc measures and as yet, no comprehensive integration of agricultural and environmental concerns . Inthe long term, it will not be feasible to carry on with industrialproduction methods throughout most of the arable area, whilst asmall part only is farmed in a way compatible with the environment.

(Commission of the European Communities, 1995, p. 31)

Certainly, Britain does not appear to be experiencing a period ofextensification with environmental benefits. In economic and production terms, much of British agriculture has thrived since 1992/93 (Figure 7.2). In 1995,for example, UK agricultural incomes were estimatedto have increased in real terms by 16per cent, the largest single increasein the European Union with the exception of Sweden where incomesincreased by 25.5 per cent. The increases were largely due to increasedreceipts from sales and from direct payments (although these declined

120001100010000900080007000

£million 600050004000300020001000

oCereals

ill 199111II1992019931119941lllI1995 prov

Other Crops Livestock

Figure 7.2 UK. agriculture output, current pricesSource : Farm Incomes in the UK, compiled by MAFF (annual HMSO).


Hiredlabour

.1991ill 199201993rnJ 1994~ 1995prov

Fertilisers Pesticides Machineryand lime costs

Seeds

18001700160015001400130012001100

£ million 10009008007006005004003001lir~-fol;:e200+Wt.Sl....lliEl..fBls.L.w:::3.fID:>.~~=4IrllL.ll~

Figure 7.3 UK agriculture, key input indicators at current pricesSource : Farm Incomes in the UK, compiled by MAFF (annual HMSO).

slightly in 1995due to the reduced area of set-aside) and not because ofa significant decrease in the costs of inputs (Figure 7.3).

Figure 7.4 shows the changes in fertiliser costs in current terms forthree key farm types using the average English farm data. From thesefigures, it is clear that, until the slight upturn again in 1994/95, therewas some decrease in the cost of an environmentally significant inputin line with the claims made by Franz Fischler. However, the picture isnot quite so clear if levels of physical application are taken intoaccount. Prior to the 1992 reforms, when production levels wereincreasing strongly, nitrogen fertiliser consumption in Western Europe

12 UlJl, 1991/9210 .5 1l!!!l!I1992193

10 01993/94

8IlTIl 1994/95

£'OOOs 65.8

5.5 5.2 I I I. I I I.......... I I I

4 .......... I I I 3.7I I I:.:.:.:.:. I I I..... I I I

2 .......... I I I

:.:.:.:.:. I I II I I

.:.:.:.:.: I I I

0Cereal Dairy Cattle & Sheep

Lowland

Figure 7.4 Fertiliser inputs in England on an average farmSource : Farm Incomes in the UK, compiled by MAFF (annual HMSO).

140

Kg/hectare

160

140

120

100

80

60

40

20

o

Reform of the Common Agricultural Policy

.91/92

.92193093/94RllI94/95

Nitrogen Phosphate Potash

Figure 7.5 Arable fertiliser usage in Great BritainSource: Fertiliser Manufacturers' Association

declined by 13 per cent between 1986 and 1992 as a result of on-farmimprovements in nutrient efficiency (Williams, 1994). In England,Davidson and Asby (1995) show that physical applications of nitrogento winter wheat declined by 5.7 per cent from 189.1 kg to 178.4 kg perhectare between 1985 and 1993. But since 1993, higher commodityprices have fostered the retention of high input/output systems sothat recent figures demonstrate that the physical reductions of thepre-reform era may even have been reversed (Figures 7.5 and 7.6).Only part of the 1994/95 increase in arable applications is due to aswitch from pulses and oilseeds to cereals. In commenting on the

120

100

80

Kg/hectare 60

40

20

oNitrogen Phosphate

~ 91/92H 92193093/94G 94/95

31 31I I IIII I

1 1 1 1, I I

1 1 1 1I II

I I I I

Potash

Figure 7.6 Grassland fertiliser usage in Great BritainSource: FertiIiser Manufacturers' Association


continuing upturn in use of nitrogenous fertiliser in 1995, the FertiliserManufacturers' Association suggest that the increases may not necessarily alter the long-term trend downwards, as they may be a consequence of the wet winter of 1994/95 and a subsequent low soilnitrogen status in the spring. However, the Association also suggeststhat the increases may herald a new trend as farmers increase inputs inorder to achieve the yield and quality potential that new varieties offer.

Thus data, albeit derived from differing data-sets, seem to indicatethat in the period 1993-5 aggregate expenditure on nitrogenous fertiliser as an input declined but application rates appeared to slightlyincrease. There are a number of possible explanations for this apparentanomaly. Farmers have held fertiliser costs down by more buying inbulk and, in the context of what seemed to be a static or dippingmarket, achieving favourable terms from fertiliser suppliers ." In thearable sector a considerable proportion of the decline in cost is due tothe introduction of set-aside which has reduced the area of land onwhich fertiliser is spread in anyone year. On the remaining croppedland, though, it would appear that high input systems are largely beingmaintained.

There have also been increases in rates of application in grasslandfarming, despite stocking restrictions and extensification in the beefand sheep schemes which might have been expected to lead to significant reductions in fertiliser applications. Extensification does notappear to have had a major impact on grassland management. It isimportant to remember that the policies in the livestock sector are notas rigid as those operating in the arable sector where the set-asiderequirement provides a very tangible diversion of land to a differentuse. Moreover, the beef special premium applies only to male animals.Farmers may keep animals for which no claims are made, so thatextensification in terms of eligibility for payments does not necessarilymean extensive stocking on the ground. Indeed stocking may evenincrease at the same time as extensification premiums are claimed. Inreality the main point of extensification is to offer an incentive tofarmers to limit their claims on the Ee budget rather than necessarilyto reduce stocking rates on the ground. However, stipulations to discourage overgrazing and supplementary feeding offer the possibility ofpotential safeguards.

Nor, despite the introduction of sheep and suckler cow quotas, canthe livestock support systems be compared with the dairy sector wheremilk quotas impose a strict absolute limit on production of milk. Forboth sheep and beef production, quotas impose limits on the number


of breeding stock rather than on levels of output. Efficiency gainsthrough better breeding rates , especially in the sheep sector , wherethere is considerable scope for further increases in productivity insome systems, could mean that levels of output increase even withina quota system. To date this has not happened with sheep as a result ofvarious adjustments within the industry consequent upon both CAPreform and market trends. The number of sheep aged over one yearhas been static since 1992, as might be expected under a ewe quotasystem, but the output oflambs has declined. In 1995one million fewerlambs were born in the UK than in the previous year. With supportdecoupled from production, and with a decline in the early lambmarket.f many farmers have opted to run more dry ewes and ewelambs (Vipond, 1995). However, it would be entirely erroneous to seethis as evidence of major extensification . Rather, it should be seen asan adjustment strategy in the face of changing market circumstances. Itshould be remembered that lambing, especially early lambing, is acostly business and it can make sound economic sense not to put ewelambs to the ram in their first year. However, in the future somecommentators are suggesting that adaptations could be made thatwould increase lamb output again (National Sheep Association,1995; Vipond, 1995).

7.4 STRUCTURAL CHANGE

There is ample evidence from earlier research that farm occupancychange is a major cause of environmental change. Work undertaken inthe early 1980s suggested a strong link between land occupancy andfarming intensity (Winter, 1986) and later investigations providedample evidence that amongst the factors most likely to negativelyinfluence environmental management on farms, were financial pressures and changes of occupancy (Marsden 1987; Munton et al., 1987).It is, therefore, important to note the issue of occupancy change in thecontext of CAP reform . There has been much comment on the buoyancy of the agricultural land market in the last year or more asdemonstrated in Figure 7.7. Whilst land prices in real terms have yetto return to the high levels of the late 1980s, the prices in the threemonths to September 1995 reached a six-year high, taking prices upover the year by 15-20 per cent (Farmland Market, Spring, 1996).According to the Royal Institute of Chartered Surveyors (RICS) ,rent settlements on good land in southern Britain have increased by

The CAP and the Environment

3500

3000

2500£

peracre2000

1500

10001991 1992 1993 1994

Figure 7.7 Land prices in England and WalesSource: Farmland Market (Savills pIc/Oxford Institute)

143

1995

about a third over the three-year period from 1993 to 1995 (Farmer'sWeekly, 1-7 December 1995).

Of course, a buoyant land market requires land to be available forsale or rent. There is plenty of anecdotal evidence that not only aremarket rents and land prices currently high, but in addition, sufficientland is coming on to the market to facilitate a significant period ofoccupancy change. Farm labour figures alone suggest that this is thecase: Between 1994 and 1995 the number of full-time farmers inEngland declined by 1.4 per cent and the number of full-time familyworkers by 3.1 per cent. In some ways this may seem surprising, for ifagriculture is so profitable then why are significant numbers offarmersdeserting the industry?

A number of factors inevitably come into play here. Given the sharpfall in land prices between the late 1980s and 1992 some farmers , whofor reasons of age and circumstances wished to retire, might well havedelayed their departure from the industry. Inevitably an upturn in themarket has provided the opportunity for some to sell at favourableprices. Whether the impact of the administrative burdens of lACS ishastening the departure of some farmers from the industry is unclear.One study has picked up on the administration theme suggesting thatsmall farmers are penalised in the current system:

Farmers are presently required to understand this complex plethoraof schemes and to keep abreast of changes to their rules . .. For themajority, applying for the right scheme, or combination of schemesis as important as knowledge of crops , soils and husbandry practi-


ces . . . For the small farmer without an accountant, financial adviseror farm manager on the payroll, this paperwork is particularlyonerous ... Whilst administration takes time for all farmers , smallfarmers gain much less from their time-input into scheme formfilling.

(Clunies Ross and Turner, 1995, pp . 21-2)

However, it is important to point out that, whatever the burdens ofform filling, the authors point to no evidence that these difficulties areactually preventing farmers from entering mainstream commodityschemes. The only evidence they cite is of a study which showed smallfarmers are inhibited from entering voluntary environmental (ESA)agreements because of the administrative burden (Morris, 1992).

Despite the lack of firm verifiable evidence at this stage, thosefamiliar with the industry suspect a speeding up of restructuring processes in the period since 1992, with some small farmers encouraged toleave the industry because of the burden of administration, leadingto farm amalgamations. This may have important implications forconservation. As Potter and Lobley (1992) have pointed out, there isevidence that small farms are frequently environmentally richbecause, lacking the capital and technology required to farm intensively, farmers tend to farm in an environmentally sensitive way bydefault.

7.5 THE IMPACT OF SECTOR POLICIES

Having considered general issues of intensity and structural change,attention must now be given to some of the details of the operation ofthe regulations surrounding the schemes, starting with the arable sector. The most talked-about aspect of the reform by many of thoseconcerned with environmental issues has been the potential for environmental improvements offered by set-aside. The benefits for certainspecies of farmland birds have warranted particular attention. Rotational set-aside is known to be of benefit to farmland birds because ofthe food available off winter stubbles. However, rotational set-asidetends to be sprayed off in the early summer in preparation for autumncultivation so that longer-term benefits are few. There is now someevidence that the skylark population is increasing although establishing the precise role of set-aside in this is difficult because of otherchanging rotations and practices linked to CAP reforms.


60000

50000

40000

Hectares 30000

20000

10000

oEngland Scotland

WJ:l92193

[ffiil93/94

§94/95

3074 3596 5126

Wales

Figure 7.8 Area of set-aside in England, Scotland and Wales

Commentators on the benefits of set-aside rarely consider what mighthave happened on the remainder of the arable area ifextensification hadbeen adopted as an alternative to set-aside (e.g. Clarke 1992; Clarke etal., 1994). The RSPB's research on the population dynamics of certainspecies such as the skylark promises some rectification of this. Whateverthe specific merits of set-aside for farmland birds, it is important not tolose sight of two important factors. First, the area of set-aside hasalready declined from its high in 1993/94 as the set-aside rate wasreduced for 1994/95 and again for 1995/96 (Figure 7.8). Secondly, theproportion of the set-aside area devoted to non-food industrial cropshas increased at the same time (Figures 7.9, 7.10 and 7.11).

Non-food rotational9%

Rotational91%

Figure 7.9 Set-aside in Great Britain in 1992/93 Total =571481 hectares


Non-foodrotational

16%

Non-rotational24% Non-rotational

non-food1%

Rotational59%

Figure 7.10 Set-aside in Great Britain 1993/94 Total =653034 hectares

If the area of land devoted to non-food crops on set-aside land isdeducted from the total set-aside figure, then the area of set-aside landin Britain in 1994/95 is reduced from 595000 ha to 503000 ha . InEngland, where the overwhelming majority of the non-food crops onset-aside land are grown, the reduced figure is 433 741 ha out of a totalset-aside area of 518886 ha . This represents approximately 8.4 percent of the total arable land (inclusive of set-aside), 5.3 per cent of thetotal arable and grass area, and just 4.4 per cent of the total agri-

Non-rotational nonfood3%

Figure 7.11 Set-aside in Great Britain 1994/95 Total =595434 hectares


cultural area. to As the set-aside requirement for 1996 will be 10 percent as opposed to 12 per cent in 1995, we can expect these figures ofentirely uncropped arable land to have declined still further in 1996.The impact of set-aside in the countryside as a whole is relativelymodest. However, if the rate of set-aside were to increase in the futureas a result of changed market conditions then clearly its significancecould grow. A recent study has shown that even if set-aside were toincrease significantly it would still be financially attractive to Englishproducers to remain within the AAPS:

there is a clear indication that there is considerable potential forreducing levels of price and set aside compensation payments andincreasing the set aside requirement, without leading to any significant loss of take up.

(Roberts, Froud and Fraser, 1996, p. 97)

The relatively low take-up of non-rotational set-aside in 1994 wasreversed in 1995 in anticipation of the adoption of a single rate ofset-aside in 1996. Non-rotational set-aside allows a farmer to choosethe holding 's least productive land to take out of production. Theenvironmental implications of this switch are important. Nonrotational set-aside is likely to be less intensively managed and willcertainly offer a habitat throughout the year. Whether it is as beneficialto farmland birds in winter as rotational set-aside will depend cruciallyon specific management techniques and the precise composition of thevegetation that develops and its management . Much of the earlyresearch on set-aside has focused on the management of rotationalset-aside, neglecting non-rotational set-aside.

There is increasing evidence that one of the most important aspectsof set-aside is the knock-on effect it has for the farming operation as awhole. The direct impact will vary from farm to farm according toindividual farm circumstances as has been made clear by Ramsden :

A farmer who was optimally using a relatively small amount oflabour and machinery prior to CAP reform, by growing a mix ofcrops which spread labour and machinery use over spring, summerand autumn, would be able to use set-aside as a means of increasingthe area of winter wheat at the expense of lower gross margincereals. A farm of the same size, using larger amounts of labourand machinery and growing a large area of winter wheat prior toreform would have limited opportunities for expanding the area of


winter wheat crop as a result of the introduction of set-aside. In thiscase the farm would be better off considering the implications ofreducing labour and/or machinery levels or expanding the farm totake advantage of the spare capacity created by set-aside . .. thevalue of an additional unit of land is higher with set-aside thanwithout.

(Ramsden 1995/96, pp. 181-2)

The two cases that Ramsden considers both show the potential significance of set-aside for farm management elsewhere on the farm withcorresponding implications for the countryside. A switch to winterwheat, depending on the scale, could lead to increases of winter cropping which might detract from, or even outweigh, the advantages tobirdlife from the winter fallows associated with rotational set-aside. Inthe other instance, the purchase or renting of additional land by anintensive farmer to spread labour and capital costs might lead to anintensification of land use on the newly acquired land. There is plentyof anecdotal evidence available at present concerning the continuedbuoyant nature of the agricultural land market. However, it is important to stress that generalisation is dangerous, as much depends on theparticular circumstances of individual farms. Certainly, there is noevidence of a decline in the area sown to winter cereals beyond thatcaused by set-aside. Such is the significance of set-aside in much of theliterature and, indeed, in the farming press, that the impact of theArable Aid payments is sometimes lost sight of. One of the issuesthat has caused concern is the extent to which the scheme is tied tothe precise plots ofland in arable production or short-term leys in 1991(eligible land) . The scheme is based on an assumption that land will becontinuously cropped or, at best, subject to short rotations. Thus somemixed or livestock farmers outside prime arable areas, who havehistorically operated long rotations, now find themselves unable toobtain payments on land coming into rotation when they return eligible land to pasture. Either that or they are forced to alter their rotations to obtain maximum payments . As a farmer in Cornwall, fightingthese conditions, explains:

Which is more environmentally friendly and green? Using ever moresprays and fertiliser to keep continuous corn going or our way usinglong leys and crop rotation? We want to look after our land but thearable aid system is penalising us for doing it.

(Farmer's Weekly, 2-8 February 1996, p. 15)


The one-to-one swap scheme agreed in 1995(BC Regulation 868/95) isunlikely to ease the situation as the conditions are so rigid. Farmers arepermitted to switch eligible land for ineligible land within a holding,but only when obliged to do so for agronomic, plant health andenvironmental reasons. However, the conditions are stringent and donot appear to allow for the possible environmental benefits fromtraditional mixed farming systems. To qualify, farmers have to demonstrate that cropping of current eligible land cannot continue to sustainnormal arable production.

7.5.1 Woodland on Set-aside

One major environmental breakthrough in the regulations was theamendment in June 1995 to EC Regulation 1460/95 to permit eligiblearable land entered into environmental schemes to count towards setaside requirements . Hitherto a farmer entering land into an environmental or woodland scheme had to continue to set-aside the prescribedproportion of the remainder of the holding. It is too early to commenton the take-up of environmental and woodland set-aside underRegulation 1460/95. However, evidence is beginning to emerge of itspotential. Lorrain-Smith (1996) attempts to compare levelsof paymentunder set-aside with forestry cash-flows. His initial calculations suggestthat for Japanese Larch (Yield Class 12) forestry is initially morefavourable financially than set-aside. After ten years, set-asidebecomes more attractive and so it stays until year 50 when the incomefrom harvested timber means that for a 50-year period forestry comesout better. The analysis is fraught with difficulty and with heroicassumptions. It is assumed, for example, that set-aside payments willcontinue at current levels for the full 50-year period. The author pointsout that even if set-aside is discontinued it is reasonable to assume thata return to cropping could result in similar levels of income. LorrainSmith extends his analysis to include various discount rates and he alsoconsiders a crop of oaks rather than conifers, where the WoodlandGrant Scheme payments over the first 15 years render it a highlyattractive proposition for those prepared to operate with high discountrates (i.e. seeking early returns rather than later ones). His conclusionsare of considerable significance:

What emerges from this examination is that the new forestry grantsfundamentally alter the comparison of forestry with agriculture .. . as discount rates rise above about 5-10 per cent forestry


becomes increasingly desirable as a way of boosting early income.This is something new in forestry-agriculture comparisons.

(Lorrain-Smith, 1996, p. 65)

Hitherto, the woodland option has proved attractive to a relativelysmall proportion of British farmers engaged in small-scale planting:

Between the 1 April 1992 and the 30 June 1995, Agriculture Departments have approved more than 4,000 applications to plant 26,500ha of woodlands in the UK (an average of 6.4 ha/application). Some32 per cent ofthat planting was targeted at arable land (8,500 hal. InEngland the figures are 2,500 applications to convert more than9,000 ha (an average of 4 ha/application), 59 per cent of which istargeted at arable land (5,300 hal.

(Buckland, 1996, p. 54)

The extent to which the pace of change may increase has been exploredby ADAS in work commissioned by MAFF. The 1995survey of AAPSregistered farmers revealed that just 6 per cent of farmers wereparticipants in the existing Farm Woodland Premium Scheme, with11 per cent now considering entry into the scheme (ADAS , 1995;Buckland, 1996).

7.5.2 Problems in the Livestock Sector

At first sight, most commentators concluded in 1992 that the mainimpact of CAP reforms would be in the arable sector as a result of setaside and potential cereal price reductions. The decoupling of arablepayments from production levels appeared to offer potential environmental benefits. In the livestock sector there appeared to be less scopefor direct beneficial consequences of this nature. Indeed, as a result,environmental conditionality is accepted within the livestock policiesbut not in the arable sector except for set-aside.!'

As the livestock scheme rules have been developed and modified ithas become increasingly apparent that there is limited potential forenvironmental benefit within them other than by applying conditionality with increasing rigour. A major problem is that there appears to bevery little recognition amongst policy-makers that apparently innocuous changes to schemes can have devastating knock-on effects for theenvironment. A case in point is the abolition of the early retentionperiod for the SAPS. Under the original scheme, ewes had to be kept


on the farm (or in agistment) for 100 days (the retention period) afterthe closing date for submitting the claim for premium. One of tworetention periods could be chosen to suit the circumstances of thefarm (January to February or February to May). Following criticismby the European Court of Auditors (1995) concerning the potential forfraud within this system, the number of application/retention periodsfor SAPS has been reduced from two to one with effect from the 1996marketing year. In Great Britain, the application period now runs from4 December 1995 to 4 February 1996 with the 100-day retention periodrunning from 5 February to 14 May. This is likely to have seriousconsequences for traditional patterns of sheep production in Britain.As many as a third of fanners claimed premium during the first periodin 1994. In the past many lowland mixed or arable farms have purchased ewes in lamb in the autumn for sale with lambs at foot in thespring or for the early (Easter) fat lamb market. This trade may wellnow be reduced in scale as many with a flying flock policy of this naturewill not wish to retain sheep until mid-May if this does not fit into otherarable and livestock systems. As many of the autumn sales are of stockfrom marginal or upland farms, there is a danger that the change,coupled with the market changes identified in the previous section ,will result in pressures on grazing or incentives to grow more grass onthese farms with consequent negative environmental implications.Whilst the UK sheep sector accounts for just 8.3 per cent of totalagricultural output value (1993 figures) nearly 40 per cent of agricultural holdings carry sheep at some point during the season (NationalSheep Association, 1995), so changes of this nature have potentially awidespread impact. There is strong circumstantial evidence, from dataon sheep quota trading, ofa switch ofpressure from the lowlands to theuplands. Demand in the lowlands has dulled with average pricesreported at about £14 to £18 per ewe whilst LFA quota is worth between£40 and £45 per ewe (Farmer's Weekly , 12-18 January 1996).

The issue of overgrazing in the uplands long pre-dates the 1992reforms and the 1992 reforms were seen as an opportunity to addressthis issue. HLCAs were restricted to the number of animals that couldbe carried without 'overgrazing', defined as:

grazing land with livestock in such numbers as adversely to affect thegrowth, quality or species composition of vegetation (other thanvegetation normally grazed to destruction) on that land to a significant degree.

(MAFF SCPIHLCA 4,1995, Notes of Guidance)


Of course, 'adversely' can have different meanings according towhether ecological or agricultural criteria are used. A voluntary Codeof Good Upland Management was published in 1992 and the government has reserved the right 'to make compliance with some or allelements of the Code a condition of payment of HLCAs should thisprove necessary to safeguard the environment' (quoted in Baldock andMitchell, 1995, p. 33). Some pressure has been brought to bear onfarmers, as shown in Table 7.1. The number of farmers claimingHLCAs in England in 1994 was 13446 so the numbers approachedby MAFF are clearly very small in proportionate terms.

Table 7.1 Number offarmers claiming HLCA in Britain asked to de-stock

Area 1992 1993 1994 (April)

East Midlands 0 0 0North East 0 25 18Northern 0 89 0North Mercia 0 0 40South Mercia 0 0 0South West 9 (5) 56 (6) 34 (4)Wessex 0 16 4Total England 9 (5) 186 (6) 96 (4)Wales 0 0 0Scotland No information available

Note: 0 indicates number of producers who did not destock and subsequentlylost entitlements to HLCA.Source: Baldock and Mitchell (1995, p. 34) using data from Hansard.

As Baldock and Mitchell point out, an unfortunate outcome in thecase of the 15 producers who have had HLCAs withdrawn is that theareas can no longer be monitored by MAFF as they are no longersubject to the provisions of the scheme. The declining importance ofHLCAs in financial terms means that it may be in the interest of someproducers to continue with heavy stocking rates even without HLCApayments rather than comply with the stocking conditions. This problem may be eased by similar provisions to prevent overgrazing nowoperable in the SAPS, SCP and BSP schemes. However:

Required reductions in stock numbers will be limited only to theland on which the damage is occurring rather than the whole farm.Overall stock numbers, therefore, may be maintained. In cases where


extreme damage is occurring despite the withholding of a proportionof premium payments, all premium payments may then be withheld.However, there appears to have been some controversy concerningthe legal requirement for a period of notice to farmers of MAFF'sintent to withdraw subsidies.

(Baldock and Mitchell, 1995, p. 34)

The Wildlife Trusts have called for a wide-ranging review of the policy,a call supported by the Hill Farming Initiative and, with some qualifications, by the NFU and the CLA. In presenting evidence to MAFFto back their call, the Trusts provided brief commentaries on 20 keysites in Cumbria where only one, a Special Site of Scientific Interest(SSSI), was seen as presenting no problems. English Nature are nowseeking to monitor the overgrazing situation so it is to be expected thatmore developments will take place on this issue shortly.

The overgrazing topic is addressed by some of the accompanyingmeasures with two upland schemes designed to tackle the issue: theupland Environmentally Sensitive Areas (ESAs) and the MoorlandScheme. Figure 7.12 shows the up-take of agreements in a selectionof key upland ESAs, indicating that a significant proportion of theseareas is not yet covered. The ESAs are based on comprehensivemanagement agreements covering many aspects of farm management.V not simply grazing intensity. Thus, farmers may be constrained from entering the scheme for anyone of a range of possiblereasons .

The Moorland Scheme, by focusing on grazing, was designed tofacilitate entry of farmers into a single-object scheme (although thereare conditions such as the protection of environmental features)13 as analternative to ESA agreements and for upland farmers not in ESAs.Launched in March 1995 (May 1995 in Wales), it offers paymentsto farmers to protect and improve the upland moorland environment, particularly heather moorland.l" £3 million per annum hasbeen allocated to the scheme in England and £6.6 million in Scotland. The scheme sets maximum winter and summer stocking densitylimits and payment is based on the number of ewes removed fromthe stock to meet these requirements . Acceptance into the scheme isdependent on the agriculture departments being satisfied that thereduced level of stocking will result in improvements to the heathermoorland. To date up-take has been disappointing and in 1996 thescheme was being reviewed in order to make it more attractive tofarmers.


70

60

50

40

30

20

10

o

68

PennineDales

70

NorthPeak

64

Exmoor

49

LakeDistrict

70

SouthWestPeak

20

Dartmoor

Figure 7.12 Percentage of eligible ESA land under agreement or with applications pending, end 1995: selected ESAs in England

7.6 CONCLUSIONS

This chapter has attempted to provide a preliminary investigation ofthe environmental consequences of the 1992CAP reforms, with specialreference to the arable, beef and sheep commodity regimes. It is widelyaccepted that prior to 1992, developments in the CAP had been inimical to the natural environment. The policy had tended to encourageintensification, regional and farm level concentration and specialisation, and a larger scale ofproduction. The results of these processes forthe environment are well known . For example, the number of plantspecies in arable fields fell by an estimated 30 per cent between 1978and 1990 (Barr et al., 1990); and between 1970 and 1990 the numbersof farmland birds declined in 24 out of 28 species (Fuller et al., 1994).

It is clear that, to date, the reforms have failed to live up to earlyexpectations that they might provide a turning point in reversing thesetrends. The reasons for this are twofold. First, the 1992CAP measuresare insufficiently focused on environmental improvement. Apparentelements of conditionality or cross-compliance are, in practice, exceedingly weak. Secondly, market developments altered the course of thereforms, particularly in the arable sector, in an unexpected manner.This last point is of considerable significance not only in explaining theoperation ofthe reforms during the last four years, but also in bringinghome to policy-makers and others that the CAP is not the only engineof change in agriculture. Farm management decisions are driven by


both policy signals and market signals. At the time of writing this isabundantly clear as UK beef farmers face the dramatic consequencesof a policy banning beef exports coupled with a significant domesticdecline in consumer demand for beef as a result of the BSE crisis.

Moreover, there are other non-CAP factors of considerable importance to contemporary farm management practices, such as the rate oftechnological change and the influence of political pressures (for example, the growing significance of animal welfare groups). Aggregateresponses to market, policy, technological and political signals arebased on individual responses by business men and women motivatedby a range of factors to do with the trajectories of their own businessesand of the families within which those businesses are socially andeconomically embedded. Consequently, the precise relationshipbetween countryside change and policy change is highly complex andit is important to recognise that particular trends may be the consequence of a combination of factors . For example, national trendsin fertiliser use are a consequence of individual farmers' responses topolicy signals, market forces, technological developments and life cycledemands. Future policy reforms must recognise the complex and interrelated factors influencing farmer behaviour if policies are to bedesigned which will make positive impacts on the natural environment.This is likely to mean a combination of measures designed to capturethe potential for increasing biodiversity in a range of contrasting farmsystems and individual farm circumstances.

8 The Reform of the CAPand its Impact onConsumerss. McCorriston and C. W. Morgan

8.1 INTRODUCTION

Since the early 1990s, agricultural policy-making has been undertakenagainst a background of fundamental change in the political environment. The conclusion of the Uruguay Round of the GATT, and the1992 (MacSharry) reform of the CAP, have ensured that the traditionally accepted ethos of large-scale price and income support for farmershas been altered . As outlined elsewhere in this volume these policychanges may be expected to affect food producers (farmers) in afundamental and direct manner given that the main thrust of reformis to alter the emphasis away from market price support to directincome support. The implication of this is that farmers may receivelower prices per unit for their produce when selling it in the marketplace, although this is still dependent on the crop considered as not allregimes (for example sugar) have been subject to reform. However,what is not so clear is the impact that the reforms may have on othergroups, such as taxpayers and consumers, where any changes in theirwelfare are felt in a more indirect fashion . On the surface, a fall in rawfood prices might be expected to result in a corresponding fall inconsumer food prices so that the benefits of falling raw materialprices are transmitted directly to the consumer . However, this rathernaive approach is based on several strict assumptions, the mainones being that the processing of raw food and the distribution of afinal consumer product are carried out in perfectly competitivemarkets and that the production of consumable food products isbased on fixed proportions technology. Relaxing these assumptionsmakes a more realistic setting for price transmission analysis whichattempts to model price linkages from the farm gate through foodprocessing and retailing to the consumer. This issue is addressed inthis chapter.

156

Reform of the CAP and Consumers 157

The chapter is organised as follows. Section 8.2 reviews previousresearch which measures the consumer costs of protectionist policieswhilst section 8.3 provides some general observations of market structure in food markets drawing upon casual observation and academicresearch . This forms the background for section 8.4 which discusseshow market structure issues may influence price transmission andpolicy reform outcomes. In section 8.5, some recent empirical researchthat evaluates the effect of policy reforms while explicitly accountingfor imperfect competition in vertically-related markets will be presented . Section 8.6 summarises and concludes.

8.2 EVALUATING COSTS OF POLICIES

Whilst it is not the aim of this chapter to evaluate the direct andindirect costs of agricultural support and the potential cost reductionsassociated with reform of support measures, it is none the less highlyilluminating to give an outline of the ways in which consumers haveborne some (but not all) of the burden of such policies, in particular theCAP. The OECD (1995a) estimates the consumer subsidy equivalentof agricultural support in the EU to be some 38 per cent in 1994 andtotal transfers to agriculture stand at 1.8 per cent of GDP or US $390per capita in the same year.

BuckweIl, Harvey and Thompson (1982) attempt to measure theactual cost per person of the CAP and found it to be £92 per annum inthe UK based on 1984 prices. This appeared to confirm work by theBureau of Agricultural Economics (1985) in Australia which evaluatedthe costs of the CAP at £63 per capita per annum for the period 1971-84and the National Consumer Council (1995)at £1.50per capita per week.These figures perhaps suggest that the policy costs are not substantialbut it must be remembered that they are evaluated across the entirepopulation and not just across say, for example, the working population. This caveat is very important in considering studies of policy costs.More detailed analysis is given by the Bureau of Agricultural Economics (1991) which shows how poorer consumers are affected disproportionately by the 'tax' of the CAP. What is often highlighted in thesestudies, although not always evaluated numerically, is that consumershave a double burden to bear as a result of the imposition of protectionist policies as they are also taxpayers. So, for example, Kol andKuijpers (1996) estimate that in Holland in 1993 the total cost of theCAP for a household of four persons was about 7 per cent of average


disposable income with around 60 per cent of this cost taking the formof consumer costs and around 40 per cent being taxpayer costs.

In evaluating the distributional effects of agricultural and trade policies, economists typically follow one of the following approaches: partial equilibrium; general equilibrium; multi-stage sectoral models. Ingeneral, agricultural and trade policy analysis falls into three categories.The first, and perhaps most common, uses a partial equilibrium framework focusing solelyon the agricultural sector. The typical scenario hereis to evaluate changes in consumer and producer surplus following agiven change in government policy assuming that the demand curvefacing farmers is the consumers' demand curve and that the price consumers pay is (approximately) equivalent to the price producers receivefor their output. Even if there is a fixed margin introduced to separatethe consumer demand curve from the demand for farm products, therewill nevertheless be a one-to-one correspondence between changes infarm-support prices and consumer prices. Much of the research on CAPand GAIT reform falls into this category (see, for example, Roningenand Dixit (1990), OECD (1987) and Tyers and Anderson (1992» .

A second approach is to use a general equilibrium model that linksagriculture with other sectors of the economy. Recently, there havebeen several applications of computable general equilibrium models toagricultural and trade policy analysis, the results of which show thatpolicy reform directed at the agricultural sector will affect other sectorsof the economy even if these other sectors are only indirectly associatedwith the agriculture via factor markets (see, for example, Hertel , forthcoming).

The third category is to tie agriculture directly to its immediatedownstream sectors: by doing so this approach de-links the directcorrespondence between producers and consumers that characterisesthe standard partial equilibrium approach by introducing a farm-retailspread. This follows largely the framework introduced by Gardner(1975) and characterises the downstream sector as involving one ormore processing/retailing stages such that the consumer demandcurve is not equivalent to the demand for farm products. This framework, which has been commonly used to evaluate the effects of researchand development , will apportion changes in surplus to various parts ofthis 'food-chain' following policy reform (see Alston (1991) for areview). It is this category of policy analysis which is the focus of thischapter although the alternative models proposed in this paper shouldenhance our understanding (and perhaps create misgivings) about howwe interpret policy reform outcomes from all three methodologies.

Reform of the CAP and Conswners 159

With occasional exceptions, most policy analysis in the agriculturaleconomics literature assumes that markets are perfectly competitive.'This is also true of vertical market models that make explicit thelinkages between the farm and downstream processing/retailing sectors .2 Yet even casual observation would suggest that it is difficult tosustain such an assumption. There is considerable evidence from mostdeveloped countries that food processing industries are dominated by afew firms. There is further evidence to suggest that retail sectors alsoare dominated by a small number of firms. Moreover, there is atendency in recent years for the concentration of food processing andretailing markets, particularly in Europe, to increase. Although therehas been some recent research documenting and measuring the degreeof oligopoly in food markets, the perfect competitive assumption inpolicy analysis has yet to be dropped.

In principle, the industrial organisation of downstream markets canimpinge directly on the outcome of government policy reforms.' Specifically, it can influence how the benefits and costs of policy reformsare evaluated and how the corresponding welfare changes are distributed . This arises due to the impact of market structure on the degree oftransmission of price changes arising in upstream stages through tochanges in final consumer prices. Perfect price transmission, underperfect competition, is signified by a price transmission coefficient ofunity . Although it is possible to show that imperfect price transmissioncan arise in Gardner-style multi-market models with perfect competition (due to the assumption made about the substitutability of farmproducts with other marketing inputs), the degree of competition ineach downstream stage will also generate a price transmission coefficient less than (and, under certain conditions, greater than) unity. Asmuch of policy analysis is concerned with distributional effects, theimplication of less than perfect price transmission will reduce theexpected consumer gains following policy reform. Since the consumergains are reduced, it is the (few) firms in the intermediate stages thatcapture part (and in some cases most) of the benefits of policy reform.However, we can go further than this: since price transmission isendogenously determined by the degree of competition, the redistribution of the expected consumer benefits is also endogenous. Furthermore, since there can be several oligopolistic stages in this vertical foodchain, the degree of price transmission and the corresponding distribution of the gains from policy reform will be determined by the numberof successivedownstream stages and the degree of competition at eachsuccessive stage.


The aim of the remainder of this chapter is therefore to explore inmore detail the role of imperfect competition on price transmission invertically-related markets and how it may influence the evaluation ofpolicy reform. In doing so, we will avoid specific technicalities that aretypically part and parcel of models of imperfect competition. Ratherthe aim is to highlight how structural characteristics associated withany particular market are likely to be important in addressing pricetransmission and policy-related issues.

8.3 MARKET STRUcrURES IN THE FOOD CHAIN

To focus attention, consider Figure 8.1 to help identify factors relevantin identifying key features of imperfect competition in verticallyrelated markets. In this figure, a perfectly competitive agriculturalsector supplies raw farm products to a processing sector. The processedproduct is sold to consumers via the retail sector . The figure pin-pointswhere market structure issues are likely to be relevant in this verticallyrelated chain. In terms of linking the various stages, the nature of thetransaction (i.e. whether it occurs in spot markets or under an alternative contractual form) is likely to be important. In addition, thenature of competition between firms - as well as the number of firms- is also a pertinent feature of this vertically-related chain . Imperfectcompetition in vertically-related markets might arise in either theprocessing or the retailing sectors - or both . Is there any evidencethat this is in fact the case?

8.3.1 The Food Processing Sector

There is considerable evidence that the food processing sector in mostEU countries is dominated by a small number of firms. Table 8.1

Nature of thetransaction?

+

Nature of thetransaction?

Agriculture --- Process ing sector -- Retailing Sector ---

Consumers

Nature of Competition

Figure 8.1 The food chain


Table 8.1 Four-finn seller concentration ratios, European food processingindustries

Industry France Germany Italy UK

Bread 4.5 7.0 4.0 58.0Cannedvegetables 40.0 N/A 80.0 81.0Flour 29.0 38.0 6.7 78.0Processed meat 23.0 22.0 11.0 N/ASalt 98.0 93.0 80.0 99.5Sugar 81.0 60.0 72.0 94.0Babyfoods 88.0 83.0 88.0 80.0Beer 82.0 25.0 55.0 59.0Biscuits 62.0 49.0 46.0 62.0Mineral water 77.0 27.0 55.0 73.0Pet foods 86.0 93.0 N/A 83.0Soft drinks 70.0 57.0 84.0 48.0Soup 91.0 84.0 N/A 75.0Sugarconfectionery 51.0 39.0 29.0 38.0

Source: Sutton (1991)

reports four-firm concentration ratios (CR4) for a large number offood processing industries in the UK, France , Germany and Italy. Thegeneral impression given by this table is that, with some exceptions,such as bread except in the UK, the CR4 is generally high across foodprocessing industries .

The CR4 figures shown in Table 8.1 can perhaps obscure the factthat the degree of concentration can be higher than these statisticssuggest. Table 8.2 reports the market shares for the leading two orthree firms in the UK food processing sector. Particularly notable hereare the sugar, chocolate confectionery, savoury snacks, instant coffee,breakfast cereals and canned soup sectors where the dominant two orthree food processing firms account for over 70 per cent of sales in thatindustry.

These market structures have evolved rapidly since the 1960s andhave been argued to be a response to both internal and external factors(Strak and Morgan, 1995).The internal forces are the desire to achieveeconomies of scale in production and this has resulted in firms trying toachieve growth either internally or more often externally by mergingwith other firms. This latter process has been encouraged further bystringent health and safety legislation which appeared to be moredifficult for small firms to comply with thus forcing many to leavethe industry or to merge. The external factors revolve around the


relationship between the processing and retailing sectors; the rise sincethe 1960s of the large retail chains has reduced the number of outletsfor manufacturers to supply which engendered a battle for marketshares. Again, mergers were partly a response to this although in recentyears the development of own-labelling by the retail chains has meantopportunities have arisen for small and medium-sized manufacturersto remain viable by switching from their branded products which arebeing squeezed from the market to own-label brands for the retailchains . The development of this relationship will determine the futurestructure of both the food processing and food retailing sectors.

Table 8.2 Market shares ofleading 213 firms in the UK food processing sector

Market

BreadBreakfast cerealsFlourBiscuitsPackaged cakesCanned fishMargarineYoghurtIce creamSugarChocolate confectionery

Market share ofleading number offirms (in brackets)

60 (2)73 (3)50 (2)52 (3)59 (2)63 (2)60 (2)47 (3)52 (2)98 (2)80 (3)

Market share ofleading number offirms (in brackets)

Sugar confectioneryPreservesPotato crispsSavoury snacksBaked beansCanned tomatoInstant coffeeTeaCanned soupBaby food

45 (3)33 (2)63 (3)77 (3)55 (3)43 (2)79 (3)68 (3)74 (2)63 (3)

Source: Bums and Henson (1995)

The implication of the market share data presented in these tables isself-evident: industries that comprise the processing sector are dominated by a small number of firms. It would seem relevant to take thisinto account in formal analysis.

8.3.2 Structure of the Food Retailing Sector

Similar to the food processing sector, food retailing also shows signs ofmarket dominance by a small number of firms. Compared with thefood manufacturing sector the degree of dominance is more variableacross ED countries though the degree of concentration is still considerable. For example, in France and Belgium the CR5 is around 40per cent. In the Netherlands, the CR5 is 33 per cent while in Spain it is


lower than 20 per cent. In Germany, the CR5 is close to 50 per cent,while in the UK. it is higher still at 68 per cent. The relevant data for theUK and Germany are shown in Table 8.3.

Table 8.3 Market shares in the UK and German food retailing sectors (1994)

Market Share (%)

UK:SainsburyTescoArgyllAsdaGateway

Total

Germany:EdekaJAvaReweMetro/AskoAldiTengemann

Total

Source: Bums and Henson (1995)

21.219.79.1

11.56.5

68.0

12.011.39.78.56.4

47.9

Whilst the variance in concentration levels reflects sociological andcultural differences in the way people shop, economic factors such aseconomies of scale in distribution, store size and management havegiven the large chain stores a large advantage over their smaller rivalsthus allowing strong store-brand images to be developed. For example,the rise of discount stores in the UK in the early 1990shas been at theexpense of the smaller, cheaper stores rather than the dominant firms,suggesting that a strong core oligopoly with a dynamic fringe is evolving. Recent moves by the larger firms to expand into other markets,including the US, can only serve to strengthen their domestic powerbases. The consequence is that the consumer is in general buying froma concentrated retail sector which has obvious implications for theprices they have to pay for food products.

In sum, taken together, the data suggest that the European foodsector can be characterised as comprising vertically-related stages(agriculture, food processing, food retailing) with the latter two stagesbeing characterised by varying degrees of dominance by a small number of firms (at each stage and in sub-sectors of activity). In the


terminology of the industrial organisation literature, we have a foodsector characterised by successiveoligopoly. However, in the industrialorganisation of the food sector, it is also important to consider thenature of the transactions that occur between successive stages (seeFigure 8.1).

8.3.3 Linkages Between Successive Stages

The simplest way of thinking about linkages between the food retailingand manufacturing sectors focuses on arm's length transactions. It isassumed that food manufacturers produce a certain quantity of output(which depends of course on the nature of competition at that stage)and sell the good on the market for whatever price it gets. The foodretailing firms, at the other side of this transaction, take the manufacturers' price as given, the amount they demand also being dependenton the nature of the competition, in this case at the retailing stage. Thekey point here is that while competition matters, it matters only at eachhorizontal stage, i.e. there is no bargaining between the manufacturingand retailing stages over what the appropriate price for the product(input) should be. Although it makes modelling of the 'food chain'simpler, this notion of arm's length pricing can be criticised insofar asit is an inappropriate characterisation of competition between the twostages. The somewhat crude alternative to arm's length pricing is toassume bilateral bargaining between each stage. This appears to beparticularly relevant in the UK case where the leading food retailersare seen to exert their influence on the food manufacturing sector.Indeed, there appears to be important circumstantial evidence of this(e.g. Monopolies and Mergers Commission, 1981). Thus the alternative to the arm's length pricing assumption would appear to be a modelof bilateral oligopoly.

However, there are two principal reasons for circumventing a bilateral bargaining approach. First, from a modelling perspective, it isoften difficult to derive a bilateral oligopoly model that could beusefully applied to the food sector. Second, the mechanism of thisbilateral market power is typically more subtle than the rejection ofarm's length pricing would suggest. Specifically, vertical market poweris likely to be reflected in the nature of the contracts between the foodretailing and manufacturing sectors both in terms and conditions ofthe various contracts and in the specification of the products that foodmanufacturers provide to the retailers. The important point aboutvertical contracts is that not only will they influence prices charged


by the upstream stage but that, depending on their form, they may alsolead to market foreclosure which reduces the extent of competition inthe vertical chain as a whole. However, other contractual forms maycircumvent the doub1e-marginalisation problem that characterises successively oligopo1istic markets thus appearing to make the verticalchain more competitive despite the fall in the number of firms.

Vertical contracts that deviate from arm 's length pricing can becharacterised by non-linear pricing or vertical restraints. 'Verticalrestraints' captures a multitude of practices, including: discounts in avariety of forms (e.g. overriders , aggregate rebates , etc.); slottingallowances (e.g. provision of retail equipment such as freezers); andtying, where the manufacturer sells a bundle of the goods at a pricelower than buying each good separately. These practices are commonbetween the food retailers and manufacturers and are often viewedwith suspicion by competition authorities as the number of referrals tothe UK's Monopolies and Mergers Commission would testify." It is inthe nature of these contracts that the balance of power between retailers and manufacturers is reflected. For example, in motivating hisanalysis of alternative vertical restraints, Shaffer (1991) argues that itis scarcity of shelf space relative to the large number of new productsthat manufacturers provide that tilts the balance of power in favour ofthe food retailers.f In this regard, it is notable that following theinvestigation of vertical restraints in the UK food industry, the UK'sMonopolies and Mergers Commission also concluded that the balanceof power lay with the food retailing sector .

Another type of 'contract' that may characterise links betweensuccessive stages is vertical integration. In this case, there is no marketas such between the successive stages, the quantity of the good produced (and the internal transfer price) being decided by a single firm.While vertical integration reduces the total number of firms in thevertically-related chain , it can nevertheless be efficiency enhancing asit circumvents the 'double mark-up' problem that characterises successively related imperfectly competitive markets. Although evidence onthe degree ofvertical integration in the food sector is sparse, Frank andHenderson (1992) present evidence from the USA to show that it isimportant in several food/agricultural activities.

8.3.4 Related Research

The above discussion of how food markets depart from the perfectlycompetitive paradigm arises principally from casual observation. In


recent years, however, agricultural economists have addressed moreformally the question of oligopoly in food markets. While much of thisearly research was in the spirit of the structure-conduct-performanceframework (see Connor et al., 1985), recent research has drawn uponthe so-called new empirical industrial organisation (NEIO) literature.The key feature of this NEIO approach is to identify the extent of firmbehaviour: specifically, departures from perfect competition are notmeasured by firm numbers per se, but by firm behaviour.f Thoughmost studies have focused on the US food sector, nevertheless thegeneral message from these empirical studies is that perfect competition is not an accurate characterisation of most downstream foodsectors. While comparable formal approaches to evaluating the degreeof competition using EU case studies are awaited, from the Europeandata presented on concentration ratios for example, one would expecta similar conclusion for ED food markets.

8.4 IMPERFECT COMPETITION, PRICE TRANSMISSIONAND POLICY REFORM

The above discussion suggests that imperfect competition is a prevalent characteristic of one or more vertical stages in the food chain . Thissection explores how oligopoly will influence our evaluation of policyreform focusing on price transmission and distributional effects." Toavoid the technicalities involved in modelling oligopoly in verticallyrelated markets, the discussion will focus initially on a single-stageoligopoly model. The effect of extending single-stage oligopoly tomultiple-stage oligopoly will be presented as will the effect of alternative forms of contracts.

8.4.1 Single-Stage Oligopoly

Single-stage oligopoly is the most common focus of imperfect competition in the industrial organisation literature. In terms of modellingoligopolistic markets, typically one has to consider firms' decisionvariables (i.e. whether they are choosing prices or quantities to maximise profits) and how they perceive their competitors will respond totheir choice of price or quantity. This is typically captured in a conjectural variation term (e.g. firms will conjecture how their competitorswill respond given their own choice of price or quantity). Although thenotion of conjectural variations is criticised by game theorists, never-


theless it can be usefully interpreted as an index of competition (Dixit,1986). This will be more transparent below.

To explore the effect of oligopoly on price transmission, we willassume that the retail stage is the single stage (denoted by superscriptR), a general demand function and that firms choose quantities tomaximise profits.f The inverse demand function facing the industry isgiven as

(8.1 )

where pf is the retail price and X{ is the output of firmj. Each of the m,firms aim to maximise profits as given by

(8.2)

where qx{) is the cost function (similar for all firms) which excludesagricultural raw materials and pt is the agricultural raw material pricethat is assumed to be set by government, that is pt is the agriculturalsupport price.

The conjecture captures the response by other retail firms to achange in firm i's output. Denoted by >..R, this is given as

(8.3)

(8.4)

If firms are playing Cournot (a common assumption in the industrialorganisation literature), vf(>..R) will equal zero (one). If vf equals-1 (>..R = 0), this represents the competitive outcome, and if vf equalsm, - 1(>..R = mi) this represents collusive pricing. The first-order condition for profit maximisation is given by

8n{ _ R _ A J,>..R 84Ji _ 8C - 081, -Pi Pi + i 8Xi 81,-

I I

To focus on the effect of competition on price transmission (assuming symmetry x{ = Xi for all J), totally differentiate the first-order

(8.5)

(8.8)


condition by varying all outputs and agricultural raw material prices(Pj) . This gives

[O¢j R O¢j R 02¢j 02 C] A

dx, m, oXj+,\ oXj+ x.m.); o)(f - oX? = dpj

Using the inverse demand function to eliminate dx, and assumingmarginal costs are constant, the price transmission effect can be given as

O¢jdpf m j

oXj (8.6)dpj - [ R] O¢j R 02¢j

m, +,\ oXj+ x.m.); oX?

If the food market is perfectly competitive, (,\R = 0), then

dPifl 1 (8.7)dpf AR=O=

i.e. there is perfect price transmission. However, for ,\R > 0, pricetransmission can be less or greater than one.

dPfl ~ 1dpf AR>O

The outcome depends on the convexity of the inverse demand function. If the inverse demand function is sufficiently convex, the pricetransmission can be greater than one." In this case, reducing agricultural support prices by, say, 10 per cent would reduce consumer pricesby more than 10 per cent. Perhaps more typical is the case of less thanperfect price transmission which accords with the (albeit sparse)empirical evidence from agricultural markets.i'' In this particularcase, it can be shown that the greater the value of ,\R (i.e. the lesscompetitive the market becomes) and/or the fewer number of competing firms, the lower the degree of price transmission. Explicitlyaccounting for product differentiation (see McCorriston and Sheldon,1995), it can be shown that the more differentiated the firms' products,the lower the degree of price transmission.

8.4.2 SuccessiveStage Oligopoly

As the evidence in the previous section suggested, the food sector ismore appropriately characterised as multiple-stage or successiveoligo-


poly rather than single-stage oligopoly. However, since the verticalstages are tied directly to each other, the key to modelling successiveoligopoly is to explicitly link oligopolistic markets together. Specifically, the inverse demand function facing the retail stage is the consumerinverse demand function. Equalising marginal costs with perceivedmarginal revenue determines the industry equilibrium. This perceived marginal revenue function is determined by the nature of competition at the retail stage (>.R) , the number of firms at the retail stage(mR ) and the degree of product differentiation (6). However, theinverse derived demand function facing the processing stage is theperceived marginal revenue curve of the retail stage. Consequently,when processing firms equalise their marginal cost with perceivedmarginal revenue in the processing sector, the equilibrium outcomewill depend not only on the degree of competition in the processingstage (>,U) - where superscript u denotes the upstream sector - and thenumber of firms in the processing stage (mU

) but also the degree ofcompetition at the retailing stage (>.R), the number of firms at theretailing stage (mR ) , and the degree of product differentiation (6). Itis important to note that the firms' conjecture in the upstream stage(>.m) will also reflect the nature of competition in the downstreamstage. Consequently, the degree of price transmission at the processingstage will depend on all these factors too:

:~ =f(mu,>,U(mR, >.R),6 ) (8.9)

With reference to price transmission through the vertically-relatedmarkets taken together (retail and processing), the difference in theimpact of a change in agricultural support prices (or tariffs) on finalretail prices will depend on competition at both stages, the numberof firms at both stages and a degree of product differentiation atthe retail stage. Specifically, with a two-stage oligopoly, price transmission will be lower than a single-stage oligopoly (assumingthe consumers' inverse demand function is not sufficiently convex),that is:

dPfl-d .l..A AR A" mR,m" t. < 0 where n = 1,2n WJ'11 ' I ,(8.10)

As n (the number of vertical stages) increases, the lower the degree ofprice transmission given the market structure characteristics and firmbehaviour at each stage. 11


8.4.3 Alternative Contracts

One way to model the linkages between successively related markets isto assume arm's length pricing . In other words, the retailing firms takethe processors' price as given and there is no other contractual arrangement between successive stages. However, as discussed above, this maynot be an appropriate characterisation of vertically-related foodmarkets.

McCorriston (1995) explores the effect of alternative contractualforms on price transmission in a successive oligopoly model (Cournotbehaviour at each stage was assumed) . Four alternative linkages werecompared: arm's length pricing, denoted by AL (the standard assumption); exclusive supply/direct contracts between a processor and retailerdenoted by SC; full vertical integration, given by FYI (where allprocessors and retailers are vertically-integrated); and mixed verticalintegration, given by MVI (where only some of the processors andretailers are vertically-integrated). In general, the nature of the verticalcontact can influence the level of consumer prices. Specifically, it canbe shown that

nR R R Rr:;~ > PAL> PMVI > PFVI (8.11)

(8.12)

Assuming two vertical stages, consumer prices can be rankedaccording to the type of contract: consumer prices are highest withsupply contracts and lowest with full vertical integration. Since alternative contracts influence the competitive outcome, they will thereforealso influence the degree of price transmission. It can be shown for agiven change in agricultural prices that:

dp~VI dPftvI d~L dp*-->-->-->-dPA dPA dPA dPA

Price transmission is greatest with vertical integration and lowestwith supply contracts. The reason for this is that supply contractsresult in market foreclosure thus reducing competition in the verticalchain as a whole. With vertical integration, however, the inefficiencycaused by double-marginalisation which is characteristic of successively oligopolistic markets is reduced.P The general message,however, is clear: price transmission will be influenced not just byimperfect competition throughout the vertical chain of markets, butalso by the nature of vertical linkages between successive verticalstages.

Reform of the CAP and Consumers

8.5 IMPLICATIONS FOR POLICY ANALYSIS

171

The implications of imperfect competition in vertically-related marketsare as follows. First, the degree of price transmission is endogenouslydetermined by the nature of competition , firm behaviour and firmnumbers throughout the vertically-related food chain. The nature ofvertical contracts will also be relevant. Second, and following fromthis, the distribution of welfare changes following policy reform willalso be endogenously determined by these same factors . Essentially, asthe food chain (or anyone stage) becomes less competitive, the greaterthe increase in firms' profits and the lower the gain in consumer surplusfollowing price reform.

It is of interest to evaluate empirically how imperfect competition invertically-related markets influences policy outcomes. This has recentlybeen attempted by McCorriston and Sheldon (1995, 1996). Essentiallythe technique used is similar to computable general equilibrium modelswhereby data on prices, quantities, firms' costs and elasticities ofdemand and substitution are used to calibrate the model. The impactof policy reform can then be simulated. The results of these exercisesare outlined briefly below.

In McCorriston and Sheldon (1996), a successive-oligopoly modelwas calibrated for the UK dairy/cheese market. A reduction in milksupport prices of 30 per cent was then simulated. The base case wasone with two stages of production: milk distribution/cheese processingwith firm behaviour (AR and AU) being endogenously determined. Toexplore the effects of firm behaviour, the Cournot case was alsosimulated (actual behaviour was initially more competitive than Cournot) and the number of vertical stages varied. The results were alsocompared with the perfect competitive model, the standard assumptionof most applied policy analysis. Focusing on the degree of price transmission and the corresponding change in consumer surplus, the resultsfrom different vertical market structures and firm behaviour are presented in Table 8.4.

With perfect competition there would be perfect price transmission.With a 30 per cent reduction in farm support prices, this wouldincrease consumer surplus by £142 million. However, deviating fromthis assumption will reduce the level of price transmission and thechange in consumer surplus. Consider , first of all, the number of stagesin the vertically-related market. With two successive stages (withactual firm behaviour), price transmission is 86 per cent of theperfectly competitive case. With only a single-oligopolistic stage, price


Table 8.4 Price transmission and change to consumer surplus with alternativevertical market structures

Market structure Degree ofpricetransmission as a % ofcompetitive single stage

( dpR

)dPA

Change inconsumersurplus(Em)

Change inconsumersurplus as %ofcompetitivesingle stage

Perfect Competition 1.00 141.58(Standard Model)Single Stage - actual 0.90 127.22 90

behaviourSingle Stage - Cournot 0.71 102.25 72

oligopolyTwo Stages - Cournot 0.39 56.26 40

oligopolyTwo Stages - actual 0.86 122.17 86

behaviourFollowing 30 per cent reduction in farm support prices

transmission would be 90 per cent. Varying firm behaviour, however,appears to have a more significant impact. Making the market lesscompetitive (i.e. imposing Cournot behaviour), reduces price transmission to around 70 per cent in the single-stage case and to around 40 percent in the two-stage case. The final column compares the change inconsumer welfare in the imperfectly competitive cases with the standard framework. It is evident that the standard perfectly competitivemodel overestimates the gains to consumers following policy reform.With actual market behaviour and two stages, the change in consumersurplus is 10 per cent less relative to the perfectly competitive case.With two stages and Cournot behaviour, the increase in consumersurplus is only 40 per cent of the perfectly competitive outcome.Much of the dissipated consumer surplus is reflected in an increase infirms' rents though, as McCorriston and Sheldon (1996) show, thedistribution of rent to firms is dependent on the stage in which thefirm operates. 13

It is important to note that the very nature of the vertical contractswill affect the results presented above. McCorriston (1995) explores therole of alternative vertical contracts on price transmission followingtrade reforms in the EU banana sector. This sector involves multinationals who own several successive stages or are supplied exclusivelyby producers/distributors from specific countries. With Cournot beha-


viour at each successive stage, three alternative contractual arrangements were explored. These were arm's length pricing, supply contractsand vertical integration. The results from this exercise are reported inTable 8.5.

Table 8.5 Price incidence following ED banana market reforms

Degree ofprice transmission (%)(dpRjdpA)

Standard PerfectlyCompetitive ApproachSuccessive Coumot withArms' Length PricingSuccessive Coumot withSupply ContractsVertically-IntegratedMarkets

Source: McCorriston (1995)

-22

-6

-2

-16

The results show that the nature of the vertical contracts can have animportant influence on consumer price changes and, by extension, therelated welfare effects. Following the liberalisation of the EU bananaregime, banana prices would have been expected to fall by 22 per centgiven the assumptions of the standard competitive model. With asuccessive oligopoly model, with Cournot behaviour at each stage,assuming arm's length pricing, retail prices are estimated to fall byonly 6 per cent. With supply contracts, prices would fall by only 2 percent . However, when successive stages become vertically-integrated,price transmission increases to 16 per cent.

8.6 CONCLUSIONS

This chapter has focused on imperfect competition in vertically-relatedfood markets. Contrary to the standard assumption of most policyevaluation models, food markets are more typically characterised byimperfect - rather than perfect - competition. This chapter has shownthat the degree of price transmission is endogenously determined bythe degree of competition at each vertical stage, the number of firms ateach stage, the nature of vertical contracts and the degree ofproduct differentiation of the final products. Imperfect competition


in vertically-related markets also endogenously determines the size anddistribution ofthe welfare changes following policy reform. The resultsfrom simulation exercises suggest that the extent of price transmissionand welfare changes from the standard perfectly competitive case canbe substantial.

Research on the industrial organisation of the food sector is still inits infancy and there is a considerable research agenda. While much ofthis will follow in the spirit of the new empirical industrial organisationapproach in explicitly identifying the level of competition, it is desirable that such researchers do not limit themselves to characterising theextent ofcompetition in the food sector. Rather, since applied economists devote considerable resources (both financial and intellectual) tothe evaluation of the outcomes of agricultural, trade and environmental policy, developing models that more accurately characterisethe specific market under consideration would appear to be highlyrelevant and give a more accurate assessment of the outcomes of policyreform than the perfectly competitive model.

9 The CAP and the WTOafter the Uruguay RoundAgriculture Agreement(URAA)Kenneth J. Thomson1

9.1 INTRODUCTIONThis chapter considers - with alphabetical but not algebraic detail- theimpact on the Common Agricultural Policy (CAP) of the EuropeanUnion (EU) of the Uruguay Round Agreement on Agriculture(URAA), which is monitored and administered by the secretariat ofthe World Trade Organisation (WTO) as successor to the GeneralAgreement on Tariffs and Trade (GATT). There are of course anumber of other direct pressures upon the Policy - notably budgetarycost, market distortions and possible EU enlargement into CentralEurope - which are likely to enforce some sort of change on the CAPeven if the Agreement had never been signed. The interaction betweenthese various pressures needs to be considered.

A number of issues are not considered. For example, the evolutionof world trade in the 1990smight well have been different if the Roundhad failed in 1990, 1992 or 1993, with possibly fatal consequences forGATT as a whole. And it can be argued that the influences of longterm or episodic changes in technical, demand-side and exchange-ratefactors on agricultural commodity markets are more important thanmere policy - domestic or international. Various domestic factors, suchas the shift in emphasis towards rural development, and the impact ofEuropean Monetary Union in 1999, are only mentioned in passing.The chapter therefore provides only a partial commentary on the stateof playas seen in mid-1996.

9.2 THE URUGUAY ROUND AGREEMENT ONAGRICULTURE (URAA)

The Uruguay Round of multilateral trade negotiations began in 1986,was formally concluded on 15 December 1993 and, after somewhat

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hurried verification and ratification by signatory states, came intoeffect in 1995, in the EU on 1 July. The scope of the Agreementincluded much besides agriculture, most notably textiles (of somerelevance to farming, especially in some developing countries), intellectual property rights and investment measures (both again withimplications for agriculture), various services, and much more. Thesaga of the Round as regards agriculture includes the near-collapse atBrussels at its scheduled time of completion in 1990, the Dunkel DraftAgreement of 1991, and the 1992and 1993EU-US Blair House Agreements. It has been ably summarised elsewhere (e.g. Greenaway, 1991;Ingersent, Rayner and Hine, 1993), and will not be repeated here.

Amongst the notable events and issues of this period, and highlypertinent to the topic of this chapter, is the relevance of the Round tothe 1992MacSharry CAP reform which was implemented over 1993-6.That reform resulted in significant changes in the CAP regimes forarable crops, beef and sheep, and in additional agri-environmentalmeasures . Most significantly, the support prices for cereals, oilseedsand some other crops were reduced by 20--25 per cent below those of1992, with semi-compulsory set-aside at about 10 per cent for largerfarmers and direct compensation payments based on arable areas andregional yields, and on livestock numbers .

In the URAA, the EU (then of Twelve) committed itself, like otherGAIT members, to a number of limitations on its freedom of action asregards agricultural policy over the six years 1995 to 2000. Thesecommitments included:

1. Domestic Support

On a 1986-8 base, the Aggregate Measure of Support (AMS), whichexcludes all decoupled payments (including direct payments underproduction-limiting programmes if these are based on fixed area/yieldor livestock head, or made on 85 per cent of base production), is to bereduced by 20 per cent, in equal steps.

2. Market Access

Again on a 1986-8 base, border protection measures other than ordinary customs duties are to be converted into tariff equivalents ('tariffication'), and each reduced by at least 15per cent, and on average by 36per cent. Imports are to be allowed of at least 3 per cent of domesticconsumption at the start, and 5 per cent at the end, of the six-yearperiod.

The CAP and the World Trade Organisation 177

3. Export Subsidies

On a 1986-90 base, direct expenditure on export subsidies must bereduced by 36 per cent, and subsidised export volumes (for unprocessed products) by 21 per cent. Under Blair House II, 'front-loading'of the reduction schedule is permitted, with a higher base period(average 1991-2) possible.

4. Oilseeds, Rebalancing and Other Products

A base oilseeds area must be established and reduced by at least 10 percent. Non-food set-aside is to be allowed on set-aside up to a volume ofby-products not exceeding 1 million tonnes of soya meal equivalent . IfEU imports of non-grain feed ingredients exceed 1990-2 averageimports of these products, then the EU and USA must 'consult witha view to finding a mutually acceptable solution'. The EU is to establish a tariff quota of 500 000 tonnes of corn imports to Portugal, and azero-duty tariff quota of 120000 tonnes of malt sprout pellets.

5. Peace ('Due Restraint') Clause

Internal support measures and export subsidies that conform fully toreduction commitments (1 and 3 above) are to be exempt from GATTactions until 2003, subject to a maximum of the 1992 levelsof support,commodity by commodity.

6. Sanitary and Phytosanitary Measures

A Committee on Sanitary and Phytosanitary Measures is to be set upto provide a forum for the consultation and monitoring of the processof international harmonisation based on international standards,guidelines and recommendations, or higher standards 'if there is scientific justification or as a consequence of consistent risk decisions basedon an appropriate risk assessment' (press summary of Final Act, asreported in Ingersent, Rayner and Hine, 1993).

7. Implementation and Continuation

All these commitments are to be reviewed by the WTO Committeeon Agriculture, and administered with a new and accelerated consultation and disputes-settlement procedure. Further negotiations (notnecessarily another Round) are to commence some time in the year1999.


9.3 URAA IMPLEMENTATION BY THE EU

A number of points in these commitments may be noted, especiallywith respect to the EU. The choice of 1986-8 (or 1986-90 in the case ofexport subsidies) as the base period refers all calculations back to aperiod of extremely low world prices and hence very high levels ofsupport for agriculture in many countries . This applies especially to theCAP of that period, with its variable levies and export refunds whichincreased precisely to offset low external prices. Thus the EU 's basetotal AMS is 79 billion ECU, to be reduced to 65 billion ECU by theyear 2000. The Commission in 1993 estimated (and more recent calculations have confirmed) that, with CAP reform, total EU AMS will besome 14 billion ECU below this target figure.

The aggregate nature of the domestic support reduction commitment does not inhibit the way in which such support can be distributedamongst the various commodity sectors. Further flexibility arises fromthe exempted production-limiting programmes in the 'blue box', whichhas permitted the EU to introduce, as compensation for price reductions in ECU support prices, direct payments which now total sometwo-thirds of the entire FEOGA Guarantee budget.

Moreover, the AMS excludes budgetary payments made to maintainthe gap between external and internal prices, such as buying-in orstorage costs (URAA Annex 3, paragraph 8); this would seem toexclude a further swathe of CAP activity from future reductions, andto allow the EU to use buffer stocks as a way of postponing oravoiding policy adjustments without fear of URAA transgression.There are also a number of other exclusions, such as support under 5per cent of production value, on both a product-specific and nonproduct-specific basis.

An indication of the extent to which the EU has been able tomaintain its traditional protectionist stance is that a standard measureof protection - the EU's overall percentage Producer Subsidy Equivalent for 1994 and 1995 including 'blue box' payments permitted by theURAA - was 49 per cent, continuing an upward trend since 1989-91and higher than the 1986-8 figure of 48 per cent (OECD, 1994 figureprovisional).

Also as a consequence of the base period (and probably of someleeway in the method of calculation), the EU's base tariff equivalentsare often very high - for example over 100 per cent for most grains,beef and dairy products. This reduces the absolute effect of the 15/36per cent reduction commitment considerably, especially when (as


pointed out by Tangermann) the simple unweighted averaging necessary to meet the 36 per cent cut permits a country to concentrate itslarger percentage reductions on products of lesser significance andalready low tariffs , and to apply the 15 per cent minimum to moreimportant commodities. The 3/5 per cent minimum access commitments are also of limited significance for the EU, since existing tradearrangements, often deriving from pre-Community relationships orfrom the Europe Agreements, enable the Union to satisfy theserequirements.

Finally, the process of tariffication has not beencarried out by theEU with maximum rigour. For example, the World Bank has pointedout (see Agra Europe, 13 April 1995) that the tariff set by the EU forwheat maximises the effective bound by choosing a relatively lowquality type (Hard Red Spring no. 2 wheat traded at Minneapolis),whose market price is (normally) far below the EU's internal price. Thedifference (less a fixed reduction of duty of 8 ECU per tonne) isnevertheless applied, as the tariff, to higher-quality imports such asCanadian Red Winter. This undermines the EU's commitment at BlairHouse to limit its duty-paid import price to the intervention price plus55 per cent. The fruit and vegetable regime has been revised in such away as to retain most of the features of the old reference prices whichpreserved fixed internal floor prices.

Most analysts are agreed that it is the export commitments - andprimarily the subsidised quantity limits, especially for wheat, beef andcheese - that are in practice likely to constrain EU behaviour after theyear 2000. Until then, a degree of vagueness is built into the URAAexport subsidy commitments via 'downstream' flexibility: a countrycan overshoot its limits to some extent, if a credit has been built up inearlier years or the deficit repaid in the following year. Moreover, foodaid is excluded from the reduction commitments , and of course intervention storage can be used to avoid temporary embarrassments.

With the 1995 enlargement to 15 members, the EU's URAA commitments require adjustment (see Agra Europe, 8 March 1996) Theseinvolve both increases and decreases in the corresponding figures forthe EU-l2, depending on the volume of trade between the Twelve andthe Three (Austria, Finland and Sweden) to be 'netted out' of the finalfigure. In general, the subsidised export volumes for 'northern' products such as cereals, dairy products, pigmeat and eggs are raised,while those for the 'Mediterranean' fruit and vegetables, wine andolive oil groups have been lowered. In principle, the adjustmentsmake no difference to the EU's position, but lower consumer prices


in the three new member states may expand the total EU market alittle, thus reducing export pressures. A number of commodities have,however, caused particular difficulties in this area, including rice,where the new member states must adapt to market price levels governed by a reference price system for the growers in Italy and Spain.

Apart from these implementation aspects, market conditions forseveral products since July 1995 have meant that few of the URAAcommitments have yet begun to bite. Nevertheless, the implementationof the URAA by the EU has necessitated a considerable amount ofeffort by the Commission (Mildon, 1995). First, in the first threemonths of 1994, the results of the December 1993 negotiation had tobe transcribed, product by product, with over 1000 individual tariffs,into the legal Schedules of concessions and commitments. As well aspreparing its own Schedules, the Commission also had to verify theSchedules of its trading partners.

Subsequently, a revised import and export licensing system has hadto be set up in order to monitor the relevant commitments. Initially,complex transitional arrangements became necessary in 1995 as thecommitment period approached with traders holding export certificates obtained in the previous months. So far, there seem to have beenfew difficulties with exports, but import licences required to takeadvantage of preferential regimes such as minimum access quotashave proved problematic, with traders having to apply for manytimes their desired quantities in order to ensure adequate supplies. Atender or auction system suggests itself to avoid this bureaucraticdifficulty, but may transgress WTO rules as representing an extracharge on traders (Doran in Agra Europe, 23 February 1996).

It is one of the paradoxes of the new situation that a reform towardsa system of trade based on tariffs - i.e. price instruments - has nevertheless involved a much more rigorous monitoring - and if necessarycontrol- over the quantities of agricultural commodities imported andexported by the EU. Because of the market access (import) and exportcommitments outlined above, the Commission must be able to know,and if necessary take action, when limits on allowable quantities areapproached. Despite the removal of overall import quotas as a nowillegal non-tariff barrier, tariff rate quotas on a selective basis to meetthe market access commitments are common , and formed most of thebasis for the compensation deals recently agreed with the USA, Canadaand other exporters subsequent to the 1995enlargement of the EU.

At least the new quantity limits are on the use of trade-distortinginstruments rather than on (competitive) trade quantities themselves.


However, the licensing system has opened up disagreements and uncertainties, since the approval of a licence may not, for various reasons,correspond with actual shippings. More importantly, the EU hasresisted a 'pure' tariff system in which each consignment would besubject to an individual percentage import tax, in favour of a referenceprice system with the same price used for all shipments over a specificperiod, such as a fortnight.

At Blair House I, the EU managed to secure US agreement that aminimum tariff of 10 per cent could always be charged, regardless ofworld prices and the tariffication commitment. Also, a special safeguard clause provides for cases where import prices drop by more than10 per cent below the average EC import price (in ECU) for 1986-8.The 'MacSharry' compensation payments were also safeguarded alongside the US deficiency payments - as exempt from the AMSreduction, even though they are hardly decoupled from productionas specified in the Dunkel draft, since (for example) farmers mustcontinue to produce in order to qualify for these subsidies. However,an irony is that the negotiating effort that went into the Blair House IIAgreement has proved much less rewarding than expected, as worldmarket prices have been high enough to enable the EU to dispose ofmuch of its stocks without problems.

9.4 CAP REFORM

Against this background, it is possible to tum to the CAP, and to thecurrent pressures and prospects for its further reform. The view of theCommission has been clear since the Final Act: 'It is not accurate tosay that the conclusion of the UR paves the way for profound and farreaching changes in European Agriculture and will lead to an overhaulof the entire CAP' (Cloos, 1994).That stance has been maintained eversince. In any case, it is the views of the Agricultural Council rather thanthe Commission that determine the actual pace and nature of CAPdevelopment.

The latest general statement from the Commission in this area is inthe Agricultural Strategy Paper prepared for the Madrid summit inDecember 1995, where in fact the term 'reform' was reserved for the1992 decisions and for 'Option 2' of 'new and radical reform', which isrejected in the Paper. Instead, the Commission spoke of 'developingthe 1992 approach', along three principles:


• towards higher competitiveness, by 'continuing resolutely theapproach that has been started with the 1992 reforms, deepen itwhere necessary and extend it to other sectors (sic). This implies areduced reliance on price support, compensated where necessary, bydirect payments , whatever their concrete form may be';

• towards an integrated rural policy, by 'adapt[ing] and amplify[ing][present arrangements] where necessary with a view to achieving astrengthened and mutually consistent body of measures whichallows the mobilisation of a maximum of synergies' (sic);

• simplification and solidarity, implying 'probably .. . that more latitude would have to be conceded to Member State and/or regionalauthorities. A clearer distinction between market policy and incomesupport could help. . . .' .

Each of these principles may be examined in turn, with an eye to theinfluence of the URAA. First, 'competitiveness' was rightly said tohave many facets, including product quality, value added by processing, and (third in the Commission's list) price. Earlier, the StrategyPaper stated that 'even independent of the post-Uruguay Round discussions, significant growing pressures to liberalise agricultural tradeand to facilitate market access can be expected, in the field of bilateralor of regional (free trade) agreements' (presumably with Central Europe in mind, as well as elsewhere such as in the Americas, where FreeTrade Agreements could threaten EU export markets), as well as'outside'. In this context, advocacy of 'the ability to export withoutsubsidies' is reassuring in its emphasis on the international marketplace, and in the absence of reference to specific market areas. However, the Commission has since discussed possible reforms to the dairyregime with a degree of caution, and there has been outright opposition to further reform by the German and Spanish Ministers of Agriculture (Agra Europe, 8 December 1995 and 5 January 1996).

Little in the URAA would appear to indicate rapid changes in mostof the unreformed CAP commodity regimes by the end of the century .The safeguard provisions for butter, for example, seem likely - througha high 'trigger price' which justifies additional duties - to prohibit nonpreferential imports of that product. The CAP sugar regime as usualremains largely impervious to the pressures for change: the only modifications required - should world prices decline to a level which bringsEU export subsidies into conflict with the 36 per cent reduction requirement - is that B (and if necessary A) quotas are to be cut, thus converting the corresponding volume into unsubsidised C sugar exports.


'Integration' of rural policy was developed in the Strategy Paper interms of a 'balance between agricultural activity, other forms of ruraldevelopment and the conservation of natural resources, and it wouldfeature the multifunctional role many fanners can play in this context'.In theory, EU structural policy has for several years already been'integrated', at least in rural areas, but in practice it is not clear howsuccessful this has been. Sometimes, it appears that the word refersmainly to the switching of existing support schemes (especially those ofthe CAP) into new 'frameworks', and a true combination of fundingand evaluative criteria has yet to appear. The URAA exempts regionalassistance programmes in disadvantaged areas as long as payments arenot price-related (and, interestingly, as long as they, if factor-related,are made on a degressive basis), as well as structural adjustmentassistance and environmental programmes, subject to the overall condition that 'they have no, or at most minimal, trade-distorting effectsor effects on production'.

The Commission's third sub-title of 'simplification and subsidiarity 'proposed five-year (rather than annual) negotiations over CAP pricesupport, and presumably over related CAP instruments such as compensatory payments, and arealheadage quotas. This would 'allow an indepth debate with full participation of the European Parliament'. TheCommission has since promised more specificproposals in this area. Onthe other hand (what was not said in the Strategy Paper !), it wouldconstrain ministers in their continual and natural struggles for nationaladvantage. A multi-annual price-fixingwould presumably have to leavesome opportunity for interim adjustment in case of unexpected URAAconstraints or other problems. Also, the inevitable but different stressesacross member states must still be coped with if both price-fixing andagri-monetary adjustment are abolished after EMU and a fully 'simplified' CAP; perhaps a new class of 'temporary' national instruments willarise, as occurred following the 1995 depreciation of the lire. Or, ashinted at above, a non-simple variety of regional and environmentalschemes may come into play. The URAA has certainly not broughtsimplification into the CAP so far; indeed, the complexities of tariffication and tariff rate quotas, and the need to monitor export complianceacross 15 member states, has added to administrative costs. As regardssubsidiarity, it seems likely that the Commission will continue to guardjealously its maintenance of the Single Market and the application ofcompetition rules, and this should be sufficient to ensure that newnational or regional subsidies introduced by national governments aresufficiently non-distortive of trade to ensure URAA exemption.


The argument over the CAP and its further reform, or change, is notof course restricted to Commission documents. A leading contributionis the UK's MAFF report (1995) of the Minister's CAP ReviewGroup, whose 'broad thrust' was 'welcome[d)' by the government.Quoting the URAA as a factor to be considered, the calculationscarried out for the Group by the Ministry suggested that the EU-15subsidised export volume limits would be reached almost immediately(i.e. during 1995/96) for cheese, beef, pigmeat and poultrymeat, and by1999/2000 for cereals. An Alternative Policy, with supply controlsdesigned to meet URAA commitments and on current consumptiontrends, would require a set-aside rate over 30 per cent by the year 2005,and 3 per cent cuts in the sugar and milk quotas by the year 2000.Other Alternative Policies, with reduced prices, would largely avoidURAA problems for the EU-15 as long as compensation paymentswere considered sufficiently decoupled. In the event, with relativelytight domestic markets, the EU managed to reduce its stocks considerably both before and after 1 July 1995.

The enlargement of the EU and its CAP to Central and EasternEurope countries (CEECs) has been the subject already of considerable discussion (see Club de Bruxelles, 1996). Much of this discussion has concerned the market and budgetary problems ofapplying CAP support to CEEC farming. However, an enlarged EUwould have to take account of the CEECs' URAA commitments aswell as those of the EU-15. The AMS limits for many of the CEECsare very low, and (except for Poland, which used dollars) are denominated in national currencies which in many cases are still subject toerosion by inflation and devaluation. In its reviewing of the URAA,the WTO Committee on Agriculture must 'give due consideration tothe influence of excessive rates of inflation on the ability of anyMember to abide by its domestic support commitments'. This wouldseem to allow some flexibility in terms of the AMS commitmentsbefore and at future enlargements, although the CEECs have severebudgetary problems, and the EU's own AMS is not under pressure. Asregards market access, the CEECs' bound tariffs are often lower thanthose applying to the EU, so that some compromise with the EU/CEECs' trading partners will have to be reached in this area, perhapsinvolving tariff quotas as happened with the 1995 enlargement. Thegreatest threat lies in the export subsidy commitments if the CEECsrespond to both domestic economic stabilisation and recovery, and tothe prospect of EU accession, by expanding output to levels whichcannot be absorbed internally and hence would require subsidised


export or alternative and expensive domestic disposal inside or outsidethe CAP.

As mentioned above, the 'continuation clause' commits URAAsignatories to initiate further international trade negotiations in1999. They must 'tak[e] into account' experience to that date and'non-trade concerns' (a large area?!), but otherwise the long-termobjectives are almost exactly the same as for the URAA, i.e. 'substantial progressive reductions in support and protection resulting infundamental reform', and 'a fair and market-oriented agriculturaltrading system'. There is no special mention of environmental issues(though these are mentioned in the preamble to the URAA), nor toother aspects of production methods. Thus the scope and emphasisof these further negotiations would not appear to target any aspect ofthe CAP any more directly than in the URAA itself. Within thisrange, the compensation payments placed in the 'blue box' are theobvious target for attack by the United States and other EU tradingpartners.

The interaction of the post-1999 WTO negotiations and the likelyaccession negotiations with one or several Central European states(and Cyprus and Malta) deserves watching. As with the 1992 reforms,it seems likely that the EU will determine its domestic affairs first, thusarranging enlargement(s) in the early years of the next decade, withreluctance to see these upset by later international talks. The lack of anend-deadline for the post-1999 WTO negotiations clearly gives scopefor considerable postponement of change.

9.5 CONCLUSION

The obvious and traditional choice for reforming the CAP lies betweensupply control and price reduction, with the issue of compensation asensitive and important side-issue. With its sanction for 'productionlimiting programmes', the URAA is strictly neutral between these twoavenues, and therefore leaves the EU almost as free, or as restricted, asbefore in its search for a sustainable long-term strategy. So far, bothroutes have proved manageable, with significant reductions in supportprices for cereals, and more or less effectiveproduction limits for sugarand milk. Insofar as subsidised export volumes are the critical URAAcommitments, supply control would seem the more attractive shortterm approach since it has predictable effects and directly impacts onsurplus volumes. By comparison, price reductions, however more


efficient from a longer-term economic point of view (Munk, 1995),cannot operate quickly, and do not target on volume.

The URAA may have more impact on the direct-payment or compensation aspects of the CAP, particularly if the peace clause is used tolimit the Council 's actions in this area. Indeed, it has been argued(Wolter, 1994) that 'the Agreement on Agriculture will over timeprogressively induce governments to move further in the direction ofdomestic support measures which target the various policy measures income support, food security, maintenance of the rural landscape,environmental protection and so forth - by made-to-measure instruments'. Obviously, completely decoupled payments made for purelyenvironmental or structural adjustment purposes are permitted;equally obviously, it will be difficult to agree - domestically andperhaps internationally - subsidies that are so decoupled.

The current EU-US and intra-EU imbroglio over the use of growthpromoting hormones - and perhaps the developing BSE situation - islikely to have long-lasting effects on the situation inside the EU, if onlybecause it has forced EU member states to clarify and argue the casefor product-quality trade restrictions more strongly. The Commissioner (Fischler, reported in Agra Europe, 16 February 1996) hasdrawn a distinction between the need to observe public opinion ratherthan scientific evidence in policy-making about international trade (theCommission 's argument vis-a-vis the United States in the context of theWTO's Sanitary and Phytosanitary Agreement) but not in policymaking for domestic markets (the Commission's argument vis-a-visthe German Lander in the context of the Single Market). The Agreement refers to 'scientific justification' (Article 3, para. 3), 'assessmentof risk' and 'minimising negative trade effects' (Article 5), all of whichprovide much food for legal as well as economic argument. Theseconcepts will have to be developed as further cases of agriculturalbiotechnology come onstream, as for example with 'novel' foods andingredients requiring pre-market approval in the EU but not in theUSA (Lister, reported in Agra Europe, 5 January 1996). The exclusionof processed products from the subsidised export volume commitments, will, if those limits are approached, encourage further development of the EU's trade away from basic commodities towardsfoods and food ingredients , undermining the traditional policy stanceof 'escalating' tariffs against commodities with higher processingcontent.

A crucial factor in appraising the interrelationship between the CAPand the URAA is the relative levels of EU and world market prices,


since this gap affects directly the measurement of AMS, the protectiveeffect of tariffs, and the scope and need for subsidised exports. AnABARE study carried out in 1994shortly after the Final Act suggestedthat world price increases for most agricultural products would be lessthan 10 per cent, except for cheese (up by 20 per cent) and milkpowders (up by 16per cent) by the end of the Round's implementationperiod (reported by Hewitt, 1994); these results are in line with earlieranalyses. A previous overview by the present author (Thomson , 1995)on the effect of the URAA on world prices concluded that the 'outcome may be expected to raise world prices somewhat over the nextdecade, although not in terms relative to other traded goods. In otherwords, most world agricultural market prices should decline [in realterms], but more slowly than they would otherwise have done'. Littlehas happened in the year since that statement to lead this author tomodify it. Even a difficult series of harvests (which could undoubtedlycreate major food problems in some regions of the world) wouldmerely accentuate and hasten governments' efforts to expand production in both the developed and developing world. The evidence thatthese efforts will founder due to lack of resources such as land andwater availability is still weak in comparison to the evidence of the last30 or 40 years. Thus, long-term, the problems of agricultural protectionism by means of price support will re-emerge, but these are unlikelyto impact on the CAP in the next five years.

The relative values of the ECU and the US dollar (and other nonEU currencies used by major farm exporters) are another factor to beconsidered. In recent years, the dollar has fluctuated by about 10 percent against the ECU, but its long-term relative trend seems to bedownwards. This may become clearer if the unusually long period ofeconomic expansion in the USA comes to an end, and/or if EuropeanMonetary Union stays on track. Even partial EMU will presumablylead to a stronger EU average currency in terms of the 'Euro' in whichCAP support prices and payments seem likely to be set, and theremaining individual EU currencies. Insofar as world market pricesare set in US dollars (and the expected rise in East Asia imports wouldreinforce this tendency), appreciation of the EU currencies against thedollar widens the price gap between CAP support prices and tradingprices, making unsubsidised exports more difficult, and increasing thenecessary CAP export subsidies. On the other hand, the EU's URAAcommitments arc: denominated in ECU (or Euro); it therefore becomesa nice question whether these commitments become more difficult tomeet under these:conditions.


So far, then, there seems little in the DRAA to enforce rapid orradical CAP reform, at least by the year 2000. Given the exemptions,and the prospects for stronger world markets than appeared likely afew years ago, there seems quite enough scope in the Agreement itselfto enable the Commission to avoid even changing the CAP on thisaccount, except in relatively minor administrative ways, at least untilwell into the next decade, when CEEC enlargement will 100m. Ofcourse, regime changes may be made - particularly for beef if asseems likely the BSE episode has widespread and long-term consumereffects - but these seem likely to come about for internal reasons ofmarket distortions and budget expense rather than the internationalDRAA commitments (which cannot take account of changes in consumer attitudes).

After 2000, the DRAA export commitments must be met in full,enforcing an embarrassing increase in intervention stocks and/or muchhigher rates of set-aside and other forms of supply control if higherworld prices do not ride to the rescue, as happened, perhaps briefly in1995-6 for cereals. Meantime, the case for speedy and radical CAPreform is little helped by the Uruguay Round Agreement on Agriculture, and must rely on extrapolations to identify potential threats in themedium-term future, or on the need to prepare for the post-1999negotiations.

10 PostscriptK. A. Ingersent, A. J. Rayner andR. C. Hine

10.1 INTRODUCTION

A common theme of many previous chapters is that there are strongpressures for a continuation of the process of CAP reform; political andeconomic realities will require the development of and adjustments tothe 1992 policy reform. Recent official thinking about further CAPreform is revealed by the Commission's 'Agricultural Strategy Paper'published in November 1995(EU Commission, 1995)and prepared forthe Madrid summit of European leaders in December 1995. The mainconcern of the Strategy Paper is to assess the implications for the CAPof the enlargement ofthe Union to the East. However, it also examinesother issues regarded as critical to the future shape of the CAP. Theseinclude: (i) long-term market trends, particularly the impact of sustained productivity growth and increasing market imbalances in various commodity sectors; (ii) constraints imposed upon the CAP by theURAA that might prevent the Community from increasing exports inresponse to forecast growth in world demand for a number of products;(iii) the prospect of further agricultural trade liberalisation in the next(WTO) round of multilateral negotiations due to begin in 1999; (iv) therising concern over environmental externalities; (v) the opportunitiesfor farm households created by rural diversification and the emergenceof new economic activities in rural areas; (vi) the need to simplify CAPlegislation which has become increasingly complex and bureaucraticover time making policy management more difficult, reducing farmers'understanding of policy and increasing opportunities for fraud.

10.2 THREE OPTIONS FOR THE FUTURE OF THE CAP

The Strategy Paper examined three options for the future of the CAP:

Option 1: Maintain the post 1992 CAP reform status quoOption 2: Radical reform beyond the parameters set in 1992Option 3: Developing the 1992 approach

189


Option 1, although thought to be feasible for a number of years, isrejected by the Commission. The main reason for rejection is that dueto technical progress, yields are bound to go on increasing and this willlead to growing surpluses and market imbalances given stagnant internal demand and export market constraints imposed by the DRAA. Inaddition, enlargement to the East under the status quo would not onlyadd to the emerging imbalances ; it would probably make major CAPreform inevitable giving rise to high budgetary costs in the form ofcompensation payments to CEEC farmers.

Option 2 would involve the abolition of price support (or at least thereduction of support prices to levels close to world market prices),the abolition of quotas and other supply management measures, thefurther decoupling of compensatory payments and their reduction overtime, the funding of direct income payments (which could includecompensatory payments) and payments for environmental serviceson a national basis with or without Community co-financing. TheCommission rejected this option on three grounds: (i) it would entailunacceptably high social and environmental risks in at least someregions of the Community; (ii) it would generate large budgetarycosts in the short term (first five to ten years) in the form of (transitory)compensation payments for the abolition of price support; (iii) it wouldundermine the economic and social cohesion of the Community.

Option 3 or 'developing the 1992 approach' was the option favouredby the Commission. This option has three main elements:

(a) Greater Competitiveness The paper stresses that given existing andfuture limitations on subsidised exports, it will be more and morecrucial that the ED is able to export without the use of such subsidies.Furthermore, it argues that increased market access to the ED marketfor third countries underlines the need for the competitive pricing ofdomestic products. The paper then states 'these considerations plead infavour of continuing resolutely the approach that started with the 1992reforms, deepening it where necessary and extending it to other sectors .This implies a reduced reliance on price support, compensated wherenecessary, by direct payments, whatever their concrete form may be. Abudgetary margin for such payments would have to be found under theguideline, also in the framework of the new financial perspective after1999' (p. 23).

(b) An Integrated Rural Policy The paper notes that market policyhad been reformed, structural policy had been redirected towards rural

Postscript 191

development and a limited agri-environmenta1 programme introduced. But 'the different measures and programmes have partly developed in parallel, and partly they overlap with each other' (p. 23).Consequently, 'it makes sense to review the present arrangementsand to adapt and amplify them' (p. 23) to lead to an integrated ruralpolicy which 'would seek to strike a more sustainable balance betweenagricultural activity, other forms of rural development and the conservation of natural resources' (p. 23). In this context many farmershave a multifunctional role: 'producers of food , feed and non-food,stewards of the countryside, managers of natural resources , suppliersof services . . . More than ever before, farmers are called upon to berural entrepreneurs' (p. 23).

(c) Simplification The paper accepts that 'there is a strong case for aradical simplification of what is done at the EU level' and that probably 'more latitude would have to be conceded to Member States and!or regional authorities in the implementation of decisions taken at EUlevel' (p. 24).

The adoption of this option would entail further reforms on thefollowing fronts:

(1) Extension of the 1992 reform process to unreformed sectors;(2) Reduced reliance on price support (but not necessarily its aboli

tion);(3) The continuance of direct income payments to compensate produ

cers for possible loss of income due to price cuts;(4) Increased emphasis on linking direct income payments with social

needs and the provision of environmental services;(5) Limiting and reducing the use of supply management measures;(6) Consolidating the existing parallel strands of the CAP - price

support and marketing policy, structural policy and the as yetlimited agri-environmental programme - into an 'integrated ruralpolicy';

(7) Simplifying the CAP, particularly at the EU level, and givingmember state governments greater latitude in implementing centrally determined decisions.

The central message of the Commission's recommendations is thatincome support should be increasingly decoupled from market policy,with price levels for a number of key products being aligned muchcloser to world market prices than in the past. The increased market


orientation of EU agriculture would enable the Community to participate in the expected expansion of world trade in farm commodities,facilitate the integration of the CEECs into the Union , and minimisepressures on the CAP in the next (1999) round of multilateral tradenegotiations. It is also clear that the quid pro quo for a reduced relianceon price support is a continuation of the system of compensatorypayments but with an increased emphasis on linking these to environmental and social purposes. Although not mentioned in the StrategyPaper, such a shift could pave the way for phasing out the presentversion of direct payments which represent compensation for the cut insupport prices over the period 1992/3 to 1995/6 and for ensuringparticipation in set-aside. If support prices are reduced further toworld price levels so that the set-aside programme can be abolished,direct payments could be linked to social objectives allowing the compensatory payment per farm to be progressively capped giving a moreequal distribution of benefits amongst farmers than at present. Payments for social and environmental purposes might then embrace thediffering components of an integrated rural policy such as development grants for rural entrepreneurship covering farm and non-farmactivities and countryside stewardship. However, as pointed out by theStrategy Paper , this would require the co-ordination of the existingprogrammes supported by, for example, the CAP structural fund , theregional development fund, the social fund and the agri-environmentalprogramme.

In a number of speeches in 1995and 1996, EU Farm CommissionerFranz Fischler reiterated and amplified a number of key points in theStrategy Paper. From reports of these speeches (AgraFood Europe,Agra Europe, various issues), a number of steps are being set in trainto translate the Strategy Paper recommendations into action. First, theCommission is working on new reforms sector by sector with a highpriority being given to curbing market imbalances in the dairy sector(so far unreformed) and the beef sector (partially reformed in 1992)and to extending reforms to Mediterranean products (olive oil, wineand tobacco, fruit and vegetables). However, the sugar sector isregarded as being 'budget neutral' and is not likely to be a subject forreview until 2001, when the sugar regime becomes due for renewal.Second, given a degree of public disquiet about the size of taxpayerfinanced compensation payments received by often wealthy farmers,attention is being devoted to ways of making the payments moredependent upon environmental criteria, especially for stewardship ofthe rural environment.

Postscript 193

CAP policy-making in 1995 and 1996 was affected by two majorshocks. First, the tight world market for grains in 1995/6 led to international cereals prices being above corresponding EU prices untilSeptember 1996. EU export subsidies were suspended and exporttaxes levied in this period with corresponding benefits both to theEU budget and EU commitments on subsidised exports under theURAA, and enabling a draw down of EU cereals stocks. In response,the set-aside rate in the EU arable sector was reduced to 10 per cent in1996 (for both fixed and non-rotational set-aside) and the Commissionhas proposed a 5 per cent (uniform) set-aside rate for 1997.Second, theBSE crisis unfolded in 1996,with a collapse in EU beef consumption (afall of around 10 per cent across the EU and up to 30 per cent in somemember states) and chaos in the Agricultural Council of the EU as theUK threatened to disrupt EU decision-making across the whole rangeof EU business. In the face of the slump in EU beef consumption andreduced export prospects for EU beef resulting from the BSE crisis,special measures were introduced in the beef sector reversing previousreforms and adding to budgetary costs. In particular, in November1996, intervention limits were increased, a calf slaughtering scheme wasintroduced and emergency aid payments to producers were brought into offset the negative income effects of BSE. In addition, the Commission is to present proposals in 1997 for dealing with the long-termproblem of over-supply in the beef sector; an inherent problem thatwas sharply worsened by the BSE crisis. The urgency of the problemsin the beef sector dominated CAP policy-making in 1996 and thecontinuing nature of the problems is likely to delay the implementationof the planned reforms set out in the Strategy Paper.

10.3 COMMENTARY

As has been noted by Josling, Tangermann and Warley (1996), amongstthe major trading nations in the 1980sl1990s 'a new paradigm in agricultural policy emerged which recognised that the social and environmental objectives of supporting agriculture could be usefully separatedfrom the manipulation of commodity markets' (p. 221). This strategicshift ' in the philosophy and practice of agricultural policy' (ibid.) ensuredthe success of the agricultural negotiations in the Uruguay Round.Although in this context, CAP reform was slow to arrive and only partialin nature, a continuation of the reform process along the linesofOption 3would serve to reinforce the permanency of this paradigm shift.


A plausible scenario for further CAP reform during, say, the nextdecade, is that the Community will proceed along the lines envisagedby Option 3 as fast as external market conditions and internal marketimbalances permit . To the extent that world market prices of majoragricultural commodities remain relatively high (as they have been inthe immediate aftermath of the URAA), a faster pace of reform mightbe feasible, at least potentially, than if prices were to become seriouslydepressed due to either dis-equilibrium in agricultural markets or,perhaps, to a global economic depression. Indeed under very unfavourable conditions it might be difficult to reach an internal politicalconsensus on a weak form of Option 3. Internally, the overhang of theBSE crisis has created urgent problems in the beef sector and theresolution of these problems is leading to delay in the drafting andintroduction of the reforms envisaged in the Strategy Paper. Longterm measures to deal with the over-supply in the beef sector areunlikely to be introduced until mid-1998; in addition, decisions haveto be made about the means for funding the storage and disposal ofthesurplus in the 1998 budget year (funding for 1997 was found bydelaying oilseeds compensatory payments until 1998). Furthermore,the Union cannot rely on subsidised exports to dispose of the surplusbecause of its commitments under the URAA so reaching agreementon a beef package may prove difficult.

Another urgent priority that the Commission has to address isimbalance in the dairy sector where production exceeds consumptionby some 25 per cent and world prices are well below EU support prices(world prices around two-thirds of EU prices). The Commission willpresent a green paper on options for changes in the dairy regime in1997; one option is likely to comprise a reduction in price, the introduction of some form of compensation payments within the quotasystem and the introduction of a quota margin whereby producerswould be allowed to exceed their quota but the excess would not begranted price support. Whilst proposals for more radical long-termreforms of the beef and dairy sectors are likely to be in the spirit of theStrategy Paper, it is clear that the Commission regards these interimreforms as priorities in the short term; a resolution of market imbalances in these sectors has to be achieved before enlargement negotiations can begin and before the EU enters serious negotiations in theWTOround.

Finally, the 15 member states are to renegotiate the ceiling for theEU budget in 1999, the ceiling to be in force for the following six years.In view of the drive towards European Monetary Union, it appears

Postscript 195

likely that the EU finance ministers will emphasise the need forbudgetary restraint. With core CAP spending currently accountingfor nearly 50 per cent of the budget, it seems likely that this sharewill be squeezed so that less money will be available for farm price andincome support.

10.4 CONCLUSION

The 1992 (MacSharry) reform represented a major turning point in theCAP. It was long overdue in the eyes of many economists but wasnevertheless timely in that it permitted the EU to conclude a GAITdeal on agriculture and, thereby, reach an overall agreement in theUruguay Round. One outcome of the URAA was that it laid downnew conditions for agricultural policies and trade of the participatingmembers; of particular importance for the EU were constraintsimposed on subsidised exports and the opening up of EU markets toimports. The 1992 reform began the process of decoupling incomesupport from market support by reducing support prices and compensating producers via direct payments. However, the reform was onlypartial in two senses: first, it applied to only some 50 per cent of totalEU agricultural output and, second, payments to farmers were notcompletely decoupled from production. In 1995, in the face of theprospect of enlargement of the Union to the East, the Commissionissued a 'Strategy Paper' which outlined three options for the futuredirection of the CAP. The alternatives proposed ranged from theconservative to the radical with the Commission favouring the middleground option of development of the 1992 reform . The analysis of thepaper highlighted that further adjustment of the CAP was required inorder to meet new realities in addition to prospective enlargement. Assuch, it has set a context for a wide-ranging debate on the futuredirection of the CAP. A number of issues that figure prominently inth is debate have been highlighted in previous chapters in this book .These include:

(1) Enlargement

Major concerns are the budgetary cost of the CAP and the ability ofthe enlarged Union to meet its URAA commitments. The EU has aspecific problem in respect of the magnitude of compensationpayments.


(2) wro Round

Major issues are future commitments on subsidised exports and importaccess and the possible derogation of the 'blue box ' . The EU may befaced with reducing prices to world levels or putting a further brake onproduction.

(3) The Challenge of theFAIR Act andTransatlantic Relations

The major issues concern the implications for the EU of the impact ofFAIR on world markets and on the future negotiations in the WTORound. In terms of transatlantic relations there is pressure on the EUto move quickly and further in the direction of removing export subsidies. 'High' world prices will assist policy reform in the EU and acontinuation of FAIR Act in the US, once current legislation expires .Agricultural policy reform and trade relations between the EU and theUS will also be affected by movements in the ECU/dollar exchangerate. Exchange rate movements favouring the EU (a strengthening ofthe dollar against the ECD) are akin to rising world prices for the EUand vice-versa should the exchange rate weaken. However, in thiscontext, beneficial exchange rate movements for the EU representdetrimental movements for the US. Consequently, although ceterisparibus, rising world commodity prices will tend to hasten and lowerthe cost of further agricultural policy reform on both sides of theAtlantic, exchange rate movements must continue as a potential sourceof disharmony in transatlantic trade relations.

(4) Assessing the Impacts of Policy Reform

Modelling of prospective CAP reforms is required in order to assessthe impacts of measures that might be (are) adopted on policy andmarket variables. Such modelling gives insights into the effectiveness ofand trade-offs associated with reform and informs decision-makersabout interactions between policy instruments and markets.

(5) Member State Contributions and Cohesion

Major issues could arise in the context of the separation of incomesupport from the market policy of the CAP. The responsibility forcompetition policy and trade in farm products in the internal marketand for external trade policy would remain with the EU. However,

Postscript 197

responsibility for direct payments, possibly linked to social and environmental targets, might be shifted to national governments by the(Maastricht) principle of subsidiarity and lead to disparities in payment levels. Even if direct payments remained an EU responsibility ,there could be significant changes required in member state contributions and this could be an important constraint on policy change

(6) Environment

Environmental issues have emerged as important agricultural policyconcerns in the last decade. Some important elements are preservationof countryside amenity, preventing loss of biodiversity, curbing pollution costs associated with farm inputs and ensuring a safe and wholesome food supply. Agricultural policy-makers are grappling withdevising means to incorporate such concerns into the policy framework.

(7) Competition in the Food Industry

The completion of the Internal Market, technological developmentsand changes in consumption patterns and lifestyles have led to therestructuring of the European food industry such that both foodprocessing and retailing are highly concentrated sectors in the higherincome EU member states. In addition, the food industry is becomingmore 'European' in nature. As a result, farmers play an increasing roleas the supplier of raw materials to the food industry on conditionsstipulated by the demands of the later stages of the food chain in asituation of European-wide competition. At least three issues might beraised in this connection: first, the potential benefits to the foodindustry of reducing price support and liberalising trade in farm products so that the food industry can realise its export potential; second,the role of competition policy in ensuring that the benefits of reductions in EU farm prices reach consumers; and, third, the role ofstructural components of agricultural policy in assisting producers totailor production to the requirements of food processors and retailers.To these issues, we add one other that is scarcely discussed elsewhere inthis book.

(8) Future of Supply Control

Until recently the US federal government was a leading exponentof attempting to fine-tune crop production by means of set-aside.


However, under the most recent farm legislation, the FAIR Act of1996, the US government has divested itself of that power. AlthoughUS farm programme participants are entitled to receive fixed compensation payments based upon their historic production record they areno longer required to withhold land from production, except for landenrolled in the Conservation Reserve Programme. Moreover, USfarmers now have virtually complete freedom of cropping, except forfruit and vegetables and soil conservation restrictions . In contrast tothis development in the USA, one effect ofthe 1992reform of the CAPwas to virtually compel EU farmers to participate in set-aside, with theexception of very small-scale producers. Moreover, EU farmers continue to be restricted in their freedom of cropping not only by theAAPS but also by the operation of the 1992 GAIT Oilseeds Agreement and the quota restrictions implicit in the EU Sugar and DairyRegulations.

The attraction of supply control to governments making agriculturalpolicy is that the political cost of attempting to curb production in thisway is likely to be smaller than that of the alternative of lowering oreven removing price support. However, supply control is bought at ahigh economic cost. Economic objections to the use of agriculturalsupply control as a policy instrument are too well known to requiredetailed rehearsal here. It makes no economic sense to restrict the useof what is generally agriculture'S most plentiful resource except, possibly, for environmental reasons. Environmental concerns are, of course,strictly in the province of environmental policy which should be keptquite distinct from agricultural production and price policy. However,it is difficult to visualise the USA, in the next round of WTO negotiations on agricultural policy and trade, pressing the EU to follow itsexample by abandoning set-aside or other supply control instruments.It would appear to be consonant with the US pursuit of its own selfinterest to encourage the EU and other trading competitors to limittheir production, thus leaving a larger market for US exports , all otherthings being equal . It follows that if further reform of the CAP is toentail the phasing out of set-aside and other supply control instruments, pressure to do so is more likely to be internal than external. Aquite likely source of such internal pressure is the budget. It is difficultto visualise the continuation of set-aside without compensation,although not necessarily tied directly to the area actually set-aside, asat present. And all forms of compensation impose a drain on thebudget. Thus, particularly if CAP support prices and world priceswere to approach convergence, and the spectre of having to fund the

Postscript 199

consequences of a large surge in production receded, the Council ofAgriculture Ministers, advised by the Commission, might take theircourage in both hands and decide to risk giving up set-aside andpossibly other supply control instruments as well. In doing so theymight comfort themselves with the knowledge that if the 'experiment'failed to work they could possibly backtrack (as US legislators havedone vis-a-vis what happens after the FAIR Act expires in 2002).Whether the USA or other agricultural trade competitors might raiseobjections in the WTO to such a liberal move by the EU, or whetherthey would rely on their supposed comparative advantage to protecttheir market share, is an interesting subject for speculation.

For the EU to abandon set-aside and other forms of supply controlwould be tantamount to embracing Option 2 of the 1995 StrategyPaper which the Commission itself rejected as being 'too radical'. Butpolicy conditions change and Option 2 could be re-eonsidered at aquite early date. All the Commission's social and environmental objections to Option 2 could probably be met by appropriate social andenvironmental policies, the costs of which ought to fall, not on theCAP budget, but on other more appropriate sections of the EU's totalbudget covering regional, social and environmental objectives.

Taken as a whole, the issues listed from (1) to (8) above set a wideranging and challenging research agenda for agricultural economists aswell as illustrating the scale and complexity of the policy issues to beresolved in the process of further CAP reform.

Notes and References

1 INTRODUCTION AND OVERVIEW

l. Derived from actual regional yields during the five-year period 1986/7to 1990/1,with the highest and lowest yields omitted.

2 AN EX-POST REVIEW OF THE 1992 MACSHARRYREFORM

l. For a history of the CAP until the early 1980s, see M. Tracy (1982)andA. Feame (1991). For a brief account of attempts at reforming theCAP until 1988, and a detailed analysis of the 1984 and 1988 reform,see H. W. Moyer and T. E. Josling (1990).

2. EU Commission (1995).3. To some extent I have done that in an earlier paper, S. Tangermann

(1992). For proposals on how to improve on the MacSharry reform,see T.E. Josling and S. Tangermann (1995).

4. See, for example, Figure 16.7 in L. Hubbard and C. Ritson (1991),which nicely illustrates how support prices were raised when FEOGAexpenditure was low, and how support prices were cut when FEOGAexpenditure increased more rapidly.

5. M. Petit, M. de Benedictis, D. Britton, M. de Groot, W. Henrichsmeyerand F. Lechi (1987).

6. This was the document on The Development and Future of the CommonAgricultural Policy. Follow-up to the Reflections Paper - Proposals ofthe Commission. EC (1991), Document COM(91) 258 final, Brussels, 11July.

7. This earlier paper had the title The Development and Future ofthe CAP.Reflections Paper of the Commission. EC (1991), Document COM(91)100 final, Brussels, 1 February.

8. The other aspect was modulation.9. For a more detailed account of the OECD work on the Ministerial

Trade Mandate, see Chapter 6 of T. E. Josling, S. Tangermann andT. K. Warley (1996).

10. For an account and analysis of the Uruguay Round negotiations onagriculture, see Chapter 7 of Josling, Tangermann and Warley (1996).A few passages in the following paragraphs are from that chapter.

11. GATT (1990a), European Community Offer in Agriculture, Geneva,November.

12. GATT (1990b), Elements of a Draft Agreement on the AgriculturalReform Programme (the Hellstrom Draft). The Draft suggested abase period of 1990 (1988-90 average in the case of export quantities),as opposed to the EC suggestion of 1986. This would have considerably

200

Notes and References 201

increased the depth of the cuts in support. In 1986 support was highbecause of low world prices. By 1990 world prices had recovered andsupport was consequently at a lower level.

13. S. Tangermann and T. Josling (1994).14. Cereals are here defined, in line with the grouping the EC had chosen

for its offer of November 1990, to include common wheat , durumwheat, barley, maize, oats, rye, sorghum and rice.

15. For the years 1996 to 2000, it has been assumed that EU cerealsproduction will grow at an annual rate of 2 per cent.

16. With current high world market prices the EU collects a tax on, ratherthan subsidising, exports of wheat and barley . But even with lowerworld market prices, which would require export subsidies, there wouldnot be a problem at this time.

17. The new commitments for the (enlarged) EU -15 as given here are, at thetime of writing, still under consideration in the WTO.

18. F. Uhlmann (1996).19. EU Commission (1995).20. Unfortunately the Agricultural Strategy Paper just has numbers for the

aggregate ofcereals, so that wheat and coarse grains cannot be assessedseparately.

21. See, for example, E. Buchholz et al. (1994) and T. Josling andS. Tangermann (1992).

22. Prior to 1993, only 50 per cent of expenditure on (the old form of) setaside was budgeted in the guarantee section of FEOGA, the remainderbeing budgeted in the guidance section . Set-aside payments cannot beallocated to individual crops because there is just one joint aggregatearea set-aside , and hence only one line-item for set-aside in the budget.Expenditure on set-aside has been shown together with expenditure oncereals here because it is one of the items directly following from theMacSharry reform. Expenditure on oilseeds is not discussed here onthe assumption that the MacSharry reform did not significantly affectthe level of that expenditure, but only its form.

23. As the EU budget year runs from 16 October to 15 October, the firstMacSharry payments, which were made in the autumn of 1993, tum uponly in the 1994 budget.

24. Uhlmann (1996).25. The provision that this write-offhas to be included in the budget for the

year in which quantities are bought into intervention was, quite rightly,adopted in order to avoid a shifting of the budget burden among years.Earlier this was possible when the EU budgeted only for the actualstorage cost. By delaying actual exportation, and hence export subsidies, until a later year, budget expenditure could be shifted into thefuture.

26. The precursor to this official document, the internal Commissionpaper of 6 December 1990, even spoke of budget neutrality of thereform.

202 Notes and References

3 AGRICULTURAL POLICY REFORM IN THE USA ANDTHE EU: A COMPARISON OF CAP REFORM AND THE 1996US FARM BILL

1. See, for instance, H. Wayne Moyer and Tim Josling (1990).2. A much more sweeping reform from the Reagan Administration, to

phase out all price supports, was announced 'dead on arrival' at Congress, who were not prepared for such drastic measures. The proposalresurfaced in the early stages of the Uruguay Round in the context ofmultilateral removal of trade distorting policies in the first US positionpaper of July 1987.

3. The budget 'cuts' are reductions from the Congressional Budget Office'Baseline' estimate as to what would be spent under current programmes. The relevant baseline calculation was that completed inFebruary 1995.

4. Senator Lugar was at that time a candidate for the Republican Partynomination for President.

5. Based on normal yield the payments can be expressed (for comparison)as if they were deficiency payments. The USDA calculation of thebenefits for the four major crops are: S34/ton (92¢1bu) for wheat; 8¢1bale cotton (upland); SIO/ton (26¢1bu) for maize; and S2.78/cwt forrice.

4 IMPLICATIONS OF THE EU EAST ENLARGEMENT FORTHE CAP

1. These countries are: Bulgaria, the Czech Republic, Estonia, Hungary,Latvia, Lithuania, Poland, Romania, the Slovak Republic and Slovenia.

2. Poland, the Slovak Republic, the Czech Republic and Hungary firstbuilt the Central European Free Trade Agreement (CEFTA) on interregional co-operation. Thus these countries are often referred to as theCEFTA countries . Slovenia has since joined CEFTA and in this chapter CEFTA comprises the original members and Slovenia.

3. The difference between the relative agricultural resource endowmentand the relative agricultural production volume is due mainly to adifference in productivity . The reason for the divergence between therelative value and the relative volume of agricultural production is themuch higher agricultural prices in the EU compared to the CEECs.

4. Producer prices in these countries lie not only below EU prices butquite frequently below relevant world prices. This does not necessarilymean that agriculture is discriminated against by state interventionsince inefficiencies in the food and marketing industries can result ina doubling of the internal prices on the way to the border.

5. There is some evidence that factor prices, especially wages, will notadjust to the same extent as commodity prices.


6. This result is partly due to the relatively low rapeseed yields in the EUin 1994.

7. This result is contrary to that obtained by Dicke (1995) who foundrelative labour productivity in Poland to be higher than in Germanywhich was used as a proxy for Western Europe as a whole. However,Dicke's results are based on 1987data which probably explains why hisresults conflict with those of this study.

8. In the Uruguay Round, the CEECs were allowed to offer ceiling bindings essentially unrelated to base period conditions . Most CEECsbound their tariffs at very high levels compared to previous actualtariff rates and Poland, for example, set its bounds for many agricultural products at the same levels as the EU (OECD, 1995b). Nevertheless, in some CEECs problems will arise with respect to the tariffrates once these countries enter the EU.

9. There is an additional problem with respect to the Czech and SlovakRepublics. In the schedules of both countries there is no market support element in the base period AMS which consists of direct paymentsand other forms of support only. Thus it is not clear how the AMSresulting from market support will be calculated in the future (Tangermann, 1995, Appendix II, p. 4).

10. See Tangermann and Josling (1994b), LEI (1995) and the studies citedin Buckwell et al. (1994, p. 57) and in Tarditi et al. (1994, p. 38).

11. However, most studies refer to the four Visegrad countries: Poland,Hungary, the Czech Republic and the Slovak Republic.

12. The agricultural guideline was fixed at ECU 27500 million for 1988,with an annual growth rate not exceeding 74 per cent of the annualgrowth rate of nominal EU GOP. In addition, a monetary reserve wasinstituted covering the impact on agricultural budget expenditure ofsignificant and extreme unforeseen movements in the dollarlECU parity.

13. The key variables are: growth rate ofEU GOP, development of marketprices, ECU/$ exchange rate.

14. The EU structural funds aim to encourage greater economic and socialcohesion among the member states. Cohesion is generally understoodas convergence of per capita income levels (Baldwin, 1994, p. 163).

15. The strategy paper for agriculture of the EU Commission hints at thisdirection.

6 CAP REFORM AND IMPLICATIONS FOR MEMBERSTATES: BUDGET AND TRADE EFFECTS

1. Non-agricultural own-resources consist of customs duties (currentlynearly 20 per cent of total own-resources), a VAT-based contribution(about 50 per cent) and a GNP-based contribution (nearly 30 per cent).

2. This simplifies from reality by assuming a single internal supportprice. In practice, monetary compensatory amounts (MCAs) meantthat prices within the EU, when denominated in national currencies,


differed markedly between countries (as converted at market exchangerates).

3. Assume, in terms of the notation in Table 6.1, that (z) is 'small' so thatC ~ (k + h + g + a + x + v) i.e, C ~ sum of compensation payments.Let the importer share of compensation payments be denoted by a , sothat the BE for the importer is ~ (a - O)C and the exporter shareis ~ (0 - a)C. If a < 0 then the importer (exporter) has a negative(positive) BE.

4. These are frequently known as the MacSharry reforms, after the agricultural Commissioner from Ireland - Ray MacSharry - who instigated the reform process. Some prefer to refer to them as the Cunhareforms, after the Portuguese Council President whose revised proposals led to the final agreement in May 1992.

5. The average of the yields for 1986 to 1990, excluding the highest andlowest.

6. Such simplifications are not without objection. For example, productivity gains suggest rising yields of about 2 per cent a year. This analysisfocuses on the static impact of the reforms and shows that set-aside isnot neutral across countries with respect to the PTE or BE. Objectionscould also be raised if 1992 was not 'normal' in terms of the levelof production. There is no a priori reason to believe it was abnormalin terms of climatic conditions , market price levels or levels of production.

7. A scenario where this preference was reversed produced the result thatonly four countries exported to third countries and most intra-EUimports came from France and Germany . Further details can befound in Ackrill et al., 1995.

8. The savings on traditional expenditures such as intervention andrefunds are likely to be outweighed by new expenditures on compensation, with a rise in total budget costs. This is particularly so for cereals.To the extent that this represents a shift in the burden of support fromconsumers to taxpayers, this rise is to be expected. See, e.g., Ackrill etaI., 1993, and Tangermann in this volume for more details.

9. In 1992,total sales into intervention were 852000 tonnes, over a quarteroccurring in Ireland .

10. Farmers in strong currency countries have been promised that theirpayments will be maintained in national currency terms until 1999.

11. A reduction in intervention prices with a pro rata increase in compensation payments would have largely neutral redistributive effects amongthe member countries , similar to what has been observed earlier in thechapter for the MacSharry reforms. However, this appears to be ruledout by the terms of the Uruguay Round agreement.

7 THECAPANDTHEE~RONMENT

1. The Countryside Commission, Countryside Council for Wales, Department of the Environment, Scottish Natural Heritage. I am grateful to


the Project Officer, Alastair Rutherford of the Countryside Commission, for his support and encouragement and for allowing me to useinformation from the project desk studies in this paper. I am alsograteful to my colleagues on the CAP and the Countryside project ,particularly for assistance in the preparation of the desk studies fromPeter Gaskell , Elizabeth Orme, Christopher Short, Amanda Stone andHilary Winter. However, this paper does not necessarily reflect theviews of any of the sponsors or my colleagues and I alone am responsible for its contents and the views expressed.

2. I am currently seeking to relate this macro approach to farm levelprocesses in work which should be available for publication in 1997.

3. For full details of the reform measures see Neville and Mordaunt, 1993;Winter et al., 1995.

4. The main schemes submitted by the UK for inclusion in the agrienvironmental package, outlined in a series of consultation paperscirculated in spring 1993, were as follows: new Nitrate SensitiveAreas; set-aside management proposals (for rotational and non-rotational set-aside); a meadowland scheme to provide new opportunitiesfor public access on non-rotational set-aside land (later renamed theCountryside Access Scheme); a Habitat Improvement Scheme (laterthe Habitat Scheme); additional Environmentally Sensitive Areas (sixin England, two in Wales, none in Scotland); a scheme for new publicaccess in ESAs; proposals to assist organic farming (Organic AidScheme); and a Moorland Scheme. Countryside Stewardship and TirCymen were later additions to the UK package of additional measures.In the light of changes to the set-aside rules, the Farm WoodlandPremium Scheme is now also often considered an agri-environmentscheme. Participation in all these schemes is voluntary. The total spendadds up to little more than 2-3 per cent of total agricultural supportspending , although it is expected to rise to 4.9 per cent in 1997/98.

5. In both the simplified and main schemes, claims are restricted to eligibleland which was under crops or short-rotation leys on 31 December1991.

6. The quotas are specific to farms and are based on the number ofanimals on the holding that received premium in the 1992 schemeyear, subject to a 3 per cent reduction to create a National Reserve toallow quota to be redistributed.

7. However, now that demand is stronger again, fertiliser prices look set torise. ICI predicted prices of£145 per tonne by spring 1996, a 26 per centincrease over the price in July 1995 (Financial Times, 17 October 1995).

8. The tradition of aiming for the Easter market (which was reinforced bythe system of variable premium payments on lambs prior to the 1992reform) is being replaced by a stronger demand from retailers in Britainand France for fat lambs between July and December .

9. The figures are approximate because the calculations are based onmatching the data on different types of set-aside supplied to me bythe Ministry derived from lACS information with the data for totalarable and agricultural areas from the June census. The totals for setaside from the two data-sets do not tally. The lACS figure of nearly


519000 hectares compares to a June census figure of 545000 hectares.The lACS figure is the most accurate one and much of the discrepancyis probably due to a rounding up of figures by farmers when completing June returns. June census data for total arable and agriculturalareas has to be used as lACS-derived data (not readily available in anycase) excludes land not covered by lACS. The source for June censusresults is MAFF Stats Press Release 250/95, 20 December 1995.

10. The total agricultural area adds to the total arable and grass area,rough grazing (common and sole right), woodland, and all other landon agricultural holdings.

II. This is in line with the Agriculture Commissioner's written answer to aquestion by John Corrie (MEP) on the legality of attaching compulsoryenvironmental conditions to the AAPS. In pointing out that conditionscan only legally be attached to set-aside payments Fischler reasons that'the thinking behind this legal position is that the reduction in thecereal price following the CAP reform, compensated by per hectareaid, should itself secure environmental advantage in encouraging lessintensive production. .. .The compensation was designed to offset theprice reduction . It would reduce the value of the compensation ifproducers were subject to additional environmental requirements'(Official Journal of the European Communities, 6 December 1995).

12. On the background to ESAs see Baldock et aI., 1990. On the successesand failings of the schemes see Whitby, 1994. For a further recentconcerns see Gaskell and Tanner, 1996.

13. Environmental features cover walls, hedges, banks, farm buildings, historic and archaeological features, lakes, ponds, watercourses, speciesrich meadows, pastures , wetlands, woodland, field and hedgerow trees.

14. In Scotland the scheme is explicitly confined to regeneration of heathermoorland. In England and in Wales it extends to heather and grassmoorland.

8 THE REFORM OF THE CAP AND ITS IMPACT ONCONSUMERS

1. Recent exceptions include Suzuki, Lenz and Forker (1993)and GiraudHeraud, Le Mouel and Requillart (1995).

2. Holloway (1991) introduces imperfect competition into the Gardnertype models. This approach has similarities though, in terms of modelling market structure characteristics, but is much more restrictive thanthe recent work by McCorriston and Sheldon (1996) discussed below.

3. In oligopolistic markets , when domestic and foreign firms compete inthe same market, governments may also use policy instruments strategically to influence the distribution of rents in favour of the domesticindustry. This strategic policy issue is not addressed in this chapter.

4. McCorriston and Sheldon (forthcoming) present an overview of theliterature on vertical restraints and the cases investigated by the US andUK competition authorities with reference to the food sector.


5. Interestingly, Shaffer (1991) notes that the number of new food products available in the US increased from 2600 per year in 1978to 10200per year in 1987.

6. See Perloff (1992) for an overview of the NEIO approach to agricultureand food markets .

7. Other sub-disciplines of economics have also recently focused on thepass-through issue in imperfectly competitive markets. For example,public economists have been interested in tax incidence (the extent towhich fmal prices change following the introduction of a tax) whileinternational economists have recently focused on how domestic priceschange following changes in exchange rates.

8. This discussion of a single-stage oligopoly follows Myles (1995).9. See Seade (1985).

10. See, for example, Lamm and Wescott (1981), Kinnucan and Forker(1987) and Palaskas (1995).

11. McCorriston and Sheldon (1996) explore this more formally.12. The pro-competitive effect of vertical integration will be likely to

depend on the functional form of the demand curve. In the discussionhere, linear demand was assumed.

13. See McCorriston and Sheldon (1996) for further details.

9 THE CAP AND THE WTO AFfER THE URUGUAY ROUNDAGRICULTURE AGREEMENT

1. The author is grateful for comments from a number of colleagues,especially Professor Alan Swinbank, but remains responsible for allerrors, obscurities and omissions.

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Author Index

ABARE 187Ackrill, R. W. 122, 123ADAS 150Agra Europe 70, 179, 180, 182, 186,

192Allanson, P. 121Alston, J. M. 158Altmann, F. L. 208Anderson, K . 158AndrefT, W. 208Ardy, B. 208-9Asby, C. 140

Baldock, D. 152-3Baldwin, R . E. 73Barr, C. 154Bartholdy, K . 210, 216Benedictus, M. de 215Berkum, S. Van 209BMELF 209Bofinger, P. 73Brewin, C. 209Britton, D. 215Brown, C. 209Buchholz, E. 209Buckland, M. 150Buckwell, A. E. 157Bureau of Agricultural

Economics 157Burns, J. 209

Cahill, S. 95, 97-8Cambridge Economic Policy

Group 210CARD 77Clarke, J. 143Cloos, J. 181Club de Bruxelles 184Clunies Ross, T. 44Commission of the European

Union 2, 11, 15, 137,138,189

Connor, J. M. 166Cox, G. 209

Davidova, S. 209Davidson, G. 140Demekas, D . G. 210, 216Devadoss, S. D. 77Dicke, H. 67Dixit , P. 158, 167

Elsdon, J. 214European Court of Auditors 151European Environment Agency 137EUROSTAT 211EU Committee of the Regions 138Ewing, R. 95, 97-8

Farmer's Weekly 143, 148, 151Farmland Market 142Fearne, A. 211Financial Times, 211Fischler, F . 186Forker, O. D. 213,216Frank, S. 165Fraser, R. W. 147Froud, J. 147Fuller, R. J. 154

Gardner, B. L. 158Gaskell, P. 212GATT 212General Secretariat of the Council of

the European Union 133Gibbons, D. W. 154Giraud-Heraud, E. 212Greenaway, D. 176Gregory, R. D. 154Groot, M. de 215Grundmeier, E. 211Gundelach 14Gupta, S. 210, 216Guyomard, H. 96, 97, 98

Hart, C. E. 97Hartmann, M. IIHarvey, D. 136, 157Hayes, D. J. 96,97,98

218

Author Index 219

Haynes, J. 209Helmar, M. D. 96, 97, 98Henderson, D. 165Henrichsmeyer, W. 96,98Henson, S. 209Hertel, T. W. 158Hewitt, J. 187Hibberd, B. 213Hine, R. C. 176, 177Holloway, G. J . 213

Ingersent, K. A. 3, 176, 177International Sugar

Organisation 213

Johnson, S. R. 211Josling, T. E. 11, 15,95, 97, 98, 193

Kinnucan, H. W. 213Koester, U. 213Kol, J. 157Kuijpers, B. 157Kwiecinski, A. 209

Lamm, R. M. 213Lardinois 13-4Larsen, A. 213Lechi, F. 215Lenz , J. E. 216Lipschitz, L. 210, 216Lobley, M. 132, 142Lorrain-Smith, R. 149-50Lowe, P. 209

McAllister, R. 209McCorriston, S. 168,170,171 ,172MacSharry, R. 12-13MAFF 151, 184Mahe, L. P. 96,97,98Mansholt, S. 13Marion, B. W. 210Marsden, T. 142Marsh, J. 216Matthews, A. 71Mayer, T. 210,216Meyer , W. H. 96,97,98Mildon, R. 180Milk Marketing Board 214Mitchell, K. 152-3

Monopolies and MergersCommission 164

Morduant, F. 215Morgan, C. W. 161Morris, C. 144Mouel , C. Ie 212Moyer, H. W. 15Mueller , W. F. 210Munk, K. J. 186Munton, R. 142Myles, G. 214

National Consumer Council 157National Sheep Association 142,

151Neville, W. 215

OECD 19,70,157,158,178Orden, D. 215Orme, E. 217

Paarlberg, R. 215Palaskas, T. B. 215Parsons, S. T. 215Parton, K. A. 209Petit , M. 15Pilzecker, A. 128Potter, C. 132, 142Prelim, J. M. 215Project LINK 79

Ramsden, S. J. 147-8Rayner, A. J. 127, 176, 177Requillart, V. 212Roberts, D. 147Roe , T. 96,97,98Rogers, R. T. 210Rollo , J. 71Roningen, V. O. 94,97,98, 158Rosenblatt, J. 216

Seade, J, 216Senior-Nello, S. 216Shackleton, M. 216Shaffer, G. 165Sheldon, I. M. 168,171 ,172Short, C. 217Skold, K. 211Stahl , G. 216

220 Author Index

Strak, J. 161Strasser, D. 216Sutton, J. 216Suzuki, N. 216Swinbank, A. 104

Tangermann, S. 11 , 74,95,97,98,128, 179, 193

Tanner, M. 212Terluin, I. 209Thomson, K . J. 11, 157, 187Tracy, M. 217Turner, S. 144Tyers, R. 158

Uhlmann, F . 217

Vipond, J. 142

Warley , T. K. 193Weber, G. 212Webber, C. 95, 96, 97-8WEFA group 79Westcott, P. C. 213Westhoff, P. C. 211Whitby, M. 217Williams, A. J. 140Winter, M. 142Wolter, F. 186

Subject Index

Aart de Zeeuw 19aggregate measure of support

(AMS) 20, 21, 26-7 , 50, 70,176-8, 184, 187

Agricultural Strategy Paper 12, 28,181-3, 189-93, 195

Blair House 21,25,97,99,176,179,181

Blair House II 25,26, 177, 181blue box 11,26,35,50, 178, 185, 196BSE ISS, 188, 19~

Cairns group 3, 19,20,23Canada 51,80CAP

beef sector 5, 29, 30, 83--4, 134,192--4

and budgetary costs of IS, 17, 32,70, 104 et seq.

cereals sector 4, 21, 26-34, 133and consumers 156 et seq.dairy sector 5, 35, 192, 194and environment 16, 19, 132 et

seq., 186, 189, 191-3, 197-9fraud 151, 189oilseeds 25post-MacSharry reform of II, 34,

50-I , 74, 182, 189 et seq.and simplification 182-3,189 ,191sugar sector 5-6,35, 182, 192

CAP pressures for reform 6-11,13-18,24-5,29

budgetary 1,6, 14-18,33farm income 16-19trade/GAIT 3-6, 16, 19-25,

34,46CARD FAPRI model 96CEFfA 56Commissioner Lardinois'

'Improvement Paper' 13-14Commissioner Lardinois'

'Stockholding Paper' 14Community preference 8, 17, 133

compensatory payments 4,26-7,32, 74, 81-2, 87, lOS, 123, 129,133, 181 , 186, 190, 192

Conservation ReserveProgramme 43,44, 198

co-responsability levy 14,31 , 81,92

dairy export incentiveprogramme 43

decoupled payments 41,48,81 ,176,186, 191 , 195

deficiency payments 38,41 ,44direct income support 4-5, 16,

17-19, 191direct payments 25, 131 , 138, 197Dunkeldraft 23-5 ,176,181Dunkel proposals 97

EMU 175, 183, 187, 194English Nature 153ESAs 144, 153EU Agriculture Commissioner

Fischler 34, 137, 192EU Council of Agriculture

Ministers 3,22, 34, 36, 37, lOS,181 , 186, 199

EU enlargement 6, 7, 10-12,28,35,47,54 et seq., 128, 130, 181 , 186,190, 192

and budgetary costs of 54, 68, 70et seq.

and estimates of the costs of 70-3and CAP 54,58 et seq.and GAIT 10, 54, 69-70, 73--4,

184-5, 188EUROP 59Europe Agreements 54, 179, 184-5European Parliament 183export enhancement programme

(EEP) 80export subsidies 1,2,20,21,25,28,

32,34,44,46,51 , 70, 79, lOS,129, 177, 184, 189, 193, 195

extensification of production 137-8

221

222 Subject Index

FAIR Act 37 et seq., 196, 198-9farmland birds 144, 147financial solidarity 17, 133food processing industry 59-60,74,

156, 160 et seq., 197food security 68

CJA~ 3,19,21-4,25,27,33-4,43,44,69-70, 74, 80, 103, 133, 156,158, 195

Gundelach's 'The futuredevelopment' 14

Gundelach's 'Reflections' paper 14

HLCAs 151-2

Japan 3,80

MacSharry's Reflection Paper 15,17-18,24

MacSharry reformsassessment of 9-10,25 et seq.,

46-51,budgetary impact of 4,8-9, 17

18,29-33, 104 et seq.modelling the effects of 76 et seq.,

104 et seq.objectives of 16-17and trade effects of 26 et seq., 105

et seq., 178 et seq.and UR negotiations 19 et seq.,

175 et seq.Mansholt plan 2, 13market access 26, 176, 180minimum access 179-80modulation of income support

17,24

NAFTA 80non-food industrial crops 145-6'novel' foods 186

DECD Ministerial TradeMandate 19

'peace' clause 177PHARE 74price transmission analysis 10, 156

et seq.

production quotas 5,42,74, 184-5,194, 197-9

and dairy 2, 5, 14, 52, 184-5,198

and sugar 5,52, 182, 184-5,198

PSE 60,178

rural policy 182-3, 189-91

sanitary and phytosanitarybarriers 177, 186

set-aside 3-5,7, 17,21 ,26,30-1,33-4,44-5,68, 74, 81-2,84-5, 87-8, 92, 98, 105,120-1, 129-30, 133-4,144 et seq.,176, 188, 192-3, 198

and birds 144and forestry 149-50

stabilisers 12, 14, 14, 81-2, 85, 104supply control 5, 7, 10, 22, 35, 185,

188, 191, 197-8SMU 20-1SSSI 153

tariffication 20, 33, 176, 179, 181,183

tariff rate quotas 20, 180, 183, 184Treaty of Rome 11, 39

United States 3,6-7, 11, 19,20,23,36 et seq., 79, 128, 176-7, 180-1,186,198-9

Uruguay Round 3, 19,20-2,25,33-4,50,69-70,103,129, 156, 175 et seq.,193

Uruguay Round Agreement onAgriculture (URAA)6,10,26-8,32,69-70,73,78,175 et seq., 189-90,194-5

and the EC's November 1990offer on agriculture 20-1,27,34

and oilseeds 5, 177, 198

variable import levies 1,4, 105

Subject Index 223

wetlands 138WTO 26, 34, 45, 50, 175, 180,

199

WTO mini-round on agriculture(1999) 35, 50, 52, 74, 185, 1889, 192, 194, 196, 198

The Reform of the Common Agricultural Policy

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