Current Issues in Supply Managed Commodities

Bruno Larue Canada Research Chair in International Agri-food Trade

CREATE and Laval University

Growing Our Future Institute for the Advanced Study of Food and Agricultural Policy

Ottawa, April 5, 2012

Strong feelings toward Canada’s supply mgt programs

The best way to get a rise out of Canadian economists is to ask us about our dairy supply management system. It’s simply indefensible...

Stephen GordonU. LavalGlobe and Mail BlogPosted on Tuesday, November 15, 2011

Canada’s Dairy system is the best in the world and we are proud to be part of it.

Dairy Farmers of Canadahttp://www.yourmilk.ca/news/5/canada___s_dairy_system_is_the_best_in_the_world_and_we_are_proud_to_be_part_of_it_

Introduction

Canada’s supply management (SM) programs for dairy, eggs, chicken and turkey were developed in the 1970s to increase and stabilize farmers’ revenues and to mitigate interprovincial disputes.

Domestic production is constrained by production licenses/quotas while imports are constrained by tariff-rate-quotas (TRQs): a minimum level of imports (quota) is taxed at a low rate and all additional imports are taxed at a high over-quota rate.

Because of biological constraints, the supply of many agricultural commodities is not responsive to price changes in the short run. Low and high prices can persist over extended periods and various types of programs have been used to regulate supply (acreage set asides, « herd buyouts » programs, marketing quotas… and SM programs).

The CWB and the political equilibrium The CWB has lost its monopoly on Canadien wheat exports and

some commentators argued that SM programs are next to be axed;

Western wheat producers were divided over the CWB monopoly (60% liked it vs 40% did not);

Notwisthanding legal actions undertaken by some farmers, there is no farmers’ compensation associated with the termination of the CWB monopoly;

Compensation would be justified if SM programs were terminated;

Credible reform (no return) requires a quick and costly transition with compensation. Unlikely given the budgetary situation.

Regional trade agreements and the political equilibrium Early on in the Canada-EU bilateral negotiations regarding a

regional trade agreement, the EU seemed intent on forcing Canada to give up its SM programs.

The United States and New Zealand also seem intent on making Canada’s participation in the Trans-Pacific Partnership Agreement conditional on giving up SM programs.

Typically, regional agreements address in a limited way trade liberalization in agriculture. Fulponi, Shearer and Almeida (2011, p.2) argue that “traditionally sensitive sectors such as dairy, meat, sugar and cereals are still covered by numerous

exemptions and tariff rate quotas (TRQs).”

A window of opportunity for major SM reforms Canada is increasingly isolated in its defense of SM

programs at the WTO, but little is happening at the WTO.

Canada’s position would be easier if SM programs were to undergo substantial reforms (like the European Union did with its Common Agricultural Policy).

Traditionnal and new irritants must be addressed to appease

the international community.

Traditional critique #1: Multiple marginalisation

Multiple marginalisation is the successive taking of significant margins all along the supply chain.

The fact that SM programs have lasted this long signals that rent distribution has been done in a way to prevent processors-producers quarrels and disputes between provinces from threatening the foundation of the programs. The international coffee agreement of 1983, which was a SM-like program, did not last nearly as long.

Because SM programs are set to cover the average cost of production of most farmers, pressure to innovate and reduce costs is not as intense as in other sectors.

Differences across commodities: The OECD Producer Single Commodity Transfer estimate, defined as the value of specific transfers relative to the value of production, jumped from 2.83% to 16% for chicken between 2004 and 2011 and from 19% to 29% for eggs and from 49% to 60% for milk.

The farm price for milk in various countries (US$/cwt)

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Retail prices in the United States and Canada

In 2011, the simple average price for a gallon of milk converted on a 4-litre basis, assuming parity between the US and Canadian dollars, was $3.09, with a low in Dallas of $2.29 and a high in New Orleans of $3.85.

Statistics Canada data shows 2011 average retail prices of $4.45 for Regina and Windsor, $5.87 for Quebec City and $6.95 for Charlottetown.

Traditional critique #2Distorting consumer prices is a less efficient and progressive

way to redistribute wealth than an income tax;

SM programs put a relatively heavier burden on low-income households.

Traditional critique #3High quota prices make expansion and entry difficult,

…,

but quota value reflects profitability.

First generation SM farmers got quota for free.

Because cost of production plays such an important role in SM programs, it is essential for farms to produce at the lowest possible costs.

Average cost curves for ag products are L-shaped (Chavas, 2001).

Are farms producing at the lowest efficient scale or beyond?

New critique #1: Productivity, Scale and Efficiciency

Dairy : Average Cost decreases rapidly with farm size (Moshein and Lovell, 2009)

aOE = no technical or allocative inefficiency; TI = technical inefficiency and allocative efficiency; AI = technical efficiency and allocative inefficiency; OI =

technical and allocative inefficiency.

Note: Ho: diff = meani − meanj = 0.

Differences across herd sizes significant at single asterisk (∗) 10%, double asterisks (∗∗) 5%, and triple asterisks (∗∗∗) 1%.

Differences of AICOE and AICOI across models within a herd size are all significant at 1% level. All differences of AIC OI and MC are significant at 1%.

Herd size (% of sample cow inventory)

AIC(oe) AIC(ti) AIC(ai) AIC(oi) MC(oi)

Herd < 30 (1%) $30.61 $42.45 $59.53 $82.91 $31.78 30 ≤ Herd < 50 (3%) $20.73 $28.84 $39.66 $55.46 $22.58 50 ≤ Herd < 100 (11%) $15.10 $20.66 $27.60 $37.88 $18.01 100 ≤ Herd < 200 (16%) $10.78 $14.35 $18.58 $24.78 $13.88 200 ≤ Herd < 500 (18%) $9.00 $11.31 $14.56 $18.33 $12.35 500 ≤ Herd < 1,000 (19%) $7.15 $8.69 $10.91 $13.25 $10.11 1,000 ≤ Herd < 2,000 (16%) $6.81 $8.18 $10.14 $12.18 $9.72 2,000 ≥ Herd (17%) $7.13 $8.30 $10.00 $11.66 $10.12 Average $16.76 $19.82 $31.06 $42.72 $19.27

New critique #2: Expansion and quota auctions “New auctions” for quotas: eggs, turkey and chicken in

Quebec.

The purpose is to make markets for production quotas more competitive and more efficient (i.e., quotas should end up with lower cost producers who value them most).

Problem: thin markets, no interprovincial trading. In the first 8 eggs quota auctions, the volume traded varied

between 0 and 21000 units for an average of 7681 units. The average Quebec egg farm has around 35000 layers. Number of participants unavailable for last few auctions.

Price ceiling on dairy quotas in eastern Canada decreases volume traded.

Dairy quota price and quota volume traded in Quebec

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Volume traded Price

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New critique #3: Interprovincial chicken sales Interprovincial chicken sales between Quebec producers and

Ontario processors and between Ontario producers and Quebec processors were stopped.

This is a case of what Brander and Krugman (1983) would call « reciprocal dumping ».

Seemingly inefficient because of transport costs on out-of-province sales, but efficient because quantities « desired » by processors are larger than under no-reciprocal.

New Critique #4: Bounds on retail prices

Quebec and Nova Scotia have minimum retail prices;

Minimum prices are often used as collusion-deterrant instruments;

Collusion is sustained by credible threats/ability to punish cheaters by flooding the market and bringing down prices;

Collusion is not an issue under SM programs: nobody can flood the market;

New Critique #5: Trade liberalization path TRQs are peculiar instruments that can induce

perverse trade liberalization outcomes (Pouliot and Larue, 2012)

Tariff reductions or minimum access expansions?

Larue et al (2007) show that tariff reductions yielding the same domestic price as minimum access expansions entail larger production. This is good « welfare-wise » if the market share of domestic producers is « large enough» under free trade.

Sourcing costs differentials for price-equivalent tariffs and quotas when domestic production accounts for 25%, 50% (dark black), 55% (small dash) and 75% (long dash) of consumption under free trade.

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Conclusions Political equilibrium under attack from the outside, but solid

inside (farmers, processors, input and service suppliers and distributors are making money);

Time for a new contract: provincial barriers were not so bad in the 1970s when there were many more farms and processors than today. Interprovincial trade in commodities and quotas would allow best producers and processors to exploit competitive advantage.

Scale problem is huge in dairy. Average dairy herd has about 60 cows and MES is between 1000 and 2000 cows.

Price ceiling on quota values should go. TRQs should be replaced by tariffs. Insisting on a long list of

sensitive products is counterproductive.