turning farmers into foresters via market liberalisation

361

TURNING FARMERS INTO FORESTERS VIA MARKET LIBERALISATION

Tim Lloyd, Charles Watkins and Daniel Williams*

Reform of the Common Agricultural Policy and public concern over the environment have brought woodland into the public eye as an environment-friendly alternative land use in British agriculture. Survey evidence indicates that whilst it is the inadequacy of the returns f rom woodland that acts as the principal deterrent to planting, there are also a number of other factors that discourage woodland adoption. Of these, the perceived lack of flexibility that is associated with woodland figures highly. In part, loss of flexibility occurs due to the strength of controls such as felling licences and Tree Preservation Orders that restrict the conversion oif woodland back to agricultural land. This paper develops a simple comparative static model of the way in which such restrictions impact on the allocation and rice of

operation they may reduce as well as preserve the area o woodland,

makers may d o well to abolish felling restrictions on new woodland (possibly in conjunction with enhanced woodland incentives generally) if expansion of the wooded area is an explicit objective of future agricultural policy.

woodland vis-a-vis agricultural land. Where felling contro P s are in

and retard the efficacy of financial incentives. In this f ight, policy-

1. Introduction Throughout most of this century successive governments’ policy has been to increase the woodland area of Britain. Policies have included the afforestation of large areas by the Forestry Commission and the support of private afforestation through tax concessions and government grants. These policies have been successful in that the proportion of Britain that is woodland has doubled from around 5 per cent in 1900 to 10 per cent at present. Even so, Britain has substantially less woodland than most European countries of a similar size: Spain (31%), France (27%) and Italy (23%) all have more than double Britain’s proportion of woodland. The government’s policy is still to encourage afforestation. In the past, most woodland planting has been in the * Dr Tim Lloyd is a lecturer in the Department of Economics and Dr Charles Watkins a lecturer in

the DegFment ,of Geography at the L’niversity of Nottingham, Nottingham NG7 2RD. Daniel illlams IS a research assistant in the Urban and Community Group at the University of Central England, Birmingham. The authors are grateful for the financial assistance of a Nottingham University Administered Research Fund Grant (UARF023) to undertake this research. We would also like to thank Geoff Reed and two anonymous referees for particularly useful suggestions on an earlier draft of this paper.

Journal of Agricultural Economics 46 (3) ( 1995) 36 1-370

362 T. LLOYD, C. WATKINS AND D. WILLIAMS

form of large scale coniferous plantations in the u lands and on poorer land in

planting of broad-leaved woodland was introduced in the 1980s, largely as a result of environmental concerns (Watkins, 1986). More recently, the ap arent

shift in policy culminating in the establishment of 12 new lowland forests called Community Forests and one new National Forest. The purpose of these initiatives is to improve recreational facilities, provide nature conservation and landscape benefits, as well as making use of superfluous land. *

Although afforestation has resulted in a substantial increase in the total woodland area, woodland clearance has been taking place over the same period. This is especially true of small woodlands on farms in lowland Britain. Many of these woods areof great age and have significant nature conservation and landscape value. There was a significant loss of ancient woodtand in the post-war years, man being cleared to increase the productive capacity and efficiency of farms hpencer and Kirby, 1992; Watkins, 1984a71990). For example, the Ancient Woodland Inventory carried out by the Nature Conservancy Council showed that about 10 per cent of ancient woodland surviving in 1945 had been cleared and converted to other land uses, mainly agriculture, by 1980 (Spencer and Kirby, 1992). Concerns over the extent of this woodland clearance led to the strengthening of felling controls via Tree Preservation Orders (TPOs) and, more importantly, by the tightening-up of the felling control powers held by the Forestry Commission through the issue of felling licences. Current UK policy is that the Forestry Authority does not normally allow the conversion of woodland to agricultural use (Watkins, 1983; CPRE, 1991). In addition, owners of woodland protected by a TPO or designated as a Site of Special Scientific Interest (SSSI) must acquire further permission (from Local Authorities and English Nature respectively) before felling can take place. In effect the suite of planning controls extant in the UK are designed to preclude the conversion of woodland to alternative uses. Consequently, once woodland is established it seldom reverts to alternative uses despite, it is argued, strong price signals to the contrary.

In recent years, doubts have been raised about whether these controls have had their intended effect (Bishop, 1992; .Lorrain-Smith, 1992). An impression of the extent to which these restrictions affect the disposition of farmers and landowners towards woodland can be gleaned from survey evidence (see inter a h , Watkins, 1984b; Bishop, 1990, 1992; Williams et al., 1994). The results suggest that whilst it is the lack of financial incentive that exerts the principal deterrent effect, a number of other factors exist which militate against the ado tion of woodland as an alternative land use. Of these, it appears that loss

flexibility of their farm to be compromised by wood1and.t Farmers report that, once established, woodland effectively becomes a permanent feature of the farm business owing to the enforcement of felling controls, irrespective of the owner’s inclination. In this respect, control creates a clear disincentive to plant woodland and one which may override short-term financial considerations.

The remainder of this paper examines the effect of felling controls on woodland as an alternative land use. In Section 2 we formalise a simule market

the lowlands. A significant shift in policy towar a s the encouragement of the

excess of agricultural land within the European Union has resulted in a P urther

of R exibility f ip re s prominently, in that farmers commonly perceive the

* Despite their rather grandiose titles, these schemes constitute little more than designated areas in which private landowners are encouraged to plant more woodland, although little financial incentive is offered for doing so. This is in contrast to the European blueprint that provided the inspiration for these initiatives (Bishop, 1991).

t Other obstacles to woodland investment include its high initial cost, long pay-back horizon, psychological inertia (“we’re farmers not foresters”) and fears over trespass andvandalism.

TURNING FARMERS INTO FORESTERS VIA MARKET LIBERALISATION 363

for land in which agent behaviour is guided by market fundamentals according to the present value rule. This market forms the basis of the comparative static analysis in Section 3 which examines the effect of felling control on the allocation of land between alternative uses. Section 4 discusses implications of the model that are pertinent to woodland policy and the paper concludes with a summary of results and relevant caveats.

2. AMarket Model As a precursor to the analysis of irreversibility it is instructive to develop a formal model of the land market in which we may subsequently couch the problem of allocating land between alternative uses. To this end, consider a situation of universal perfect competition in which land is of homogeneous quality. Let the market comprise n economic agents, each possessing an initial endowment of land, Qi ,) this being zero for the potential entrant, i = 1, . . . , n. The stock of land Zf=, Qi,, = S. Assume that at time t the ith agent calculates a valuation of additional units of land based on the net present value of expected future returns from holding land, that is

where 6 is discount factor defined as 1/1 + r, r is the exogenously determined rate of discount adjusted for risk, Ei,, is the ith agent’s expectation conditional upon information available at the beginning of period t and R,,, is the net return to land received at the end of period t. Given diminishing marginal returns to the agent’s effort, the expected net return of additional units of land is a negative function of the endowment. Assuming linearity and parameter constancy over time for any one individual, we have

In this framework the opportunity cost of investing in land is constant for all agents at rP,, hence the ith agent has apositive demand for land until the return on the marginal unit is equivalent to this opportunity cost of land purchase i.e.

rP, = a, - PiQdi,, (3)

Each agent attains equilibrium when the desired endowment is that quantit which is actually held. Thus rearranging in terms of quantity and equating (21 and (3) yields the equilibrium condition for the ith agent which solves for price yielding

Equation (4) is the decision rule that dictates whether the ith agent should purchase, sell or maintain the marginal endowment of land. For what follows,


it is useful to parameterise (4) as

so that when we consider the comparative statics at the market level, a change to market rent is represented by varying +.

Market price is determined by the sth highest valuation and obtains when

Aggregating individual demands up to the market level requires an assumption regarding the distribution of ability across the n partici ants. For

all ip. Under these assumptions aggregation gives a market demand curve Qd, at a common price Pt of the form

sim licity we assume a representative agent model (so that ai = a an B Pi = P for

n a nr P +P 5 Qdi,JPt) = - - -PI i = l

In a similar fashion

and equilibrium market price is

where E,[R,] is expected market rent for the current period. Imposing an expectations generation mechanism operationalises (7). For example, assuming that the a ent erceives rents to hold at their present level in perpetuity (so that EijRi,,,fE = R+] for all j 2 0) gives

Given our simplifying assumptions, equation (8) is the reduced form of ( 5 ) and values land according to market fundamentals. The effect of changes in market rent and discount rate on market demand are given by the partial derivatives of (6)

n - =-- aQd, ar +PPt


These suggest that:

(i) market demand for land is positively related to rents and negatively related to the discount rate. Since the rent of land is a measure of its profitability, factors that directly increase the net return to land (such as improvements in the product:input price ratio or subsidy payments) will, ceteris paribus, raise the demand for land. Conversely, factors that increase the discount rate, such as the riskiness of the asset, depress the demand for land;

the effect on demand of a given change in rents or discount rate increases linearly with price, implying that demand curves for land pivot around the point on the demand curve where P, = 0;

(ii)

(iii ) the elasticity of demand for land with respect to the discount rate is equal and opposite to the elasticity with respect to rent, {-q = E+ = nrP((+ncu. - nrP,). implying that a halving in the discount rate (from say, 5 to 2.5 per cent 1 has the same effect on demand as a doubling in the annual return to land. Hence despite equivalent elasticities, the arithmetic of present value methods imply that small absolute changes in the discount rate have an impact equivalent to large relative changes in returns.

3. Since our purpose is to investigate the allocation of the land stock between activities assume for simplicity that there are two uses for the stock, agriculture and forestry. Let S, = xS denote the area of agricultural land and S, = (1 - x)S denote the area of woodland. Assuming that land may switch between uses without cost or im ediment valuations of land in alternative uses are generated

schedules D, and D, in Figure 1.t With price measured on the vertical axes and the land stock measured on the horizontal axis, D, is defined relative to the origin at 0 and D, is defined relative to the origin at S.

Competition for land between alternative uses produces an equilibrium price such that P, = Pa. Should valuations change (say, because of new information affecting expected returns) the demand schedule(s) will shift as a result in a manner dictated by (9). For example, an increase in the expected return on agricultural land shifts demand to D: and competition for land ensures that a new higher equilibrium price obtains where PL = P:. Crucial to this adjustment process is the assumption that land may switch between activities without impediment; the reversibility assumption. Should the area of land in either use be fixed in supply two distinct sub-markets emerge, each with an equilibrium price that is independent of the other. Unless by coincidence, price equivalence is lost, underlining the fact that the land market as a whole is out of equilibrium. Thus in Figure 1 with the supply of woodland fixed at C, changes to the relative profitability of each land use creates a price wedge. The shift in demand to D: raises the price of agricultural land to P: while that of woodland remains at P,. In a similar fashion we may work through the comparative statics of changes in the return to woodland.

Land Allocation in the Market Model

according to (4). P Ranking these valuations according to quantity gives the

* In what follows conversion costs are assumed to be zero. We return to the implications of

t Demand curves may intersect the horizontal axis at any positive quantity and are drawn from conversion costs and related issues in Section 5.

each origin merely for convenience.


Figure 1 Equilibrium and Felling Control

Price of woodland

I,. C

Price of agricultural land n i 4

0 s, = (l-x)S s, = x s S

For what follows, it is pertinent to consider a hybrid situation where the area of land in either use is neither fixed nor entirely flexible, but irreversible. In the context of the UK land market we could think of felling restrictions as maintaining a (possibly growing) minimum area of woodland rather than defining a fixed and immutable supply. In other words, felling control acts as a ratchet on land allocation in that it defines a lower bound to the woodland area that may be increased but never decreased. In such circumstances woodland is an irreversible land use. Since irreversibility is a hybrid of the perfectly flexible and fixed cases described above there is a range over which each case applies; the range is defined by the prevailing woodland area and enforced through felling control. Hence the model operates as if land were fixed at woodland area below C but as if land were reversible above C. In terms of Figure 1 , interactions between the demand curves such that S, S C creates a price wedge at C since control is binding on the market. Where market forces im ly that S ,

new lower bound. A corollary of irreversibility is that the area of land in either use will remain

unchanged throughout the range of price over which control binds on the market. By definition, the control is effective (or binding) whenever prices differ according to land use. Hence shifts in the woodland and/or agricultural demand functions that do not result in price equivalence do not change the allocation of land. In terms of Figure 1, with demand given by D, and D: the woodland area can only increase if the price of woodland rises above the price of agricultural land, or if the price of agricultural land falls below that of woodland. Assuming that demand for agricultural land remains constant at D: then ceterisparibus, it is only shifts in woodland demand that push prices above P: that result in more woodland, Thus, it is conceivable that an increase in the ex ected profitability of woodland (say, due to the introduction of forestry

woodland area becomes an ex licit objective of policy, this ngidity and its

> C then a common price emerges and the resulting woodland area B efines the

su i5 sidies) would have no effect on woodland area. Clearly, if expansion of the

financial implications should be g orne in mind.


4. Policy Issues

In the current climate of agricultural reform and public/political concern over the environment, environment-friendly alternatives to intensive agriculture are being sought. Woodland is one such alternative and has received some official interest. For example, according to the House of Commons Agricultural Committee (1990) “Forestrj is likely to be the most extensive alternative land use: it has the potential to offer an attractive balance between commercial viability and environmental enhancement”.

There are numerous options available to policy-makers to encourage planting, however in general, these have financial implications since they rely on financial incentives to make woodland a viable alternative to agricultural products. Futhermore, if one accepts that felling restrictions actually maintain the woodland area above that obtaining in an uncontrolled market and one may reasonably assume this to be the case since it is their raison d’etre \ then as the preceding analysis indicates financial incentives may have to be higher than expected to achieve any given expansion in woodland area. *

Alternatively, we may assist afforestation by tackling the non-pecuniary im ediments directly. Not only does such an ap roach impose little on the

end we propose the abolition of felling controls on new plantings. This result may run counter to intuition since controls exist to maintain the area of woodland above the level that would otherwise occur. However, what may be overlooked, is the effect on the behaviour of farmers and landowners that felling control and ancillary restrictions induce.

Consider Figure 2 where felling control maintains the area of woodland at C.. With demand given by D, and D,, control binds on the market and Pa > P,. If felling restrictions have no effect on behaviour, abolition of the controls (liberalisation) leads to price convergence on P,. Ceteris paribus, liberalisation increases the agricultural area (to S:) at the expense of woodland (which falls to Sb) and the support for continued felling control is buttressed. However, if felling controls act as a significant disincentive to woodland planting we need not necessarily ex ect these results to hold. If abolition of control improves the

perceived risk associated with investment in woodland. Rational agents thus require a lower rate of return on woodland than when control applies and demand shifts to D:. A new equilibrium is established at which P: obtains in both markets. Woodland area rises to at the expense of agricultural land which falls to S:. Where discount rates on woodland are low and responsive to decontrol, liberalisation may have the same effect as relatively large changes in woodland profitability. For example, should the discount rate fall from 5 to 4 per cent in response to liberalisation, the effect is the same as a 20 per cent rise in the annual return woodland. Clearly, however, liberalisation will not automatically increase the area of woodland since the change to the discount rate may be insufficient to push woodland prices above Pa in Figure 2. In the absence of information regarding the empirical nature of the demand curves for woodland and agricultural land the final outcome of (complete) liberalisation is indeterminate. In this light, liberalisation may be viewed sceptically owing to the potential for diminishing the area of woodland. However, we may circumvent this indeterminacy providing that liberalisation is partial rather than complete.

Whether felling controlsactually bind on the market is an empirical matter. Williams etal. (1994) report evidence suggesting that this is the case, albeit with a relatively small and parochial sample.

pu FI lic purse but it may also improve the efficacy o P financial incentives. To this

flexibility of the P arm business, liberalisation may be expected to reduce the


Figure 2 Equilibrium and Liberalisation

Price

0 S,’ s, S,“ S So’ s, So”

To clarify this consider Figure 2 again where the initial stock of woodland S , is maintained through felling controls such that P, > P,. Assume that liberalisation shifts the demand for woodland out to DI. Since liberalisation is only partial, in that reversibility only applies to new (not established) woodland it only applies to that land which is currently agricultural, the quantity S,. The existing woodland area S, , is ‘ring-fenced’ through felling control and cannot be diminished. As a result, S , determines the price of established woodland at P, but the price of new woodland is determined in an uncontrolled market along with agricultural land at the intersection of D: and D,. A new equilibrium price obtains for new (reversible) woodland and agricultural land at P:. Woodland area rises to Sg of which C is established woodland and Sl - C is new woodland. The difference between the price of established and new woodland i.e. P’, - P, is the premium paid for reversibility.

5. Concluding Comments and Caveats In the current climate of agricultural reform viable alternative uses of the land area are sought and woodland is one such alternative that commands support from many of the parties involved, with the notable exception of the farmers themselves. However, survey evidence suggests that farmers are not wholly and irretrievably opposed to woodland. Disinclination to woodland planting is created by a variety of factors, and while these usually reflect financial considerations, there is evidence to suggest that the permanent loss of flexibility of the farm, through restrictions on felling, is an important component of the problem. This paper has sought to inform the current afforestation debate by addressing the issue of woodland irreversibility and the effect of institutional constraints on the allocation of woodland.


That controls over felling preserve the area of woodland is unambiguous. However, we argue that control may reduce the area of woodland as well as

reserve it. In essence, felling control preserves the area of woodland at a lower Lvel, with the corollary that liberalisation may increase the woodland area. Whereas the removal of felling control on all woodland - complete liberalisation - has the potential to reduce woodland area, de-control on new plantings alone - partial liberalisation -would at worst leave the woodland area unchanged. Futhermore, at low discount rates, the impact of partial liberalisation on woodland area may be equivalent to considerable increases in returns. As a policy prescription partial liberalisation is particularly attractive because it does not involve the costs associated with alternative instruments such as subsidies and tax concessions, although it may well be used in conjunction with them. It is also likely to improve the efficacy of those financial incentives since it reduceshemoves the rigidity associated with felling control, without removing the control itself.

Of course, these results are subject to the usual caveats and limitations of comparative static analysis: in particular, the reliance on the ceteris paribus clause. Despite the insight that simplification facilitates, it would be foolhardy to presume a neat carry-over into a complex real world. For exam le, while survey evidence (see inter aliu, Hill et al., 1992; Williams et ul., 19947 suggests that woodland enerally depresses the value of agricultural land (in accordance with the model7 it is not clear that this effect can be wholly attributed to felling control (as the model assumes). The effects of related factors, such as fears over public access, trespass and vandalism, farmers’ psychological resistance to forestry and the costs of conversion have been ignored in the model, yet each may exert a significant and possibly more important effect than felling control. Like the quantitative im act of liberalisation itself, resolution of these issues is

conjectural. Notwithstanding these caveats this paper lends some analytical support to

the notion that, while maintaining the woodland area, felling control deters woodland planting. Although it is not the only factor impeding the expansion of woodland, partial liberalisation is simple to implement and costs little - features unlikely to be associated with the mitigation of other impediments to planting (such as conversion costs of psychological inertia). Simply put, our message is that partial liberalisation does not represent a panacea for the problem, but rather, a useful component of future woodland policy.

an empirical matter. In t K e absence of empiricism, the answers are unavoidabty

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370 T. LLOYD, C. WATKINS AND D . WILLIAMS

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turning farmers into foresters via market liberalisation

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