1.    Evolution of European Policy  (inevitable - with benefit of 20/20 hindsight?) See, also, DG Agri's Celebratory Site (CAP reaches 50 in 2012).

• Antecedents of the CAP:
• Common urge to protect and support the agricultural sector against "unjust" world prices - the consequence of recent histories of food insecurity (because of war) and the predmominance of agriculturally dependent populations (and associated sympathy amongst the rest of the population for assisting farmers).
• Differences between UK and Contintental (especially German) support policies (deficiency payments versus import tariffs, plus the levels of each) - stemming from the political weight of small farms in Bavaria, especially, and the differences in commonwealth ties to the "New World".
• The generation of the CAP as a bargain between Germany and France (primarily), with France accepting free trade with Germany for industrial goods in return for the opportunity to supply German agricultural and food needs at CAP supported prices.
• The almost inevitable development of the original CAP from a revenue generating device for the early Community to a fiscal drain, associated with mounting surpluses - you should understand and be able to explain why (economically!).
• The atttraction of UK accession (as a net importer) at the time when the Original 6 Common Market countries had begun to enter the surplus stage
• The nature of the debate surrounding UK entry - concentrating on uncertain general economic benefits and the certain costs of the CAP to the UK
• The coincidence of dramatic change in world market conditions with UK entry, and the consequences for the economic structure of the UK industry
• The inevitable complication of the policy as compromise was sought between the expense of the policy (to the taxpayer, and limited EU budget) and the political need to continue support to farmers (with inevitable conflict between countries where the farming vote was more politcally powerful - both in number and in political position [reflecting political landscape and structure of the industry] (Germany, Ireland and France), and those where it is less important (especially the UK) - leading to:
• Prudent support price increases (and weakening of intervention prices - how?)
• Maximum Guranteed Quantities (limits on exposure of EU budget)
• Co-responsibility levies (taxing farmers for over-production against MGQs)
• leading eventually to Dairy Quotas (1984) - why, and why not in other commodities?
• The build up of opposing pressures:
• budgetary costs and expanding EU budget requirements
• Increasing aggrevation of trading partners (especially the US) (because??) - culminating in the GATT Uruguay Round - putting agriculture at the top of the Multilateral Trade Negotiation (MTN) agenda for the first time
  
• Increasingly obvious failure of policy to either preserve farm structures or farm incomes
• Increasingly divergent demands of countryside (as opposed to farming) interests in policy and market outcomes (environment, animal welfare, food safety etc) - See later in this course.
• Finally, the seismic shock of the collapse of the USSR and the unification of Germany fundamentally altered German interests in farm policy - away from prtection of Bavaria towards efficient and effective assistance to the Eastern Lander.
• Generating the first real reform:  the MacSharry reform - shifting the burden of support from users/consumers to taxpayers, albeit at the risk of some increase in the latter, though now capped by the 'quota' limits on cropland areas and livestock numbers.
• This progression continued under A2K, which, despite its rhetoric, pays scant attention to the real difficulties of CEC enlargement.
• Which leaves considerable problems for the EU in the future, since the political pressures for farm support in Central Europe are difficult to reconcile with a now very different set of pressures applying in Western Europe (leaving on one side the very substantial differences within each of these country blocks).

2.    Meaning and Implication of Economic Analysis - the illustrative case of elimination of EU Dairy Quotas

Incidentally,  the alternative to quotas - an equivalent reduction in the support price (to generate the new excess supply of EUx) - would have generated a slight increase in net gain (because of the consumers' gain), but a major reduction in producers surplus - hence was dismissed by the Council of Agricultural Ministers as being impractical politically, at that time.
 
 
 
 
 
 

Question 2:    Just how bad a thing are quotas?

First, there are very considerable practical problems in calibrating the principles illustrated in this diagram with realistic representations of the real world - especially the supply and demand responses both within the EU and in the rest of the world, and equilibrium quota rents.  Even, in the case of milk, identifying Pm and Pwa causes problems, since both are only known with certainty for butter and SMP, not for raw milk.  However, we can leave these issues on one side, and hope that accidentally unrealistic estimates of these nearly unknowable points (footnote) will either be unimportant or cancel out.  Nevertheless, as the mechanics of the world market show, it is important to make sensible judgements about the slope of the RoWxd curve (as it passes through 'known' point X, and, subsequently, what it might look like if and when the EU adopts a free trade policy).

Whatever judgements we might make about these practical analytical issues, the diagram suggests a clear social gain - the Tax gain (given that the EU is in significant surplus in milk products) is clearly larger than the net loss in surplus (the difference between the consunmer gain and the producer loss).  This will always be true so long as demand curves slope downwards and supply curves slope upwards.  That is the way the world is - this diagram is simply the partial analogue of the gains from trade logic outlined earlier.  Any set of economic models representing this industry will necessarily come to this conclusion that free trade is a good thing, so long as they obey the principles of economics.

The conventional explanations of what consumers and producers surplus measures mean and how they are to be explained is contained in the policy primer notes.  However, recalling the general equilibrium gains from trade of last week - the long run gains all accrue as consumer gains (or, alternatively, as additional producer incomes earned through additional trade).  How are these related to the apparent partial gains shown above?  A sensible question, and not one addressed in the text books (or any of the literature that I am presently aware of).  A practical and provisional answer is as follows.

The annual consumer surplus gain from the policy reform is a measure of the potential for a perpetual stream of annual gains forever into the future.  The producer surplus loss, however, is a measure of the (negative) incentive for the production adjustment - the shift round the production possibility frontier.  Once this adjustment is achieved, there is no further loss.  The producers surplus measure is, in effect, the annual equivalent of the extent to which the present policy has increased the capital value of the fixed and specialised assets employed in the dairy sector, which would otherwise be employed elsewhere.  This capital value is a finite sum, not an infinite stream - it is part of the present fixed costs of the industry, which would be reduced if the policy were to be reformed (eliminated). The producers' loss is temporary, the potential gain is permanent. The partial welfare arithmetic (the conventional measure of the costs/benefits of policy change) seriously confuse these by treating them as exactly comensurate.

The key, therefore, to policy reform is to design (and then market and sell to the interested parties) a sensible transition policy which, at least partially, compensates the present owners of these assets for their capital loss.  Convincing people of the sense of policy elimination becomes the most critical part of policy analysis -  the specific estimates are largely beside the point - though the relative sizes of gains and (temporary) losses are clearly important in illustrating the case for reform.  Here, there are several additional considerations which are important - as illustrated in the analysis of eliminating quota: (Colman et al, 2002 - for Defra) - as you will see on this page, there are also more recent reports than the April 2002 report by Colman (see especially, the FAPRI report of January 2007, for model simulations, using the FAPRI model:Analysis of the Impact of the Abolition of Milk Quotas, Increased Modulation and Reductions in the Single Farm Payment (FAPRI); and also Phasing out Milk Quotas in the EU - Final Report - April, 2008. by Drew Associates, which also uses the FAPRI model, as well as the Manchester Dairy Model (MDM;  Colman).  For the latest on the European Situation, see the Europa site for the 2009 Dairy Market Situation Report, and the DG Agri Milk and Milk Products Press releases
 

This Table, in bn. euros, shows the conventional measures of producers' and  consumers' surplus changes, and changes in taxpayer costs.  Producers' lose 9.9bn. per year (about 75bn. in total, capitalised over ten years at a real interst rate of 5%).  Consumers and taxpayers combined stand to gain 10.3bn. per year without the policy in place (enough to completely compensate producers' loss over 9 years, if the latter is converted to an annual annuity payment at 3% real interest rate (reflecting the lower risk associated with public funds compared with private commerical risks).

However, there is also a significant cost associated with implementing and policing the present policy (and raising the necessary tax revenues to finance it).  This would also be saved if the policy were to be eliminated - shown here at 10% of the transfer to producers - a conservative estimate.

This estimate is partial - it takes no account of the general equilibrium effects of the reform - which would effectively inject the static gain (0.71bn.) into the circular flow of income - generating second round additional gains according to the value of the multiplier - another 0.14bn as estimated here.

There are also dynamic gains, resulting from the increased market incentives for continual productivity improvements and matching productive potentials to emerging market demands,  adding a further 1.4bn, to the potential gains from policy reform.

Overall, the EU stands to gain 2.3bn. (net of the produecers' loss) from the policy reform.  Once producers' had been fully compensated for their loss, the gain would be an estimated 12.5bn. per year, indefinitely, as the gain to consumers and taxpayers plus the net gain to the economy.  See here for an executive summary of this report.

Question 3.    So why did this change take so long?

Consider the history of the CAP - policy was introduced, and then changed, in repsonse to changing circumstances and contexts, opportunities and threats, as represented in the political market place (where both votes and political support are traded).  It is a mistake to think that political decisions are all made on the basis of 'one person, one vote'.  The votes (and associated political pressure and political party support) of the producers for support (although smaller in number) will be more strongly expressed because of their gains per head than the opposition of consumers.

It has also been argued that political support for farm subsidies (however implemented) can also be expected from the consumers and taxpayers, so long as these groupd believe that farmers would be unjustly treated without such support - i.e. that altruism counts in political decisions.  Indeed, we had better hope this to be true - otherwise, the political system is merely a system for producers to exert their power over the market, since it is in their apparent interests to control the market, if at all possible.  Monopoly is the natural ambition of business.  Competition is its only countervail.  Businesses seek to eliminate or subdue competition whenever they can get away with it.  If government can be persuaded to assist in this, then so much the better.

So, Question 4.    when did the timing become right?  Several pressures can be identified which built over time:

• producers only win from the policy if they were the original owners of the assets (especially quota rights themselves) - increasingly, present producers have had to buy their way into the supported industry, and are no better off than they otherwise would be without it (although would clearly suffer a capital loss if it were to be abandoned with no compensation) - so producers might begin to think themselves better off without it - a major pressure for reform.
• Competing claims on a small EU budget, especially as the euro area develops and as enlargement comes closer, puts additional pressure on the budget costs of the present policy
• However, offsetting this, is the potential budgetary cost of compensating farmers for policy change (since the budget would have to become responsible for the consumer share of the present support, at least for a while) - so, don't expect any compensation for the removal of quotas - the most obvious way of eliminating them is to progressively increase the quota, while simultaneously reducing the support (intervention) prices, either directly, or by limiting the quantities which can be put into intervention.
  
• The business of CEC enlargment involved allocating them a share of the total EU dairy market, and hence allocating them quota - how much, and how should it be re-allocated to allow growth and development of presently underdeveloped industries in the CECs??  This has also become a substantial pressure for reform, simply because the present system becomes both unmanageable and increasingly unacceptable in the enlarged community.  Unless quota rights are allowed to become freely tradeable between countries, that is.  But this has so far proved even more unacceptable than elimination
• Pressure from trading partners - disadvantaged by the present policy - and expressed in the Doha round of the WTO - which will eliminate export subsidies, and further reduce import levies.
  
• Pressure from the dairy processing sector, trying to adapt and adjust to the ever changing market place within the constraints of quotas on throughput.
• Examples (particularly from Australia) of policy reform elsewhere - added to by the increasing weight of analysis and estimates of the costs of the present policy?
• The Australians have recently (as of 2000) embarked on a transition poliucy to eliminate their own dairy quotas (introduced to restrict supplies and thus increase market prices, as with Canada) by levying a temporary (8 yr.) tax on all dairy consumption, the proceeds of which are paid in unconditional fixed amounts to existing dairy producers. Quotas and associated trade restrictions are all eliminated, After 8 years, both the tax and the fixed producer payments will cease.  The fact that the payments are funded through an explicit consumer tax lends weight to the belief that the transition policy will not become permanent.

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