AGRICULTURAL OUTLOOK                                        May 21, 2001
June-July 2001, ERS-AO-282
               Approved by the World Agricultural Outlook Board
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CONTENTS

IN THIS ISSUE

BRIEFS
Abundant Field Crop Supplies Expected in 2001/02
Meat and Poultry Production To Rise Slightly in 2002
Plenty of California Peaches and Nectarines Expected in 2001

COMMODITY SPOTLIGHT
Mexican Cattle Exports to the U.S.:  Current Perspectives

WORLD AGRICULTURE & TRADE
China's Fruit & Vegetable Sector in a Changing Marketing Environment

POLICY
Using Farm-Sector Income as a Policy Benchmark

Impact of Government Payments Varies by Farm Profit & Household Income
Level

Government Payments to Farmers: Their Contribution to Rising Land Values

Falling Prices & National Farm Policy:  The Case of the Northern Great
Plains

IN THIS ISSUE

Abundant Farm Commodity Supplies Shape Markets

Large supplies of major U.S. field crops are expected again in 2001/02,
keeping downward pressure on farm prices for the fifth consecutive year,
according to USDA's first forecast for the season. U.S. soybean supplies
for 2001/02 are expected to be record large and average farm price is
forecast to drop about 5 percent from 2000/01. Corn prices are expected to
remain relatively unchanged, as higher carry-in stocks of corn largely
offset lower production. Wheat deviates from the general projection, with
production expected to decline 12 percent and season-average farm price to
rise 16 percent (midpoint of forecast range). Gregory K. Price; (202)
694-5315; gprice@ers.usda.gov

Production of red meat and poultry in 2002 is forecast at nearly 83 billion
pounds, up 1 percent from that expected this year, and marginally higher
than record production in 2000.  Continuing increases in pork and poultry
production, bolstered by profitability and continued low corn and soybean
meal prices, will more than offset a modest decline in beef production. 
Although red meat and poultry supplies are at record levels, relatively
strong domestic and foreign demand is maintaining prices. Leland Southard
(202) 694-5187; southard@ers.usda.gov

Mexican Cattle Exports to the U.S.: Current Perspectives

For generations, cattle have played a key role in bilateral trade between
the U.S. and Mexico, and the composition of cattle trade has remained
relatively constant over the years. The U.S. exports breeding stock and
cattle for slaughter to Mexico, while Mexico exports primarily feeder
cattle (young stock to finish gaining weight in feedlots) to the U.S. The
U.S. is expected to remain a major market for Mexican cattle producers, who
raise cattle suited for feeding with seasonal forage supplies. Leland
Southard (202) 694-5187; southard@ers.usda.gov

China's Fruit & Vegetable Sector in a Changing Market Environment 

China's longstanding potential as a strong competitor in international
fruit and vegetable trade will likely be realized over the next several
years. Although China exports less than 1 percent of its fruit and
vegetable production, private-sector investment--both domestic and
foreign--is currently creating world-class operations that deliver
high-quality fruits and vegetables within China and to international
markets.  Growth in domestic demand for fruits and vegetables, improvements
in marketing practices, and China's future agricultural production policies
will largely determine how soon and how strongly China's produce sector
affects U.S. and world markets. Dennis A. Shields (202) 694-5331;
dshields@ers.usda.gov

Using Farm-Sector Income as a Policy Benchmark

Measures of farm-sector income are valuable indicators of how well U.S.
agriculture is performing, but they may not fully capture the financial
situations of farmers and farm families.  Intended policy outcomes and
actual results often diverge because aggregate measures do not reveal the
wide variations in income and circumstances among various farm groups and
do not reflect off-farm income and wealth.  In addition, aggregate measures
do not reveal farmers' problems with servicing their debt and do not give
any indication of how many farms fail financially.  James Johnson (202)
694-5570; jimjohn@ers.usda.gov

High levels of government payments to the U.S. farm sector have forestalled
a significant drop in national farm income in recent years. While payments
boost both profitability and household income, they enhance rates of return
disproportionately for farms that have low and high rates of return
relative to other farms.  Likewise, the effect of direct payments on farm
household income is greatest for households with the lowest and highest
measured levels of economic well-being. Jeffrey Hopkins (202) 694-5584;
jhopkins@ers.usda.gov

Government Payments to Farmers Contribute to Rising Land Values

The value of agricultural land depends largely on its expected future
earnings from farming. Income from government payments indirectly supports
farmland values and contributes to higher rents, generally benefiting
farmland owners. But for farmers who rent a large share of the acreage they
operate, higher rental rates raise fixed costs and increase the risk of
operating losses if commodity prices and government payments decline. ERS
analysis indicates that the contribution of government payments to U.S.
farmland value rose from about 13 percent during 1990-97 to 25 percent
during 1998-2001. James Ryan (202) 694-5586; jimryan@ers.usda.gov

Falling Prices & National Farm Policy: The Case of the Northern Great
Plains

Fluctuating crop prices and farm incomes can affect the economic well-being
of rural communities and even entire regions. This is especially so in the
Northern Great Plains--Kansas, Nebraska, and North and South Dakota--where
farm production and food processing account for one-fifth of total regional
output and almost one-tenth of regional employment.

Low crop prices during 1998-2000 triggered marketing loan benefits (MLBs)
and emergency Market Loss Assistance payments (MLAs), propping up farm
income and generating spillover effects throughout the regional economy. A
regional economywide model shows that MLBs reduce job losses in crop
production and cut by half the negative effect of low prices on gross
regional product.  MLA-type lump-sum transfers do little to offset
reductions in crop-sector production and employment induced by low crop
prices. Stephen Vogel (202) 694-5368; svogel@ers.usda.gov

BRIEFS
Abundant Field Crop Supplies Expected in 2001/02

Large supplies of major U.S. field crops are expected again in 2001/02,
keeping downward pressure on season-average farm prices for the fifth
consecutive year, according to USDA's first forecast of production and
prices. Wheat deviates from the general projection, with production
expected to decline 12 percent and season-average farm price to rise 16
percent (midpoint of forecast range). 

U.S. soybean supplies for 2001/02 are expected to be record large,
exceeding 3 billion bushels for the third consecutive year. Plantings are
forecast up 3 percent from 74.5 million acres in 2000/01, in part because
the soybean loan rate has supported expected returns and because per-acre
costs of fertilizer and energy inputs are lower than those for corn. If
realized, this will be the ninth consecutive increase for soybeans.
Assuming trend yields, domestic soybean production is anticipated to jump 8
percent to a record 2,985 million bushels. With abundant U.S. and foreign
supplies, the season-average farm price is anticipated to weaken for the
fifth year in a row--to $3.90-$4.50 per bushel, with the midpoint down from
an expected $4.40 in 2000/01.

Record competitor soybean supplies (e.g., Brazilian) will limit U.S.
exports in 2001/02, particularly in the first half of the marketing year.
Nevertheless, at 980 million bushels, USDA expects strong U.S. soybean
exports next season, supported by a large U.S. crop, low domestic prices,
and a slowdown in foreign oilseed supply growth. A modest gain is projected
for domestic crush, based on increased domestic meal use. With expected
large gains in domestic production, U.S. ending soybean stocks are
projected to be nearly double those in 2000/01.

U.S. corn production in 2001 is projected to decline 4 percent to 9,575
million bushels, the sixth consecutive crop of more than 9 billion bushels.
Producers are planning to reduce corn acreage by 4 percent as well, and
yields are forecast slightly above trend due to above-average planting
progress. Total domestic supplies are anticipated to decrease only 1
percent because higher carry-in stocks largely offset lower production.

Domestic use of corn in 2001/02 is expected to fall less than 1 percent
because of fewer cattle on feed and increased competition from larger
sorghum supplies. U.S. corn exports are anticipated to be slightly higher
next season, as competition from foreign exporters subsides. With ending
stocks large and relatively unchanged year-over-year, corn prices are
expected to remain weak. The U.S. average farm price in 2001/02 is expected
to be $1.65-$2.05 per bushel, with a midpoint similar to the forecast for
2000/01.

U.S. wheat plantings for the 2001 crop are expected to decline for the
fifth consecutive year. Also, fewer of the planted acres are expected to be
harvested for grain, especially in Oklahoma, Kansas, and South Dakota,
where weather has been adverse. Production is projected to fall nearly 12
percent to 1,961 million bushels. With smaller carry-in stocks and fairly
steady imports, wheat supplies are expected to decline substantially from
2000/01. Food and seed uses of wheat are expected to rise slightly next
season, partially offsetting a decline in feed and residual uses that
reflect smaller wheat supplies and attractive corn prices.

Foreign use is expected to increase slightly (more so in Asia), but
exportable supplies in major foreign countries will continue to be large.
Thus, relatively higher priced U.S. wheat will face intense competition in
the world market. As a result, wheat exports are projected to decline 100
million bushels to 1 billion next season. Nevertheless, total use is
projected to exceed production next season, and ending stocks are expected
to be down. The expected price range for 2001/02 is $2.75-3.35 per bushel,
compared with an estimated $2.63 per bushel for 2000/01. 

U.S. rice plantings are expected to be 3.1 million acres in 2000/01, 1
percent higher than last season when prices were relatively low. However,
with a forecast trend yield below last year's record, production is
projected to fall almost 3 percent from last year's harvest of 191 million
cwt. Long-grain rice production is anticipated to rise 5 percent, while
short- and medium-grain rice production is projected to drop 19 percent.
The projected total supply in 2001/02 is expected to be more than 3 percent
below 2000/01, and ending stocks are projected to fall 10 percent. But
relatively large world supplies and low global prices will place downward
pressure on U.S. prices. The season-average farm price for rice is expected
to fall to $5.25-$5.75 per cwt, down from $5.55-$5.65 in 2000/01.

Total domestic use of rice (including food, seed, industrial, and residual)
is projected to expand 1 percent to 123 million cwt. Total exports are
anticipated to fall, with shipments of rough rice remaining the same while
milled rice exports are expected to decline 13 percent. U.S. rice exports
will face tough competition from major foreign exporters. U.S.
imports--mainly aromatic varieties from India and Pakistan--are projected
to increase 2 percent in 2001/02. 

U.S. cotton production is projected to increase 9 percent to 18.8 billion
bushels due to higher planted acreage and yields. A third consecutive
annual rise in area is attributable to higher expected net returns for
cotton versus competing crops. Ending stocks are projected to increase
800,000 bales or 15 percent, with a stocks-to-use ratio of 35 percent.

Domestic mill use of cotton is anticipated to be marginally lower in
2001/02 as competition from textile imports offsets growth in retail
demand. In contrast, U.S. exports of raw cotton in 2001/02 are projected to
soar to 9 million bales--a 41-percent increase over the previous season and
the highest level since 1994/95. Exports are expected to benefit from a
modest recovery in world consumption, large exportable supplies in the
U.S., and strong preseason sales. As a result, U.S. share of world cotton
trade is expected to increase from 25 percent to 32 percent.  
Gregory K. Price (202) 694-5315
gprice@ers.usda.gov

FIELD CROPS BOX

Planted area for field crops, excluding winter wheat, is based on USDA's
Prospective Plantings report for 2001, released on March 30. Harvested area
is based on historical averages for harvested-to-planted ratios. Yields are
derived from historical trends or averages, except for winter wheat where
survey results are used, and for corn where a statistical model is used
based on trend, weather, and planting progress. With planting still
underway and harvest several months away for most crops, growing conditions
could alter final production levels. U.S. crop prices are influenced not
only by weather domestically and in other countries, but also by changing
U.S. and global demand conditions.

BRIEFS
Meat & Poultry Production To Rise Slightly in 2002

Red meat and poultry production in 2002 is forecast at nearly 83 billion
pounds, up 1 percent from this year and marginally higher than record
production in 2000. Continuing increases in pork and poultry production,
bolstered by profitability and continued low corn and soybean meal prices,
will more than offset a modest decline in beef production.

Although red meat and poultry supplies are at record levels, relatively
strong domestic and foreign demand is maintaining prices. Prices for both
fed and feeder cattle are expected to post modest gains in 2002 as supplies
continue to decline. Wholesale broiler prices are also expected to post a
modest gain due to continuing gains in exports. Increased pork production
will push hog prices lower.

Due to drought in the summer of 2000 and increased hay feeding during the
harsh winter of 2000/01, forage supplies were tight. As a result, beef
producers continued to reduce their breeding herds in 2000 and early 2001.
As of April 1, heifers on feed were up 3 percent from last year and 11
percent over 1999. Many of the heifers that might have been bred this
spring and retained in the herd are already on feed. These heifers on feed
will moderate this year's decline in beef production. However, for the rest
of this year, producers are expected to retain heifers for the breeding
herd rather than place them on feed. As a result of heifer retention and
lower cattle inventories, beef production will likely decline 4-5 percent
this year and about 2-3 percent in 2002.

Cattle inventories have been decreasing since 1996. Continuing declines in
the breeding herd have resulted in what will likely be the smallest calf
crop in 2001 since at least the 1950s, and the calf crop in 2002 will
likely drop even further.

With expectations of higher prices, especially for cattle that will grade
Choice, producers are likely to hold back more heifers for breeding
following this year's calf crop, provided adequate forage is available.
This will further reduce an already much lower feeder cattle supply, which
was down 2 percent below a year ago on April 1. Feeder cattle supplies are
expected to continue to decline over the next couple of years until the
cattle herd begins to expand.

Fed-cattle prices are expected to average around $80 per cwt in 2002, up
from the mid-$70s this year. Lower feeder cattle supplies will boost feeder
cattle prices into the low-$90s in 2002, from the high-$80s this year.
Following record high levels early this year, retail beef prices are
expected to rise only slightly in 2002 in the face of large competing meat
supplies. 

Pork production in 2002 is forecast at 19.7 billion pounds, up 3 percent
from this year. Hog slaughter will likely be up about 2 percent and the
average dressed weight is expected to be a pound heavier. The March Hogs
and Pigs report indicates the inventory of all hogs and pigs was up 2
percent from 2000. The number of hogs kept for breeding was up 1 percent,
consistent with the March-August farrowing intentions (up 1 percent from
actual farrowings a year ago). Pigs farrowed during this period will reach
slaughter weight in late 2001 and early 2002.

Pork producers are gradually expanding production this year and are
expected to continue the slow rate of expansion through 2002. Changing
industry structure and producers' financial problems in late 1998 and 1999
have muted the response to favorable returns in 2000 and first-half 2001.
Many smaller producers exited the industry in the late 1990s, and others
may still be recovering from the financial problems of that time.

To expand production, larger and mid-sized producers face a more
complicated process than in the recent past. Expansion now entails securing
financing, obtaining building and waste management permits from state and
local authorities, and hiring and training staff. In addition, vertical
coordination--through either marketing or production contracts--is
replacing the spot market sales prevalent in past years. The factors that
complicate expansion are likely muting the peaks and valleys of the hog
production cycle.

Hog prices are expected to average in the low- to mid-$40s per cwt in 2002,
compared with the mid-$40s this year. Competing poultry meat supplies will
continue to be large. The effect of foot-and-mouth disease in the European
Union--especially in Denmark, a major player in the world pork market--adds
uncertainty to price forecasts.

Retail pork prices are expected to rise 1-3 percent in 2002, about the same
increase expected this year. Strong retail beef prices increase the
competitive position of pork.

Poultry output in 2002 is expected to rise about 3 percent, compared with a
less than 1-percent increase likely this year. With continued low feed
costs, improving net returns will probably encourage a 3-percent boost in
broiler production in 2002, compared with an expected marginal increase
this year. Wholesale broiler prices will likely reach 59-64 cents per
pound, compared with 57-60 cents this year. Key to higher broiler prices is
the continuing strong export market, especially Russia and China.

Turkey production is expected to increase about 2 percent in 2002, compared
with a 4-percent rise this year. Turkey prices are expected to average
about the same in 2002 as this year, around 68 cents per pound.   

For further information, contact:  Leland Southard, coordinator; Ron
Gustafson, cattle; Leland Southard, hogs; Mildred Haley, world pork; Dale
Leuck, world beef; David Harvey, poultry. All are at (202) 694-5180.

BRIEFS
Plenty of California Peaches and Nectarines Expected in 2001

Despite some adverse winter and spring weather, California should produce a
plentiful supply of peaches and nectarines this year. The state is expected
to harvest a plum crop even lighter than last year's below-average crop,
however. California's stone fruit (peach, nectarine, and plum)
orchards--which account for most of U.S. stone fruit production--have
received less rainfall than usual, even with heavy rains in early March and
early April. With most of these orchards equipped with pumps and wells,
crop moisture requirements have been met thus far. Still, California's
stone fruit growers continue to worry about water supply shortages,
especially this summer. 

Part of the blame for the predicted smaller plum crop lies with the heavy
early-March rains and part with an April hailstorm. The rains hampered bee
pollination of plum varieties that were already in full bloom. (They had no
effect on early-variety self-pollinating peaches and nectarines.) Also
contributing to the decline in plum production is the switch by some
producers to pluots, a hybrid of plums and apricots, by grafting onto plum
limbs. 

The hail storm swept California's stone fruit orchards on April 7, after
all varieties of peaches, nectarines, and plums had set fruit. While the
ultimate damage from the storm remains uncertain, industry sources
indicated that nectarines and plums seem most affected, perhaps because
their smooth skin offers less protection than the fuzzy skin of peaches. 

On the plus side, California stone fruit orchards received 1,243 chill
hours (when temperatures remain below 45 degrees Fahrenheit), compared with
the average of 1,146 chill hours required to achieve full dormancy, an
essential stage for the development of strong fruit. As a result, consumers
will still find an abundance of good quality California peaches and
nectarines this summer, according to the California Tree Fruit Agreement
(CTFA)--a grower-funded organization that promotes fresh-market stone
fruit. 

USDA forecasts total production of peaches in California (both freestone
and cling varieties) to decrease 5 percent to 1.77 billion pounds in 2001.
Total peach production was 1.87 billion pounds in 2000 and 1.82 billion in
1999. Harvesting of early peach varieties started the week of April 15,
early nectarine varieties a week later, and early plum varieties around
mid-May.

Figures from CTFA indicate that packout (number of 25-pound boxes
harvested) of California stone fruit in 2001 will be down 11 percent from
last year. While the fresh-market peach and nectarine harvests are expected
down from last year, they will be near the 5-year averages for both crops.
Packout of peaches--both yellow and white flesh varieties--is projected to
decline 7 percent from last year. (The April hailstorm affected mostly the
summer yellow peach varieties.)  The nectarine packout is also projected
down 7 percent from 2000, while the plum packout is projected down by 18
percent.

Peaches account for more than 70 percent of all stone fruit produced in the
U.S. South Carolina and Georgia follow California's 72 percent share of
peach production at a far distance, averaging about 6 and 4 percent of the
U.S. total over the past 3 years. In 2000, production in the two states was
150 and 115 million pounds, respectively. This year, freezing temperatures
throughout the Southeast in early March damaged some peaches in northern
Georgia. As of the last week of April, 70 percent of Georgia's peach crop
appeared to be in good condition; 81 percent of South Carolina's peach crop
appeared to be in fair to good condition.

Domestic and export prices for stone fruit in 2001 depend on several
factors and cannot be predicted with certainty. In 2000, grower prices for
plums and nectarines averaged lower than the previous year, while grower
prices for peaches averaged 3 percent higher, even with the larger crop.
Much of the increase sprang from higher prices for processing peaches, and
prices for fresh-market peaches averaged slightly lower. Last summer's
retail prices for fresh-market peaches averaged 1 percent below 1999, but 8
percent above the average of the last 5 years (1995-99). Although supplies
in California this summer are expected to be ample to meet summer stone
fruit demand, reduced production and good quality may push up stone fruit
prices from last year. 

What could also help boost prices are export markets as strong as last
year's, when U.S. exports of fresh peaches (including nectarines) and fresh
plums were up 15 percent and 12 percent from the year before. Shipments to
all three major U.S. markets for fresh peaches were up (Canada, 1 percent;
Taiwan, 29 percent; and Mexico, 42 percent), as were shipments to the two
major export markets for U.S. fresh plums (Canada, up 2 percent; and
Taiwan, 16 percent). Plum exports to Hong Kong were steady. 

Although Japan opened its market last year for the first time to U.S. fresh
nectarines, it did so late in the season; domestic supplies were already
scarce and only a small volume was shipped. This summer, the Japanese
market will open for U.S. nectarines around June 15, according to CTFA,
when U.S. supplies are ample. On the downside, poor economic conditions in
Japan and slower growth in Taiwan this year may weaken demand for U.S.
stone fruit.   
Agnes Perez (202) 694-5255
acperez@ers.usda.gov

COMMODITY SPOTLIGHT
Mexican Cattle Exports to the U.S.:  Current Perspectives

For generations, cattle have played a key role in bilateral trade between
the U.S. and Mexico. Cattle account for nearly all U.S. livestock imports
from Mexico and 5-10 percent of U.S. agricultural imports from Mexico. The
composition of cattle trade has remained relatively constant over the
years: the U.S. exports breeding stock and cattle for slaughter to Mexico,
while Mexico exports primarily feeder cattle (young stock to finish gaining
weight in feedlots) to the U.S. Cattle are exported to the U.S. as forage
supplies in Mexico decline seasonally.

The relationship among all industry players is unusually strong. Cattle
producers in Mexico, cattle brokers in the border region, and cattle buyers
in the U.S. have maintained close links through decades of political and
economic upheaval, drought, and impediments to trade imposed by both the
U.S. and Mexican governments. Some ranchers (or their extended families)
even produce cattle in both countries. 

Since implementation of the North American Free Trade Agreement (NAFTA) in
1994, total agricultural trade between Mexico and the U.S. has grown
steadily. However, given a long history of firmly established business
relationships and relatively free movement of people and animals across the
border, U.S.-Mexico cattle trade has not been affected substantially. Since
1994, cattle trade between the two countries has been affected more by
Mexican economic events, drought, and Mexican export regulations requiring
an export license. Imports of feeder cattle from Mexico, for instance, are
not notably different now than in the early 1990s. The outlook for
U.S.-Mexico cattle trade remains favorable, as Mexican ranchers become
increasingly sophisticated in producing and marketing cattle to send across
the border. 

The history of U.S. imports of Mexican feeder cattle can be divided into
three periods: 1961-84, 1985-95, and 1996-2000. In the first period, policy
shifts by the Mexican government on cattle exports and U.S. concerns about
disease and parasites made for a relatively unstable trade environment.
From 1985 to 1995, U.S. imports more than tripled due to stabilization of
the Mexican cattle industry, continued disease control efforts, and genetic
improvements in Mexican herds. 

In the mid-1990s, producers in northern Mexico faced extreme drought,
economywide instability, and a dramatic devaluation of the peso--all of
which led them to sell record numbers of Mexican feeder cattle (1.6
million) to the U.S. in 1995. Following liquidation of that year's herd,
the domestic supply contracted and the number of animals entering the U.S.
the next year decreased 72 percent to 456,000. Imports have gradually
recovered since then and in 2000 reached 1.2 million animals.

In 1999, feeder cattle from Mexico made up about 5 percent of the U.S.
inventory of calves weighing less than 500 pounds and 7 percent of the
entire stock of U.S. cattle and calves on feed (13.2 million animals).
Annual Mexican feeder cattle exports to the U.S. typically amount to 3-5
percent of Mexico's total inventory of cattle. 

According to the Mexican government, the number of feeder cattle exported
depends on rainfall, related forage supplies, the Mexican cattle cycle
(rise and fall of cattle inventory over time in response to changing
prices), U.S. cattle market prices, exchange rates, and overall condition
of the Mexican economy. Most feeder cattle destined for the U.S. market are
steers; the extra veterinary costs involved in exporting spayed heifers
keep their numbers relatively low. Although exact figures are not
available, cattle used in rodeos account for an estimated 5 percent of
Mexico's total cattle exports to the U.S. 

Feeder Cattle 
Ports of Entry

Mexican feeder cattle currently cross into the U.S. through 10 major ports
of entry along the U.S.-Mexico border:  San Luis, Nogales, and Douglas
(Arizona); Columbus and Santa Teresa (New Mexico); and Presidio, Del Rio,
Eagle Pass, Laredo, and Hidalgo (Texas). An additional port in Sasabe
(Arizona) processes very few, if any, cattle. 

The size and complexity of these ports of entry vary greatly. While Santa
Teresa boasts a modern, state-of-the-art facility that can accommodate up
to 10,000 cattle, significant improvements have been made at most other
ports. Some continue to operate with limited and/or older cattle-handling
facilities. 

Cattle crossing facilities on the Mexican side of the border are supported
and maintained by Mexican cattle producers, under the auspices of a
regional cattlegrowers' association (Union Ganadera). The Mexican
cattlegrowers' associations are made up of rancher groups that operate
within a particular Mexican state, and in many respects fulfill the same
functions as state-level cattle rancher associations in the U.S.: industry
advocacy, political activity, and cattle marketing. However, they also
function as traditional agricultural cooperatives by operating border
crossing facilities, providing outlets for group marketing and education,
manufacturing feed, and purchasing vaccines and other supplies in bulk for
sale to members.

Cattle crossing facilities located on the U.S. side of the border are
operated primarily by private firms (in Arizona and Columbus, NM) and the
Texas Department of Agriculture. However, at Santa Teresa, NM, Chihuahuan
cattle producers operate both sides of the cattle port-of-entry.

Current U.S. health regulations regarding imports of cattle from Mexico are
unchanged from the pre-NAFTA period:  cattle must be free of pests and
diseases, and test negative for tuberculosis (and for brucellosis in
breeding cattle). To help ensure these requirements are met, the Mexican
cattle rancher associations own and operate inspection facilities at each
port of entry. Each facility is staffed by inspectors employed by USDA's
Animal and Plant Health Inspection Service (APHIS), which collects user
fees for its inspections from cattle brokers--who in turn charge the fee to
the Mexican cattle producers. When cattle are sold in the U.S., there may
be five or more fees associated with the transaction, including payments to
Mexican customs brokers or inspectors, Mexican cattle brokers, the Mexican
cattlegrower association (for expenses incurred at the crossing facility),
U.S. customs brokers or inspectors, and a U.S. cattle broker. Mexican
ranchers also pay $1 per head for the U.S. beef checkoff program, which
promotes beef consumption. Despite the amount of fees paid, the U.S. feeder
cattle market is more financially attractive to producers than selling the
animals domestically for beef, which must be transported to population
centers in central Mexico.

The Santa Teresa cattle crossing facility handles the largest volume of
Mexican animals entering the U.S. (about 327,000 head in 2000). Mexican
cattle spend approximately 24 to 48 hours at this port of entry, where the
Mexican cattlegrower association feeds and waters them, and where they are
inspected by APHIS. Mexican officials also review the animals'
documentation. Some animals are quarantined in Mexico for further
examination. 

Approximately 3,000 to 4,000 animals are refused entry annually at the
Santa Teresa facility. The typical basis for refused entry is failure to
comply with U.S. or Mexican paperwork or regulations, such as ear tags and
records that are not consistent, dipping certificates that are not in
order, improper branding, evidence of open wounds or live ticks, or
suspicions that the cattle in question may have been stolen in Mexico. 

If animals pass the basic inspection, which is visual, tactile, and
includes manual verification of castration, they are sent swimming through
dipping vats of insecticide approximately 60 feet in length. The dipped,
inspected animals are taken to holding pens and eventually released into an
area that spans both the Mexican and U.S. borders. They then enter pens on
the U.S. side of the border. Although they may spend some time in this
facility while awaiting transport, they have probably already been
purchased on the U.S. side and will be loaded immediately onto cattle
trailers destined for U.S. pastures or feedlots. At Santa Teresa, the
cattle cross the border on foot. At most of the other ports, the cattle are
loaded onto trucks after inspection in Mexico and taken across the border
to the U.S. facility. There, they are unloaded and reloaded again before
leaving the U.S. facility.

At ports of entry, cattle are priced according to current U.S. market rates
and a pricing formula. Prices are set for a 300-pound animal (the
approximate average weight of most feeder cattle imported from Mexico), and
Mexican sellers are penalized one cent for every 10 pounds over the
300-pound baseline. If the offer price for steers entering from Mexico is
$1.13 per pound, for instance, a 400-pound animal is sold for $1.03 per
pound. (This system may create an incentive for Mexican producers to export
their animals earlier than might be optimal, given local forage
conditions.)

There is a distinct seasonal pattern in the timing of cattle imports from
Mexico. Imports are lowest in summer because Mexican ranchers typically let
their animals graze from spring until the first fall frost in the higher
elevations. Within a month after the first frost, feeder animals begin
moving to market, entering the U.S. during the winter and spring months. As
frost progresses south and to the lower elevations in northern Mexico,
animals there join the current flow of feeder calves into the U.S. market.
This marketing pattern allows ranchers to take advantage of the warm-season
grasses that grow on rangelands in northern Mexico and the U.S. Southwest.

Most cattle entering the U.S. originate from the Mexican states of
Chihuahua, Coahuila, Durango, Nuevo Leon, and Tamaulipas. Cattle coming
from Chihuahua, Coahuila, and Durango predominate at New Mexico and west
Texas ports. Coahuila, Nuevo Leon, and Tamaulipas are the primary sources
of cattle entering at the central and southern Texas ports. Sonora is
likely the primary state of origin for cattle entering through Arizona
ports. These cattle breeds are primarily English (Hereford and Angus) or
mixed English, with some Brahma and English crosses (such as Brangus). 

Cattle buyers at Santa Teresa have found that European crossbreeds are able
to acclimate themselves to U.S. pastures and feedlots. These animals are
also able to withstand the hot and dry conditions as well as extreme daily
temperature variations of the northern Mexico desert regions. They are
well-suited for finishing (the last stage of production before cattle
emerge from the feedlot and are sent to beef packing plants) with grain in
the U.S., and end up as quality beef bearing the grade of "select" or
better. Many Mexican feeder cattle are the result of herd improvement
programs using bulls and heifers (both registered and commercial) imported
from the U.S.

Importation records that are completed at U.S. ports of entry do not
indicate the final destination of Mexican cattle. However, areas most
commonly mentioned by individuals familiar with cattle marketing at New
Mexico ports are the Texas Panhandle, northern Colorado, Oklahoma,
northeastern New Mexico, Kansas, and California's Imperial Valley.
Individuals working in or near the Texas ports of entry report that Texas,
Nebraska, southeastern Colorado, the Imperial Valley, Oklahoma, New Mexico,
Kansas, and Arizona are all destinations for imported cattle. Informants
familiar with Arizona ports indicate that many of the cattle crossing at
Nogales and San Luis remain in Arizona for feeding, but that cattle also go
to California, west and central Texas, and Oklahoma for feeding. They also
report that cattle crossing into Arizona are sometimes sent to Idaho, South
Dakota, and possibly Canada for feeding.

Given the pricing formula used at the border, most Mexican feeder cattle
are relatively lightweight and so are destined primarily for small grain
pastures and backgrounding in the U.S. (backgrounding involves primarily a
forage ration, which allows skeletal and muscle development without adding
fat). 

Winter small grain pastures throughout the Great Plains region draw
imported cattle, and when plentiful supplies of this forage are available,
there is increased demand at the border for the lightest Mexican animals
(200-300 pounds). Heavier animals (weighing at least 500 pounds) go
directly to feedlots.

Dissatisfaction with the efficiency of traditional U.S. border cattle
marketing practices has recently led Mexican ranchers to explore
alternatives to the current system that will increase pricing transparency
and reduce the influence of middlemen in the marketing process. Some are
electing to bring their smaller cattle into the U.S., retain ownership, and
pay grazing fees. Others are delivering heavier cattle directly to U.S.
feedlots and either retaining ownership or selling the animals there. Some
of the regional cattlegrowers' associations are encouraging members to send
their cattle to auctions in the U.S. instead of selling through
port-of-entry cattle buyers. The Union Ganadera de Chihuahua is
constructing an auction facility on the U.S. side of the border at Santa
Teresa, with plans to develop video or satellite marketing arrangements.

What Influences Movements of  
Cattle from Mexico?

Because APHIS needs projections of monthly Mexican cattle imports to plan
and allocate its inspection resources properly, it recently commissioned an
evaluation of factors (e.g., prices, grazing conditions) influencing the
movement of feeder cattle from Mexico to the U.S. The study, which used
nine models, focused on 1994-98, with a 12-month lag in the impact of
rainfall that effectively reduced the scope of the study to 1995-98. The
models use the ratio of nominal U.S. cattle prices to nominal Mexican
cattle prices, both in dollars per cwt (the dollar/peso exchange rate was
also incorporated into the models). 

As data on Mexican pasture conditions are not available, measurements of
accumulated rainfall served as proxies for grazing conditions. The rainfall
variables used in each model were cumulative for 12 months, and lagged: 
for example, the rainfall observation for January 1995 was the sum of
rainfall from January 1994 to December 1994, while the rainfall reported
for February 1995 was the sum of rainfall from February 1994 to January
1995. 

Research results helped confirm commonly held notions about the
relationship between cattle prices and exports:  As U.S. prices increase
relative to Mexican prices (or as Mexican prices decrease relative to U.S.
prices), Mexican cattle exports generally increase. 

Results for the rainfall variables were not, however, consistently negative
or positive. For instance, as rainfall in Chihuahua decreases, cattle
volume at both ports in New Mexico (Columbus and Santa Teresa) increases.
This result reflects the usual practice among Mexican cattle producers of
liquidating their herds when confronted with drought and selling fewer
cattle when grazing conditions are better. 

Conversely, at the Presidio port of entry, cattle exports appear to be
positively related to rainfall in Coahuila: the more rainfall, the more
cattle are exported to the U.S. The same result applied for Nogales (port)
and Sinaloa (state). In each of these cases, increasing amounts of
available forage likely led farmers to raise more calves and to increase
production--perhaps in part by importing cattle from other parts of Mexico.
These imports may also be among the factors explaining the positive
relationship between precipitation and increased cattle exports from the
region. 

In the cases of Arizona's San Luis and Douglas ports, the traditional
relationship between price and cattle exports did not appear to hold. This
result may reflect longstanding market relationships between buyers in the
U.S. and Mexican cattle producers or brokers or could be related to the
geographic isolation (relative to large Mexican markets) of some Sinaloan
and Sonoran producers.

Looking 
Ahead

Although relatively stable, cattle trade between the U.S. and Mexico will
face periodic disruptions and perhaps bursts of unanticipated exports in
the future. Cyclical economic and weather changes, for instance, may
substantially affect the movement of feeder cattle from Mexico, even though
this movement is in general quite consistent. Periodic economic turmoil in
Mexico could result in dramatic spikes in cattle exports to the U.S., such
as occurred in 1995. 

The U.S. is expected to remain a major market for Mexican cattle producers
as northern Mexico continues to raise cattle suited for feeding with
seasonal forage supplies. Also, the Mexican cattle feeding industry is
expected to remain small because there is limited domestic demand for
premium beef.   
Diana Mitchell, Rhonda Skaggs, and William Gorman, (New Mexico State
University); Terry Crawford and Leland Southard (202) 694-5187
southard@ers.usda.gov 

Research for this article was sponsored in part by the New Mexico
Agricultural Experiment Station.

WORLD AGRICULTURE & TRADE
China's Fruit & Vegetable Sector in a Changing Marketing Environment

China's longstanding potential as a strong competitor in international
fruit and vegetable trade will likely be realized over the next several
years. Although China exports less than 1 percent of its fruit and
vegetable production, private-sector investment--both domestic and
foreign--is currently creating world-class operations that deliver
high-quality fruits and vegetables to domestic and international markets. 

Over the last two decades, domestic demand has absorbed most of China's
gains in production--from 215 million metric tons in 1980 to more than 460
million in 1999--as the country's population expands and overall income
levels rise. Growth in domestic demand for fruits and vegetables,
improvements in marketing practices, and China's future agricultural
production policies will most likely determine how soon and how strongly
China's produce sector affects U.S. and world markets. 

Resource Mix & Climate 
Favor Fruit & Vegetable Production

China's land base is relatively large, and harvested area of fruits and
vegetables is about 22 million hectares, about 3 times the U.S. level. In
the 1990s, harvested area increased by nearly one-third for vegetables and
nearly 50 percent for fruit. Some area was switched from grain (which makes
up the bulk of total area), due in part to greater market incentives for
vegetable and fruit production. 

While other countries (e.g., the U.S., Australia, and Brazil) also have
large land resources, few have an enormous labor supply available to
produce and process labor-intensive crops like fruits and vegetables.
Farmers and processors in China generally have little difficulty in filling
their labor needs, even at a typical daily wage of 15 yuan (about $2). 

The topography and soil in many parts of the country, in addition to the
abundance of labor, make further changes in cropping patterns advantageous.
Sloped land currently under corn and other crop production, for example,
may be more suited for labor-intensive fruit crops, a change that would
likely result in greater control of soil erosion and more efficient use of
limited water resources--two growing concerns in China.

China's diverse climate allows for a wide variety of fruit and vegetable
production. In the south, a tropical climate supports production of
bananas, citrus, and other tropical and semi-tropical fruits (papaya,
litchi, mango, and longan), as well as outdoor production of vegetables
year-round. In the north, with its cold winters, deciduous fruits (e.g.,
apples, pears, and peaches) and greenhouse vegetables dominate. Seasonal
vegetable production is significant in the middle and northern regions,
where summer temperatures are moderate.

Rainfall across much of China depends on the monsoon, which moves northward
in spring and summer. Annual rainfall in the southern half of the country
is more than 600 millimeters (23.6 inches). The northern half receives less
rainfall, particularly in the northwest with its high plateaus and deserts.
Where rainfall is not sufficient, fruit and vegetable farmers irrigate by
hand or with sprinkler systems. 

Vegetable production (including melons) totaled 405 million tons in 1999.
Leading vegetables include sweet potatoes, potatoes, cabbage, cucumbers,
eggplant, peppers, onions, and lettuce each totaling at least 5 million
tons. (About 40 percent of all potatoes is fed to livestock.) China is the
world's largest producer of vegetables, with output about seven times the
U.S. level. Per capita production is about one and one-half times the U.S.
level. 

Fruit production totaled 62 million tons in 1999. Major fruit types include
apples (21 million tons), citrus (11 million), pears (8 million), bananas
(4 million), and grapes (3 million). Key producing provinces include
Shangdong in the east for apples, pears, and grapes, and Guangdong in the
south for citrus and tropical fruits. China is also the world's leading
fruit producer, with output about twice the U.S. level. Per capita
production is about one-half the U.S. level. 

Government's Role Is Limited
In Fruit & Vegetable Market

China's fruit and vegetable sector has seen less government intervention
over the last half century than other agricultural commodities, such as
grains. As a result, fruit and vegetable marketing is more responsive to
consumer demand. With the introduction of new varieties, production has
grown substantially and product quality has improved. 

Prior to establishment of the People's Republic of China in 1949, vegetable
producers were farm households who owned their own land or rented their
land from local landlords. They produced for local market demand and for
their own consumption. By 1958, most farms were organized into economic
collectives (communes). State-organized production teams on the outskirts
of cities supplied urban areas and prevailed until 1984. 

In 1978, China decentralized the country's economic decisionmaking and
allowed farmers to grow products for sale in the open market. Agricultural
output increased dramatically and foreign investment rose. Nevertheless,
production teams continued to produce vegetables for state-owned vegetable
companies that managed the wholesale and retail activities to bring
supplies to urban residents. 

In 1984, communes were disbanded. Farm families and rural economic
cooperatives raised vegetables for their own consumption and for direct
marketing to urban consumers. Although urban vegetable firms continued to
sign delivery contracts with village and township economic cooperatives,
produce trade across provincial boundaries began. The number of rural open
markets increased dramatically, and accounted for a growing share of the
country's produce sales. Implementation of the land contract system
(contracts between individuals and villages, which collectively own land)
in the early 1980s gave households more freedom to decide which crops to
plant. Increased planting flexibility and re-opening of local markets
resulted in sharply higher fruit and vegetable plantings.

In the late 1980s, small urban centers, county seats, towns, and township
centers relied on local open markets for vegetable supplies. Large and
medium cities got vegetables through state-owned vegetable companies that
contracted with counties, townships, and villages in suburban areas and
through proliferating state-owned wholesale markets.

In 1988, China's Ministry of Agriculture and provincial/local agricultural
bureaus began the Vegetable Basket Program, which was designed to address
the problem of food shortages and high food prices in the 1980s. The
program established "production bases" around city suburbs and elsewhere
around the country to capitalize on regional advantages in soil and
climate. These areas continue to receive special investment funds from the
central government, with the program transferring new technology (e.g.,
seeds, greenhouses, and pest protection) to local farmers. 

Also, over the last decade, the government has been instrumental in
financing the construction of thousands of greenhouses around the country,
with total area now estimated at 350,000 hectares. Many greenhouses are
3-sided concrete structures with plastic sheeting. Another 850,000 hectares
are under "hoop" production--plastic sheeting supported by small hoops. 

Today, supplies from across the country supplement locally produced
vegetables in urban areas, providing year-round availability. During cool
periods of the year in Beijing, for example, vegetable supplies are
procured from three production bases: 1) west-central China (autumn
vegetables), 2) North China Plain (greenhouse production in winter with low
transport cost to Beijing), and 3) south (winter vegetables). 

The Vegetable Basket Program also helped develop a network of wholesale
markets, which provide farmers with increased opportunity to generate cash.
China's wholesale markets now number more than 4,000. Development of these
markets has encouraged farmers to plant high-valued fruit and vegetables,
which has raised income in rural areas and improved farmers' livelihoods.
Also, since the late 1980s, farmers in some areas have been allowed to pay
taxes in cash rather than in grain, reducing the incentive to plant grains. 

Other government programs that have encouraged development of the fruit and
vegetable sector include demonstration farms in major growing regions (and
production bases) to introduce new varieties and to offer extension
services to area farmers. The government has developed transport systems
(e.g., major roadways, expressways, and rail lines) to move products,
including fruits and vegetables, from southern production bases to northern
parts of the country. A national fruit and vegetable market is gaining
momentum now that growers around the nation can monitor daily market
situations in many major wholesale markets with a fruit and vegetable price
information system sponsored by the Ministry of Agriculture in cooperation
with local agricultural bureaus.

Sector Prospects Hinge on 
Marketing Practices

Long-term growth in China's production of fruits and vegetables and greater
use of markets have coincided with expanding consumption, as measured by
per capita production. Per capita production of fruit and vegetables
(excluding potatoes) has grown from 134 kg (298 pounds) per person in 1980
to nearly 250 kg (556 pounds) in 1999. (Per capita production, or
availability, is used here as an indicator of the level of consumption,
because trade is minimal and because methods for collecting and reporting
household survey data have varied, making trend analysis problematic.
Actual consumption is lower due to loss and waste.)

The wide selection of products enjoyed by consumers, especially city
residents, throughout the year contrasts with the 1980s when a limited
supply was available in the winter (often only cabbage and Irish potatoes).
Other factors in the consumption increase include rising incomes and
changes in diet. Inflation-adjusted income per urban resident increased
nearly 30 percent from 1990 to 1999. 

With abundant supplies of agricultural products in recent years, prices
have been declining for many vegetables (e.g., carrots and garlic). This
indicates that growth in demand is not keeping pace with output. Meanwhile,
growing demand for high-quality produce (e.g., broccoli, navel oranges, and
grapefruit) for the tourist/ hotel trade is stimulating imports. Imports
are creating a competitive market within China. 

Over the next 5 years, supplies of some fruits and vegetables may continue
to grow faster than demand if planting incentives remain favorable relative
to other crops. Although fruit and vegetable prices have been declining,
field crop prices have been under even greater pressure in recent years as
domestic policies encouraged grain production. The field crop sector may be
under additional price pressure from imports following China's expected
accession to the World Trade Organization, which would prohibit subsidized
grain exports and curb government policies that favor grain output. 

China's fruit and vegetable export prospects are already bolstered by
relatively low costs of production, which are reflected in wholesale
prices. In Beijing, for example, wholesale prices for fruits and vegetables
are only one-tenth to one-third the level of prices in other countries.
Many private firms, including foreign investors who are taking advantage of
China's low input costs (particularly labor), are expanding fruit and
vegetable output and boosting overseas shipments. Total fresh vegetable
exports were 1.3 million tons in 1999, up 11 percent from 1998. Fresh and
dried fruit exports were 0.7 million, up 13 percent from 1998. Major
destinations are Japan, Hong Kong, Russia, South Korea, and Singapore.

While additional gains in fruit and vegetable exports in China seem
plausible, several factors will dampen prospective gains in the near term.
First, China currently offers only a few varieties of fruits and vegetables
in large volume for the export market. Second, the fruit and vegetable
industry does not use grade standards (e.g., for uniform product size),
although the Government is currently working with USDA's Agricultural
Marketing Service to address this issue. Third, there is not widespread use
of basic marketing practices such as modern packing and packaging
techniques. 

Finally, product promotion is very limited and not practical at the moment,
given the current overall level of product quality (uniform size and
appearance) for commercial sale. In many successful exporting countries,
industry-sponsored organizations help coordinate promotional and
informational efforts, but such activities are currently undertaken on a
limited scale in China and only by individual exporters. 

In short, most produce in China today is not export quality, and bringing
it up to international standards would most likely significantly reduce the
cost advantage at the farm level. However, for product grown in
professionally managed operations, quality is already high and unit costs
could decline as new technology (e.g., higher yielding varieties) is
adopted.

To improve production and marketing practices, the Government now permits
foreign trading and/or investing companies to work with farmers to grow and
deliver vegetables that meet buyers' requirements, signing contracts for
2-3 years and supplying inputs such as appropriate seeds. For example, in
1999, an investor from Singapore built a large greenhouse/packing facility
west of Qingdao (Shangdong Province in eastern China) to ship products
(spinach, lettuce, melons, and celery) to Japan and Singapore. The owner
invested in China due in part to financial incentives from the local
government (e.g., 2 years of tax-free operation), and is planning to expand
and exploit favorable export prospects to other countries in Asia. 

Another set of investors (also from Singapore) has planted 2,500 mu (167
ha) of Red Globe grapes in a new vineyard in Shangdong under a 15-year
lease with a village north of Qingdao. The firm ships fresh-market grapes
to Singapore, Malaysia, other parts of Asia, and Europe. 

While China's production potential is impressive, an apparent dearth of
high-quality supply of product for the domestic market may indicate that
near-term prospects for large export volumes are limited. Consequently,
domestic demand in high-income areas may be sufficient to absorb the supply
of high-quality (i.e., export-quality) produce. For example, a pear
producer in Shangdong sees large domestic demand potential for high-quality
produce and plans to ship pears to Shanghai and Guangdong once harvest
begins next year. 

Nevertheless, China is making inroads in several markets traditionally
dominated by the U.S. China produces a large volume of Fuji apples, which
have become very competitive in the Hong Kong import market and pushed
aside the previous market leader, Washington State Red Delicious. In Japan,
U.S. broccoli now faces stiff competition from China's product.

Another issue affecting future sales is world price levels and the
marketing window. It is likely that a large share of China's products would
enter world markets at a time when competition from local and global
producers is already intense, because harvesting seasons overlap for many
producers in the Northern Hemisphere. Consequently, additional supplies in
the world market, particularly during peak harvest periods, could result in
very sharp price declines for all suppliers.

The evolving nature of post-harvest handling/packaging in China and future
levels of foreign investment will likely play a large part in determining
the country's future competitiveness in world fruit and vegetable markets.
China could become very competitive and post large gains in overall export
volumes once the country makes significant and widespread advances in
marketing practices.   
Dennis A. Shields (202) 694-5331 and Francis C. Tuan (202) 694-5238
dshields@ers.usda.gov 
ftuan@ers.usda.gov

This article is based on information gathered by a USDA team that visited
China in November 2000. 

WORLD AGRICULTURE & TRADE BOX
China's expected accession to the World Trade Organization will reduce its
import tariffs on a number of fruits, vegetables, and their products,
including table grapes (from 40 percent ad valorem to 13 percent), oranges
(40 percent to 12 percent), apples (30 percent to 10 percent), frozen
potato fries (25 percent to 13 percent), and wine (65 percent to 20
percent). Lower tariffs will likely boost U.S. fruit and vegetable exports,
especially for products experiencing recent demand growth (e.g., oranges
and grapefruit). U.S. products, known for high quality, are already popular
in China's hotel/restaurant trade as well as large-scale city supermarkets.
WTO accession will also likely stimulate increased investment in the
marketing system, reducing the risk of product loss before reaching retail
markets for imports and domestic sales.

POLICY
Using Farm-Sector Income as a Policy Benchmark

Farm income support is often the prescription for treating fluctuations in
production and prices as well as losses in world markets due to market
access constraints. U.S. agricultural policy over the past 60 years
contains many examples of initiatives intended to raise farm prices and
income. More recently, the array of farm-related policies has broadened to
address food safety, food assistance, rural economic health, economic
well-being of farm families, and conservation and environmental concerns.
Clearly, measures of farm-sector income are inadequate tools for
determining the need for government intervention in most of these new
areas. Some analysts are also, however, beginning to question whether
income measures are even appropriate for determining the need for income
support payments to farmers. Over the years, policymakers have attempted to
address farm economic well-being using farm-sector income measures as a
policy benchmark, and the results have been, at best, modest and uneven. 

As the debate over the next farm bill gets underway--against a backdrop of
low commodity prices and 3 years of emergency income support payments--many
interested groups have called for establishing new countercyclical income
support programs that use measures of farm-sector income or receipts to
determine payments (AO April 2001, May 2001). The objective of this article
is to examine how well current data on farm-sector income reflect the
actual financial needs of farmers and their families, and to assess the
success of these measures as benchmarks for policy intervention.

Benefits of Measuring 
Farm-Sector Income 

When using an aggregate indicator of performance such as net income in
design or evaluation of policy, analysts must determine the kind of
relevant information that can be provided--or, more crucially, cannot be
provided--by a sectorwide measure. Net cash income, for example, is a
measure that indicates how much cash is available within the production
agriculture sector to reduce debt, purchase capital assets, pay taxes, and
contribute to family living expenses. Net farm income, which is net cash
income adjusted for changes in inventory values and capital replacement,
represents the income earned by farmers, their partners, and others who
supply labor, management, and capital for use in production. Both net cash
income and net farm income are single-dimension measures that can be used
to monitor annual changes in sector earnings or to track changes across a
broader time span. In this sense, they are similar to the barometers of
change that track other sectors of the national economy, such as after-tax
profits of manufacturers or retailers.

Even when taking a longrun historical view of agricultural sector
performance, it is necessary to reformulate net income measures. For
example, examining current net cash income relative to the average of the
previous 5 years (i.e., 5-year moving average) makes it easier to identify
"recessions" in the agricultural economy. Used this way, aggregate income
measures not only specify when recessions occurred, but indicate their
depth and duration. With emergency assistance between 1998 and 2000 to
offset low commodity prices, agricultural net cash income has kept pace
with 5-year moving averages. Without additional assistance in 2001, net
cash income is forecast by USDA to be about 10 percent below the previous
5-year average. 

When aggregate income measures are used in this way and expected sector
income is below its recent average, an overly simplified policy
prescription would be to provide additional money to farmers to make up the
difference. Given current commodity price forecasts and expectations for
input costs, analysts can even estimate the amount needed to equate 2001
net cash income with the previous 5-year average. If this approach were
followed, the impact of low commodity prices on the sector and all of its
participants would be remedied in much the same way it was for the previous
3 years.

If the farm sector were not a diverse set of farms and if policy objectives
were really this simple, such a broad approach might work. However, using a
single aggregate measure of performance to suggest government intervention
is an approach that suffers from a number of deficiencies.

Aggregate Farm Income 
Masks Wide Variations in Farm-Level Incomes

Production agriculture involves a wide range of farms and ranches that
enjoy varying degrees of financial success. A single aggregate measure such
as net farm income cannot reflect this heterogeneity. For instance, if net
farm income has increased from one year to the next, it is not possible to
tell whether every farm's income rose by the same percent over that period,
or whether a small group of farms earned an increasing share of the
sector's profits. In other words, the sector cannot be viewed as one large
representative farm. 

USDA survey data from the annual Agricultural Resource Management Study
(ARMS) can be used to examine the distribution of various performance
measures, including net farm income. The wide variation in financial
outcomes for farm businesses, for instance, can be demonstrated by
summarizing net farm income at various points of the distribution
(percentiles). This approach provides detailed information about
characteristics of the distribution that are not obvious when evaluating a
single summary statistic such as the mean. USDA's Farm Typology measures,
focused here on two distinct points in time, illustrate the importance of
examining the distribution of net farm income among farm operators.

In 1997, aggregate net farm income reached a record $48.6 billion. Given
this measure of success, it would seem that most farm businesses enjoyed a
prosperous year. However, the distribution of income among farms suggests
otherwise. At least half of all farms in the following typology groups of
small farms had net incomes below $6,000: limited-resource, retirement,
residential/lifestyle, and farming occupation-low sales. These four groups
represent 85 percent of all farms. Because these farms are typically small,
they do not require a full-time commitment from the operator and do not
provide the majority of the farm household's income.

The groups for larger farms (gross sales of $100,000 or more), that derive
a larger share of their household's total household earnings from farming,
show a different net farm income distribution. There is considerably more
variation in the distribution of net farm income among farms within each
group, and the amount of variation increases with farm size. For very large
farms, the difference between the highest and lowest percentiles was almost
$400,000 in 1997, compared with just over $8,000 for limited-resource
farms. The distribution of net farm income was also more positively skewed
towards higher income levels for larger farms. (The difference between the
value of net farm income at the 80th percentile and median net farm income
in 1999--$220,000--was more than two times the difference between median
net farm income and the 20th percentile net farm income value--$97,000. If
the distribution of net farm income were uniform, these differences would
be similar.)

By 1999, aggregate net farm income had fallen to $43.4 billion from $48.6
billion in 1997. All farms were not equally affected by this $5.2-billion
decline from 1997's record levels. Changes in the net farm income
distribution suggest that farms' financial circumstances deteriorated over
a wide range of income levels for limited-resource and retirement farms.
There were modest income gains at the high end of the income distribution
for residential/lifestyle farms, matched by similar declines at the low end
of the distribution. The opposite situation occurred for farming
occupation-low sales farms, where there were income gains at the low end of
the distribution and modest declines in net farm income at the high end of
the distribution. For farm businesses in the farming occupation-high sales
group, and for very large farms, net farm income improved at the low end of
the distribution between 1997 and 1999. This result might not have been
anticipated, given the 11-percent decline in net farm income during the
period.

Aggregate Farm Income 
Excludes Off-Farm Income . . . 

When crop prices are low and aggregate farm income falls, farm household
income and consumption decline, leading to a lower standard of living for
farm families. In the majority of farm households (62 percent), the farm
operator's primary occupation is something other than farming. Many of
these part-time farms typically lose money or produce low earnings that
contribute only a relatively small amount to total household income. For
farm households with married couples, both the operator and spouse in 40
percent of farm households work off the farm; neither operator nor spouse
work off the farm on 21 percent of all farms. 

This vocational diversification insulates the farm household from the
financial variability that farming may entail. Household expenditures for
food, clothing, medical needs, and other living expenses tend to remain
relatively constant from one year to the next, and change is based on the
family's perception of long-term income prospects. Most households can
accommodate income shortfalls by relying on savings or liquidating assets.
No direct relationship is apparent between the state of the general farm
economy and the proportion of farm households in which family living
expenditures exceed household income. In 1996, generally regarded as a good
year for agriculture based on the sector's net income, 29 percent of farm
households did not have sufficient income to meet their consumption
expenditures. In 1999, when net income fell, this figure dropped to 19
percent as increases in off-farm income ($16,000 on average) more than
offset the average decline in household income from farming ($2,000).

The condition of the farm economy clearly has a relatively larger impact on
households headed by operators whose primary occupation is farming. For
these households, greater dependence on farm income does, on average,
result in lower expenditures compared with households where the operator's
main occupation is something other than farming. This phenomenon is
illustrated by the substantial difference in average household income. In
1999, farm households headed by operators whose primary occupation was
farming had average household income of $55,000, compared with $70,000 for
households headed by operators whose primary occupation was something other
than farming. A higher proportion of the households that depended heavily
on farming revenues had consumption expenditures that exceeded household
income (27 percent versus 14 percent in 1999). In addition, these
households experienced less improvement between 1996 and 1999 in the share
of farm households that saw consumption expenditures exceed household
income. In 1996, 32 percent of these "farm-dependent" households had to
accommodate income shortfalls, compared with 27 percent in 1999. 

Income earned off the farm remains important to the farm-dependent
household's ability to accommodate income shortfalls. In 1999,
farm-dependent households with negative farm earnings had average off-farm
incomes of $42,500 and consumption expenditures of $21,000, compared with 
$28,000 and $23,000 respectively for farm-dependent households that had
positive earnings from the farm business.

. . . & Does Not 
Reflect Wealth

A common perception is that low returns from farming make it difficult for
farm households to acquire and hold wealth--particularly for households
that depend primarily on agricultural sources of income and equity
investments and fail to diversify outside the farm. Aggregate measures of
income overlook the well-being of farm families in terms of their ability
to accumulate wealth.

Farm households had an average net worth of nearly $563,600 in 1999.
Information from the Federal Reserve Board's Survey of Consumer Finance
(SCF) for 1998 (the latest data available) puts the average family net
worth of nonfarm households at $283,000, roughly half that of farm
households. 

Since most farmers are self-employed business owners, a more appropriate
comparison is between farm and nonfarm proprietorship households. In these
cases, portions of the household's income and net worth are associated with
a business venture. Analysis of household net worth data suggests that in
general, farm proprietorship households are wealthier than their nonfarm
counterparts. The median net worth of farm proprietorships was $351,000,
compared with $167,000 for nonfarm proprietorship households. However, the
share of farm proprietorship households at low (negative net worth) and
high (net worth greater than $1,500,000) levels are similar to shares at
the extremes for nonfarm proprietorship households. 

The difference between farm and nonfarm proprietorship household wealth is
explained by the composition of household assets. Even though about 45
percent of all cropland is rented, a substantial portion of a farm business
net worth is tied up in land. Farm business net worth accounts for about 70
percent of farm household net worth. In contrast, most nonfarm businesses
tend to lease their facilities and have much lower capital requirements.
Because nonfarm proprietorship households typically do not have large
capital investments in the business, household financial assets not related
to the business contribute more to net worth.

Differences in the composition of household assets have also allowed farm
households to accumulate more wealth over the 1990s than nonfarm
households. Although data limitations do not allow for exact correspondence
in the time periods for evaluating changes in net worth, the overall trend
is clear:  While average household net worth measured in the SCF increased
by 32 percent (between 1992 and 1998), farm household net worth increased
by 54 percent (between 1993 and 1999). The average annual increase in farm
household net worth was about 9 percent, compared with just over 5 percent
for nonfarm households. 

Aggregate Farm Income 
Does Not Reveal Problems with Debt . . .

Debt is not a source of capital for all farms. Only 42 percent of farms
reported debt outstanding at the end of 1999. For those who do borrow, a
portion of income must be set aside for interest and principal repayment.
Unanticipated income shortfalls can impede a farm's ability to service
debt, resulting in delinquent loans. Loan defaults occur when income
deficits are sizable, widespread, or prolonged.

Historical trends in agricultural loan delinquency rates (payment past due
30 days or more) as reported by the Federal Reserve for commercial banks
suggest that loan repayment problems peaked in 1987 at 11 percent of total
loan volume. Delinquency rates declined throughout most of the 1990s and
have remained around 3 percent of total loan volume for the past several
years. Only in 1996 and 1999 did commercial bank agricultural loan
delinquency rates increase. 

Annual changes in net farm income would not have signaled these modest
increases in loan delinquencies. Net farm income increased by 49 percent
between 1995 and 1996 and fell by less than 3 percent between 1998 and
1999. The largest annual decline in net farm income since 1987 was between
1994 and 1995 (-24 percent), when farm loan delinquencies went from 2.8 to
2.7 percent of commercial bank agricultural loans. Data on commercial
banks' loans to nonfarm businesses for commercial and industrial purposes
suggest that with the exception of the early 1990s, delinquency rates for
farm loans have been higher than for other business loans.

. . . Is Not Indicative of 
Farm Business Failures . . .

Like other competitive businesses, farms go out of business each year for a
variety of reasons. They often shut their doors voluntarily. The American
Bankers Association (ABA), which conducts a survey of agricultural banks to
track the number of farms going out of business each year, reports that for
the period between 1985 and 1999, closure rates peaked in 1986 at 6.2
percent. These rates were between 2 and 3 percent for most of the 1990s.
The majority of closures are normal attrition and voluntary liquidations
(80 percent) but the others are business failures. 

Another indication of business failures is the percentage of farms filing
for bankruptcy. While the rate of bankruptcy filings is lower than farm
closures, the statistics tend to track over time, with bankruptcy filings
peaking at 4.2 percent in 1986 and remaining between 1 and 2 percent for
most of the 1990s. 

While farm business dissolution rates were relatively steady during the
1990s, there were large year-to-year swings in aggregate net farm income.
The largest annual increases in net farm income occurred between 1995 and
1996 (49 percent) and between 1991 and 1992 (24 percent). With such
significant increases in aggregate income, the number of farm failures
would be expected to decline. Surprisingly, failures actually increased
between 1995 and 1996 and remained unchanged between 1991 and 1992. The
largest annual declines in net farm income occurred between 1994 and 1995
(-24 percent) and between 1990 and 1991 (-13 percent). The proportion of
farms going out of business did increase in each of these periods, but by a
relatively small amount (0.2 percentage points). Business failures
represent a cumulative effect of consecutive years of poor performance and
when they occur may be several years removed from the initial occurrence of
low income. 

Do farms fail more often or at a higher rate than other businesses?  The
Small Business Administration summarizes data compiled by the
Administrative Office of the U.S. Courts on the number of business
bankruptcies and voluntary and involuntary business closures from the U.S.
Department of Labor. The rate of nonfarm business closures ranged between
13 and 16 percent, 4 times higher than for farm businesses. Part of the
difference in the closure rates is explained by higher startup costs for
farming and the greater amount of equity at risk. The costs of termination
are substantially lower for many small nonfarm businesses. The decision to
voluntary terminate a business (which makes up the majority of both farm
and nonfarm closures) is much easier if the amount of equity invested is
small or easily transferred to another enterprise. If the business assets
are not easily transferred, such as in agriculture, the costs of
termination can be substantial.

. . . & Does Not Capture 
Intrinsic Benefits of Farming

Rural areas abound with various sources of amenities such as nature,
wildlife, scenic landscapes, tradition, and culture. As entrepreneurs,
farmers also enjoy the independence and responsibilities that come with
running their own businesses. The satisfaction derived from these aspects
of living and working on a farm is not easily measured in monetary terms.

When asked to identify criteria for judging the success of their farms, a
relatively high proportion of farm operators indicated that the farming
lifestyle was as important or in some cases more important than any
financial consideration. Lifestyle was the predominant measure of success
for farmers operating small farms identified as limited-resource,
retirement, residential/lifestyle, and farming occupation-low sales. In
each of these groups, farmers chose lifestyle as a very important element
of success more often than any other element. 

Lifestyle remained an important criterion of success even among larger-size
farm businesses. For large and very large farms--as well as small family
farms classified as occupation farms-higher sales--a high proportion in
each category (80 percent or more) identified adequate income as a very
important measure of success. In addition, as many as 70 percent of farms
in each of these typology groups associated success with the lifestyle
benefits from farming.

Policy Requires 
More Comprehensive Approach

Measures of sector income are valuable indicators of how the farming sector
is performing on a national scale. Nonetheless, these measures may not be
the best tools with which to track the financial situations and needs of
farmers and farm families--especially if they are to be used as a basis for
creating new farm policies. Although much of the current farm policy debate
has focused on net farm income and the adequacy of the safety net, this
article has attempted to show that the benefits of using aggregate farm
income measures in this fashion are overshadowed by the limitations.

Intended policy outcomes and actual results often diverge because aggregate
measures do not reveal the wide variations in income and circumstances
among various farm groups, do not reflect off-farm income and wealth, do
not reveal farmers' problems with servicing their debt, and do not give any
indication of how often farms fail. The reality of a technologically and
financially diverse farm sector suggests the need to examine alternative
policy benchmarks and intervention mechanisms.   
Mitch Morehart (202) 694-5581, with James Johnson, C. Edwin Young, and Greg
Pompelli
morehart@ers.usda.gov

POLICY BOX
ERS Farm Typology Groups

Small Family Farms (sales less than $250,000)

Limited-resource. Any small farm with gross sales less than $100,000, total
farm assets less than $150,000, and total operator household income less
than $20,000. Limited-resource farmers may report farming, a nonfarm
occupation, or retirement as their major occupation. 

Retirement. Small farms whose operators report they are retired (excludes
limited-resource farms operated by retired farmers).

Residential/lifestyle. Small farms whose operators report a major
occupation other than farming (excludes limited-resource farms with
operators reporting a nonfarm major occupation).

Farming occupation, low sales. Small farms with sales less than $100,000
whose operators report farming as their major occupation (excludes
limited-resource farms whose operators report farming as their major
occupation). 

Farming occupation, high sales. Small farms with sales between $100,000 and
$249,999 whose operators report farming as their major occupation.

Other Farms

Large family farms. Farms with sales between $250,000 and $499,999.

Very large family farms. Farms with sales of $500,000 or more.

Nonfamily farms. Farms organized as nonfamily corporations or cooperatives,
as well as farms operated by hired managers.

POLICY
Impact of Government Payments Varies by Farm Profit & Household Income
Level

High levels of government payments to the U.S. farm sector have forestalled
a significant drop in national farm income in recent years. The high levels
of assistance have generated debate about the appropriate way to address
the downturns in the agricultural economy and the effect of direct payments
on the distribution of farms and farm households by economic well-being. At
the farm level, payments generally boost both profitability and household
income. But are the gains even across different levels of farm
profitability and household income?  

Working with farm-level data from the 1999 Agricultural Resource Management
Study (the most recent available), USDA's Economic Research Service (ERS)
sought to determine 1) what the level of farm profitability and household
income would have been without the program payments and 2) how the payment
gains are distributed across different levels of farm profitability and
household income. 

ERS addressed these questions by comparing the distributions of farms by
farm profitability and household income calculated with and without
government payments for farms participating in direct payment programs. The
issue of distribution involves the structure of agriculture (farm numbers
by various characteristics). The differential effects of government
payments on economic well-being can affect the structure of the sector. 

Distribution refers to the clustering of farms along the range of a
measure, such as profits or incomes, and can be used to focus attention on
a particular portion of the farm population, such as those with low
household income. In 1999, individual farm profitability (measured here by
return on assets--ROA) varied from over 20 percent to below -20 percent.
About half of farms were clustered at an ROA between 1 percent and -6.4
percent. Farm household income varied from over $250,000 to less than 
-$50,000. About half of the farms fell in the range of $21,000 to $73,000.

The range in profit levels across farms results from differences in
management, weather, enterprise mix, and prices. Factors affecting profits,
along with differences in off-farm income, also determine a farm
household's level of income.

The 1999 rate of return on assets and level of household income include
government payments. To determine what the return on assets would have been
without government payments, the payments are subtracted from farm pretax
net income and the remainder is divided by farm business assets. To
determine the impact of government payments on household income, the
payments are subtracted from farm pretax net income and the result is added
to off-farm income. (If farm business income is shared with more than one
household, the revised farm business income is divided among households.)
This is, of course, a simplification of the effects of government payments.
It does not, for example, take into account any adjustments that a farmer
might have made in his/her operation in the absence of government payments. 

ERS found that at the median (i.e., above which 50 percent of the
observations lie), direct payments increased the rate of return on assets
by nearly 2 percentage points to -2.1 percent. The median household income
increased by almost $10,000 to $43,500. 

As indicated above, farms vary in their profitability, and the effects of
direct government payments were evaluated across the distribution of farms
by profitability levels. The least profitable farms enjoyed a
10-percentage-point increase in the rate of profits. Moving toward more
profitable farms, the effect quickly declines to 2 percentage points and
holds at that level throughout the middle of the distribution; here,
profits remained negative despite the effect of payments. In the upper
third of the distribution by profit, which includes those farms that would
have shown a profit even in the absence of payments, the gain in profit
rates begins to climb toward 7 percentage points for the most profitable
farms. 

In other words, direct payments influenced the highest and lowest ends of
the distribution in a similar way, boosting returns disproportionately for
farms that had low and high rates of return relative to other farms. Toward
the middle of the distribution, direct payments had less influence on farm
profits, reflecting lower payments relative to the level of farm assets.

The effect of direct payments on the distribution of farms by household
income is also concentrated in those with the lowest and highest measured
levels of well-being. The level of income corresponding to the poorest
households (i.e., those with negative to approximately $17,000 in total
earnings) increased by up to $30,000. This high improvement dropped off
quickly, settling near $10,000 for a large portion of farms in the middle
of the distribution. As farm household incomes approached the highest
levels ($80,000 and above), the effect of direct payments began to increase
and was similar to levels achieved for poor households. 

This analysis raises questions about the capacity of counter-cyclical
direct payment programs to effectively address the needs of those
encountering financial stress. These programs accounted for a large portion
of the direct payments from 1998 to 2000 and were triggered by either low
prices (loan deficiency payments) or congressional action (primarily market
loss assistance) during this period. The effects of these programs were not
directly proportional to need, going disproportionately to profitable farms
and to households with high income levels. Although the payments sharply
improved the financial standing of the worst-off program participants, the
absolute level of improvement quickly leveled off for farms in the
mid-range levels of profitability and household income. 

The effects described here are most likely unintended because farm programs
were not designed to be proportional to hardship at the farm business or
household level. The results shown here have implications for the structure
of agriculture. In that respect, the effects of direct payments may differ
from what some policymakers prefer.   
Jeffrey Hopkins (202) 694-5584
jhopkins@ers.usda.gov

POLICY
Government Payments to Farmers: Their Contribution to Rising Land Values

Direct government payments are usually intended to benefit farm operator
families. Critics of payment programs nonetheless contend that, since
government payments are usually attached to land, this addition to farm
income contributes to rising rental rates and, in turn, to higher land
values. The "bidding" of government payments into higher rents and land
values generally benefits farmland owners. While a share of the payments
accrues to tenants and sharecroppers, farmers who rent a large share of
acreage they operate face increased rental rates. This raises their fixed
costs and increases the risk of operating losses if commodity prices and
government payments decline.

Some government payments to farmers also translate into income for
merchants who provide seed, fertilizer, machinery, and other production
inputs. Lenders benefit from the improved repayment capacity of farm
borrowers and reduced risk on farm loan portfolios. Other indirect benefits
accrue as local economic multipliers create ripple effects from the
additional income throughout the rural community.

This article describes the interaction between government payments and land
values and identifies groups in the community--landowners and others--who
are likely to benefit directly or indirectly from program payments. A
simple model illustrates the impact of government payments on farmland
values, followed by a discussion of government payment impacts on local
economies and farm lenders.

Payments Raise Income
& Land Values

The value of agricultural land depends largely on its expected future
earnings from farming. Because government payments contribute to farm
income, they indirectly support farmland values. In competitive local land
markets, land buyers pay a higher price to acquire land that conveys an
expected stream of government payments.

Payments are generally attached to the land, so the rights to receive
payments transfer with landownership. Current landowners capture most of
the expected future program benefits through land value appreciation.
Although landowners must sell the land to fully realize the benefits of
higher land values, they realize a partial benefit from the increase in
equity against which they can borrow and from higher rental rates.

Farmland values change to reflect the present value of expected future net
returns to land through a process called capitalization. As government
payments become a component of expected future returns, they are
incorporated into land values through capitalization. The benefits of
higher expected future returns accrue to current owners of land on which
payments are made, including both farm owner-operators and nonoperator
landlords.

Government payments generally improve the balance sheets of recipients by
decreasing income risk associated with land ownership, increasing the value
of farm assets, and reducing the need to acquire debt. Government payments
may affect the debt side of farmers' balance sheets by reducing the need
for financing of capital asset purchases, and, depending on the timing of
receipt of payments, lessening the amount of credit needed for seasonal
production financing. Countercyclical direct program payments tend to
stabilize income, minimize the impact of catastrophic market losses, and
reduce financial risk for both farm operators and the lenders providing
them credit.

The impact of income from any source--including government payments--on
land values depends on whether that income is viewed as permanent or
transitory. This distinction hinges on landowners' degree of certainty that
the income source will be there in the future. Even though production
flexibility contract payments (PFCPs) may have been viewed as transitory
payments when authorized by the 1996 Act, subsequent emergency assistance
and a 70-year history of government involvement in agriculture have
generated the expectation that future support will be available when
needed.

During 1981-86, high interest rates, a strong dollar, and declining exports
contributed to rising uncertainty about the future profitability of
farming, leading to a 31-percent nationwide decline in the total value of
farm real estate assets. But land values in recent years have been
relatively robust --especially in areas reliant on production of program
commodities--despite concerns about low commodity prices and the future
direction of farm programs. 

Bankers in the Chicago Federal Reserve District (Iowa and parts of
Illinois, Indiana, Michigan, and Wisconsin) report that land values in the
district rose 6 percent overall in the year ending January 1, 2001, despite
a slowdown in the rate of increase in the last three quarters. The gain may
confirm that after several years of emergency assistance to offset the
effects of low commodity prices, landowners and land purchasers view
government payments as a near-permanent solution to future commodity price
declines, and that Midwest farmland owners remain confident that government
intervention to maintain farm incomes will continue for the foreseeable
future. This apparent confidence suggests that landowners view government
payments as transitory only in the sense that they might be reduced if
market prices and returns on commodity sales improve dramatically.

Comparing Benefits to
Landowners & Tenants

For many operators, renting land to farm is a key strategy to expand the
size of the farm business without incurring additional debt. About 42
percent of farmers rented land in 1999. On average, rented farmland
accounted for about 45 percent of total land operated per farm, but about
18 percent of operators rented more than three-fourths of the land they
farmed while 7 percent were full tenants--i.e., they owned none of the land
they operated. Depending on the extent that government payments lead to
higher rental rates and higher land values, operators farming mostly rented
acreage may receive little benefit.

PFCP checks are sent to landlords and tenants according to the terms of the
lease agreement. In a series of panel discussions held in early 1997 under
the auspices of USDA's Economic Research Service, professional farm
managers indicated that PFCPs were almost immediately captured by
landowners and reflected in rental rates and land values. According to
panelists, the process was clear in cash lease situations, where the lease
terms negotiated between tenant and landlord reflect the expected
contribution of PFCPs to the renter's income. Given the intense competition
for leased land in many areas, tenants operating on cash leases found their
lease rates being bid up until the landowner had captured most of the
tenant's share of the PFCP.

Landowners' capture of PFCPs through farmland rents is less straightforward
when tenants operate land under share rental arrangements. Under the 1996
Farm Act, crop-share leases are routinely reviewed by county committees and
USDA personnel to check for compliance with local practices regarding
division of PFCPs between landlords and share-rent tenants. Farm manager
panelists perceived that the payments were intended to be shared
proportionally according to crop shares. But landlords did have some leeway
to adjust terms of share leases to circumvent this requirement and to
capture more of the PFCP benefits.

For example, panelists reported that some landlords reduced their share of
expenses or retained a larger crop share to gain additional compensation
that was equivalent to the amount of the tenant's share of the PFCP. Such
lease changes generally take place over time and are subject to review, but
panelists indicated that an increasingly larger share of payment benefits
would likely accrue to landlords. However, in areas where competition for
rental land was less intense, tenants retained a greater proportion of
their PFCP.

Farm manager panelists reported that longer term changes in lease
arrangements were occurring as landlords attempt to capture a greater share
of PFCPs. In some instances, share leases were being converted to cash
leases. In other cases, to eliminate questions as to who should receive the
PFCPs, landlords simply quit renting out their farmland and used paid
labor--sometimes the previous tenant--to provide custom work (labor and
equipment) for the same tasks that had previously been carried out under
the share lease. The landowner would also pay input suppliers for custom
application of needed inputs. As a result of these adjustments, PFCP
benefits to share-rent tenants are expected to be minimal in areas where
competition for rental land is more intense.

No follow-up panel discussions have been held to assess the degree to which
these adjustments have played out, but USDA data generally support the
observations of the 1997 panelists. Cash lease income to nonoperator
landlords increased by 17 percent from 1996 through 2000, while share-rent
income declined 38 percent. Moreover, the portion of nationwide nonoperator
landlord income from cash leases increased from 47 percent to 57 percent
between 1996 and 2000, suggesting a shift from share leases to cash leases.

The degree to which government payments affect rental agreements and land
values depends on how much additional expense is incurred to become
eligible for the payment. Under legislation prior to the 1996 Act,
deficiency payments--paid when season-average market prices fell below
predetermined target prices--were based on an operation's historic acreage
and yields of program commodities. These were effectively lump-sum payments
that provided little incentive to increase production (and costs), because
a recipient could do little to increase recorded program base acres and
yields. Because qualifying for a payment depended on market conditions and
prices and entailed additional costs to maintain mandated set-aside
acreage, deficiency payments flowed to the landowner through higher rents
and land values.

Production flexibility contract payments--authorized under the 1996
Act--are based on previous participation in annual commodity programs, and
are tied to ownership of farmland instead of production of commodities.
Where deficiency payment levels depended in large part on commodity market
prices, PFCPs--although declining over 7 years--are predetermined for a
known time horizon. The payments were intended to benefit those deriving
income from farming, and are attached to the land rather than the farm
operator. Although the Secretary of Agriculture was directed to protect the
interests of tenants and sharecroppers, modifications in both rental rates
and lease types resulted in landowners capturing most of the PFCP benefits.

Loan deficiency payments (LDPs) provide a per-unit revenue floor for most
program commodities. While these payments are available only for program
commodities during periods of relatively low prices, they provide a
per-unit revenue floor, reducing any further down-side price risk for these
commodities. Since they are paid on each unit produced, they give farmers
an incentive to increase production, incurring greater expenses for
fertilizer, herbicides, and other production inputs. By shifting a small
share of payment benefits to input suppliers, LDPs have a lesser effect on
land values than PFCPs and other lump-sum payments.

Environmental programs such as the Conservation Reserve Program and
Wetlands Reserve Program require payment recipients to incur some expense
in maintaining enrolled land in a conserving use. Since payments are made
on land that is environmentally sensitive but not necessarily
agriculturally productive, they may represent a return--certain for a
number of years--that is higher than earnings the land could generate in
production. But in removing land from production, they reduce the supply of
available land and exert upward pressure on rental rates.

Land Values
Without Program Payments

The impact of government payments on farmland values can be illustrated
using a simple income capitalization modeling approach. Assuming that net
income from all sources--e.g., market sales or government payments--is
reflected in land values, the ratio of net income to real estate value is
the discount rate at which income is capitalized into land values. This
calculated discount or capitalization rate can then be used to estimate
land values in the absence of government payments. This simple model is
based on assumptions that should generate the largest "reasonable"
contribution of government payments to land values and therefore indicate a
projected lower limit on land values without government payments.

The ratio of farm-sector net cash income (measured in USDA farm-sector
accounts as net cash income accruing to farm operators, contractors, and
nonoperator landlords) to farm real estate value measures an implied
discount rate, uniquely determined for each year. Applying the discount
rate to annual net income excluding government payments generates a new
land value that would exist if farmland values depended solely on earnings
from market sales. Results suggest that in the absence of government
payments, total value of U.S. farmland would have been about 4 percent
lower at most during 1972-81 and no more than 19 percent lower during
1982-89. This gap between total U.S. land value with and without government
payments decreased to about 13 percent during 1990-97, and rose to 25
percent during 1998-2001. 

While these findings are consistent with those from more extensive prior
studies, several caveats apply. This approach assumes that future income
expectations are based entirely on current income, and that expectations
change annually and are immediately reflected in current land values. The
approach also assumes that government payments contribute dollar-for-dollar
to net income (no program participation costs are estimated), and that all
net income has the same impact on land values regardless of whether the
source is market sales or government payments. Perhaps most importantly,
farmland value is based solely on future expected farm income and has no
value in nonagricultural uses such as recreation or residential or
commercial development.

Most previous studies that have examined the effect of past government
payments on cropland values have analyzed limited geographic areas or
addressed the issue from the perspective of a single commodity. Those
studies bracket the effect of government payments at between 7 percent and
38 percent of cropland value, with differences attributable to variation in
program commodity studied, reference date of the study, region, and
estimation method.

A 1990 study by USDA's Economic Research Service (ERS) took a more longrun
perspective by estimating changes in cropland values after producers have
had time to adjust inputs, outputs, and technology to a drop in income from
government payments. The study used a computable general equilibrium
model--where all sectors adjust simultaneously--to specifically address the
issue of U.S. cropland values in the absence of farm programs. The model
results indicate that longrun equilibrium cropland values would be 15-20
percent lower in the absence of government payments.

A more recent ERS study evaluated the impact of government commodity
programs on cropland values at the time of implementation of the 1996 Act.
The percentage of cropland value accounted for by farm program payments was
estimated. Results indicate that the responsiveness of cropland values to
changes in government payments varies widely across the U.S. For example,
elimination of government payments would have lowered land values by 69
percent in parts of the Northern Plains, and by about 30 percent throughout
much of the Corn Belt. Other areas with a relatively high share of land
values attributable to government payments were in north central Texas,
southern Georgia, coastal North Carolina, and the Great Plains.

Other Businesses Benefit 
From Farm Payments

Farm program payments indirectly affect the incomes of rural businesses
other than farms, primarily through farm business and household spending in
the local area. When farmers use government payments, or credit obtained on
the basis of those payments, to purchase farm inputs and equipment locally,
they infuse the economy with additional funds, contributing to the revenues
of other local businesses and to the maintenance or creation of local jobs.
Such local economy spillovers are sometimes called economic multiplier
effects.

The magnitude of local economy spillovers from government payments depends
upon a number of factors, including design of farm programs and whether or
not program payments are spent within the community. If farm program
payments are spent in the community where the enrolled land is located,
then economic spillovers will benefit the local economy. LDPs, for example,
have greater local economywide effects than lump-sum payments because they
tend to be spent locally on additional inputs, especially in agriculturally
dependent areas.

One avenue of seepage from the local economy is farm payments that go to
landlords who live outside the area. The more that landowners, in general,
are able to capture increases in government payments through increased
rents and farmland values, the more likely that payments to absentee
landlords will escape the local economy. According to data from the
Agricultural Economics and Land Ownership Survey, more than one-third of
landlords live on the farm they rent to others but one-fourth live at least
150 miles away from their land.

Farm programs benefit financial institutions that service the farm sector
by augmenting farmers' cash-flows. Cash-flows determine the ability of farm
owners and operators to repay borrowed money. Government payments to
farmers increase the size and reduce the risk of cash flows associated with
farming, and also support the value of farmland serving as collateral for
many farm loans.

Larger and more reliable cash-flows benefit farm lenders and give financial
institutions a vested interest in the continuation of farm programs.
Cash-flow characteristics are key to a lender's determination of how much
can prudently be loaned to a farm business. PFCPs and other fixed payments
that increase the size of total cash-flows from farmland are received by
eligible farmers regardless of production or price risks they face. LDPs
and other countercyclical payments not only increase the overall size of
cash-flows, but also reduce their riskiness because the cash-flows then
increase in years of low market prices.

By increasing and stabilizing farm cash-flows, government payments enable
lenders to offer farmers credit on more attractive terms than they
otherwise could. This feedback mechanism may well encourage farmers to
increase their use of debt and to hold more financial assets. Financial
institutions also profit from those farmers and farmland owners who receive
government payments but don't borrow, because their demand for savings,
trust, and transactions accounts rises as farm-sector wealth and cash-flows
increase.

Policy Considerations

Government payments benefit farm operators, but they are largely attached
to the land. Consequently, government payments accrue mainly to landowners,
in the short run through rising rental rates and in the longer term through
capitalization of future program benefits into land values.

Many other businesses in local economies may benefit as increased spending
by farm payment recipients adds to income and employment through economic
multiplier effects. Lenders share in the benefits due to improved repayment
capacity of farm borrowers and reduced risk in farm loan portfolios.

Program payments and their impacts will be part of the upcoming debate on
the farm bill that will replace current legislation expiring in 2002.
Direct government payments exceeded $22 billion in 2000 (including nearly
$9 billion in emergency assistance), and represented almost 31 percent of
net cash income to farm operators, contractors, and landlords. Many farm
groups are calling for continuation of payments near this record level.   
James Ryan (202) 694-5586, Charles Barnard, and Robert Collender
jimryan@ers.usda.gov
Ken Erickson also contributed to this article.

POLICY
Falling Prices & National Farm Policy:  The Case of the Northern Great
Plains

Fluctuating crop prices and farm incomes can affect the economic well-being
of rural communities and even entire regions, particularly those highly
dependent on agriculture and where livestock and crop producers have strong
linkages to other sectors. Here the scope and design of national farm
policy have significant ramifications beyond the farm gate, and Federal
farm program payments can affect various sectors differently.

One such highly dependent region is the Northern Great Plains--Kansas,
Nebraska, and North and South Dakota--where farm production and food
processing sectors account for $49 billion (one-fifth of total regional
output) and 308,000 jobs (almost one-tenth of regional employment). Almost
90 percent of total crop acreage in the region (according to the 1997
Census of Agriculture) is devoted to wheat, feed crops, and oilseeds, whose
prices dropped from very high levels in 1995 to very low levels in 1999 and
2000. This triggered marketing loan benefits (MLBs or loan deficiency
program payments and marketing loan gains) and emergency Market Loss
Assistance payments (MLAs) during 1998-2000, that both propped up farm
income and generated spillover effects throughout the Northern Great Plains
economy.

This article explores the effects on the Northern Great Plains of the
downturn in commodity prices and of the farm program response.
Specifically, how did MLBs and MLAs contribute to regional welfare when
commodity prices dropped?  The article assesses the impact of trends in
income, land values, and government payments on the Northern Great Plains
economy, and highlights agriculture's strong linkages to other sectors in
the region. 

This examination illustrates a farm program conundrum facing economists and
regional policymakers. Lump-sum income transfers such as MLAs promote
economic efficiency because they are mostly decoupled from production
decisions. However, they fail to mitigate the large sectoral dislocations
induced by a downturn in commodity prices. On the other hand, MLBs affect
farm-level decisionmaking by subsidizing farmers' net returns. These
programs enjoy widespread political support because they afford income
protection by insulating production decisions from price signals.

Federal Payments Counter
Effects of Falling Prices

Agriculture and agriculture-related industries in the Northern Great Plains
have a strong regional and national presence. The region's four states
produce a quarter of total U.S. wheat, one-eighth of feed crops, and
one-sixth of livestock. Its meat processing activities account for almost
one-fifth of total U.S. production of meat products. Meat, food grains, and
other food processing sectors represent the major forward linkages from
this region's agricultural production.

The Asian financial crisis in the late 1990s precipitated a drop in world
demand for U.S. agricultural exports. Also, global commodity supplies
expanded in response to record-high commodity prices in the 1995/96
marketing year. Abundant worldwide harvests in subsequent years continued
to exert downward pressure on commodity prices and added to world and U.S.
stocks. Wheat, corn, and soybean prices fell, on average, between 20 and 30
percent during 1997-99, and crop cash receipts for Northern Great Plains
producers fell from $13 billion in 1997 to less than $10 billion in 1999.

Throughout this period, net cash income for the region fluctuated between
$6 billion and $7 billion. All the while, land values for cropland in the
Northern Great Plains rose 10 percent, or about 3 percent annually--about
the rate of inflation.

The fact that regional farmland prices rose during this period while
commodity prices fell so drastically--pushing down crop cash receipts--is
explained in large part by the sudden and substantial rise in government
payments to Northern Great Plains producers during calendar years 1998-99.
Prior to these years, the ratio of government payments to crop cash
receipts was unchanged, and government payments as a share of net cash
income remained constant. In 1998, marketing loan benefits rose sharply
when prices fell below government commodity loan rates, and eligible
producers also received emergency market loss assistance payments
authorized by Congress.

Receipt of MLBs and MLAs almost doubled the region's ratio of government
program payments to crop cash receipts as well as the program payment share
of net cash income. In 1999, government payments accounted for three-fifths
of net farm income in the Northern Great Plains, and the ratio of
government payments to this region's crop cash receipts reached almost 50
percent. This cash infusion prevented net cash income from sinking to
levels experienced during the farm financial crisis of the 1980s. Federal
relief propped up farm income and even exerted upward pressure on regional
farmland prices as the 1990s drew to a close, unlike the 1980s plunge in
farmland prices. 

Model Estimates Sector & 
Regional Impacts 

While some farm-level impacts of MLBs and MLAs can be observed, assessing
their effects on the regional economy requires using a regional economywide
model. Four hypothetical "what if" scenarios are simulated and compared to
a base scenario of the Northern Great Plains economy at an initial
equilibrium. The analysis of these scenarios represents a way of
systematically exploring their different impacts on the regional economy.
These scenarios are:

--Base: Northern Great Plains economy in equilibrium using 1996 data. 

--No MLAs or MLBs: commodity prices drop by 20-30 percent but there are no
MLAs or MLBs.

--Both MLAs and MLBs: commodity prices drop by 20-30 percent and producers
receive both MLAs and MLBs at 1999 levels. 

--MLAs only: commodity prices drop by 20-30 percent and producers only
receive MLA payments at 1999 levels.

--MLBs only: commodity prices drop by 20-30 percent and producers only
receive MLBs at 1999 levels.
In these scenarios, the largest share of the $1.6 billion in MLBs in 1999
goes to feed crop producers, followed by oilseed and wheat producers. While
actual market prices reflect supply and demand, farmers view MLBs as a
component of expected prices (see AO, October 2000). 

MLAs represent after-the-fact lump-sum transfers to producers based on
acreage enrolled under Production Flexibility Contracts. The MLA payments
of $1.3 billion made in 1999 were adjusted to account for the shift in
acreage from wheat and feed grains to oilseeds during 1996-99 and for the
additional relief supplied to oilseed producers in 1999. Since the payments
were authorized toward the end of the 1999 fiscal year, it was assumed that
they did not affect prior planting decisions made by producers. Not
examined were the effects of Conservation Reserve Program and Production
Flexibility Contract payments, since they did not represent direct
responses to low prices.

Finally, the results from these simulations represent how the regional
economy would adjust over a 3-5 year time period independent of other
outside influences or events.

Without Government Payments, Falling Prices 
Would Have Jolted Regional Economy

Model results of the "No MLAs or MLBs" scenario indicate that in the
absence of government assistance payments, price declines of 20-30 percent
for wheat, feed grains, and oilseeds would have caused major sector and
cross-sector impacts. Compared with the base scenario, production of these
crops drops by $6.5 billion (about 50 percent), many workers leave crop
production, and the demand for agricultural chemicals and services drops.
The price declines lead to a 50-percent reduction in regional wheat output,
40-percent reduction in feed crops, and 60-percent reduction in oilseeds.
Income from wheat, feed grains, and oilseeds falls by 70 percent (or $4.3
billion). 

Livestock producers and food processors are generally the major
beneficiaries of a fall in commodity prices. A drop in grain and oilseed
prices lowers input costs for these sectors, allowing them to expand
production while lowering prices to consumers. According to model results,
as crop prices fall, livestock, dairy, and poultry producers in the region
increase output by about $4.3 billion or 14 percent, compared with the base
scenario. Food processors increase output by a similar percentage.
Employment in these sectors increases by almost 20,000 jobs. 

In competitive land markets, falling crop cash receipts drive down cropland
values. Without program intervention, the model estimates that cropland
prices in the region decrease by 79 percent and farmland prices by 32
percent (cropland in this region is about 41 percent of total farmland)
compared with the base scenario. The 32-percent drop is consistent with
estimated changes in land asset values nationwide in the absence of program
payments.

Without government intervention, according to model results, the fall in
crop prices causes nominal gross regional product (GRP) to drop by 2.5
percent, or $3.7 billion, in the Northern Great Plains economy. (GRP is a
regional measure, comparable to the national measure, gross domestic
product.)  About 85 percent of this regional contraction is due to low
prices, and the remainder is due to a decline in real economic activity.
Offsetting gains in livestock, food processing, and manufacturing diminish
the reduction in total real economic activity in the region. 

Without the assistance payments, total employment in the Northern Great
Plains falls by 40,500 jobs, or 1.1 percent of the total labor force.
However, this contraction in aggregate employment masks larger shifts in
jobs among sectors. The loss of more than 60 percent of total employment in
the three major program crop sectors--or 92,000 jobs among farm operators
and farm labor--leads to a fall in wage rates that, in turn, allows other
firms to add 54,000 new jobs. Nonfood-related sectors account for 64
percent of these new jobs (mostly in manufacturing), while food-related
sectors absorb the other 36 percent.

With Program Payments, Region 
Adjusts to Lower Prices 

Results of the "Both MLAs and MLBs" scenario indicate that with these
payments, smaller declines occur in wheat production (down 30 percent from
the base instead of the 50 percent under the no MLAs or MLBs scenario) and
feed crop production (down 20 percent instead of 40 percent). These drops
are partially offset by a 4-percent increase in oilseed production because
the MLB subsidy rate and MLA transfers for oilseeds are relatively
favorable compared with those for wheat and feed grains. Crop sector income
falls by 17 percent from the base scenario, or about a quarter of the
potential loss without assistance payments.

Livestock producers and food processors expand production by $3.2 billion,
or 11 percent over the base scenario. Added employment in livestock
production and food processing accounts for 46 percent of the net increase
of 27,000 jobs in the region, while all nonfood sectors--spread equally
across the manufacturing, trade and transport, and service sectors--absorb
the rest.

In contrast to the precipitous drop in cropland prices under the no MLAs
and MLBs scenario, the two programs together induce a 12-percent increase
in cropland prices and almost a 5-percent rise in overall farmland prices.
These payments create an implicit wealth effect, ensuring positive
increases in land prices for producers in the Northern Great Plains despite
the decline in commodity prices. Clearly, without these payments, the
market outcome of declining cropland prices could reduce producer access to
farm credit. 

The farm program response substantially mitigates regional economic and
employment spillovers from the drop in commodity prices by partially
stemming the large outflow of capital and labor from the crop producing
sectors. The farm program response reduces the drop in the Northern Great
Plains nominal GRP by almost two-thirds to 0.9 percent, or $1.6 billion.
Total employment falls by only 17,000 jobs (or 0.5 percent). Moreover,
shifts in jobs from crop production to other food and non-food sectors are
much smaller than without program intervention.

MLA and MLB Impacts 
on Region Differ

MLAs only. MLA and MLB programs differ in their impacts on land prices and
GRP. MLA payments alone mitigate the size of the fall in cropland prices by
57 percentage points--i.e., the 79-percent fall in cropland prices under
the no MLA or MLB scenario (compared with the base scenario) declines to 22
percent. While providing relief to landowners, MLAs do not directly
influence farmers' decisions or induce adjustments in markets for capital
and labor or markets for food and nonfood goods and services. These
transfers are spent by operators to reduce farm debt, and by farm
households mainly to purchase consumer goods. With MLA payments only,
nominal GRP falls by 2.3 percent, slightly less than the 2.5-percent drop
that occurs in the no MLA or MLB scenario. 

MLBs only. In contrast, the MLB payments alone partially stem the outflow
of labor and capital from the crop sectors and reduce the drop in nominal
GRP by half to 1.1 percent, or $1.7 billion. With over 95 percent of this
decline represented by the effects of low prices, these payments almost
neutralize the real contractionary effects of the price shock on the
Northern Great Plains economy. The MLB program allows farmers to minimize
lost revenue from some crops by switching to production of oilseeds.
Regional cropland prices decrease by 45 percent compared with 79 percent
with no intervention, translating to a decrease of aggregate farmland
prices of almost 19 percent. 

Implications for 
Regional Policy

MLBs and MLAs represent two types of policies producing different effects
on the Northern Great Plains economy. MLBs directly offset producers'
costs, reducing market adjustments producers make. With this program in
place, the fall in commodity prices becomes less disruptive to the mix of
goods and services produced in the Northern Great Plains. Consequently, it
is the MLB program itself that is responsible for reducing job losses in
crop production by half and almost offsetting the real effect of this price
shock on GRP.

As a lump-sum transfer, the MLA payments directly subsidize cropland
prices, thereby augmenting crop-sector incomes. However, since MLA-type
payments do little to offset reductions in crop production induced by lower
prices, crop-sector employment would still fall by the same 60 percent as
in the "No MLAs or MLBs" scenario. The larger disruptions in the other
sectors and the regional labor market would still occur.

For the economist, lump-sum transfers such as MLAs are the preferred method
of distributing a subsidy because they do not distort farmers' responses to
price signals. For the regional policymaker, MLBs are preferred because, by
dampening the price signals and slowing the outflow of capital and labor
from the crop sectors, they diminish the adjustments that the regional
economy must make. Hence the conundrum.

However, an even more fundamental implication exists. Since 1950, farm size
has doubled, the number of farms has declined by 60 percent, and
technological change has generated a thriving agricultural sector that uses
increasingly less labor. Successful U.S. agriculture has been a story of
continuous innovation and change in the structure of production, even as
real commodity prices follow a downward trend.

The extent to which the current downturn in commodity prices reflects part
of the longrun downward trend in real prices indicates there could be a
constructive role for marketing loans. If loan rates were allowed to follow
average prices downward, MLB payments could facilitate a smoother
structural transition to a new market environment. With an estimated loss
of 92,000 crop production jobs in the agriculturally dependent Northern
Great Plains without MLBs, even a portion of this job loss is hard to
swallow in one gulp.   
Stephen Vogel (202) 694-5368 and Kenneth Hanson (202) 694-5427
svogel@ers.usda.gov
khanson@ers.usda.gov
C. Edwin Young also contributed to this article.

POLICY BOX
The regional computable general equilibrium model used here is based on a
37-sector aggregation of economic activity for the Northern Great Plains
States and is constructed from the 1996 IMPLAN state-level database. These
results provide information on ballpark magnitudes of sectoral and
economywide adjustments in the medium run (3-5 years) independent of
outside influences. In this discussion, the term "production" is a revenue
flow variable--not a measure of physical quantities produced. This is a
common convention in regional and macroeconomics and allows comparison of
changes in production among food and nonfood sectors of the economy.

END_OF_FILE