Download AGRICULTURE, FOOD AND RESOURCE POLICY AGEC 430

Chapter 5 - Trade & Macro
5.1 Macroeconomic Factors
– exchange rates
– interest rates
– government fiscal balance
5.2 International Agricultural Trade
–Trade agreements
5.3 Trade Theory
–Gains from trade
–Distortions (tariffs & subsidies)
–Farm programs
1) Exchange Rates
Affects the competitiveness of agr. Products
Early 1970’s – floating exchange rates
Policy – over or under value exchange rate
What is the impact of a ER distortion?
Example 1:
Argentina: Overvalued Exchange Rate (exporter)
Shift of excess demand function
Lower producer price
Lower quantity exported
Loss of producer surplus
Source: International Monetary Fund -IFS
Increase in Exchange Rate
P
S
ED
Q
Interest Rates:
Why interest rates are important:
1) Value of currency – prices received and paid
Most commodities are US$ denominated
2) Cost of borrowing:
Agriculture is capital intensive (borrowing)
Inputs: seed, fertilizer, machinery
1980’s
- high interest rates – low grain prices
- debt crisis
Cost of borrowing: How is it determined ?
Role of central bank (Bank of Canada)
Role of the market
Government intervention (interest subsidies)
Canadian Prime Rate % (1960-2004)
20
18
16
14
12
10
8
6
4
2
0
1960
1965
1970
1975
1980
1985
1990
1995
2000
100 Basis points = 1%
Src. Globe & Mail - March 8, 2008
Government Fiscal Balance
Consequences for Agricultural Policy
1 – interest rate
- more borrowing = higher rates
"crowding out effect"
- higher cost for farm borrowing
2001
Average capital/farm
Total farm capital
= $800,000
= $ 200 Billion
1% change in interest rates => $ 2 Billion
(1971 - 2002) - Net market income
- 1.8 $B (2002)
3.3 $B (1975)
2 – capacity to fund interventions
- deficits = limited marge de manouvre
- reduced scope for intervention
Debt/GDP Canada (61-2003)
80
70
60
50
40
30
20
10
0
1961-62
1969-70
1977-78
1985-86
1993-94
2001-02
Deficit/GDP Canada (1961-03)
4
2
0
1961-62
-2
-4
-6
-8
-10
1966-67
1971-72
1976-77
1981-82
1986-87
1991-92
1996-97
2001-02
Fiscal Deficit - Debt Service (1961-2003) ($Millions)
60000
50000
40000
30000
20000
10000
0
1961-62
-10000
-20000
-30000
-40000
1966-67
1971-72
1976-77
1981-82
1986-87
1991-92
1996-97
2001-02
5.2 International TRADE
Gains from trade:
> increase in output due to specialization
 based on comparative advantage
• each country
– concentrates on producing goods and that it produces
relatively efficiently
– trading to obtain goods that it does not
Trade Distortions
•
•
•
many forms of distortion (welfare reducing)
tariffs, taxes, subsidies, quantitative measures
non-tariff barriers (health, safety reg’s)
Trade Agreements
•
•
institutional arrangement – restraint on behaviour
multi-lateral (regional), bilateral
•
Levels of cooperation
– Range of goods (agr vs industrial)
– Scope of instruments included
– Customs union – full economic integration (EU)
Reasons for Protection
•
new industry (infant industry argument)
•
national health + phyto-sanitary
•
unfair foreign trade policy
•
Defend domestic programs
•
improve balance of payments
•
improve “Terms of Trade”
•
generate revenue
•
slow down painful economic adjustment
•
Political economy
benefits of additional trade are spread thinly among
many individuals but the cost is high for only a few
firms or groups
Trade Theory
• Why do nations trade?
• What are the benefits?
• Implications of trade distortions
Theory
• comparative advantage (Ricardo)
• absolute advantage
 PA

 PM
US



 PA
 
 PM



CA
• Ohlin (1933)
• comparative advantage
– due to resource endowments
– Canada land rich, capital poor
– => export agr & import manufactures
Gains from trade
• Trade allows for specialization – increased welfare
Gains from Trade
P1
.
Agr.
W1
W2
P2
Manufactures
ES/ED Framework
• Excess Demand (ED)
• Excess Supply (ES)
Gains from trade (versus no trade)
• depend on the impact of a country on world prices
• Small country – no price impact
• Large country – prices adjust, impacts smaller
2 Country Model – 1 good
• e.g. US/Canada cattle market
• Assume: Canada - low cost producer
• How are consumers and farmers affected by trade
between the two countries?
• Winners and losers – distribution effects
– US – consumers gains, farmers lose
– CA – consumers lose, farmers gain
Gains from Trade
.
Canada
Trade Sector
ES
US
PUS
WUS
PW
WCA
PCA
ED
Trade
Analysis: Trade Distortions
1 ) Import Tariff
•
Fixed-tariff rate vs ad valorem
•
Small country (fixed tariff)
–
domestic price increases
–
Supply increases, demand decreases
–
imports reduced
–
Net dead weight loss
•
Large country
–
domestic price increases
–
world price decreases
–
Imports decrease; domestic output increases
–
Consumers lose; producers gain
–
Government gains tariff revenue
–
Net welfare gain
–
Potential to compensate consumers
Import Quota
• Binding quota
– if it restricts imports below free trade imports
• Similar price effects to a tariff
–
–
–
–
Imports lower
Domestic price higher
World price lower
Rents to importers
• Quota value: right to import
– Based on difference between new world price and
domestic price
Large Country – Import Quota
.
Domestic Market
World Market
S
D
ES
ED0
PQ
Pw
PWQ
Q
IQ
Large Country - Tariff
.
Domestic Market
World Market
S
D
ES
ED0
Pw
TR
ED1
Import tariff – Small Country
S
PT
Pw
b
G income
a
D
Government income – few transactions
Export Subsidy
• Used extensively
–
–
–
–
–
•
Purpose: support domestic income (price) support
Subsidy to export the excess supply
US (EEP) starting in 1985
EU (ERP) – export restitutions – 1970’s
not unique to agriculture – e.g. Bombardier
price support program – increases ES
• Subsidy Impacts
–
–
–
–
world price falls (large country)
Domestic price falls
Exports expand
Government payments = (Ps-PWs)*exports
• value of exports increase relative to free trade
• Deadweight loss
–
–
–
–
Consumers gain
Producers gain
Foreign importers gain
Taxpayer loses
Export Subsidy – Large Country
S
Ps
DWL
Pw
Pws
DT
Dd
Exports Before
Exports After
Dd – domestic demand
DT – total demand – including world demand
Export Tax
• Tax exporters
• Exporting government gain revenue from
export taxes
• Producers in exporting country lose
Export Cartel
Assumptions:
•
•
•
•
•
2 countries
Cartel: importer + domestic supplier
Suppliers maximize joint profits
Price according to joint supply function
MR = MC (joint MC)
Results:
•
•
•
•
Domestic price increases
Imports and domestic production decrease
Foreign surplus increases
Deadweight loss
Export Cartel
.
Exporter
Importer
Sd
S
ST
PC
a
c
Pw
b
D
MR
QE
Qd
Sd – domestic supply
ST – domestic + foreign supply
Exporter gain = (a-b)
Deadweight loss = c
Q
Decoupled Subsidies
• Programs that do not distort trade
– within the green box category under GATT
• policies that lead to a per-unit payment to
producers are not decoupled
• trade distorting => affects trade and prices
• Is any farm program completely decoupled ?