30 May 2010

11 minute read

Reform of the Single Farm Payment - Context

In formulating the EU Financial Perspective 2013-2020, a review of the EU budget is being undertaken. The CAP, at 40 per cent of total EU budget, is a major component and is thus is to be subjected to a (quote) “full and wide ranging review”

Direct payments were worth €1.85 billion to Irish agriculture in 2009. The bulk of these payments (about €1.3 billion) were accounted for by the Single Farm Payment (SFP). In 2009 without these payments Irish agriculture as a whole would have made a loss of about €230 million!

At farm level, last year on average Irish farmers received about €8,000 - €9,000 in DPs, while the average income for all farmers was only €12,000.

The key message is therefore that DPs and especially SFPs matter hugely to Irish agriculture and consequently the stakes are exceptionally high in the upcoming negotiations.

SFPs are the principal instrument in the achievement of the objectives of the CAP. The benefit of SFPs should therefore be assessed in relation to how they are succeeding in achieving the objectives of the CAP. The objectives of the CAP as set out in the Treaty of Rome are, to increase productivity; to ensure a fair standard of living for farmers; to stabilise markets; to assure the availability of supplies; and to ensure that supplies reach consumers at reasonable prices. Some in Europe have argued that not all of these objectives are still of importance and, in have referred, in particular, to the “demise” of the “income support” and “price stability” objectives.

SFPs in my view address all of these objectives, maybe imperfectly, and many of these objectives subsume more recently articulated objectives such as the promotion of “food security” and the lessening of “price volatility”. Few could surely disagree that SFPs are an important buffer against price instability for instance. Farmers would thus be naive to abandon SFPs without an equally effective buffer being provided through some other measure.

Another argument that has been advanced in Europe is that the “compensatory logic” for SFPs is now obsolete. For Ireland this however is a key principle and it is still a valid principle. It was a key principle in the MacSharry Reforms and in many ways represented the political genius of the MacSharry proposals. The principle may have to be adapted for the current economic climate but that doesn’t invalidate its relevance and centrality to the debate on the future of SFPs.

It is important that we examine the arguments that are being advanced against the current system of DPs. There are five main criticisms:

• the income distribution effects are inequitable
• there is no direct reward for the production of public goods and services (e.g. pertaining to the environment)
• the environment may be indirectly affected through “cross compliance” but at enormous compliance costs for both administrators and farmers. (We might find widespread agreement with this view in Ireland!)
• SFPs can contradict Pillar II measures
• tensions have been generated between members states arising form financial imbalances.

• adequacy and effectiveness of targeting
• returns to public investment
• preference for incentivisation versus assistance

Some SFP reforms that have been mooted

A number of reforms to the current system of SPFs have been mooted. These reforms could be broadly classed into two categories, namely:

• the proposed abandonment of the historical basis for the SFP and its replacement by a “flat rate” system or per hectare payment system on a regional or EU-wide basis
• more radical models which propose to change the basis for the payments entirely.

Any move to a flat-rate system would have serious implications for Ireland. As is well known if an EU-wide system were adopted the country as a whole would lose out substantially with the newer member states being the gainers. Teagasc has undertaken some initial research on the impact of the adoption of the “flat-rate” system within Ireland.

Intensive and commercial farmers in all areas would be the relative losers. If we were to imagine a line drawn from Carlingford Lough down to the Shannon Estuary, in general the most intensive gainers under the current SFP system lie below this line and the less intensive gainers lie above this line. A “flat-rate” system would see a virtual flip over in terms of gainers and losers. In terms of raw numbers, our research suggests that about 53 per cent would gain and about 47 per cent would lose. The losers would be the more intensive producers while the gainers are the more extensive producers.

While intensive producers would lose in income terms, there would also be serious knock-on consequences for investment and on-farm development. Take our most efficient sector – on a global basis – dairying. According to Teagasc data the average family farm income for a viable dairy farm was €59,610 in 2008. When the SFP and disadvantaged area payments are deducted income falls to €37,142. The average ratio of debt to total farm income is 1.1, or on average debt is 110 per cent of income. When debt is compared to income less direct payments the ratio increases to 2.8; in other words without direct payments, debt is almost 3 times the level of annual income. Thus even though DPs are now decoupled they have a big effect on investment and hence on the potential for farm development. They have contributed substantially to the funding of investment on farms and have mitigated the risk associated with development.

A move towards a “flat-rate” system would therefore present huge, if not insurmountable, implementation difficulties of a political economy nature and loser countries like Ireland have major problems with proposals of this nature.

Experience has shown across many policy areas that a major reform of the scale contemplated here would be unlikely to gain broad political acceptance unless no one is rendered worse off than their current situation. In the context of the suggested “flat-rate” system this would imply a substantial increase in the overall agricultural budget to compensate the losers.

Even if we set aside this massive difficulty it is very difficult to see what could be attractive about such a model, since:

• the reform won’t reduce the overall size of the agricultural budget and hence resources will not be available for other areas
• it wouldn’t support new requirements of policy pertaining to “food security”, “price volatility”, “climate change”, “competitiveness”, “innovativeness” and so on
• it is not obvious how this type of reform could improve on the equity of the current regime

The second reform approach takes a completely different tack. Motivated by a need to “… get rid of the outdated logic of compensation” and to replace it by the logic of “incentive to provide services”, some have proposed a radical “reshuffling” of SFPs involving the replacement of the current model by a three-level “contractual payment scheme” (CPS). This scheme would involve three types of payment:

• a basic husbandry payment designed to maintain the agricultural landscape
• a payment for areas of natural handicap
• a targeted payment to environmentally sensitive or valuable areas

This “contractual payments scheme” would do exactly “what it says on the tin”. Payments would be time bound and probably paid on an area basis. In this scheme payments would not be attached to land and entitlements would cease with the termination of the service contract. In no sense would entitlements to these payments be tradable or inheritable.

From the perspective of a beneficiary of the existing SFP the crucial question is the level of payment that is likely under this radical measure. Of course the advocates of this scheme cannot be precise about this matter but they do concede that the payment would be “… far less from being close to the SFP per ha” that applies at present!

All of the variants of the SFP that I’ve set out above involve direct transfers to producers as is the case under the current system. There is, however, a reform model that proposes a more indirect approach to supporting producers. This model suggests the channelling of additional resources to support innovation and the adoption of technology designed to enhance the competitiveness of the agricultural sector and thus the improvement of farm incomes. Innovation in European agriculture and food will require an enhancement of scale economies; improvement in product quality and product differentiation; and increased adoption of new technology to underpin efficiency.

Given my role as Director of Teagasc, while I would naturally welcome such a model (!), it seems to me likely to fail on political economy grounds, albeit for different reasons to, for example, the “flat-rate” proposal. The problem is not so much characterised as one of “gainers” versus “losers” but of “direct” versus indirect” support. Farmers would I think naturally be very sceptical that they would receive anything close to their existing level of payments, at least in the short run.

Some additional issues in the upcoming negotiations

The last reform of the CAP introduced a patchwork of systems for making the single farm payment to farmers in different parts of the European Union. These included historical-based payments as we have in Ireland, flat-rate payments and various hybrids. In Northern Ireland there is a different system than here in the Republic which in turn is different to the system in other parts of the UK where there is an evolution towards a flat-rate payment. In the new member states there is a very simplified flat-rate payment system covering all hectares.

So the last CAP reform ushered in a melange of systems for making payments to farmers. The implications of this is that for the first time the members states will be approaching the negotiations with very different experiences of operating payments systems in their own domestic countries. How that will impact on the dynamic of the negotiations is hard to predict, but it will have an influence, not least in terms of the widely varying impact of any proposed change with and between member states.

Similarly with decoupling a menu of options was agreed in the last CAP reform. Countries could opt for full decoupling from production as we did in Ireland, or choose from various partial decoupling options, which differed from enterprise to enterprise. So again member states will be approaching these upcoming negotiations from a background of mixed experiences in their own countries and with a varying degree of familiarity and practical understanding of operating different coupled and decoupled options. Again this will create its own dynamic in the CAP reform negotiations.

The third big change as we approach these reform negotiations is that we have more member states around the table. In fact this time we have the largest number of countries that have ever sat down and tried to reach an agreement on reforming the CAP and that will present its own unique challenges.

So how should Ireland approach this reform?

First, in my view, we should seek to maintain the concept of a menu of options and not return to the one size fits all which we previously had. I think there will be broad support for that around the table. Given the diversity of agricultural systems across the EU, I can’t see countries actively seeking a return to a one-size-fits-all CAP.

The second challenge is then to ensure that within the menu of options, there is at least one option that would be acceptable to Ireland – on a least-cost admittedly – and that Irish farmers can operate. The easy option is seek to retain the status quo and I expect that will be the opening position. It is likely that we won’t have many allies in Europe for this view. We would be foolish therefore not to have at least evaluated other potential options that might emerge in the negotiations. We should do our homework now, in the early stages of this debate on CAP reform. If, during the cut and thrust of the negotiations, alternatives are introduced by the Commission or by other member states, we will then be in a position to know and will have evaluated what Ireland’s position should be. Teagasc, as always, will make available its expertise in policy analysis and the resources of our statistical databases, including the National Farm Survey, in support of presenting the best policy case on behalf of the Irish industry.

We will need to have this detailed understanding of other systems and proposals, if we are build alliances across the larger EU, which will be necessary to achieve a favourable outcome for Irish farmers and the Irish industry.

Finally, there are a number of other issues that we should be focused on in the upcoming negotiations.

First, mechanisms to manage risk and protect producers from price volatility need to be explored as a matter of urgency. Measures such as futures, forward contracts and insurance will have a role at an EU-wide level in mitigating against the risk inherent in volatile prices. Farmers need to be educated in how these mechanisms operate and there will also be a role for EU and governments support as the private sector will not have all the answers.

A second issue is that the so-called Pillar II or rural development measures could also be under threat as some argue that the monies involved could be more effectively spent if they were partially or fully integrated with regional policies. Teagasc research has shown that the level of engagement by farm families in rural development initiatives so far has been relatively limited. Non-farm rural dwellers in general, however, are at the centre of such activities. Farmers need to be more involved and hopefully the current LEADER programme will see an increased level of participation by farmers given that there is ring-fencing of support for this sector.

Thirdly, there are serious funding risks for Ireland. We have been a clear beneficiary of the current (Brussels funded) CAP. If more CAP supports are to be co-funded (as a shift to Pillar II measures, for instance) would require national governments to pay part of their CAP receipts from their own national coffers. Given Ireland’s very difficult budgetary situation, the question arises whether sufficient funds would be available funds for agricultural support. Indeed, irrespective of the availability of funds, there is the political question of the willingness of Irish taxpayers to pay to support its own farmers.

All of these matters will be up for consideration over the next while but it is unlikely that agreement on the next reform phase will be reached next year. It is conceivable that it will fall to Ireland’s Presidency in 2012 to form the compromise.