A perfect competitive market

Agricultural Subsidies and its Effects

A ideal open market has a large number of buyers and sellers. The paradigm provides no barrier to entry, with businesses easily joining and leaving the industry. Commodities generated in such a market are homogeneous, companies have constant returns to scale, no single customer or producer has the ability to control the price, and both consumers and producers have symmetrical knowledge. In practice, these conditions seldom happen in either sector, but the agriculture market comes the nearest to mirroring optimal competitive conditions. Countries with a competitive economic structure base their markets around the ideal business model because it is market productive and self-regulating, benefiting all individuals. The agriculture market in the United States is moving farther away from the perfect competition model with the effect of government intervention in form of agricultural subsidies pushing small farms out of business with few large conglomerates taking over (The Economist). The government also controls the price keeping it above a given price floor.

The U.S Department of Agriculture Subsidies

The U.S Department of Agriculture has used a number of programs to subsidize crop production since the 1930s. The price floor programs are designed to ensure that farmers receive a specific minimum price for their crops even if the market price is below that amount as a result of supply exceeding demand (Urry). Other programs, which I will refer to as the scarcity inducing programs, are designed to ensure that the production of a crop does not exceed a certain limit (Urry). These programs are the most controversial seeing as the Department of Agriculture has been paying farmers not to farm their land. In the 1985 to 1990 period, the USDA paid farmers to kill 1.5 million dairy cows and take a five-year break from dairy farming in order to keep the price of milk from reducing further (Armey). Not all agricultural products in the United States are subsidized. Currently only fourteen items make the cut. These include; corn, wheat, rice, cotton, barley, soybeans, oats, peanuts, sugar, pork, milk, beef and tobacco.

Impact of Subsidies on the Agricultural Market

Subsidies can never be justified in a perfect competition model since they distort the price mechanism in a manner that punishes consumers. Both the price floor program and scarcity inducing programs have the effect of raising the cost of goods above the market level. Not only does this hurt the consumer who forks out more for a product that they would buy at a cheaper price, it also robs society of its productive efficiency. In a perfectly competitive market, the market price is equal to the marginal cost of producing the good, which is the most efficient level. Price is equal to marginal cost means that no resources are wasted since the producer’s compensation for the good is just equal to the cost of producing an additional good.

Distorted Price Mechanism and Market Self-Regulation

Another effect of subsidies on the agricultural market is that it distorts the price mechanism making it difficult for the market to self-regulate. The result of this is that price is no longer determines production allocation. Capitalistic nations prefer and work towards the perfect competition market model mostly due to the price mechanism of the model. The price mechanism influences the production and distribution choices of the producers. This means that suppliers will produce what society demands. If an individual say a farmer produces a lot of corn while only a small proportion of the market demands corn, the price of corn will be low. The farmer will not benefit from this enterprise and will be forced to switch to a product that is demanded. The nature of subsidies distorts the price mechanism and creates a glut in products not demanded in the market while consumers are deprived of the products they actually need and in the event that this products exist, they are forced to buy at higher prices than would exist in a perfectly competitive market. The American government spends billions of dollars in subsidies with the aim of raising farm incomes through increasing the price of farm outputs. Since farmers are assured of high prices for these particular commodities, they focus their land and capital in the production of corn etc. depriving consumers of easy access to non-subsidized goods such as fruits and vegetables.

Impact of Subsidies on Non-Subsidized Agricultural Goods

Subsidies also affect the price of non-subsidized agricultural goods. In the case of fruits and vegetables, fewer farmers are willing to go into the production of these goods. A rational farmer would rather produce the riskless subsidized goods or elect to be paid not to farm at all (The Economist). This keeps the supply of non-subsidized goods far below the demand. The price of all agricultural goods in the U.S is therefore almost constantly above the price of a perfectly competitive market. The price of subsidized goods however tends to be lower than that for non-subsidized ones because these producers lack economies of scale, farmers buy farm inputs at a higher price and farmers face greater risk. The American consumer limited by his budget and basing his utility on the price of the good, is forced to forgo fruits and vegetables in order to consume cheaper subsidized goods.

International Impact of U.S. Agricultural Subsidies

American farm subsidies do not affect domestic consumers only. The U.S is active in the agricultural export markets, which means that its subsidies hurt Mexican corn farmers and other international farmers of crops subsidized within the U.S. Mexican corn farmers receive subsidies from their government but at a much lower scale than what American farmers receive. The Mexican government has a $1 billion budget in corn subsidies and this amount often fails to reach farmers in its entirety due to rampant corruption (Bhandari & Sturr). The U.S on the other hand spends at least $10 billion annually on farm subsidies (Bhandari & Sturr). Furthermore, these farmers are taxed on the importation of capital equipment. A majority of them lack the capital to purchase agricultural machinery depending on traditional methods instead. The cost of producing corn in Mexico is higher than in the U.S. The price of corn is however very low due to the large supply of corn. As of 2009, three million Mexican farmers were in the corn farming business (Bhandari & Sturr). Even with the existing glut in corn domestically, Mexican farmers still suffer losses due to the massive importation of corn into Mexico from the U.S. The Mexican government is limited in its protection of the corn industry due to the North America Free Trade Agreement (NAFTA) which agreed on a specific tariff on corn imports from the U.S The effect of subsidized corn from the U.S in the Mexican market is already visible. According to CNN within 10 years of implementation of NAFTA, Mexico lost approximately 900,000 farming jobs (Darlington & Gillespie). Mexico is also unable to export its excess corn to the U.S or to surrounding countries since the U.S has monopolized the corn trade controlling 70% of the global corn market (Bhandari & Sturr). The subsidies given to American corn farmers have the same effect that restrictions on the import of Mexican corn would have.

Economic Impact of Subsidies on Mexico

The subsidies on American corn not only hurt the Mexican employment rate, income and standard of living, it also makes it hard for the Mexican government to balance its international trade balances keeping the country in perpetual debt. Ricardo’s theory of international trade extols the importance of free trade across borders as each country is assured of having a competitive advantage. With its low capital accumulation and high population density, Mexico has a competitive advantage in the production of agricultural goods. Mexico relies on the U.S for machinery and other goods requiring abundant capital. With the importation of corn into the Mexico from the U.S, Mexico cannot afford to pay for its budgetary deficit with the amount increasing yearly. The Mexican government has little control over its economy, which is leveraged on the U.S economy.

Benefits and Criticisms of Farm Subsidies

The cost of farm subsidies on the taxpayer may force us to turn a blind eye to the advantages of the program. The U.S is self-sufficient when it comes to the major food commodities. With the changes in climatic patterns, the price of food in the global market is expected to rise in coming years. Government subsidies keep farms in business ensuring that the country has enough food in the future. In the 1930s farmers were faced with financial disaster and government intervention provided a viable solution that saved many low-income families from losing their property.

I am of the opinion that the government should scrap the farm subsidies program and let the market regulate itself, as it should in a capitalistic country. The social advantages of farm subsidies are long gone. Farm subsidies have actually served to push small farms out of business with large companies taking over. A majority of American consumers are in the middle class and their tax goes towards keeping agricultural companies making exorbitant profits in business. These consumers will only benefit in the event that demand exceeds supply. This is however looking less and less likely as large conglomerates push small farmers out of the business. These fortune 500 companies look to maximize revenue by producing the highest level of output. Taxpayers will therefore never need this insurance that government is spending heavily on. A stark difference in the use of subsidies in agriculture as compared to other areas in the economy is that subsidies increase the price of agricultural products while in other scenarios governments subsidize industries to reduce the price of goods in a bid to protect a domestic industry from undue competition from lower priced imports.

References

Bhandari, Ravi and Chris Sturr, eds. Real World Globalization. 10th ed.

Economic Affairs Bureau, Inc, Boston. 2009.

Darlington, Shasta & Gillespie, Patrick. “Mexican farmer’s daughter: NAFTA

destroyed us.” CNN, 9th February 2017, http://money.cnn.com/2017/02/09/news/economy/nafta-farming-mexico-us-corn-jobs/index.html. Accessed 30th November 2017

Armey, D. ”An Overview of Federal Farm Programs. (Cover Story).“ Consumers’

Research Magazine, vol. 73, no. 8, Aug. 1990, p. 10. EBSCOhost, lopes.idm.oclc.org/login?url=http://search.ebscohost.com/login.aspx?direct=true&db=a9h&AN=9009030025&site=eds-live&scope=site.

The Economist. ”Milking Taxpayers.”12th February 2015,

http://www.economist.com/news/united-states/21643191-crop-prices-fall-farmers-grow-subsidies-instead-milking-taxpayers. Accessed 30th November 2017

Urry, Amelia. ”Our Crazy Farm Subsidies Explained.” Grist, 20th April 2015,

http://grist.org/food/our-crazy-farm-subsidies-explained/ Accessed 30th November 2017