miguel henry department of resource economics university of nevada, reno december 2005 empirical...
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Miguel HenryDepartment of Resource Economics
University of Nevada, Reno December 2005
Empirical Risk Analysisof Grape Production
in the Fallon Area, Nevada
Thesis’s Defense:
Determine which production alternative is stochastically more risk efficient
Give to the decision makers the information required to make an informeddecision
Presentation Overview
Conclusions
Introduction Motivations behind researchMotivations behind research Research objectivesResearch objectives
Empirical Results & Implications
Data
ModelCharlie Frey Vineyard,
Fallon, NV, 2005
Motivations behind this researchMotivations behind this research
Environmental Climatic Reasons Political Multiple Use Reasons Economic Reasons
Environmental Climatic ReasonsEnvironmental Climatic Reasons
Limited Water Supply
- Extended droughts since 1987- Decrease in the Sierra snow pack
Reduction in Irrigation Water for Fallon- Recovery Pyramid Lake level- Maintenance Truckee River flows
* Re-establish endemic fish species* Protect water quality* Protect recreation & sport fishing
- Protection Wetlands * Recreation, fisheries & wildlife
(Recreation is a big business for Native Americans)
Political Multiple Use ReasonsPolitical Multiple Use Reasons
Changes in Water Allocation
- Reduction of irrigated acres- Loss of farming- Low profits- Land conversion to other uses
Years
Actual Area Irrigated (acres)
199219901988198619841982
65000
62500
60000
57500
55000
Actual acres irrigated in the Fallon area by year, 1983 – 1992
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Alfalfa is a perennial legume It lives more than 2 years It is in production for 5 – 10 years It uses 3.5 – 4.5 acre feet of water/year
Farmers use 1 - 1.5million gallons of water
To produce 1 acre ofalfalfa/year
In terms of irrigated acreage:In terms of irrigated acreage:
Much of the land in Fallonis irrigated and farmed asbaled hay, using alfalfa
50,000 irrigated acres Risky climate and soils for other crops
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In short:
Scarce water Changes in water allocation Conversion of irrigated lands into non- farming uses Actual water use by alfalfa Low profits for farmers
Strategies
Preserve agriculture Benefit community Protect Nevada’s most valuable natural resource – Water
Strategies
Conversion of Water Rights More water efficient and profitable crops that consume less water/acre/season compared to alfalfa hay production
Example:Wine Grapes(Vitis vinifera)
Experiences in Nevada?Experiences in Nevada? Technically is feasible to grow “quality wines” in northwestern Nevada
In terms of water savings:
42 – 54 inches of water /acre/year
3.5 – 4.5 acre feet / year
0.27 acre feet / year
4 inches of water/acre/year
Crop ConversionCrop Conversion
What is the Percentage Saving in Water from Alfalfa
to Grapes?
90 – 93%
The underlying topic is water!
To date there is no research that explains the economic feasibility of this industry in Nevada
Experience in economic terms?
(Continue…)(Continue…)
No studies have investigated the risk implicit in wine grape production
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Research Objective
“Provide a better understanding of the economic viability of alfalfa hay
versus wine grape production by using probabilistic & stochastic
efficiency analyses”
Specific ObjectivesSpecific Objectives
Characterize price and yield risksassociated with alfalfa hay tothose of Chardonnay and Merlotwine grapes grown in Fallon, NV
Derive probability distributionsof Present Net Returns Values
Determine which crop is stochastically risk efficient
(Input) Data
Most important constraint Planning horizon of 10 years Historical data, average data, and maximum and minimum values Different sources (CA, WA, ID, NV) Experts and growers Data:
Prices ($/ton)Yields (tons/acre)Variable and Fixed Costs ($/acre)
Model
Stochastic Simulation Models
Planning horizon of 10 years500 iterations
Characterize the risk Derive the cumulative distribution functions of present net return values for each crop Derive risk efficient production practices
Stochastic Simulation Model
Stochastic Budgeting Model:
Empirical distribution:- Capture intra-temporal and inter-temporal correlation effects- Generate correlated stochastic errors
GRK distribution:-Minimum value
-Most likely value-Maximum value
Stochastic Present Net Return Value ititit CRN
~~~ −=
Input Data:Price & Yield
Economic Costs
⎟⎟⎠
⎞⎜⎜⎝
⎛+=
it
itititit P
VCYFCC *~~ititit YPR
~*
~~ =
Simulation Phase
Stochastic Simulation Model
Stochastic Present Net Return Values
500iterations
Cumulative Distribution Function:
Random variable on whichdecisions will depend
Present Net Return Value ($/acre)
Pro
bab
ilit
y (%
)
Stochastic Results
0
0.2
0.4
0.6
0.8
1
-2000 -1500 -1000 -500 0
Present Net Return Values ($/acre)
Probabillity (%)
PV_Alfalfa
0
0.2
0.4
0.6
0.8
1
0 5000 10000 15000 20000
Present Net Return Values ($/acre)
Probabilitty (%)
PV_Chardonnay
0
0.2
0.4
0.6
0.8
1
0 2000 4000 6000 8000 10000 12000
Present Net Return Values ($/acre)
Probabilitty (%)
PV_Merlot
Outcomes:
-$1,673 to $18,190
Alfalfa has the largestminimum
Chardonnay has thelargest maximum
P≤$5,000/acre =2.4% for Chardonnay3.6% for Merlot
P>$10,000/acre = 42% for Chardonnay0% for Merlot
00.10.20.30.40.50.60.70.80.9
1
-5000 0 5000 10000 15000 20000
Present Net Return Values ($/acre)
Probabilitty (%)
Alfalfa Hay
Merlot
Chardonnay
Stochastic Results Deterministic Results
Alfalfa Hay: -$1,441/acreChardonnay: $7,709/acreMerlot: $2,055/acre
Chardonnay is the bestalternative
This outcome is not robustenough for actual decisionmaking in a risky economic
environment!
00.10.20.30.40.50.60.70.80.9
1
-5000 0 5000 10000 15000 20000
Present Net Return Values ($/acre)
Probabilitty (%)
Alfalfa Hay
Merlot
Chardonnay
Stochastic Efficiency with Bounds of Risk Aversion
-2,000.00
0.00
2,000.00
4,000.00
6,000.00
8,000.00
10,000.00
12,000.00
0 0.0002 0.0004 0.0006 0.0008 0.001
Absolute Risk Aversion Coefficients
($/acre)
Chardonnay
Merlot
Alfalfa Hay
NR SRA MRA ERA
Efficient Set!
Utility-Weighted Risk Premiums
-
2,000.00
4,000.00
6,000.00
8,000.00
10,000.00
12,000.00
0 0.0002 0.0004 0.0006 0.0008 0.001
Absolute Risk Aversion Coefficients
($/acre)
Chardonnay
Merlot
Alfalfa Hay
Minimum sureamount of moneythat would have
tobe paid to a ERAdecision maker
NR SRA MRA ERA
Conclusions Before suggesting alternative production methods, stochastic efficiency analyses should be employed whenever research is addressed for the development of new practices.
Probability of producing positive present net return values with Chardonnay and Merlot is 100%, with alfalfa hay 0%.
Growing wine grapes, especially Chardonnay, is stochastically the most risk efficient production alternative.
Alfalfa hay is the least profitable and most risky alternative.
Growing wine grapes represents an excellent agricultural crop production alternative in Fallon, Nevada.
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