The CAP: origins, institutions and financing

Economics of Food Markets

Lecture 7

Alan Matthews

Objectives

• The complex structure of EU agriculture

• The decision-making processes in the CAP

• How the CAP price support mechanisms work

• Characteristics of individual common market organisations

• The budgetary framework for CAP expenditure

• The ‘green money’ mechanism

• A critical assessment of the consequences of the CAP

Reading• Ackrill, R. 2000 The Common Agricultural Policy• Tracy, M., 1997 Agricultural Policy in the European Union

and other Market Economies• Fennell, 1997, The Common Agricultural Policy:

continuity and change• Shucksmith, M., Thompson, K and Roberts, D., 2005,

CAP and the Regions: the territorial impact of the CAP• Grant, W. 1997, The Common Agricultural Policy• Ingersent, Rayner and Hine, 1998, The Reform of the

Common Agricultural Policy.• Commission DG Agriculture and Food website

Source: European Commission, The CAP Explained

Differing agricultural structures

Employment Gross domestic product

1950 1973 1999 1950 1973 1999

EU-15 : : 4.5 : : 1.8

Belgium 12 3.9 2.4 8.8 4.2 1.2

Denmark 22 9.4 3.3 20.0 9.0 2.0

Germany 23 7.3 2.9 12.3 3.5 0.9

Greece 54 : 17.0 33.5 : 7.1

Spain 49 : 7.4 35.0 : 4.1

France 32 11.9 4.3 : 6.5 2.4

Ireland 40 25.1 8.6 31.3 19.0 2.9

Italy 39 16.3 5.4 29.5 9.9 2.6

Netherlands 19 6.6 3.2 12.9 5.8 2.4

Austria 32 : 6.2 16.4 : 1.2

Portugal 47 : 12.7 26.8 : 3.3

Finland : : 6.4 : : 0.9

Sweden 18 : 3.0 7.0 n.a. 0.7

UK 5 2.9 1.2 6.0 3.0 0.9

Number of farms

Average farm size

Average farm size

Per cent of farms > 50

ha

Per cent of farms < 10

ha1997 1987 1997 1997 1997

‘000 ha ha % %

EU-15 6,989.1 : 18.4 8.6 68.6Belgium 67.2 17.3 20.6 10.0 44.2Denmark 63.2 32.5 42.6 27.8 19.5Germany 534.4 17.6 32.1 14.1 45.6Greece 821.4 5.3 4.3 0.4 90.0Spain 1,208.3 16.0 21.2 8.2 69.0France 679.8 30.7 41.7 29.7 35.3Ireland 147.8 22.7 29.4 14.1 19.8Italy 2,315.2 7.7 6.4 1.8 87.4Netherlands 107.9 17.2 18.6 7.1 46.4Austria 210.1 : 16.3 4.0 46.4Portugal 416.7 8.3 9.2 2.3 87.5Finland 91.4 : 23.7 8.8 24.2Sweden 89.6 : 34.7 20.2 29.8UK 233.2 68.9 69.3 33.7 26.8

Brief history of CAP origins

• Article 33 (ex 39) set out objectives, but left open means to achieve these objectives

• Note all original member states already had protectionist agricultural policies, so EC was not starting with a clean slate

• Key decisions on market mechanisms taken in January 1962, though common prices not achieved until 1968

• Principles establishedMarket unitsCommunity preferenceFinancial solidarity(Producer co-responsibility)

CAP objectives and instruments

• CAP objectives set out in Article 33 (ex 39)– to increase agricultural productivity– to ensure a fair standard of living for the agricultural community– to stabilise markets– to ensure the availability of supplies– to ensure that supplies reach consumers at reasonable prices

– Note no mention of environment, food safety or rural development

• Two broad policy instruments– Price policy implemented through market organisation measures

and funded by the Guarantee Section of FEOGA– Socio-structural measures funded by the Guidance Section of

FEOGA– Original expenditure ratio of 2:1 envisaged, in practice turned out

to be nearer 95:5.

Agricultural decision-making in the EU

• Distribution of powers between EU institutions: originally Commission proposes, Council disposes, Parliament advises, and Court rules

• Greater EP powers of co-decision, but still only consultative powers on CAP expenditure

• Role of member states and lobby groups– Formalised through management and advisory committees

• Majority voting and the Luxembourg compromise– Consensus decision-making encouraged by willingness of some

member states to form a blocking minority when ‘vital interests’ of another are at stake. Of doubtful current relevance

• Annual price review– Based on formula approach in the past, now of much less

significance because Commission’s powers to manage markets increased under the Financial Perspective.

Price policy mechanisms

• Cereals taken as the prototypical regime but each commodity regime has its own characteristics

• Three support pillars of import levies, intervention buying and export subsidies.

• Additional support through consumer subsidies, aids to private storage, withdrawals, deficiency payments

• Objective has been to provide price stability as well as price support, hence variable nature of trade instruments

• Mechanisms are in theory neutral as between farmers and consumers although price levels in practice set very high

• Support provided at wholesale, not farm, level. Assumes competition to reflect support back to farmers.

Pre-GATT Uruguay RoundCAP mechanisms

variable levyexport subsidy

world price world price

threshold price

intervention price

target price

Import Internal Export

The green money (agri-monetary) system

• CAP prices fixed in ecus (euros), require conversion rates to national currencies

• Conversion rates used administered (green) exchange rates

• Devaluation should raise domestic prices, revaluation should lower domestic prices

• Governments manipulated green rates to prevent these market effects from occurring, thus causing market prices within the EU to diverge

• Differences compensated for by border taxes and subsidies (MCAs monetary compensatory amounts)

The green money (agri-monetary) system

• Introduction of ‘switchover system’ in 1984 at German insistence to prevent a cut in German nominal support prices meant a hidden upward push to support prices in that decade across the EU (extra 21% by 1992)

• Consequences of green money system and MCAs– While intended to prevent trade distortions, created additional

distortions due to limited coverage, inadequate compensation and possibilities of fraud

• Changes consequent to single market 1 January 1993– Abolition of MCAs and the switchover system– Compensatory aid to farmers if prices cut by currency revaluation– Now relevant only to countries outside euro zone

Budget impact of the CAP

• The role of the EU’s ‘own resources’ – currently customs duties, VAT-based contribution and the GNP resource

• Overall EU budget very small, but share of CAP spending very high

• Transfers between member states arising from common financing of the CAP inequitable and a source of controversty

• Budgetary discipline introduced by the Financial Perspective in 1988– Role of the agricultural guideline

Source: European Commission, The CAP Explained

Budget significance for CAP

• Agenda 2000: set real financial ceiling on CAP expenditure

• Financial Perspective 2007-2013 proposal– Commission’s proposal embodies Berlin October 2003 agreement

on ceiling on CAP expenditure (constant nominal value plus 1% for inflation)

– Net contributors want lower overall budget ceiling, which means squeezing non-agricultural spending if the Oct 2003 agreement is to be respected

– Blair link between CAP reform and UK budget rebate

Consequences of EU price support policies

• Growth in self-sufficiency due to supply outrunning demand

• Unforeseen reliance on intervention mechanisms, although currently much reduced

• Uneven levels of protection across commodities, particularly for cereals/oilseeds and cereal substitutes

• Regional disparities in support – the North/South divide within the EU

• Introduction of milk quotas 1984 (until then, sugar was only CMO using quotas)

Problems of agricultural price policy beginning of the 1990s

• an uncommon market– a single agricultural market was created, but ...– green currencies kept prices different and...– veterinary and plant health rules kept the market fragmented

• growing overproduction and intervention overload ...• … leading to growing budget costs• the inefficiency of CAP price policy

– large transactions costs incurred to transfer income support• the inequity of CAP price policy

– larger farmers benefit at the expense of low income consumers• environmental costs of the CAP price policy

– higher prices encouraged intensification and greater input use