Food, Fiber, and Foreign Trade

American agriculture in the mid-1980s depends more than twice as much on exporting its products as it did in 1970. Two out of every five U.S. acres planted in crops produce for the export market, and exports generate more than 20 percent of U.S. agriculture's total cash receipts. The export dependence is much higher—between 40 percent and 60 percent—for the major crops, like wheat and soybeans. Moreover, given the slow growth of domestic demand, exports will be the principal source of market growth in the future. At the same time, American agriculture has become highly capital intensive, and debt-to-asset ratios have climbed to worrisome levels. As a result, U.S. farmers have become more vulnerable to adverse changes in the macroeconomic and international economic climate.

U.S. agriculture rode the crest of the expansionary wave of the 1970s. Its export volume rose by 150 percent, and its share in the world grain and soybean market rose from 38 percent to 55 percent, with developing countries accounting for a growing proportion of the increased demand. The inflation-adjusted value of net farm assets rose by 50 percent. Farm debts rose, but they were easily financed at low real interest rates.

Almost as if someone had thrown a switch, the 1980s brought a dramatic change in the economic climate, at home and around the world. Disinflationary policies produced high interest rates and sharp recession, with real interest rates remaining high during the subsequent recovery. The oil boom peaked and petrodollars became less abundant. The United States absorbed an increasing share of international funds as it turned from net lender to net borrower. Capital flows to heavily indebted developing countries dried up. Tightening their belts, these countries reduced their imports and increased their exports and thus built up sizable export surpluses, with most of it going into servicing their debts. Their situation would have been worse had the United States closed its door to their exports.

High interest rates, together with lagging recovery abroad, attracted foreign capital to the United States while capital outflows declined. The net capital inflow brought some immediate benefits: without it, U.S. interest and inflation rates would have been higher. But the resulting foreign demand for dollars drove the dollar up by 60 percent, placing U.S. import-competing and export industries at a severe disadvantage in competing with foreign suppliers.

In this situation, the American farmer was caught in a squeeze. Product prices and land values dropped as interest costs rose, and markets shrank as farmers tried to recoup investments and pay off debts. During the early 1980s U.S. agricultural export volume declined by 20 percent and export value by 35 percent. Even more troubling, this decline was due entirely to a drop from 55 percent to 40 percent in the U.S. share in the world grain and soybean market, as other suppliers took over U.S. customers. No industry was hit harder by the sudden change in the economic climate.

The enemy is us

The natural tendency, when faced with a deterioration in foreign trade position, is to blame it on unfair practices of U.S. trading partners. This is not altogether off the mark. Foreign import barriers and subsidies, especially the agricultural policies of the European Community, indeed have been damaging. Attempts to deal with this problem through negotiation, arbitration, or retaliation have been largely unsuccessful. In justifying their policies, the Europeans naturally point to a wide variety of trade-distorting measures adopted by the United States. Tensions are rising in this dialogue of the deaf, with attacks and counterattacks threatening to escalate into full-fledged trade war.

But much of the U.S. loss of competitiveness, in agriculture as in manufacturing, can be traced to self-imposed handicaps. One is—or was—an overvalued dollar that was a direct consequence of a domestic economic policy that depended on attracting funds from abroad to offset an enormous and mounting budget deficit. Another was the support of agricultural prices above market levels, a policy buttressed by government stockpiling and restraints on production. This policy provided an umbrella under which competitors could undercut U.S. prices and expand their production and sales at American expense.

Both of these handicaps now are less shackling than they were several months ago. The value of the dollar has dropped by roughly 20 percent. In time—and it may take a year or so—the weaker dollar should shore up U.S. exports of all kinds as they become less expensive to foreign buyers. But how much impetus will this lend? The answer depends on how much harm was inflicted by the strong dollar in the first place, and that effect often is overstated.

It is true that by early 1985 the dollar had appreciated by about 60 percent since 1980 against the trade-weighted average of the currencies of U.S. trading partners. But the corresponding figure for U.S. agricultural exports was somewhat less. The adverse effects on foreign demand for U.S. agricultural exports varies a great deal from country to country and from commodity to commodity. For example, the real exchange rate for U.S. soybeans, in terms of European currencies, had risen by 70 percent. But the real price of U.S. wheat and corn to consumers in the European Community had not been affected at all because the increase in the price was automatically offset by a corresponding reduction in the European Community variable levy. In Japan, the exchange rate for U.S. corn and soybeans had increased by a comparatively modest 25 percent, even when Japan's low inflation rate is taken into account. In many developing countries whose currencies are linked to the dollar, the price impact was negligible.

Of course, besides dampening foreign demand, the strong dollar put the United States at a disadvantage with its competitors. But this effect, too, varied from country to country. In real terms, Australian wheat benefited from a 50 percent appreciation of the U.S. dollar, but Canadian wheat by only 5 percent. In the European Community and Argentina, the exchange rate probably was a minor factor. The overvalued dollar drove U.S. grain prices up almost to the European level, which relieved budget pressures in the European Community that could have led it to take more vigorous steps to cut its incentives to grain production. Argentina long has burdened its agricultural exports with export taxes—now reduced, but not eliminated. That Argentine wheat has been extremely competitive despite the continued handicap of a 20 percent export tax should give pause to those who think that the normalization of the dollar exchange rate automatically will restore the U.S. competitive position in world agricultural markets.

This leads me to the other self-imposed handicap: the policy of supporting agricultural prices above market levels, coupled with restraints on production. This has been a perennial problem, except in periods of worldwide shortage. It was a problem when the dollar was not over-valued, as in 1977. Without it, U.S. export prices would have fallen more to meet foreign competition. The overvalued dollar made the problem worse, to the extent that it increased the value of U.S. price guarantees in terms of the currencies of U.S. competitors.

The new farm act

The extensive debate over the 1985 farm bill culminated in a compromise piece of legislation called the Food Security Act of 1985. The act dropped market price supports (loan rates) sharply to make U.S. exports competitive, but continued price guarantees to farmers (target prices) at their present levels. This means that a much larger proportion of the prices received by farmers will come from government in form of deficiency payments. To limit budget exposure and contain the buildup of surpluses, the legislation continues to make payments conditional upon farm-compliance with acreage-reduction programs, and the lower market prices will ensure a high rate of participation. The export assistance programs in effect in recent years are incorporated and strengthened in the Act. Export subsidies, as well as certain domestic subsidies, can be paid in kind, in the form of government-interior-owned surplus commodities (or commodity certificates).

The principal beneficiaries of this legislation are the American farmer and the domestic and foreign consumer. The principal loser is the American taxpayer, who faces farm program costs continuing at record levels.

The legislation will help U.S. agricultural exports recover, at least partly. Lower energy prices, lower interest rates, and more realistic land values also should help. Projections by the Food and Agricultural Policy Research Institute, in cooperation with RFF's National Center for Food and Agricultural Policy, indicate a 25 percent increase in the volume of U.S. agricultural exports in the next three years (but only a modest 6 percent increase in export value).

Whether the United States can achieve even this much will depend on how U.S. competitors react. In the European Community, export subsidies will go up automatically to match U.S. export prices. Then the question becomes, which government has the deepest pockets? The costs of any subsidy contest will fall disproportionately on the U.S. budget, because the United States subsidizes its entire production whereas the European Community subsidizes only its exports out of the budget (the consumer paying for the domestic support). This means that for every additional dollar the European Community must spend when market prices drop, the United States must spend ten.

Where producers are not insulated from world market influences, as in Canada and Australia, lower world prices should, over time, result in lower production. On the other hand, countries such as Argentina and Thailand can avoid production declines by removing their export taxes.

Another cloud: if budget pressures lead the United States to rely even more heavily on acreage controls, it is likely to slide back into the "residual supplier" role from which it is trying to escape. What is needed is to complete the policy adjustment: the system of target prices cum production controls must be phased out and replaced by more selective assistance to those farmers who are in serious financial trouble.

Let the market work

In my opinion, there is no acceptable alternative for the United States but to continue to pursue the goal of genuine market orientation—a system in which (at least among developed countries) agricultural production and trade are guided by market forces. This cannot be achieved overnight. What can be done domestically is to proceed with the gradual dismantling of price supports, including target prices. This would bring to bear America's best weapon in the competition for world markets—the comparative advantage U.S. farmers can command, based on favorable climate and soils, capital, technology, and managerial skills, and on efficient supply, transport, and marketing systems.

This brings up the old question: can the United States afford to go it alone? I think that even if the United States alone were to decontrol its agriculture, the country and its farmers would be better off than with any of the alternatives: a subsidy contest, unilateral price support and supply management, or the elusive concept of multilateral price support and supply management, commonly known as a cartel. What is more, there now is some hope that if the United States takes the lead in a gradual move toward decontrol, others will follow.

The gradual decontrol of agriculture and the liberalization of agricultural trade are easier to accomplish in the multilateral framework of the General Agreement on Tariffs and Trade (GATT). Reductions in agricultural protection cause fewer adjustment problems when undertaken simultaneously by several countries than would be the case with unilateral or bilateral reductions. Domestic political resistance is more easily overcome if governments can point to reciprocal concessions obtained from other countries. Concessions negotiated in GATT have a firmer legal standing than those negotiated bilaterally and acquire a degree of protection by virtue of the balance of benefits and obligations that is an underlying principle of the agreement.

The first order of business of the upcoming round of multilateral trade negotiations should be accommodations for the short term to head off a further escalation of the trade war. This can best be accomplished by strengthening the existing rules. The conditions on which export subsidies are permitted for primary products and the limits on their use need to be clarified. The minimum-access guarantees that must be provided to foreign suppliers need to be spelled out. These issues already have been discussed in the GATT Committee on Trade in Agriculture during the past two years.

The gradual dismantling of trade-distorting government intervention remains the ultimate goal. For many years, the United States has been trying to persuade other countries to remove or reduce their agricultural trade barriers and export subsidies. The results have been disappointing. The problem is that agricultural trade distortions are the external consequences of deeply entrenched domestic legislation. The United States is no exception and clearly could not deliver on an agreement that instantly would eliminate such trade-distorting legislation as grain deficiency payments or price supports and import quotas on sugar and dairy products. But there are reasons to believe that progress can be made toward the gradual and reciprocal dismantling of trade distorting agricultural policies.

Where consumers have been unable to stem the tide of agricultural protectionism, taxpayers seem to have had some effect. The mounting costs of surplus disposal have led the European Community to adopt a policy of restraint on support prices for grains and marketing quotas for milk. Similar pressures are at work in the United States. While the Food Security Act of 1985 is not particularly helpful to U.S. negotiators trying to get other countries to dismantle their trade-distorting interventions, it should be seen as a delaying action—understandable, perhaps, because of the farm debt crisis. But for the years to come, I see a growing recognition, on both sides of the Atlantic, that price-support programs are not achieving their objectives, that they are not effective in dealing with today's problems in the farm sector. I believe both the United States and the European Community will be led to move toward more precisely targeted, less expensive, and less market-distorting forms of assistance to farmers. The phasing-out of price supports, in turn, would remove the major obstacle to the liberalization of agricultural trade.

The fear of decontrol among farmers—particularly in the United States—may wane as long-term trends in the world market increase demand and strengthen world prices. Already there are signs that the volume of world agricultural trade is resuming its long-term upward trend. Contrary to a widespread impression, the grain deficits of the developing market economies are continuing to increase. The U.S. market share is likely to recover with lower market supports and the fall of the dollar. Land values seem to be bottoming out in the United States and falling interest rates and oil prices are easing the financial pressures on American farmers. These favorable trends ultimately should improve the climate for domestic reform and freer trade.