The Agricultural Outlook for 2000 and Beyond Keith Collins, Chief Economist, U.S. Department of Agriculture American Farm Bureau Federation Annual Meeting Houston, Texas, January 11, 2000 Thank you for the invitation to meet with you today. I always consider it an honor to address the American Farm Bureau Federation because your organization has so effectively represented the interests of American agriculture. I am here, too, because we at USDA and in Washington need your creative ideas more than ever on how to make farming and ranching profitable in the new millennium. Today I will look at 2000 and beyond by first assessing the general prospects for the farm economy over the next 12 to 18 months, and then discussing the prospects for changes in trade and domestic farm policy. During the past two years, there have been many uncertainties in agriculture. We have worried about the world economy, the effects of hurricanes and droughts, low prices, credit availability, trade barriers, the acceptability of GMO's, the effects of technology, structural change and concentration, and so on. Unfortunately, we are not about to close the door on most of these uncertainties, I believe they will be with us for some time yet. Starting with the overall state of the farm economy, farm problem #1 has been low prices. We are now close to half way through the second year of the most severe financial downturn since the mid-1980s. One cause has been crop production losses due to natural disasters, which are estimated to total $4.5 billion for the 1999 crops. But the major cause is "imbalances" in commodity markets brought about by large U.S. production, despite the bad weather, and by lower exports. The drop in exports is often cited as a major cause of the downturn. For 2000, we project U.S. farm exports will be only $49 billion, the same as last year. The record high of course was $60 billion in 1996, when we exported $26 billion in farm products to Asia. This year, we expect to export only $18 billion, a drop of $8 billion. The first point I want to make about exports is that they are not the only cause of the farm recession. For exports of bulk products, like wheat, corn, and soybeans, the value of exports is down 35 percent since 1996. But most of that drop is due to lower prices. Compared with 1996, lower prices account for 80 percent of the decline in bulk export value and lower tonnage accounts for only 20 percent. In fact, last year, export tonnage was about equal to the average of mid-1990's--1993-97. This year, we forecast that the volume or tonnage of exports for bulk products will fall 4 percent below last year's level. So the impact of the global slowdown the past 2 years is not so much a sharp drop in export tonnage, but a stagnation in tonnage, and a failure to realize the growth that was expected in the mid 1990s. The key problem is that this failure of exports to grow has happened at the very time of strong U.S. crop and meat production. The second point about exports that I want to make is that without a serious foreign weather disruption it appears unlikely that an export surge will provide a strong rebound in commodity markets over the next 12 to 18 months. Right now foreign weather looks good. For example, South America seems to keep getting timely rains and North Africa, an important grain market, is having favorable weather for winter grain. In assessing the prospects for how future export growth might help the farm economy, I am influenced by three things: (1) past trends in U.S. exports, (2) global macroeconomic demand factors and (3) economic and commodity situations in a few key countries. Starting with export trends, we can group farm commodities into export bulls and export bears, similar to what we do for Wall Street stocks. Over the past 40 years, the volume of exports of all major commodities increased, except for tobacco. But, the growth for bulk products, such as wheat or corn, was less than the growth for semiprocessed products, like meal and oil, and high-value products like meats and horticultural products. The export bears are the commodities that grew much slower than the average for all exports. The export bears have been wheat, rice, cotton and tobacco. The export bulls grew faster than average feed grains, oilseeds, processed products meats and horticultural products. I expect these trends to continue. The problem the bears have is that their elasticity of demand with respect to income growth is low or negative. When foreign income grows, consumers shift to other products, such as meats, fruits and vegetables and prepared foods. So, the recovery in economic growth now underway in the world is not going to do much for the export bears, with the possible exception of cotton. The second factor, the improving macroeconomic situation, will help the export bulls over the next 12 to 18 months, but with limitations. In 1999, the world economy is estimated to have grown 2.5 percent. That's better than 1998's 1.9 percent growth, but still not as good as the 3.5 percent world growth enjoyed in 1996 and 1997. Much of the recent improvement is in Asia, where Japan, Indonesia, Malaysia, Thailand and the Philippines all were in recession in 1998 and all had positive growth in 1999, although Japan's was still very weak. In 2000, the world economy is expected to grow over 3 percent, a level that is usually very positive for U.S. farm exports. However, although Asian GDP growth is expected to rise over 6 percent this year, that is still not the 8 to 9 percent rates seen in the early and mid 1990's. And Latin America, another key U.S. customer, is expected to grow in 2000 at 2.5 to 3.0 percent, still well below the 5 percent growth of the mid 1990's. So although the world economy is moving back on track, it is still soft in key U.S. markets. And, the agriculture trade weighted value of the dollar in 2000 will still be strong, some 16 percent higher than the level in 1995. The third factor to understand exports I noted was the need to look selectively at key countries. Our exports tend to be concentrated, that is, nearly 50 percent of wheat exports go to 6 countries, 75 percent of corn exports go to 6 countries and 75 percent of all meat exports go to 6 countries. Developments in many of these key markets and among our competitors are not supportive for a large boost in exports in the near future. China is the single biggest factor. In 1996, after the farm bill passed, USDA projected that by the year 2000, China would produce 102 million tons of wheat and import 15 million. In this year, China produced 115 million tons and imported virtually none. For corn, after the farm bill passed we projected China's net corn imports would be over 5 million tons. This year, we expect China to be a net exporter of nearly 5 million. This means that instead of withdrawing 20 million tons of grain from world grain trade as we once thought, China is adding 5 million tons. This is a 25-million-ton turnaround, and that is a major factor in explaining weak grain prices. But China isn't the only story. Argentina, Canada and Australia are now producing nearly 50 percent more wheat than we though they would when we made our post-farm bill assessment. And Argentina and Brazil are producing 15 percent more soybeans. As we look ahead, we know China has reduced procurement prices on all major 2000 crops and we can expect some cutbacks in production there, such as for cotton. But stocks are large and they will continue to export grain and limit cotton imports. In competing countries, continuing good weather, the evolution of technology, and the strong dollar have kept a steady stream of commodities coming on the world market, and that is again in prospect for 2000. So the question is, can a return to strong 3 percent growth in the world economy in 2000 offset these selective supply and demand developments? The answer is no, and that is why it will take several years before we are likely to approach the record $60 billion in exports enjoyed in 1996. I now want sketch out the general financial prospects for the farm economy. Despite very weak, recessionary farm markets, national cash flow turned out pretty good in 1999. U.S. net cash farm income was the second highest ever. Total government payments to producers for 1999 are estimated at nearly $23 billion, a record-high, triple the level of two years ago and over $6 billion above the previous record set in 1987. The reason, of course, is the $15 billion in emergency assistance legislation of 1998 and 1999. Without the supplemental government payments, the cash flow picture is far bleaker. With large government payments, reasonably low interest rates, and strong demand from non-farm use of farm land, farm land values have stayed up nationally, and kept the U.S. farm balance sheet reasonably sound. This has prevented the current farm recession from rising to a financial crisis of the level of the 1980's. We project a very large drop in farm income in 2000. We are currently estimating income without a year 2000 supplementary assistance bill, because one has not been enacted, although we expect one. We expect cash receipts to fall a little as lower receipts from grain, soybeans and dairy offset higher receipts from horticultural products, cattle, hogs and poultry. Without additional assistance, government payments also fall, and farm expenses are likely to rise, boosted by such things as higher energy costs. As a result, U.S. net cash farm income is projected to be a little below $50 billion $9 billion, or 19 percent, below the 1999 level. This would be lower than any year in the 1990's and would cause financial difficulties for many farmers, particularly those having serious debt repayment problems. ERS estimated that in 1998 13 percent of U.S. farms had serious debt repayment problems, that fell to 11 percent in 1999, and, based on our current income projections, that would rise to 14 percent in 2000. This description thus far suggests a very weak farm economy in 2000 strained by weak markets, particularly for major field crops, hogs and most recently milk with little prospect of a substantial near-term recovery in fundamentals. Obviously, farm programs will continue to be a major factor in the performance of markets and the economic bottom line for farmers. So, I will turn to the question of what is next in the world of policy and programs. I will first comment on the outlook for trade policy, so important to our future export prospects. There is no doubt that over the long term we will have great opportunities to export, particularly for income-elastic products like feed grains, oilseeds, meats and horticultural products, and particularly to strong income growth countries in Asia, Latin America, North Africa and the Middle East. Will changes in trade policy help create those opportunities? November's WTO ministerial meeting in Seattle was supposed to map out a framework for conducting the single- most important trade policy initiative the next multilateral round of trade negotiations. Despite agreeing on many items for a negotiating mandate, agriculture did not come to closure on the crucial issues of eliminating export subsidies, the trade effects of biotechnology and special and differential treatment for developing countries. The U.S. has advocated a 3-year time frame for the negotiations, which was generally supported. Our specific negotiating objectives in Seattle were to: eliminate export subsidies; improve market access by reducing tariffs and enlarging tariff-rate quotas; tighten rules on trade- distorting domestic support; reform state trading enterprises; and facilitate trade in products of new technologies, including biotechnology. Some countries, such as in the Cairns Group, wanted to go even further, while Japan and the EU wanted to carve out exemptions for agriculture. In the end, no consensus was reached. This is not the end of negotiations for agriculture. Agriculture is in a unique position, along with trade in services, because Article 20 of the Uruguay Round Agreement requires the continuation of the reform process for agriculture this is the so-called "built-in agenda." Under Article 20, WTO members agreed to initiate negotiations one year before the end of the implementation period, which is in 2001, so we expect the action to shift to Geneva and the agricultural negotiations to continue during 2000, despite the Seattle outcome. But, Article 20 mandates a process, not an outcome. I think you need to understand clearly the U.S. negotiating goal on domestic support, because it may represent a conflict between our objectives of, on one hand, reducing trade-distorting domestic support and, on the other hand, strengthening the farm income safety net the way some people would like to do this year and in the farm bill debate to come in 2002. To understand the potential conflict, recall that the WTO's limitations on a country's domestic support programs use three categories, or "boxes" green, blue, and amber. To be green box, or non-trade distorting, farm support must not be related to price levels or current production. Green box payments have no WTO limitations. U.S. food stamps and conservation payments are examples. Blue box payments are those made under production-limiting programs, such as under a mandatory set-aside program. We still consider these production-distorting, but there are no WTO limits on blue box payments. Examples include our old target price/deficiency payments and the EU's compensatory payments. All other programs are considered trade- distorting and fall into the amber box. Examples include our LDP's and EU intervention prices. Under the WTO, spending on amber box programs is to be reduced by 20 percent during 1995 to 2001. The maximum permitted U.S. spending on trade distorting domestic support i.e., amber box programs under the WTO is about $19 billion for 2000. Between 1995 and 1997, our trade distorting support averaged only about $6 billion. But in 1998 and 1999, with LDPs soaring and emergency assistance legislation, we are now using a much higher proportion of our available limit on spending. Although we have not yet notified the WTO on our support spending for 1998 and 1999, some of the assistance will be amber and count against our limit, such as LDP's, some will be green box, such as disaster payments, and some remains unclear, such as the supplemental AMTA and oilseed payments. But the important point I want to make is that the amount of any new farm support payments and the method by which they are made have implications for meeting our WTO obligations, our future WTO negotiating positions, and the domestic policy debate to come this year and in 2002. One top trade policy priority ahead is the opportunity for agriculture of China entering the WTO. The U.S. completed negotiations with China in mid-November, and other key countries have completed their negotiations or are in the process. The U.S. agreement appears to provide solid gains for U.S. agricultural exports as a result of lower tariffs and access under tariff-rate quotas, with projections of the increase in U.S. exports averaging about $1 billion annually. But more importantly, the agreement would force some disciplines on Chinese agricultural policy, a much-needed outcome where Chinese policy changes can disrupt world markets such as we have seen for corn and cotton. The possibility of WTO accession rationalizing Chinese policies and reigning in Chinese export subsidies offers great promise to the world agricultural trading system. Per capita income and population are going to grow steadily around the world and drive demand for food and fiber. But for U.S. exports to participate, markets must be open and goods must be able to be freely traded. The Uruguay Round Agreement made a modest beginning in bringing agriculture under the rules of the world trading system, but U.S. producers have not fully realized the benefits because of regional financial crises and persistent low prices. And trade barriers to agricultural products remain higher than other sectors. For example, agriculture remains the only sector where WTO rules still allow export subsidies. That's why the next trade round remains fundamentally crucial for U.S. and world agriculture. Turning to domestic farm policy, I would like to offer a few thoughts on the prospects for change this year and beyond. We operate under a farm bill, passed at a time of prosperity, that was intended to make U.S. agriculture more market oriented and to reduce Federal spending over time. However, the collapse in farm prices the past two years has led to widespread agreement that the safety net provided by the 1996 Farm Bill is inadequate. But, there is no consensus on what modifications should be made to the Bill. Nevertheless, there is general agreement that Congress will most likely pass another emergency aid package this year, the third in three years. I, like many others, believe that relying on ad hoc assistance provided by annual emergency aid legislation is not in the best interests of producers or taxpayers. Producers, bankers and others need to know how much support will be provided by the government so they can plan for the future. Furthermore, emergency bills can get tied up in political bidding wars, which may unduly raise their costs, and they are susceptible to adding last minute programs that are not well thought out. The direction policy goes in 2000 and beyond will be influenced by the concerns people have with the current programs. I will end by briefly mentioning 5 concerns. The first is the obvious one that the farm bill has not provided enough income support when prices are low. So what to do? The choice is whether to continue programs both in 2000 and in the next farm bill like we have now, that is, commodity-based payments that are part fixed, such as AMTA payments, and part countercyclical, such as LDPs, or whether to make the payments even more countercyclical by tying them to farm prices and production or income. If the size of AMTA payments are simply increased again in 2000, as we did the past two years, that may not reflect the actual income problems faced by crop sectors or by individual producers. But to move to more coupled countercyclical payments by either replacing, or adding to, the AMTA payments creates problems, too. Countercyclical payments tied to prices and production reduce market orientation. Higher loan rates are an obvious example. Coupled payments prevent production cutbacks when prices are low and therefore slow the recovery of market prices. In fact, our existing payments appear to be doing that as well. For example, since 1996, major crop prices have declined 50 percent but acreage planted to principal crops has only declined 1 percent. No doubt LDPs and emergency assistance have limited the cutback. Also, it is very difficult to design a countercyclical program that is green box. So it would have to be consistent with our WTO commitments. We can have such programs, but I think that they would have to be limited because of our $19 billion WTO cap on trade distorting support, and they may have to be temporary, because it is our objective in the new round of trade negotiations to place even further limits on the amount and types of payments that are permissible. A second issue is that emergency payments and the current farm bill have not been very comprehensive in terms of commodity coverage. Most of the Federal support goes to only 8 crops. Should economic hardship be addressed regardless of the type of commodity produced? If so, we need to consider programs that might assist other types of producers. A third concern is whether program payments could support income and at the same time achieve specific social objectives, such as improving the environment. One way to do this is to provide substantially more payments for implementing conservation practices. The administration has already announced that this will be part of their proposal for how to fix farm policy in 2000. Up to now, conservation payments mainly go to offset a producer's costs of mitigating problems, such as CRP land rent or EQIP cost share. But if conservation payments more reflected the environmental benefits to society, as well as practice costs, more producers could earn more income through conservation programs. However, we also have to consider whether further government environmental regulations could be an outgrowth of increased funding for conservation programs. A fourth concern continues to be the inadequacy of crop insurance. The administration has proposed changes, the House has passed a bill and the Senate is expected to take up the issue this year. The emergency aid packages in each of the past two years provided funds to reduce premiums on buy-up coverage. An expanded crop insurance program could consist of reduced premiums and increased coverage on currently insured crops, expansion of the program to crops not now covered as well as livestock, additional education, and new risk management tools, such as whole farm revenue insurance or subsidized put options. The last issue I want to mention is the long standing question of whether programs should be better targeted to low income farms or smaller farms? Currently, about 1.3 million producers receive AMTA payments of which only 20,000 producers less than 2 percent have payments reduced because of the $40,000 payment limitation. And far fewer producers are affected by the $75,000 limitation on loan deficiency payments and marketing loan grains. One quarter of payments go to the 5 percent of farms having annual sales of $500,000 or more. Many believe payments to large producers facilitate consolidation and argue that payments should be directed at smaller farms and those with low incomes. As we move toward 2002, I believe there will be more and more discussion about whether farm payments should continue to be based on a few commodities and past production, or whether payments should be more broadly available and based on other measures such as whole farm income. In conclusion, with average weather, I see very weak crop and milk markets ahead for some time, but improving livestock and poultry markets. Without new farm payments in 2000, we will have the lowest level of farm income since the 1980s. I believe Congress will again provide added support, and I think the debate will revolve around whether the payments should be better targeted to those incurring losses as well as restricted based on size or other characteristics. There will be debate on whether government payments should be more closely tied to a producer's conservation practices. WTO limits on domestic support will not be a major factor in 2000, but may be much more influential in determining the scope of options in 2002. The next farm bill debate could expand to include programs and policies that tie payments to whole farm income, deal with the changing structure of agriculture and possibly address tax issues. I again thank you for the invitation and wish you the best in what will certainly be a challenging year.