U.S. Agriculture Response to Policy Reform: Does OFarm Household Type Fit All?

This paper focuses on U.S. agriculture response to policy reform. A growing body of empirical literature describes the potential aggregate gains for the U.S. markets if global agricultural tariffs and subsidies can be further reduced (USDA, 2001; World Bank, GEP 2002; Tokarick, 2003). These gains are based on an aggregation of expected responses at the micro-level, by firms and households, to changing market conditions. Some of them will be “gainers” whose current economic activities and assets will benefit from the new opportunities presented by policy reform. Some will be “losers” who are adversely affected by the reduction or loss of subsidies or import protection. A micro-level analysis of policy reform that identifies market responses and consequently potential losers and gainers from policy reform is valuable for two reasons. First, by recognizing the losers from policy reform, targeted strategies can be formulated for assistance or compensation, which can help to neutralize opposition, mitigate hardship, and enable policy reform to take place. Second, facilitating adjustment and flexibility during transition, not only of the losers but also of the potential gainers, makes it more likely that an economy can take advantage of the opportunities presented by reforms. A nation’s dynamic capacity to divest and re-invest, to train and reallocate human capital, and to develop or adapt new technologies and institutions, make it more likely that it can realize sufficiently large gains to warrant reform, and can minimize the potential losses to existing stakeholders. This paper takes some first steps in the analysis of U.S. agricultural adjustment to policy reform. Our objective is to describe the capacity of U.S. agriculture to adjustment to market shocks in two venues. The first is the structural change and sectoral reallocation of production by the firm (or farm). Farms readjust their employment and capital stocks in response to the effects of policy reform on relative prices and factor returns, leading to changes in the structure or composition of the agricultural sector. The second venue is the adjustment made by agricultural households to maintain their well-being following shocks to farm labor income and agricultural asset values. Most U.S. farm households today are engaged in a range of economic activities that include both their farm operation and farm assets, and their non-farm labor employment and assets. Farm households’ adjustment includes changes in their labor and investment allocations across the farm and non-farm portfolio, as well as through inter-temporal changes in their consumption (including leisure) and savings. In this paper, we: 1. Provide a conceptual discussion of the “portfolio” of mechanisms used by farms and households to adjust to price, income and wealth shocks. Farms adjust their production activities and employment to maximize profits given changes in relative prices and factor returns. Households make adjustments in order to maximize their well-being (defined broadly as income, wealth, and the way they use their time) following shocks to farm income and farm asset values. We will draw from the literature, primarily on trade adjustment assistance and wealth effects, to identify key characteristics that influence household adjustment capacity, including age (lifecycle), education, engagement in off-farm labor markets, asset portfolio size and diversification, and local employment conditions. 2. Use a U.S. (single-country) computable general equilibrium to simulate the structural response of U.S. agriculture to policy reform (unilateral removal of all ag. taxes and subsidies). The CGE model data disaggregates U.S. agriculture into 3 farm types and 10 regions, and differentiates farms in each type/region according to their degree of specialization. This approach allows us to capture the hetereogeneity among farm regions/types/specialization in their capacity to adjust to relative price changes, with structural adjustment capacity diminishing when the farm operation is more specialized. It also allows us to move toward a mapping between households and the farm enterprise as the farm becomes more specialized. 3. Provide a descriptive analysis of the distribution of U.S. farm households’ capacity to adjust by describing key adjustment characteristics (identified in section 1) across farms in each region/type/specialization, using data from ARMS. These characteristics may include recent research on rural labor market conditions.