Double-talk on subsidies

Print edition : October 23, 1999

The case of agricultural subsidies in global trade negotiations.

ONE of the paradoxes of world trade is that the richest and the most industrialised countries, which enjoy no comparative advantage in agriculture, dominate the world export market for wheat and several other primary products. Given their relative labour situation and natural endowments, one would expect, on purely economic grounds, that they would specialise in the production and export of industrial goods, leaving to the poor agricultural countries the production and export of agricultural goods. But the fact is that despite the high costs of labour and machine, they supply wheat to the world market at a price that is lower than that quoted by Third World exporters.1

The paradox is quite easy to resolve. The rich countries have succeeded in "creating" comparative advantage for their agricultural exports by way of subsidies to their very small number of agriculturists. The subsidy is of such an unimaginable scale that it has turned what is costly and non-viable and should not be produced in developed countries into one of their most lucrative export items. The "cheap" wheat is used both to make agriculture a profitable business for the farmers of the United States an d West Europe and to attain the diplomatic goals of their governments. From the days of PL 480, food diplomacy has been one of the major components of the foreign and defence strategies of the U.S.2 Organisation for Economic Cooperation and De velopment (OECD) countries (taking the European Community, or E.C., the U.S. and others together) account for 80 per cent of the world cereal trade; more than 55 per cent of these cereals are sold to less developed countries.3

While the high subsidy, coupled with rigorous import control and high tariff, helps to explain this paradox - of highly industrialised countries capturing the world agricultural market - this in turn gives rise to yet another paradox. How countries that advocate a "no subsidy" world trade order and pressure poor countries to withdraw agricultural subsidies in all forms - including those given to the Public Distribution System (PDS) and for price support and export - could give subsidy to their own agric ulturists? Again, this paradox can be explained easily: because they dominate the world politically, militarily and economically and frame the rules for world trade in their own interest. These rules allow them to continue, even after the 1994 Marrakesh Agreement, with their own large subsidies, albeit in some diluted form, while the markets of the poor countries are forced open and flooded with subsidised "cheap" wheat exports from the rich countries. Defying economic logic and their own market- based theology, both the U.S. and western Europe, the greatest champions of an open-house policy, continue to protect and subsidise their own agriculture and, by all accounts, will do so for many years to come. "Do what I say, don't do what I do" seems t o be their motto.

How large a subsidy do they give their less-than-10-million agriculturists? Compared with the equivalent of $1 billion that India gives its 600 million agriculturists, the U.S. Government provided farm subsidy to the tune of $32 billion even in 1989 acco rding to one calculation while the corresponding figures for western Europe and Japan were $53 billion and $33 billion.4 The total subsidy given annually by OECD countries to their agricultural producers reached a staggering figure of $240 bil lion.5 One OECD study in the early 1990s estimated production subsidy equivalents (in percentage of producer prices) in 1991 at 66 per cent for Japan, 49 per cent for the countries of the E.C., and 30 per cent for the U.S.6 There ca nnot be the slightest doubt that if such subsidies and import control are withdrawn by the E.C. and the U.S. , the direction of trade would radically change overnight. These markets would be flooded by wheat exports from the Third World. In that changed world scenario, not a single grain of their wheat would be exported, not to speak of their exports dominating the world wheat market. These subsidies have artificially kept world wheat prices at a level that is between 8 per cent and 17 per cent lower th an what would have been the case otherwise, and this has deprived agriculturists in the Third World of their due share from trade.7

The issue of agricultural subsidy, which exposes the double-talk of the rich world more than on any other subject and explodes the myth of world wheat prices being rational and objective, will come up for discussion in the four-day Ministerial Conference of the World Trade Organisation (WTO) in Seattle from November 30. According to a 1993 estimate, a reduction by 30 per cent in the average level of protection in the OECD countries would produce a gain of $195 billion for the world economy, which is gre ater than the entire income of the countries of Sub-Saharan Africa. Of this, about $90 billion would accrue to less developed countries, an amount that is twice the annual quantum of official development assistance given to these countries. Complete abol ition of protection would entail a global welfare gain of $475 billion, according to this estimate.8.

Historically, until the Uruguay Round, U.S. government policy on agriculture had been highly protectionist. It began with the objective of import substitution, which arose from a concern for national security and the consequent urge for self-reliance in food. But this is grossly overdone. In time, the astronomical level of subsidies catapulted the country to its present position as the leading exporter in the world. Along with subsidies, a ridiculously large agricultural administration has come into bei ng in the U.S. It is difficult to believe but true that there is now one bureaucrat for every five farmers and the budget of the U.S. Department of Agriculture exceeds the net income of all farmers.9

In western Europe, a food-deficit region until the 1970s, the subsidy is given under what is known as the Common Agriculture Policy (CAP) of the Common Market, which has been operating since 1962 as a component of an import substitution strategy. Under C AP, high support prices are maintained for major crops, and a variable levy system, which ensures that foreign agricultural goods are always priced higher than their local counterparts, is imposed. Further, export subsidies (referred to as expo rt refunds or restitution) are given to agricultural producers to dispose of their surplus. The massive subsidies, under what is known as the Export Enhancement Programme (EEP), radically transformed the agrarian economy of essentially food-defict Eu rope. In 1970 the E.C. imported agricultural goods but, thanks to the subsidies, by 1980 it was self-sufficient in food, and by 1986 its agricultural exports - cereals, beef, sugar, and dairy products - surpassed those from the U.S.

Naturally, both the U.S. and western Europe were opposed to making agriculture a major item of the General Agreement on Tariffs and Trade (GATT) negotiations until the Uruguay Round, as their agricultural policies were clearly at variance with known GATT prescriptions. In 1955, in an extraordinary manner, again defying all sense of fair play, the U.S. was given a waiver from normal GATT prescriptions, and this allowed it to continue with high levels of protection for its agriculture.10 In Eur ope's case, the justification for the protection and subsidy was that CAP was an essential element needed to bind its members together and without this Europe would lose its political cohesion.11 So much for the principles of free trade and th e "fundamental" economic principle of unhindered flow of goods and services across international borders.

However, over time, as a consequence of ever-increasing pressure from various lobbies, agricultural subsidies, continued to rise steeply, even faster than what even the richest countries could afford. Sixty to seventy per cent of the E.C's common fund wa s spent on subsidies, leaving lesser and lesser funds for other equally demanding needs. The E.C. budgetary support for agriculture rose from 4.7 billion ecu out of the 6.2-billion ecu overall budget in 1975 to 46.3 billion ecu out of the 58.4 billion bu dget in 1991.12

The level of agricultural subsidies proved too high even for an economic giant like the U.S., particularly when the U.S. budget showed enormous deficits,13 thereby seriously threatening the country's macroeconomic balance. In 1986, U.S. agricu ltural exports slumped to $26 billion, but the government handout to farmers, at $30 billion, exceeded the export earnings. In this situation, one alternative actively promoted by the U.S. government to reduce production prompted by subsidy, ridiculous t hough it may appear in the global context, was to induce farmers to leave the land fallow, for which they were rewarded with subsidy. Thus the farmers were paid not to produce in a desperate bid to reduce the scale of subsidy.14

Once the U.S. Government, facing chronic budget and balance of payment deficits, decided to reduce its own level of subsidy, it was in its own interest to make the rest of the world conform to its policies. This explains the 180-degree turn in the policy of the U.S. on agriculture, its advocacy of lower agricultural subsidies, and its pushing of agriculture as a major item for trade negotiations in the Uruguay Round.

However, the U.S. did not propose complete elimination of producer subsidy in the Uruguay Round discussions; it wanted only the part of subsidy tied to output-increasing incentives to go. The U.S. safety regulations in relation to internal food supply we re not sacrificed. In the Marrakesh Agreement on agriculture, under reduction commitments, members were expected to reduce from 1986-90 levels their budgetary outlay on agricultural subsidies, by 36 per cent and their volume by 21 per cent, over a period of six years. For the less developed countries, a 24 per cent cut in value and a 14 per cent cut in volume in 10 equal annual instalments were ordained. It is important to notice that subsidies were only subjected to proportionate cuts, not to a ny absolute ceiling, or per-agriculturist or per-beneficiary ceiling. Given that subsidy levels were already high in the U.S. and western Europe, even after such percentage reductions, the actual levels of subsidy given to their agriculturists remain ext raordinarily high, compared with those in less developed countries. It will take generations for this to be whittled down to the levels of subsidy in India.15

The very high subsidies given by rich governments were to be cut as a percentage of their steep levels, but, by a suitable manipulation of definition, they managed to take most of their subsidies out of the way of these cuts. This they managed to do by c lassifying subsidies into "goodies" and "baddies", so to say, and made only the "trade-distorting subsidies" illegal. However, what is trade distorting in its effect on production and what is not is a matter of judgment. The rich countries, which frame t he rules, decided that most of their own subsidies had no trade-distorting effect on production and, therefore, were not subjected to cuts. The deficiency payments of the U.S. and compensation payments of the European Union were exempted, a s also a long list of their other subsidy programmes.16

WHILE the provisions in the Marrakesh Agreement are grossly unfair, the attitude of successive Indian governments since 1991 on this question has been despicable and demeaning. In their servile attempt to please the rich countries they have withdrawn mor e subsidy than was necessary. Although no new export subsidy on products is permitted, the GATT-permitted Aggregate Measure of Support (AMS) by the state to its agriculture is calculated in value terms as a global measure and not as specific to products, and is expected to be reduced by 20 per cent in six years, at an aggregate level, allowing flexibility in shifting support between products. Further, a de minimis provision allowed a country to exclude from the AMS calculation any support that di d not exceed 5 per cent of the value of production of that commodity, and for non-product-specific support where it did not exceed 5 per cent of the value of the country's total agricultural production. For the less developed countries, de minimis level was fixed at 10 per cent, and specified agricultural input subsidies were excluded from the AMS.17

For every individual product the Marrakesh Agreement requires a minimum of 15 per cent reduction in tariff, but for the less developed countries the figure is 24 per cent. It also permits special safeguards to allow temporary duties during the six -year period, when sudden movements, above trigger levels, in prices and the volume of imports make that necessary. However, any such subsidies and duties are subjected to a minimum amount of access to be given to foreign competitors - of 3 per cent init ially, rising to 5 per cent in six years.18 These provisions were not used to protect our subsidies, nearly all of which were well within the limits prescribed by the Marrakesh Agreement on Agriculture. The Government of India, however, went o ut of its way to reduce subsidies to levels that were not strictly warranted under the Marrakesh Agreement.

Moreover, the Marrakesh Agreement allows import control for some specific purposes, for example sanitary and phytosanitary measures in order to "protect human, animal or plant life or health". It has been left to the country concerned to work out its own acceptable level of risk, but the controls are to be used on a non-discriminatory basis. In fact the E.U. used this provision to ban the import of hormone-fed beef from the U.S.19 In India's case, rather than the country using this provision favourably, it has been used from time to time by the European countries to impose bans on shrimp exports from India.

The very generous implementation of the GATT subsidy rules in India has adversely affected Indian agriculture and has led to a decline, compared with the figure for 1991 when the reform was initiated, in per capita food availability and in the rate of gr owth of agricultural output. This was despite the very unusual favourable occurrence of 11 successive good monsoons, a significant increase in the flow of capital to agriculture via cooperatives, substantially higher support prices and a highly supportiv e adjustment programme. The main reasons for the poor performance of agriculture were a drastic curtailment in public investment in agricultural infrastructure, and an increase in the prices of potassic and phosphatic fertilizers, following subsidy reduc tion, with a consequent disporportionate increase in the consumption of nitrogenous fertilizers.20 The decline in public sector investment in agriculture and rural infrastructure, particularly in irrigation and power, has not been compensated by a corresponding rise in private investment that was expected by the International Monetary Fund-World Bank establishment. The idea that the public sector was "crowding out" the latter and that the withdrawal of the public sector would create space for the private sector for investment has been completely discredited in India and other poor countries.

Furthermore, despite generous state support since 1991, agricultural exports from India have not made any significant impact either domestically or in the world as a whole. To give an example, according to Fund-Bank theology, if shrimp is tradeable and r ice is not, it would make sense to bring saline water to paddyfields and discard paddy production in favour of export-oriented shrimp farming. However, experience with shrimp production and exports shows how vulnerable it can be to cyclical diseases, to cheaper and better production possibilities in other countries from the point of view of multinational companies (MNCs) controlling agri-business, to periodic bans and the rigorous imposition of hygiene standards, to various trade restrictions that are c haracteristic to developed country economies particularly in the field of agriculture, to the whims and caprices of developed countries' administrators, and to the rise and fall in world demand and supply on which India's indigenous producers have no con trol.

It cannot be that India would allow the free import of subsidised foreign agricultural goods and invite the destruction of domestic agricultural producers who cannot be subsidied, or subsidised to that level, while the rich countries would continue to fo llow protectionist policies in support of their own high-cost producers, accounting for a very high proportion of their public expenditure. There cannot be one set of rules for them because they are rich and powerful and another for those who are poor an d weak.

That the Marrakesh trade rules, now implemented by the WTO in the name of globalisation, have been framed to favour western MNC interests is recognised by the highly researched literature emanating from institutional sources in rich countries themselves. The following is an interesting quote from an important OECD document on technology and globalisation, which was published in 1992.21

"Globalisation represents a new phase in the process of internationalisation and the spread of international production. It refers to a set of emerging conditions in which value and wealth are increasingly being produced and distributed within worldwide corporate networks. Large multinational firms operating in concentrated supply structures are at the hub of these conditions."

As for the consequences, this document states categorically: "The first concerns the marginalisation of developing countries within the globalisation process. The second concerns concentration as a world process and whether a global competition policy is needed and how it might be implemented. The third relates to the problems posed by support given by governments to firms engaged in global competition and the need for new rules and codes of behaviour. The fourth relates to standards and norms in a cont ext of rapid and pervasive technological change, corporate concentration and globalisation."

UNFORTUNATELY, documents such as these are not read by the policy makers in India, or, if read, are immediately swept under the carpet. Subsidies of all kinds - on procurement, the PDS, export, interest on agricultural loans, and so on - are seen by the Indian government as distortions that make production inefficient and misallocate the resources according to optimality rules. According to this view, the prices of inputs, whether fertilizers, water or power or what have you, should fully recover their costs. This new approach is also manifested in the policies adopted in other areas. For instance, the Narasimhan Committee on the financial sector, which recommends doing away with priority area lending and subsidised interest rate and the pruning of no n-profit making branches of banks in remote and backward rural areas. The fiscal policy backs the acquisition of wealth, and hence that of land in the rural areas, and does not favour taxes on these. While the new fiscal policy, based on the recommendati ons of the Raja Chelliah Committee, attempts to widen the tax base, rural wealth tax is not on its agenda. The new industrial policy frowns at the location of industries in backward agricultural areas, and the general policy thrust is opposed to such and other measures that aim at reducing inter-regional disparities.

The GATT opposition to subsidies is based on the view that a project or economic activity should cover its costs and provide returns within a given time-frame. A broad social cost-benefit analysis, recognising the linkages of projects with the rest of th e economy and taking a long-time horizon into account, would go beyond such time-bound and project-bound framework. A subsidy can be treated as an investment for creating viability at a future date, or even as a measure that protects the interests of the future generation or of the environment. Optimality rules deployed by the World Bank, the IMF and the WTO, the global trinity that rules the poor countries, to justify their theology hold for full and free global integration, not for the partial and pie cemeal ones noticed in world trade today. If integration is less than total and free, the optimality rules break down. Subsidies can be justified on many grounds, even using the analogy of the functioning of the MNCs and other non-government organisation s that subsidise many of their activities from the profits made from other activities. In many cases such subsidy or short-term loss is in the nature of an investment with a long-term profit goal. For example, foreign insurance companies planning to ente r the Indian market are prepared to make losses for six years before their balance sheet would turn white. A government can take a wider view - for example, that loss-making branches of banks are creating more social benefits than costs despite conventio nal losses, compared to private companies which are motivated only by profit can, by providing an alternative to money sharks, by augmenting agricultural production and thus reducing food imports, by helping to mobilise saving, and by inculcating the sav ing habit.

"Crop insurance" is not an area where any private insurance company, Indian or foreign, would be interested, but the government can go beyond the concern for profitability in the insurance business and subsidise crop insurance in order to stabilise agric ultural earnings and make investment in agriculture less risky and more attractive. Similarly, no private electricity company would be even remotely interested in distributing power to widely diffused rural settlements. This is a task that only a state e nterprise would undertake, maybe at a loss initially, and with a generous subsidy; but if it helps the local economy to bloom, maybe in the long run, it will help make profit. There is also the question of the interests of future generations. A private c ompany motivated only by profit and discounting the present value of future earnings at the current rate of interest, would not see anything beyond 15 years, as the present value of earnings beyond that period would be nearly zero. Only the government ca n protect the interests of future generations and save the environment from degradation that is not discernible at one point of time but accumulates over decades - for example, the depletion of the ozone shield.

This is not to argue for mindless subsidies or controls to keep foreign competition away forever. This is simply to suggest that we do what all countries of the world, rich or poor, large or small, socialist or capitalist, usually do - to examine careful ly cases where such subsidy and control are necessary to augment domestic production and seek self-sufficiency. One should note that the call by the global trinity to abandon self-sufficiency in food and to attain "food security via the global market" ha s been dismissed with contempt by the Japanese, who can buy anything from anywhere at any price, who are determined to maintain food self-sufficiency no matter what the cost is.

One of the first things that the Indian delegation should do in Seattle is to raise at least some of the issues discussed here. The main thrust of its argument should be why the rich countries would be allowed to subsidise their agriculture on such a big scale and continue with rigorous import control on Third World agricultural exports when, going by their own rules based on comparative advantage, agricultural production and export should be left with the poor countries.

Biplab Dasgupta is an economist and a CPI(M) member of the Rajya Sabha.

Structural Adjustment, Global Trade and the New Political Economy of Development

The Changing Role of the United States in the Global Agricultural Trade Regime

Technology and the Economy The U.S. Perspective Agriculture in the Uruguay Round

Fixing the Rules: North South Issues in International Trade and GATT Uruguay Round

The International Grain Trade

Snouts in the Trough: European Farmers, the Common Agricultural Policy and the Public Purse

The Common Agricultural Policy Beyond the Machsherry Reform

Trading Free - the GATT and the U.S. Trade Policy

The Outcome of the Uruguay Round: An Initial Assessment, Geneva

Growth, Employment and Poverty in Rural India: Change and Continuity

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