Economic Tidbits

Ripples in the Pond

As every child learns, a stone thrown into a pond creates ripples and distorts the surface of the pond. In the same way, government policies create ripples and distortions in markets, even though policy makers often try to avoid them. In agriculture, policy makers have gone to great lengths in attempts to design commodity programs in ways so as not to distort farmers’ acreage and production decisions. It is a discussion for another day whether the goal has been achieved. Policymakers had the same goal when designing Market Facilitation Payments (MFP). However, a recent paper by Joseph Janzen, Bryn Swearingen, and Jisang Yu with the University of Illinois, USDA Economic Research Service, and Kansas State University, respectively, indicates decoupled payments like MFP can still influence farmer decisions. 

Janzen et al. examine MFP payments made to farmers between 2018 and 2020 in terms of their effects on farmers’ storage decisions. MFP payments were made to compensate farmers for losses resulting from the trade conflict between the U.S. and China. MFP payments amounted to $23 billion with payments concentrated to producers of crops like corn, sorghum, soybeans, cotton, and wheat. The authors write, “MFP payments were designed to avoid affecting acreage and production decisions by determining payments after the planting period or basing payment rates on planted acres of all crops.” Yet despite the effort to avoid market distortions, MFP payments were found to affect farmers’ storage decisions. 

Janzen et al. explain that the theory of commodity storage holds that farmers’ decisions regarding inventory holding are determined by the marginal cost of holding inventories. The opportunity cost of forgone revenue when deciding to store grain is a major component of marginal cost. MFP payments, by providing an influx of working capital, lowered the opportunity cost of storage which resulted in farmers deciding to put additional grain into on-farm storage. No similar effect was detected on off-farm inventories.

The effects were largest for soybeans. MFP payments increased the share of soybean production in storage in 2018 by 6.2 percentage points. Janzen et al. write, “This effect implies actual on‐farm soybean inventories for states in our data were about 228 million bushels greater than would have been observed in the absence of MFP payments. For context, this quantity is 6.1% of the level of total US soybean stocks (not the proportion of production) held in storage at that time, both on‐ and off‐farm.”

Even when unintentional, government programs can create ripples and distortions in markets. Janzen et al. found that MFP payments reduced the opportunity cost of storage allowing farmers to store grain and ride out the market shock of the trade conflict with China. Whether these ripples and distortions are good or bad is up to policymakers and market participants to determine. 

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