Friday, 8 May 2009

Who gets what from agricultural subsidies?

Many countries handout subsidies to their farmers. An interesting question is Who actually benefits from these subsidies? Is it the farmer or is it the landowner? An application of standard perfectly competitive market theory would tell us that it is the landowner. This theory predicts that the entire subsidy incidence should be on the farmland owners. If farmers rent the land, the theory tells us that the land owner is able to extract the whole subsidy from the renting farmer, simply because of the inelastic supply of land. As the extra profits from farming due to the subsidy increase the demand for land, the rental price of land increases, but the quantity of land doesn't, and thus the rental price increases by the amount of the subsidy.

This theory is looked at in a recent paper in the Journal of Political Economy, 2009, vol. 117, no. 1. The paper is by Barrett E. Kirwan and is entitled "The Incidence of U.S. Agricultural Subsidies on Farmland Rental Rates". Kirwan finds that that farmers who rent the land they cultivate capture 75 percent of the subsidy, leaving just 25 percent for landowners. This finding contradicts the prediction from neoclassical models as outlined above. The standard prediction may not hold because of less than perfect competition in the farmland rental market; the share captured by landowners increases with local measures of competitiveness in the farmland rental market.

For the case of a farmer-landowner the value of the subsidy will be built into the price of the farm when he sells and so is a one-off gain for the farmer-landowner at the time the subsidy is applied.

So if you ever wonder where the money wasted on agricultural subsidies goes, now you know.

1 comment:

homepaddock said...

This paper from NZIER economist Chris Nixon shows product prices are capitalised into land values:

Your post indicates it doesn't matter whether those are real market prices or artificial ones augmented by subsidies.

However, there are other beneficiaries from subsidies - the people who process what farmers produce, work for, contract to, supply and service them.

P.S. In NZ the landowners are more often than not also the farmers – not that we get subsidies now anyway.