Leaked legislative proposals anticipate Commission CAP reform proposals due October 12th

The International Centre for Trade and Sustainable Development has made copies of the draft Commission legislative proposals for CAP reform available here. These are the versions circulated within the Commission for comment, and they could change further before they are formally released to the European Parliament and the Member States on 12 October next.  Nonetheless, the draft regulations are worth analysing in detail because of the indications they give to the Commission’s thinking.

The proposals are contained in four main regulations which would replace the existing regulations governing the CAP, as follows:
-    A regulation governing direct payments under Pillar 1
-    A regulation governing rural development payments under Pillar 2
-    A regulation revising the single Common Market Organisation regulation
-    A horizontal regulation covering financing, management and monitoring of the CAP.

We look at the draft Direct Payments Regulation in this post and will comment on the others in later posts. Apologies in advance that this is quite a long post.

Background

The legislative proposals are based on the budgetary framework for the CAP set out in the Commission’s multi-annual financial framework (MFF) proposal over the period 2014-2020. This proposal kept the overall budget available for the CAP in the coming period at more or less the same level as in 2007-2013, while also retaining the division between the two Pillars as it is at present after modulation.

They also follow an impact assessment of the three options set out in the November 2010 Communication (called the adjustment, integration and refocus scenarios) including a public consultation on these options.

The preferred scenario which emerges from these legislative proposals is a relatively conservative adaptation of the existing CAP. Compared to more radical proposals for reform emanating from groups of agricultural economists and some environmental NGOs, the proposals are a disappointment and a missed opportunity. On the other hand, they broadly maintain the market orientation pursued by the series of CAP reforms during the past two decades and avoid commitments to some of the wilder proposals in the public debate calling for a return to high guaranteed prices backed up by quotas and/or a recoupling of direct payments (though there are some potentially worrying elements on recoupling in the draft proposal to which we return below).

The proposals maintain the two-pillar structure of the CAP, in which Pillar 1 finances annual payments to support farm incomes as well as market measures while Pillar 2 funds rural development measures under a multi-annual programming approach. The clear separation of objectives between the two Pillars is somewhat blurred by the possibility of using some Pillar 1 funds for measures traditionally addressed by rural development funds, including payments to farmers in areas facing specific natural constraints and payments to new entrants to farming. Also, a proportion of the Pillar 1 payments will now be directed to farmers following practices beneficial for climate and the environment. However, I argue later that this is really a form of super-cross-conditionality rather than the introduction of agri-environment payments (which will continue to be funded under Pillar 2) into Pillar 1.

Summary of proposed changes to direct payments

So, what are the changes proposed in the draft direct payment regulation? A short summary would include:

•    The Single Payment Scheme (in the old Member States and Slovenia) with its multiple types of entitlements and the simplified single area payment scheme (SAPS) in the new Member States will be ended. They will be replaced by a new basic payment scheme from 2014 which will be implemented according to the rules of the Single Payment Scheme (eligible areas, entitlements, activation, transfers, national reserve, etc) but with just a single type of entitlement.
•    The basic payment will be complemented by a series of additional payments funded under the Pillar 1 national ceiling made available to each Member State. These include a mandatory green payment (30% of the annual national ceiling) to farmers following agricultural practices beneficial for the climate and the environment; a voluntary additional payment (up to 5% of the national ceiling) for farmers farming in disadvantaged areas; a mandatory additional payment to new entrants enrolled in the basic payment scheme (up to 2% of the national ceiling) and a simplified scheme for small farmers (up to 10% of the annual national ceiling). The simplified scheme for small-scale farmers is mandatory for Member States but optional for farmers. In addition, a voluntary coupled support scheme is provided for up to 5% of the national ceiling with the possibility to go beyond this in particular cases.
•    Contrary to the impression given in the November 2010 Commission Communication that the green payment would be mandatory for Member States to offer but voluntary for farmers to accept, the proposed Regulation requires that farmers in receipt of the basic payment SHALL also observe the environmental criteria which give eligibility for the green payment. This means that these environmental conditions become part of a super-cross-compliance conditionality because they must be met if the farmer is to remain eligible for the basic payment. The three conditions are a requirement that cultivation on arable land must consist of at least three different crops simultaneously (not sequentially), that permanent grassland must be maintained at the level of the individual farm, and that farmers must devote 7% of their eligible area excluding permanent grassland (thus, in reality, a requirement on the arable area) to ecological focus including land left fallow, buffer strips and afforested areas – in effect, the reintroduction of setaside but for all arable farmers with more than 3 ha of arable area.
•    The unit value of the basic payment is determined as a residual once these other payments are accounted for. Authority is given to the Commission to adjust the value of these payments from year to year, “implying that beneficiaries cannot rely on support conditions remaining unchanged”.
•    Transfer of entitlements will continue to be allowed, but whereas previously Member States could decide if they wished to restrict transfers to within one and the same region, now entitlements can only be transferred either within the same region or between regions of a Member State where the payment entitlements have the same value. The specific provision allowing transfer through sale with or without land or through lease together with land has been deleted, although the significance of this is not clear. It may be that the conditions of transfer are left to be defined in subsequent implementing legislation to be proposed by the Commission.
•    The average direct payment per hectare of potentially eligible land and per beneficiary for the year 2013 is €94.7 in Latvia and €457.5 in the Netherlands. The EU-27 average is €269.1. The Regulation proposes some limited redistribution initially of direct payment envelopes (funds) between the Member States, following the formula proposed in the Commission’s MFF proposal which envisages that, for countries currently receiving less than 90% of the EU average payment per eligible hectare, one-third of the gap between their current figure and 90% of the EU-27 average is closed. In the medium-term, however, and by December 31 2028 at the latest, all allocated payment entitlements in the Union should have a uniform value, implying that the payment per eligible hectare in Latvia should be the same as in the Netherlands.
•    A corollary of this move to convergence across member states is that all payment entitlements within a Member State or region should have the same value by 1 January 2019. For those Member States currently applying the historic basis for the Single Payment, a dynamic hybrid model is proposed. In 2014 50% of a farmer’s basic payment must be calculated on a uniform basis while the remainder can be distributed according to the historic basis. Over the 2014-2019 period Member States must move to a fully uniform payment “through annual progressive modifications …in accordance with objective and non-discriminatory criteria”. Interestingly, a regular linear adaption is not explicitly proposed, suggesting that some Member States might try to backload the modifications to the remaining historic element. Overall, however, there is a rather abrupt shift to a largely uniform payment in the first year, 2014.
•    The basic payment support (but not the green payment) to very large farms will be capped, although account will be taken of agricultural employment on large farms in setting the thresholds above which payments will be reduced or capped. Funds released by capping direct payments will remain with that Member State.
•    Support will be limited to active farmers defined as those for which their income from agriculture exceeds at least 5% of their total income, but this restriction will only apply to farms receiving more than €5,000 per annum.
•    The financial discipline mechanism will be maintained, whereby payments can be reduced to ensure that total payments in the EU as a whole stay within the MFF ceiling, but the mechanism will only apply to payments above the first €5,000 in any calendar year.  The €300 million margin for triggering financial discipline seems to be gone.
•    Member States will have the option, before 1 August 2013, to transfer up to 5% of their national ceiling to rural development (RD) programming for the period of the Regulation. Conversely, a specified number of (mainly new) Member States can transfer up to 5% of their 2015-2020 envelope for RD measures to direct payments.  This is the only faint echo of modulation left in the new Regulation.
•    The regulations on cross-compliance are moved from the DP Regulation to the horizontal regulation. Cross-compliance requirements currently consist of separate lists of statutory management requirements (SMRs) and standards of good agricultural and environmental condition of land. It is proposed to organise these in a single list grouped by area and issue.  Some changes are proposed to the details of SMRs, including the addition of the Water Framework and Sustainable Use of Pesticides directives.

The management of direct payments

In dividing direct payments between the basic, green, less favoured area and new entrant payments, the Commission has also adopted a schizophrenic approach to their management. For the basic payment, it has opted to continue the system used in the old Member States whereby the payment is linked to an entitlement and the entitlement must be activated by being associated with a hectare of eligible land. For the new Member States, this will require an upgrading of their administrative systems to keep track not only of eligible land but also of who owns the entitlements, given that entitlements can be transferred.

However, for the green, less favoured area and new entrant payments, the Commission has opted to follow the SAPS approach whereby the payment is made simply in the form of an annual payment per eligible hectare.

One wonders why the Commission did not decide to standardise on the SAPS approach throughout and why it has retained the entitlements framework for the basic payment. Perhaps it was looking over its shoulder at the WTO and the requirements for green box status of decoupled income supports, which state that “the amount of such payments in any given year shall not be related to, or based on, the factors of production employed in any year after the base period.” By basing the basic payment on possession of an entitlement rather than on a hectare of land, the Commission may hope to stay within the letter of the WTO agreement. But as every entitlement has to be activated with a hectare of land, one wonders if this fig leaf would make an acceptable defence before a dispute panel? Is it a good argument to maintain two different payment rules within the same Pillar 1?

The removal of a direct reference to the sale or lease of entitlements might suggest that, in moving to the regional approach of a uniform payment per hectare within a Member State, the Commission envisages that every hectare of eligible land will be covered by the payment scheme. But land will only become eligible if a farmer decides to apply for a payment entitlement under the basic payments scheme before 15 May 2014. Given that, in applying for a basic payment, the farmer will be required not only to meet the standard cross-compliance requirements but also the super-cross-compliance conditions associated with the green payment, there is a possibility that, in some regions, farmers may deem the compliance cost to be too high and will opt out of the direct payments scheme. Of course, these funds could then be used to increase the unit value of the basic payment entitlements for all other farmers who decided to opt into the scheme.

The management of the unit value of the basic payment will become quite complex for national authorities. It appears that, each year, the Commission will set the annual national ceiling for basic payment schemes by deducting from the annual national ceiling the amounts allocated to the green, less favoured area, new entrant and coupled payments. In addition, the national authorities will then have to work out how much has to be allocated to the small farmer scheme, with the residual divided by the number of eligible hectares. The national reserve will be used to even out dips in the amounts allocated because, for example, farmers may voluntarily return their entitlements.

However, because the amount removed by capping is transferred to Pillar 2, Article 18 appears to make an error when defining the amount available for the basic payment as the difference between the national ceiling and the green, less favoured area, new entrant and coupled payments, when it should be the difference between the net ceiling and these other payments. Net ceilings are the amount available for Pillar 1 direct payments from their national ceilings following the application of capping.

Convergence

The degree of convergence achieved between Member States initially is rather limited, as shown by the Commission graphs. However, the one-sentence commitment to achieve a uniform unit value for all allocated payment entitlements in the Union by 31 December 2028 is very ambitious, and presumably inserted under pressure from the new Member States. Indeed, taken at face value, this appears to even rule out different regional unit values within a Member State, even though this is expressly permitted in the current Regulation.

EU direct payments per ha eligible area

Proposed EU direct payments per ha eligible area

The move away from the historic basis in those Member States that continue to use it will be quite rapid. Although 50% of the basic payment can still be allocated according to historic criteria in 2014, the remaining 50%, plus the 30% allocated to the green payment, will all be uniform, at least within regions. This continues to cause angst in countries using the historic basis because of the potentially significant redistribution of payments across farmers that will result. DG Agri official Tassos Haniotis on a visit to Ireland last week suggested that Member States should look beyond administrative regions and think about varying the payment according to, for example, soil quality, as a way of minimising these redistributional effects, but the degree of flexibility to go  down this route is not clear.

Targeting of beneficiaries

The stated aim of the DP Regulation is ‘to better target support to certain actions, areas and beneficiaries, as well as to pave the way for convergence of the level of support within and across Member States’.  Given that the option of targeting direct payments solely on public goods (which was the third, refocus scenario option in the impact analysis) was rejected, we should not expect much in the way of greater targeting.

Every farm remains potentially eligible for basic income support, even if this is reduced, on average, to two-thirds of the amount paid in the current MFF. Some modest capping of payments is proposed, as well as the restriction of payments to active farmers. The Commission has regularly proposed the capping of payments since the original MacSharry reforms in 1992 but has made only minor headway (in the Health Check, for example, capping emerged as higher levels of modulation of Pillar 1 payments to Pillar 2 for larger farms).

It may stand a greater chance of success with this latest proposal, because of the clever way in which the thresholds will be increased by the salaries paid to hired workers. For example, the maximum threshold proposed for payments is €300,000 which, at the average EU-27 payment, would be equivalent to a farm of about 1,200 ha. If such a farm had ten employees earning, say, €30,000 annually, then the de facto threshold for payments would be €600,000 (i.e. increased by 10 x €30,000). Thus, capping is likely to have more of a symbolic than a real value in targeting payments on lower-income farms.

Apparently, the Commission intends to calculate, for each Member State, how much will be yielded by capping and this will be deducted from the national ceiling to yield a net ceiling, but this calculation has not yet been done so we don’t yet know how significant it will be. Presumably, Member States will need to do a survey of farms to collect information on how many paid employees they have and their salaries in order to pass on that information to the Commission, who need it ex-ante each year in order to be able to determine the net ceiling from which the unit basic payment value is calculated. This does not seem workable to me.

The definition of an active farmer caused much angst, and the definition proposed (to exclude operators whose agricultural receipts are less than 5% of their total revenue) may well exclude airports, sports clubs and others who are currently eligible for payments. It is worth noting that it is proposed not to enforce this test when the total of direct payments to an operator does not exceed €5000 per year, in order to avoid accidentally excluding part-time farmers who are seen to play a valuable role in maintaining farming in more marginal farming areas.

Targeting on public goods

The green payment will be paid for ‘compulsory practices to be followed by farmers addressing both climate and environment policy goals. These practices should take the form of simple, generalised, non-contractual and annual actions that go beyond cross-compliance and are linked to agriculture such as crop diversification, maintenance of permanent grassland and ecological focus areas’. The big surprise is that, apparently, every farmer who wishes to receive a basic payment (apart from those who opt for the small farmer version of the scheme) must also enrol in the green payment scheme and adopt these conditionalities.

Environmental NGOs have expressed disappointment at the likely efficacy of the green payments in Pillar 1. Instead of contractual payments to farmers who actually commit to providing public goods, the payments target farm practices assumed to be associated with greater biodiversity and lower carbon emissions and require that every farm with some arable area adopts these practices (crop diversification, maintenance of permanent pasture, and ecological focus areas). However, grassland farmers will automatically qualify for the green payment without having to do anything additional to what they are currently doing, so there will be no additional environmental benefit on these farms.

While contractual arrangements do have high transactions costs which make them unattractive to governments looking for broad and accessible schemes, the dirigiste nature of the green payment requirements means that the cost of achieving a given level of public good provision will be higher than is necessary.

Coupling

The provisions for coupled payments carry forward similar provisions in the current DP Regulation but appear to make them easier to reintroduce. As currently, coupled payments must be based on a fixed area, yields or number of animals. However, in principle, they can now be given to a greatly expanded range of crops and livestock, including energy crops. Cotton is covered by a separate provision for the continuation of the existing crop specific payment.

Member States can couple up to 5% of their national ceiling meeting two general conditions. These are that the coupled support can only be granted to sectors or to regions of a Member State where specific types of farming or specific agricultural sectors undergo certain difficulties and are particularly important for economic and/or social reasons. Furthermore, coupled support can only be granted to the extent necessary to create an incentive to maintain current levels of production in the regions concerned (how this will be defined is delegated to Commission legislation).

This proportion is increased to 10% of their national ceiling for the new Member States or countries that have provided coupled support to suckler cows.  The Commission estimates that around 6% of national ceilings will be coupled in 2013. This includes a 3.5% ceiling on coupled specific payments under Article 69 in the Health Check regulation in 2009, plus the continuation of coupled payments to beef, sheep and goats and some fruits and vegetables in countries which chose those options in the 2003 reform.

However, these latter Member States can apply to the Commission to use an unlimited proportion of their national ceiling for coupled payments under conditions set out in Article 43 of the draft DP Regulation. Indeed, all Member States can apply, after 2016, to increase the specified percentages (5% or 10%, respectively) that apply to to them if they can show that they meet the following conditions. These conditions include:

- the necessity to sustain a certain level of specific production due to the lack of alternatives and to reduce the risk of production abandonment and the resulting social and/or environmental problems,
- the necessity to provide stable supply to the local processing industry, thus avoiding the negative social and economic consequence of any ensuing restructuring,
- the necessity to compensate disadvantages affecting farmers in a particular sector which are the consequence of continuing disturbances on the related market;
- where the existence of any other support available under the DP Regulation, the RD Regulation or any approved State aid scheme is deemed insufficient to meet the needs referred to in this Article.

What is important is whether there is any the relationship between the general constraints set out in Article 40 and the specific conditions set out in Article 43. On a plain reading, the two Articles do not appear to be linked, but the general tenor is that the payments should be used to maintain production but not to increase it. Whether this will be the case or not will not become clear until the Commission produces its delegated legislation setting out the rules more explicitly.

Small farmer scheme

Member states must introduce the option of a small farmer payment which farmers optionally can apply for. This will be a simple flat rate payment of between €500 and €1,000, the exact value determined by one of two calculation methodologies set out in the Article. Apart from those genuinely small farmers for which there may be a monetary incentive to enter the scheme, a big attraction which could attract other farmers is that receipt of the small farmer payment, exceptionally,  does not require a farmer to enrol in the green payment scheme and to meet the environmental restrictions of that scheme. Small farmers enrolled in this scheme will also be exempt from cross compliance inspections and sanctions, although as the requirements are statutory requirements they must continue to observe these requirements in any event.

Effects on third countries

From the point of view of third countries, the question is what impact these proposed reforms will have on them. On balance, it is probable that the proposals will reduce EU production capacity at least in arable crops relative to the status quo. This is because of the requirement to maintain permanent pasture at current levels (which will restrict the ability of EU farmers to plant more arable crops if world prices remain high), the de facto re-introduction of set-aside at a rate of 7% of the arable area and the requirement to diversify crops on a farm basis and to move away from monoculture. In addition, the requirement to move direct payments to a uniform rate in those Member States which currently continue to use the historic basis will reduce support in more productive regions and sectors in favour of more marginal regions. While there is debate about the magnitude of the production effect of direct payments, most observers accept that there is some effect, so this redistribution will also tend to lower production levels in the more productive farming areas of the EU.

There are some offsetting elements to these production-depressing factors. First, there may be greater scope for coupling payments, particularly to suckler cows and sheep, which would keep production at levels higher than it would otherwise be. Second, quotas on sugar production will be removed after 2016 (but as the arable area cannot be increased, any expansion of sugar beet production would be at the expense of other arable crops). Third, there is a greater emphasis in Pillar 2 on innovation, especially through the European Innovation Partnership. However, it is possible that much of this innovation will be focused on adjustment to low-emission and low-carbon agriculture rather than production-enhancing research.

On balance, the greater priority given to achieving public good objectives, particularly biodiversity and landscape features, means that EU production potential will be lower than it otherwise would be.

Next steps

It must be reiterated that the legislative proposals which emanate from the Commission in October may look somewhat different. Further, the proposals will certainly be revised in the legislative process between the Council and the Parliament.  The question is whether the Commission has correctly identified a potential equilibrium between the very different Member State interests which can garner majority support.

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