CAP Reform

The EU renewables target of 10% of transport fuel by 2020 to be met mainly by biofuels has been heavily criticised for its potential impact on diverting land from food to fuel production and thus putting upward pressure on food prices. Another source of criticism is whether it does actually contribute to reducing overall greenhouse gas (GHG) emissions. The Commission sought to deflect this latter criticism by requiring that biofuels which count against the renewables target must show a direct GHG saving of 35% compared to the fossil fuel that they displace. This saving requirement is gradually increased to 50% and 60% for fuels produced by installations that start production after 2017 and 2018, respectively.

However, these GHG reduction requirements do not take into account the possible indirect effects of converting cropland to biofuel production, which will encourage indirect land use change (ILUC) by conversion of pasture or forest to produce the food crops displaced by biofuels. The Commission has beeen asked to examine the question of ILUC and measures to avoid it, and to report on this by the end of this year. Two recent studies illustrate the complexities involved.

In March this year, a team of researchers at the International Food Policy Research Institute produced a report for DG Trade arguing that net GHG emissions would fall as a result of the EU renewables mandate, even when ILUC was taken into account. Yesterday, this conclusion was flatly contradicted by a study prepared by the Institute for European Environmental Policy, which suggested that the mandate would lead to increased emissions equivalent to about 7% of total EU transport emissions in 2007.

The two studies are very different. The IFPRI study is a state of the art attempt using computable general equilibrium modelling to trace through the production and consumption responses on a global level to the EU mandate. The IEEP study uses secondary data to produce a more back-of-the-envelope assessment of the likely consequences of the policy. However, the strength of this study is that it takes the actual plans set out by Member States in their renewable energy action plans and not just hypotethical scenarios to evaluate the ILUC impact.

There are other obvious differences. The IEEP study projects a higher first generation biofuels target than the IFPRI study (8.8% as opposed to 5.6%) based on MS action plans and therefore projects higher total biofuel demand of 26.0 Mtoe in 2020 compared to the IFPRI figure of 17.8 Mtoe (in each case, the difference with the 10% target is made up by second generation biofuels and other sources of renewable energy).

The IEEP also show that MS plan a much higher share of biodiesel in EU consumption than assumed in the IFPRI study (72% compared to 45%). As a result they project a bigger ILUC effect – while the IFPRI study estimates an increase of 0.07-0.08% in global cropland area, the IEEP study calculates a figure of 4-7 million hectares which works out at around 0.3-0.5% of world arable land, between five and six times as large.

Apart from the more ambitious scenario, another important reason for the different indirect land use outcomes is that, in a CGE framework, higher prices encourage intensification of existing land use, so that higher yields could account for around half or more of the additional demand for biofuels (depending on the crop) and thus reduce the ILUC requirements correspondingly by half. This is an important feedback mechanism ignored in the IEEP study.

There are also big differences in the two estimates of the GHG savings from biofuel use. IEEP project savings of 17 Mt CO2 compared to the IFPRI figure 18 Mt CO2 in moving from the 2008 biofuels penetration of 3.3%, but their incremental increase (from 3.3% to 8.8% = 5.5% increase) is more than double the IFPRI one (from 3.3% to 5.6% = 2.3% increase). Their more pessimistic conclusions on savings seem to derive from their methodology of calculating these savings. They don’t examine savings directly from the use of particular feedstocks; instead, they use the minimum savings required to meet the sustainability criterion in the RED, i.e 35% in 2011 rising slowly to 50% by 2017. The IFPRI study assumes that sugarcane-based ethanol will play a bigger role in meeting EU demand, which allows them to factor in a larger direct savings than what the IEEP assume. However, the IEEP study reflects what Member States plan to do and these plans assume much greater reliance on biodiesel than the more carbon-efficient sugarcane.

For these reasons, the IEEP ILUC estimates of GHG emissions are much higher than the IFPRI ones. They estimate the additional GHG emissions associated with ILUC to be between 44 and 53 Mt CO2, compared to the IFPRI figure of 5.3 Mt CO2. This mainly reflects their much higher estimate of ILUC, which is five to six times higher. The remaining difference would probably be eliminated taking into account the recognition in the IFPRI study that marginal emissions go up if biofuels demand increases, so their emissions would increase more than proportionately if they modeled the more ambitious IEEP scenario.

The very different results of these two studies concerning the effect of the EU biofuels mandate on net GHG emissions illustrate the tightrope that the Commission is walking in preparing its own assessment later this year.

One result of the last two enlargements in 2004 and 2007 was to bring millions of small farms into the EU, most of which are either subsistence farms (SFs) or semi-subsistence farms (SSFs). Various definitions of what is a subsistence or semi-subsistence farm exist (see the background paper on this topic by Sophia Davidova and colleagues for the recent seminar in Sibiu, Romania on semi-subsistence farming) including physical area (e.g. less than 5 ha), size of farm business (below a certain ESU threshold) or market orientation (share of production going to own consumption).

According to Eurostat FSS, in 2007 there were 11.1 million small farms (below 8 ESU) within the EU-27. Of these, 6.4 million were below 1 ESU, therefore considered SFs and the remaining 4.7 million were SSFs. The total number of holdings in 2007 in the EU-27 was 13.7 million, so the share of SFs and SSFs was equal to 46.6% and 34.5% of the total number, making them the dominant farm type in Europe. While concentrated in the New Member States, semi-subsistence holdings are also found in Greece, Italy, Portugal and Spain.

Commissioner Ciolos in his speech to the Sibiu seminar confirmed that he is particularly exercised to find ways to support semi-subsistence farmers other than simply saying that the solution is for them to exit farming.

I am convinced that as long as small farms are in a position to market their production and contribute to maintaining landscapes and the vitality of rural areas, then they must be supported.

One of the few specifics in the leaked Commission draft communication on the CAP post-2013 was a proposed objective (under the territorial balance heading) to allow for structural diversity in farming systems, to improve the conditions for small farms and to develop local markets, on the assumption that these farms play a particular role in contributing to the attractiveness and identity of rural regions.

Currently, Member States are allowed in the Rural Development Regulation to make flat rate payments to such farmers for up to five years provided they produce a business plan. In the leaked communication, the Commission seems ready to propose a minimum level of direct payments to small farmers. Particularly for the over 6 million holdings generating less than 1 ESU of agricultural activity, the question must be asked whether these are really farms and whether it would not be more appropriate to address their concerns through social policy rather than agricultural policy (of course, this same question can be asked about income support payments under the CAP more generally).

Following the Health Check process, from 2010 onwards the minimum size of eligible area is now set at 1 ha or a minimum amount for payments of €100, with some discretion for MS to adapt the thresholds in function of their farm structure. It is not clear if the Commission paper will propose that, for farms just above this threshold (the semi-subsistence group) there will be a requirement to make a minimum payment. Such a payment structure would create a massive incentive for farm consolidation for farms just below the payment limit.

Commissioner Ciolos’ speech sets out a menu of other possible measures which could be taken to support semi-subsistence farms. These include rural development measures focusing more on extension advice and transfer of know-how, and projects to develop short market chains and local markets as well as quality policy to help these farmers overcome the disadvantages of small scale by increasing the value added of their production.

The difficulty with these proposals is that the target group is often not very receptive to farm development because of age, risk aversion or lack of access to capital. More important, the evidence suggests that the most effective way of maintaining small farms, if this is desired, is to encourage pluri-activity and off-farm employment rather than on-farm development. This, however, requires rural and regional development that can improve the attractiveness of rural areas to non-farm industries and increase job opportunities.

The draft Commission communication on the CAP towards 2020 is an underwhelming document, not just for those seeking to push an ambitious reform agenda but also for those seeking a roadmap to address issues that the Commissioner himself has identified as up for discussion. As Mairead McGuinness, the Irish MEP, commented, it lacks both detail and substance, and is devoid of both figures and analysis.

Nonetheless, it does contain some clues on what DG Agri might like to see in the final package, however cautiously they are expressed. The language used does nudge the debate on the future CAP in slightly different directions to the current CAP. The document is now in inter-services consultation, and the comments of other Commission DGs such as Budget, Finance, Trade and Environment have yet to be incorporated. Assuming that these DGs have been kept in the loop as the document was drafted, their comments are unlikely to modify it in any major way before its publication due next month. However, as argued later, there are some surprising omissions particularly with respect to how the budget for Pillar 1 payments might be allocated between Member States, so further additions to the document cannot be ruled out.

Objectives for the new CAP

During the public debate, in response to questions on why a Common Agricultural Policy might be needed, seven major challenges were identified, according to the Commissioner. These are food security, the competitiveness of our agriculture, globalisation, environmental challenge, territorial balance, diversity and the simplicity of the CAP.

These are boiled down to three challenges in the draft document: ensuring food security, addressing environmental challenges and maintaining territorial balance. From these three challenges are derived three objectives, each with three sub-objectives:

• Viable food production
• Sustainable management of natural resources
• Balanced territorial development

So far, so good. It would be hard to find anyone who would disagree with these objectives. But probing deeper uncovers plenty of grounds for argument. The food security challenge is cast in terms of the need to maintain agricultural production capacity in the EU. Given the bandwagon which has developed around this concern, suggesting that the EU is at risk of becoming dangerously dependent on food imports, it is worth restating two simple facts.

• The volume of EU agricultural production in 2009 was at its second highest level ever, down only slightly on the record level achieved in 2008. It is simply not the case that EU production capacity was seriously affected by recent volatility in agricultural markets.
• While EU does show a slight deficit on its agricultural trade balance, this has not been growing and in fact the EU emerged as a net food exporter in 2006, albeit the composition of its imports and exports are very different. The deficit in 2008 at $7 billion (compared to the value of imports of around $110 billion) was unusually large, but the gap narrowed to less than $3 billion last year.

The viable food production objective derived from this food security challenge is made up of three elements:

• To contribute to farm incomes and limit farm income volatility
• To improve the competitiveness of the agricultural sector and its bargaining power in the food value chain
• To maintain the spatial distribution of agricultural production including in areas with specific natural constraints where there is a risk of land abandonment.

The rationale for supporting specifically farm incomes has been endlessly debated, and there is no need to review the limitations of these arguments here. But to my mind these objectives add up to a fairly timid response to how some countries perceive the food security challenge as requiring a major stimulus to increase EU production. Maintaining farm production in marginal farming areas may prove to be a costly endeavour, but it is unlikely to have a major impact on production by virtue of the very fact that these areas are marginal with limited yield and production potential. Improving farm competitiveness and addressing market power in the food chain are responsible farm policy objectives which deserve support.

The environmental policy challenge is also broken down into three policy objectives:

• Securing the provision of environmental public goods
• Fostering green growth through innovation
• Pursuing climate change mitigation actions, while also enabling agriculture to adapt to climate change.

Again, these objectives would meet with broad approval, albeit there is a danger that in addressing climate change the polluter pays principle is turned on its head or forgotten by introducing subsidies to limit greenhouse gas emissions.

Finally, the balanced territorial development objective is in turn distributed across three objectives:

• Support for rural employment
• Promotion of rural economic diversification
• Encouragement of diversity in farming systems through improving conditions for small farms and local markets.

These objectives reflect the agro-centric vision of rural development as it has developed under Pillar 2 of the CAP and to some extent also the specific conditions of rural areas in the new member states where there is significant under-employment. The paper avoids bolder ambitions for balanced territorial development based on notions of improving the competitiveness of and quality of life in rural areas because many of the relevant measures lie outside the scope of the CAP.

Potential reform scenarios

On the face of it, these objectives do not differ radically from those used to legitimise the current CAP, although they are stated in crisper and more explicit language. The key question is how the document proposes to achieve these objectives. Here the paper sets out three alternatives:

• Enhanced status quo, meaning a continuation of the essentials of the current CAP but with more equity in the distribution of direct payments between Member States
• More balanced and targeted support achieved by some redesign of the direct payments scheme
• Sole focus on environmental and climate change objectives, thus abolishing market and income support

The favoured DG AGRI option

It is apparent that Option 2 is that favoured by DG Agri, though apparently the Impact Assessment will evaluate all three options. In this respect, the key elements of Option 2 are:

• Dividing the current Single Farm Payment into a basic income payment and an environmental payment.
• The basic income payment would require fulfilment of cross-compliance conditions and be based on transferable entitlements that need to be activated by matching them with eligible agricultural land, as with the current SFP. It would have an upper ceiling per farm and a minimum payment for small farms. It would be a uniform payment to all farmers in a Member State (or a region), implying the end of the historic basis for payments as practised in some Member States such as Ireland.
• The obligatory environmental payment, or ‘greening component’, would be linked to broad, annual, non-contractual environmental measures applicable across the whole of the EU territory and linked to the supplementary costs required to carry out these actions.
• A voluntary coupled support, continuing Article 68 measures, would be available to support particular types of farming important for economic and/or social reasons.
• A voluntary additional co-financed area-based payment to agriculture in areas with specific natural constraints in Pillar 1, replacing the existing LFA payment in Pillar 2.
• An extension of the possibility for crisis intervention (extension of intervention period, use of disturbance clauses and private storage) to other products.
• Unspecified new elements to improve the functioning of the food chain.
• Regarding Pillar 2, a greater focus on the environment and restructuring/innovation, an extension of measures to include a risk management toolkit (income stabilisation measures, insurance instruments, mutual funds), greater coherence with EU structural funds through a common strategic framework, the greater use of quantified targets and an outcome-based approach.

Missing elements in the favoured option

In trying to evaluate the likely impact of this package, there are at least two unknowns, apart from the size of the overall budget which will be determined as part of the financial perspective negotiations. The first is the proposed balance of expenditure between the basic payment, the environmental and marginal areas payment and Pillar 2. For example, if the basic income payment were introduced at a very low rate, then Option 2 would begin to look more like Option 3.

A more immediate issue is that the paper gives no clues as to how it sees the Pillar 1 budget for direct payments being allocated across Member States. The basic income payment would be an area payment, as is the SFP now. The paper explicitly rules out a single, flat rate, direct payment across Member States. It also advocates a transition to avoid major disruption from current entitlements, suggesting somewhat improbably that this would be achieved by guaranteeing that farmers in all Member States would receive on average a minimum share of the EU-wide average level of direct payments – minimising disruption needs to focus on moderating the cuts facing farmers in Member States with above-average payments currently rather than guaranteeing minimum payments to farmers in Member States with below-average payments.

As the national envelopes would in future finance very different schemes, some of which (such as the payment to marginal farming areas) would be voluntary, it is not at all clear how DG Agri proposes to justify the allocation between Member States or the criteria that it proposes to use. This is a major omission in the paper and will tend to emasculate the Impact Analysis unless criteria are introduced between now and the final publication of the paper

Evaluation

The leaked Commission draft for the CAP post-2013 does not propose to radically alter the trajectory of CAP reform. As Commissioner Ciolos has repeatedly stated, he is aiming for evolution rather than revolution. Nonetheless, the negative reactions from farm organisations to the leaked proposals (assuming that Option 2 is DG AGRI’s preferred proposal) indicate that it does represent a potentially substantive change.

True, a basic income payment to all farmers would be maintained, regardless of their income needs or current living standards. The opportunity to use the next financial perspective to phase out a generalised income payment to farmers has been foregone. However, the crucial question of how significant this basic income payment will be relative to other direct payments has not yet been answered. DG AGRI has worried about the impact of reduced payments on land values in the past, but this is not mentioned in the current paper.

The share of direct payments going to support environmental public goods will increase and, as these payments (in line with WTO rules) will be limited to the additional cost incurred by farmers, the overall distorting impact of large payments to EU farmers will be reduced as a result. However, environmental organisations may argue that the design of the ‘greening component’ of direct payments will mean relatively limited environmental bang for this environmental buck. Farmers are already concerned that the division of the payment into two will reverse the trend towards simplification and increase the complexity of the CAP.

The menu of rural development expenditures will be maintained and even increased. No serious analysis has been made whether these expenditures, however desirable, are warranted at the EU level or whether they would not better be left to the Member States. The proposals to integrate Pillar 2 rural development policies into broader regional development programmes and strategies remain rather vague.

In summary, it is hard to see that the current draft moves the debate on the CAP post-2013 very far along. It does little to challenge well-known positions and is thus unlikely to encourage movement in these positions. The result will be to push more of the inevitable bargaining into the endgame and make it more difficult to reach agreement within the time frame available.

An extended guest post by Jorge Núñez Ferrer , takes a close look at the leaked commission communication on the future of the CAP. Dr Núñez Ferrer (pictured, right) is Associate Research Fellow at the Centre for European Policy Studies and has written widely on the CAP and the EU budget

The CAP 2020 reform philosophy has finally seen the light, albeit only in leaked form. A carefully drafted document contains the usual CAP rhetoric punctuated by some apparently strong deviations from past doctrine. But once the objectives and policy proposals are reduced to their basic components, much of the fizz disappears.

Looking beyond the politically correct drafting and generalisations (and the inevitable linguistic awkwardness of an English text primitively translated from the French of the original draft), one finds the following objectives and reasoning as the guiding principles and motives:

The CAP should ensure that agricultural production across the whole European Union is maintained and even enhanced.

The first reason given for this is the need for food security in Europe and globally.

The document argues that the CAP must guarantee that this productive capacity is maintained while ensuring that farm incomes are maintained, as well as ensuring that public goods produced by agriculture and not rewarded by the market are delivered.

These points are the core of the proposal, which has been retrofitted with a handful of broad generalisations on climate change and innovation.

As a core, these arguments are old, highly questionable and could as well be moblised in the defence of the status quo. The use of food security as a fundamental reason for farm income support is worrying and self-serving. If we are talking of meeting the future demand for food globally, then the best use of public money is in helping developing and transition economies to improve their agriculture and their market infrastructure. While Europe is at the frontier of yield potential, much of the rest of the world is far below and could easily increase production with low investment. R&D in agriculture focusing on crop varieties able to withstand environmental stresses would also do much good.

Looking further into the details of the proposals, we find that the most concrete proposals relate to the future of direct payments to farmers. This is important as these payments dominate the CAP budget and, as I have argued elsewhere, highly wasteful in terms of targeting farm incomes and other objectives. Direct payments are central to criticisms of the CAP by the public and by the European Court of Auditors.

At first glance, the proposals on direct payments look quite revolutionary and innovative, but on closer examination one finds that much of the current ‘first pillar’ of the CAP would remain untouched.

In a nutshell, the proposal offers the following:

– The separation of the existing system of direct payments into a basic income payment and an additional payment subject to “green” farm practices

– A minimum payment to small farmers

– A ceiling on payments to large farmers

– Redistribution to achieve more equity within and between regions and countries

– Only “active farmers” would qualify for payments

– The transfer of existing ‘less favoured area’ payments from Rural Development budgets into the new first pillar

The reform does not mention the level of funding for the CAP, but it is clear that there is little chance of a higher budget for agriculture. If the Commission President and the Budget Commissioner are to be believed, some cuts may be proposed. However, no cut has been proposed by the Agricultural Commissioner, nor does the Communication make any reference to it. This either reflects a lack of common view on this between the Commissioner’s or a way to keep the door open for the Agricultural Commissioner to distance himself from this position if needed. In any case, given the structure of the proposal one cannot see any hint of a cheaper budget, nor do the proposals seem to be in line with reductions.

The big flaw in the direct payment proposals is that it is suggested that the new basic income payments will, over time, become a flat rate payment across the EU per hectare with some limited differentiation permitted. This tells us that European Commission still measures the need for income support in terms of hectares. The notion that incomes (and thus the need for income support) are in fact related to the profit and loss accounts of farm businesses seems strangely foreign to the Commission. In the logic of the CAP, the need for income support is is apparently directly proportional to the size of the farm. With each additional hectare, a farm requires additional income support. Even so, the proposal for a ceiling on payments to very large farms implies that this proportionality has a limit.

As usual, the document pays lip service to the massive income discrepancies within the agricultural sector which cannot be handled in any efficient way by direct payments per hectare. Again we are supposed to swallow the idea that incomes are low right across the farm sector – a myth has been proven wrong repeatedly by the OECD and a number of other studies. Household incomes of farms are often well above those of non farming households. Considering that the principal objective of the CAP is to maintain farm household incomes, it is staggering that Eurostat does not even try to measure them.

Under the proposals farm households at the high end of the income scale will still get the lion’s share of income support, despite the Commission’s acknowledgment that something needs to be done to guarantee some basic level of payments to the smallest. The regressive nature of the CAP will decrease only very slightly.

Furthermore, by allowing a still undefined level of flexibility in the level of basic payments, inequalities between countries and regions will persist, and there is a high risk that little will be left in the pot to finance ‘green payments’. The size of the green payments will depend largely on the gap between the future basic payments and the total size of the budget. Maybe the thought is to move step-by-step, but no mention is made of a phasing out basic payments for farms not in financial difficulties. In the context of a decreasing overall budget the gradual flattening of basic income payments (but with no phasing out) could well mean very little, if any, spare money for green payments.

A genuine system of green payments would reflect the actual environmental performance of agriculture on the ground. Yet there is little chance of such a rational policy as it would require much more flexibility in allocating funds across countries. The political focus on national budget allocations will mean that as payments are flattened between countries, there will be a lot of slack in countries where payments were high (old member states) and none were they were low (new member states).

The money released by the leveling out of direct payments needs to be redistributed among member states but and there is no proposed mechanism to allow for that. The revolutionary elements of the CAP 2020 document thus seem to be stillborn at the stage of this document. It will need a massive political impulse to achieve the goals and it hard to find it in the document.

To achieve the objectives set out in the communication, basic income payments ought to be phased out except for poorer farms (based on a means test of actual household incomes). This would enable the green payments to grow and would allow more of the funds to flow to new member states.

By attempting to keep basic “income” payments for all, we are facing the preservation of the current distribution of aids and so we cannot expect the policy outcomes to be any different. We might see symbolic increases in payments to small farmers, symbolic ceilings for larger ones. The proposal lacks the necessary release valve to achieve its radical objectives.

It is difficult to have any opinion on the rural development proposals, as it will depend largely on the actual measures that will be introduced. The calls for monitoring of outcomes and better policy integration are nevertheless welcome. The proposal calls for the less favoured area payments to be moved from the rural development pillar into the direct aids pillar. This is not a problem per se, though it will reduce further the margin for manoeuvre in terms of the new green payments and no attention is paid in the proposal to the main failings of the current LFA policy, namely a lack of proper justification for support as raised by the Court of Auditors.

One final important point is the introduction of risk management mechanisms. A “toolkit” is be proposed, the shape of which will be very important. Risk management needs to allow for private schemes to operate with a public element for uninsurable losses. For the moment, the wording is too vague to make any judgment and what the role of the private sector will be.

Despite falling for the spurious global food security arguments, the CAP 2020 document shows many good intentions, but fails to to offer viable solutions (such as co-financing) while leaving the door open to a large number of options, including some production-linked support and keeping basic income support payments for all. The likelihood is that it is simply window-dressing and will lead to no significant changes to the distribution of aids nor the outcomes of the policy.

In the context of the current financial crisis and the enormous pressures on public finances, the leaked draft fails to make a convincing case for why agriculture needs to be so heavily supported. On the contrary, the document implies that at a time when everybody else must tighten their belts the CAP is entitled to more financing. It even claims that the CAP is contributing to the existence of a “territorially and environmentally balanced EU agricultural sector”. This assertion that lacks any foundation in fact. In my view, we need a reform of the CAP exactly because it is neither balanced nor cost effective. Ultimately Commissioner Ciolos has shown us that he is politically unwilling to grasp the redistributive nettle required to reform the CAP in a meaningful way.

In a nutshell, it is clearly unrealistic to keep a basic payment for all (even if flattened), introduce a strong new green payment, and at the same time to redistribute money and hold out against co-financing and a reduction in the budget.