28 Mar 2013

Self-destructive agricultural subsidies

I just bought some olive oil at my local market.

This photo is not very clear, but you should be able to see that "traditional" olive oil (left) is more expensive than the "extra virgin" kind that we know to be the most expensive to produce (it comes from the first press of the olives).

Is this an illusion or is extra virgin actually cheaper to produce? No and yes.

No, because it's actually more expensive to produce extra virgin olive oil. Yes, because the EU subsidizes extra virgin olive oil, so producers have an incentive to produce more of it. Excess supply means that it price is lower than "traditional" (cheaper) olive oil.*

How bad are those subsidies? I asked my students [PDF] to find the top exports from the Netherlands and Spain (by value), calculate how much "embedded" water was exported to the main buyers of those products, find the water stress in each trading partner, and then calculate the value per cubic meter of water exported.**

The students got lots of answers on this question (the lack of authoritative data is disturbing when the EU spends 45 percent of its budget on CAP subsidies to farmers), but I got the following numbers [XLSX spreadsheet]:
Dutch (water stress 0.10) tomato exports to Germany (0.19): $41/ton of water
Spanish (0.30) olive oil exports to Italy (0.25): $0.20/ton of water
These numbers highlight Spain's disastrous agricultural practices, first in the low value of Spanish water exports compared to Dutch water exports. Second, in the fact that the Netherlands is exporting water to a higher water stress region (lowering Germany's need to use water), while Spain is exacerbating its stress by sending water to a place that does not need it as much.

Bottom Line: EU subsidies encourage Spanish farmers to export scarce water in a crop that's not even profitable to a country that has more water and whose farmers are undercut by subsidized competition. Subsidies, in other words, waste money and water and distort behavior.*** Reform the CAP!

* Subsidies increase production of ALL olives, which makes it easier to produce extra virgin olive oil, which traditionally attracts higher profits. The flood of olive oil has, however, overwhelmed static demand, so the price falls faster for extra virgin than traditional, which can be mixed into other products.

** Note that this is gross value per cubic meter of embedded water, which is NOT the same as value added per cubic meter. That calculation would consider the relative contributions of land, labor, capital, etc. to value, but it's hard to do right. This number gives you an upper limit on value and an interesting point of comparison for the use/value of water.

*** How bad goes it get? How about a black market in which Chinese ship (subsidized) European milk powder home to parents who do not trust local milk? In the US, subsidies take money from the poor to give to the rich.