Disentangling the Consequences of Direct Payment Schemes in Agriculture on Fixed Costs, Exit Decisions and Output

It is the Policy of Cornell University actively to support equality of educational and employment opportunity. No person shall be denied admission to any educational program or activity or be denied employment on the basis of any The University is committed to the maintenance of affirmative action programs which will assure the continuation of such equality of opportunity. It is the Policy of Cornell University actively to support equality of educational and employment opportunity. No person shall be denied admission to any educational program or activity or be denied employment on the basis of any The University is committed to the maintenance of affirmative action programs which will assure the continuation of such equality of opportunity. A A A Ab b b bs s s st t t tr r r ra a a ac c c ct t t t: : : : This paper goes beyond orthodox considerations of direct payment e®ects on agricultural output, by highlighting the role of subsidies in a®ecting individual producers' ability to cover ¯xed costs, and in distorting the volume of aggregate production and net trade by implicitly discouraging exits. The theoretical model considers both taxpayer and consumer ¯nanced decoupled direct payment schemes and compares them to a coupled production subsidy. In terms of possible producer responses to direct payments, we propose an analytical framework of production decision-making in the presence of a stochastic distribution of ¯xed costs across representative farms. We show that decoupled payments in theory can have a larger e®ect on output than coupled payments. The model explicitly recognizes three consequences of domestic support: (a) induce exit or entry; (b) bias production incentives to domestic markets; and (c) cross-subsidize export in global markets. An empirical model of the U.S. wheat sector is developed to illustrate the relative potential impacts of coupled versus decoupled payments on output through the e®ects on a farmer's ability to cover ¯xed costs and hence exit decisions.