Farm-level Production Effects

In theory, lump-sum transfers are a way to redistribute wealth without distorting production decisions. Recent agricultural policy reforms are an unusual large-scale application of this concept. The 1996 Federal Agricultural Improvement and Reform (FAIR) Act removed most price-contingent agricultural subsidies and replaced them with Production Flexibility Contracts—lump-sum payments with few ties to farmers’ production decisions. The payments were envisioned as way to maintain income transfers to agricultural interests while minimizing production distortions. The United States has argued that these “decoupled” agricultural payments are minimally trade distorting (USDA-ERS). There is a great deal of uncertainty about how the system of agricultural payments established under the 1996 reforms affects production. Some, including representatives from developing nations with domestic agricultural sectors that compete with the United States, contend that decoupled payments significantly affect agricultural production and trade. Two general arguments underpin this assertion. First, decoupled payments are not really lump sum—that is, despite the reforms, important links to production remain. For example, there are restrictions in the FAIR Act that preclude new vegetable plantings or the conversion of land to nonagricultural uses. Second, the perfect market assumptions underpinning the