A new strategic course for the CAP THE WHITE PAPER

Transcription

1 A new strategic course for the CAP THE WHITE PAPER Paris, January 19,

2 Contents Glossary 4 Part I The International Strategic Context 5 1) Agriculture at the heart of the 21st century global strategies 5 2) Europe against the flow of the world major agricultural powers 8 a) Priority to policies to secure production for key agricultural powers 9 b) The new Farm Bill 12 c) Europe is now alone in preferring decoupled aid 14 3) A major risk to be controlled: Agricultural price volatility 15 a) Although it is structural, agricultural price volatility is increasing 15 b) Volatility intensified with agricultural market financialization 16 c) Uncontrolled liberalization would aggravate the situation 28 Part II Redesigning the CAP for 2020: The Momagri-CAP project 20 1) The CAP misses the point 20 2) The CAP in a strategic dead end 22 a) The end of a dismantling process 22 b) Some major handicaps 23 3) The Momagri-CAP foundations 26 a) Principles 26 b) The operating blueprint 27 4) Deeper analysis of the Momagri-CAP mechanisms 28 a) Principle No.1: Setting up an equilibriate price for each major agricultural product 28 b) Principle No.2: Variation ranges free from any regulation 29 c) Principle No.3: Payment of a subsidy recognizing the societal role of agriculture The Europe Quality Aid 29 d) Principle No4: Counter-cyclical subsidies 30 e) Principle No.5: Intervention thresholds 31 f) Principle No.6: A system of levies-rebates 31 Part III Economic and budgetary consequences of the Momagri-CAP 33 1) General assumptions 33 2

3 2) The assumptions retained for the grain sector 37 a) Market prices 37 b) Produced volumes and activation of regulation mechanisms 38 3) The assumptions retained for the milk sector 39 a) Market prices 39 b) Produced volumes and activation of regulation mechanisms 41 4) Simulations and results 42 a) A better use of budget resources 42 b) An optimal management of EU budget for better market regulation 48 c) An average sales level that is stabilized to better support farmers incomes and improve competitiveness 50 5) Conclusions 51 Part IV Applicability of the Momagri-PAC 52 1) The WTO compatibility 52 a) The WTO classification of internal support 52 b) Operational leeway of the EU 53 c) The WTO-compatibility of the Momagri-CAP proposal 55 2) The impact on reserves 58 3) The impact on sales 60 a) Impact on grain farmers sales 60 b) Impact on dairy farmers sales 60 4) The impact on farms operating margins in member states: The case of France, Germany and Poland. 61 c) The assumptions retained 61 d) The impact on grain farms 62 e) The impact on dairy farms 63 5) The institutional process 64 a) The multi-annual budgets and the agricultural reserve fund 65 b) Extension to other sectors 65 c) The transition period 66 3

4 Glossary EP: Equilibriate price FP: Floor price CP: Ceiling price PRT: Public regulation threshold FST: Financial solidarity threshold EQA: Europe Quality Aid Counter-cyclical Payments (CCP): these Counter-cyclical Payments are not to be confused with the US counter-cyclical payments as their modalities for granting and payment are specific. 4

5 Part I The International Strategic Context 1) Agriculture at the heart of the 21 st century global strategies The World Development Report issued by the World Bank in 2008 depicted agriculture as the pillar for economic development and the key to the future of the planet: The overriding objectives for the 21 st century eliminating hunger and poverty, protecting the environment, ensuring security and managing world health cannot be met without agriculture. Six years later, the outlook on agriculture seems to be improving. According to FAO forecasts, global grain output reached the historical level of 2,532 million tons in 2014, slightly higher than the previous record of With these higher volumes come alleviated prices, and the FAO Food Price Index reached in April 2014, slightly below that for the dry year of 2013 (216.9 in April 2013). Yet this is probably a brief respite, as agriculture and food remain at the center of a set of heterogeneous forces including technological, social, economic, environmental and political forces whose current balance seems to be extremely precarious. The arguments in favor of structurally adjusting markets are well known: from a human point of view, the population growth and especially the nutrition transition in emerging countries; from a technological point of view, the slowdown of productivity gains linked to the Green Revolution, the still high level of waste in the production chain, and lastly the development of non-food uses that widens agricultural production outlets. Such structural change would mark the end of an exceedingly long-term trend: Since the 1980s, the relative price of agricultural production compared to other goods has almost always declined. In fact, the production increases through productivity gains were higher than the natural increases of demand, leading to what Cochrane called the agricultural conveyor belt : To maintain their standards of living, farmers constantly had to improve productivity, thereby fueling the trend. At the same time however, farmland reserves in developing countries account for 200 to 500 million hectares (495 to 1,240 million acres) mostly in Africa and South America, and yield gaps between Sub-Saharan Africa and the fertile French Beauce area goes from one to ten. While climate and soil conditions provide a partial explanation, yields in the poorer countries could double or even triple in the next twenty years, thanks to some targeted investments and input supply. Yet up to now, public development assistance did not really involve agriculture (only four percent of World Bank loans), while 70 percent of the people involved are living in rural areas, and 60 percent of them are suffering from famine. Consequently, we are facing a double paradox that includes: A global agricultural system with adequate reserves to feed nine billion people the FAO estimates that global output should grow by 30 to 70 percent by 2010 or even more, but is unable to eradicate hunger; Market conditions that are increasingly marked by price tensions leading to the assumption that they will remain high, although they can abruptly collapse. In fact, and now more than ever, conditions are met so that frequent alternative episodes of high and low prices can occur worldwide, and this at the whim of agricultural policies and speculation, which are now both strongly implicated. As far as agriculture is concerned, a small variance between supply and demand leads to considerable price fluctuations. 5

6 In 2008, a one percent spread led to prices that increased by 50 percent. Everything will rely on the agricultural policies conducted by key producing nations and their choices in terms of trade, as well as by investments by private financial funds or by representatives of sovereign states, which have been buying significant land in Africa, South America and Eastern Europe since the early 2000s. Consequently, following 30 years during which the importance of agriculture was gradually downgraded under the influence of too rigid liberal theories and a systematic belief in the benefits of industrial and service growth, we have now reached a crucial time for strategic reorientation. We shall see later that the world key major powers have adopted this approach, while Europe is persevering in options that are increasingly disconnected from reality. Here are the fundamental factors to be considered: Factor No. 1 The population growth will inevitably lead to a planet with nine billion people in 2050, with a peak of over eight billion in 2030, mostly in African and Asian developing countries. In that regard, it should be recalled that the world only counted one billion people in 1900, three billion in 1950 and seven billion in Europe totals 500 million people and benefits from an exceptional agricultural and agro-food potential. It must be preserved and strengthened through a twofold action of market regulation and innovation stimulation. Europe has a specific role to play in its strategic territory in the Mediterranean Basin and in Africa, where population growth is the highest, and the economic development potential the most dynamic in the 21 st century. Factor No. 2 The advent of global economic powers with a productive, financial and political potential China, India, Brazil, Indonesia as well as Russia, Iran, Mexico and including regional groupings that will get stronger in the coming years. For most of them, their development plans made a priority to food security even food sovereignty and to goals of market share gains for both agricultural commodities and agribusinesses. This accounted for clearly stated policies to support farmers revenues, and to compensate market instability through administered prices, subsidies coupled to incomes, counter-cyclical payments, insurance systems, as well as strategic trade management or still financing for security reserves such as India s request at the recent Bali Summit. A broad range of agricultural support policies has been implemented, except in Europe that has opted for the opposite route. Factor No. 3 The persistent presence of people in distress coexisting with the beneficiaries of double-digit growth in emerging nations is generating growing tensions on food supply between survival requirements and the consumption of more protein-rich products. According to the FAO revised estimates, 805 million people were suffering from hunger in , or 11.6 percent of the world population. The Millennium Goal to halve the number of people suffering from hunger by 2015 has not been yet achieved. Yet this widely disseminated indicator only provides a partial picture of the global food situation: Close to two billion people are suffering from micronutrient deficiencies. Moreover, investment rates per agricultural worker remained idle even declined during the past 30 years. Consequently, the FAO estimates that investments of 60 billion per year are required in the LDCs to feed an additional three billion people. Factor No. 4 An inadequate use of land in countries with strong demographic growth for different reasons: 6

7 Under utilization of available land that is not farmed due to the extreme poverty of the population and sluggish investment (Africa); Increase in export crops by financial investors under the land grabbing process (Africa and South America). Nevertheless, the rate of market-less rural exodus is accelerating in the poorer nations. This leads to the formation of poverty bubbles around third-world cities, which, far from providing substitute activities, are becoming huge no man s lands and grounds for crime and extremism. At the global level, there is little increase in the amount of farmed land: It only grew by 4.5 percent between 1980 and 2005, while at the same time the world population rose by 45 percent. This also shows the strong yield increases for the past few years. As an example, grain output rose by two thirds between 1980 and 2010, yet farmed land areas remained the same. Factor No. 5 A growing concern regarding the environment and biodiversity, with the population growth and the development of conurbations that tends to promote, in very different ways according to countries, environmental policies at the expense of economic progress. The debate on greening the new CAP will result in opposite results from the expected impact, due to increased constraints on farming operations. The trend to give priority to environmental issues is bound to heighten the shrinking of rural population in Europe as a result of the additional costs to farmers, costs that will not be compensated by the governmental management of market instability. The intensified legitimacy of environmental policies might thus lead to weakening the agricultural sector, and to farmers gradually vacating some land, especially in Europe. In addition, there is the issue of regulating the environmental impact of development in countries under economic remedial, and the concerns relating to climate change whose long-term effects are still poorly assessed. Factor No. 6 Farmland has become a new strategic issue, as outlined in a 2010 World Bank report: The scope and often the speculative facet of land transactions observed recently have surprised everyone [ ] At the same time acquisitions are made at the expense of the local populations, especially those who are most vulnerable, without giving them adequate compensations. In fact, international land purchases significantly increased following the food crisis, since a number of countries and investment funds considered it necessary to guarantee a secure supply for the future as well as acquiring a powerful lever for speculative operations. According to the very latest data provided by Landmatrix, the trend would involve about 35 million hectares (97 million acres) and no less than 940 transactions. This represents a genuine issue of global regulation for agriculture. Factor No. 7 The increasingly intensive speculative pressure that sets agricultural markets ablaze and leads to dramatic consequences in some developing countries, such as food riots. This speculation is the result of the total permeability of international financial trade, and the considerable weight and mobility of financial amounts involved. The role of financial speculators in the instability of agricultural prices is now well known, as outlined in a 2010 report by the UN Special Rapporteur to the Right to Food 1. The 2010 Dodd-Frank Act, which was intended to reform the financial industry, thus called for firmer regulation and above all greater transparency in derivatives; but the enforcement of the law has been suspended due to the legal battle initiated by banks. 7 1 Olivier de Schutter, Food Commodities Speculation and Food Price Crises. Regulation to reduce the risks of price volatility, Briefing note by the Special Rapporteur on the right to food, September 2010.

8 Similarly, at its Cannes Summit in 2011, the G20 adopted the principle to limit the maximal position of a given player in these markets, but the principle has not yet been implemented by any of the concerned nations. Nevertheless, the principle is included in the second European directive on financial instruments markets (MIFID2) that was adopted in April 2014; the implementation procedures remained to be outlined. Factor No. 8 Agriculture as a determining factor of vulnerability or power. In a context where several traditional exporting countries banned exports, the 2008 food riots showed the extent to which agricultural and food issues are also political issues. On one side, agricultural markets are subjected to governmental interventions, either to help domestic policy goals (curbing the rise of internal prices) or to bring pressure on other countries (a much appreciated lever for Russia); on the other side, food insecurity within a country might unsettle its government. Agricultural and food issues are thus logically well positioned in international negotiations: The 2012 Rio Summit on Sustainable Development included two objectives: Zero Net Land Degradation and Zero Hunger ; The 2011 and 2012 G8 summits where key participating countries pledged: - A New Alliance for Food Security and Nutrition with Africa; - Greater transparency on land purchases; - The implementation of international cooperation systems (rapid reaction force and AMIS). The Doha Round, where for ten years the WTO has been unsuccessfully attempting to advance a market liberalization system that is inappropriate for all since it goes against the flow of national interests, and the latest Bali decisions that only infringe the original principles. Yet it has to be recognized that the degree of cooperation between nations remains limited regarding an issue that many countries consider as strategic and relative to their national sovereignty. It will be sufficient to list the negotiations on free trade agreements between Europe and some major partners, such as Canada, the United States, or Asian nations in the future. Europe is currently committed, without any strategy besides an illusory and minimal GDP gain of about 0.3 percent, at the expense of totally abandoning its customs protections and a possible questioning of its non-tariff choices. In any case, agricultural issues were considered as secondary in the early negotiations, while the stakes are very high. The recent awareness by various political leaders nevertheless remains superficial. It is therefore urgent to further investigate the economic and social impacts that are totally absent from the preliminary study that based the Commission s work when it opened the TAFTA negotiations with the United States. This proves that agriculture is no longer part of strategic issues in Europe, while this rapid summary of fundamental factors highlights the opposite. 2) Europe against the flow of the world major agricultural powers It was only very recently that an awareness of the consequences on agriculture of these factors developed. They are still far from being shared by many political leaders, heads of international organizations or experts. In fact, we are currently experiencing the last jolts of the deep changes that marked the 1980s. Between the fall of communism, the triumph of liberalism and the conviction that multilateralism would be the best defense against neo-colonialism, a paradoxical concept of international cooperation was born. It was that of uncontrolled liberalization that was supposed to promote development in developing countries. In fact, since agriculture was included in the GATT in 1994, and then to the WTO in 1995, we have witnessed a process toward unregulated liberalization of international trade that was supposed to improve economic growth in poorer nations without affecting that of rich countries. The only criticisms came from the anti-globalization movement, which is based on a monotheist vision of the world that considers that rich nations must dismantle their production and export supports to allow 8

9 the poorer countries to develop, and which does not give any thought besides believing that, at that price, liberalization would be a good thing. In reality, each movement exploited the other, but no one anticipated what is occurring today, and tomorrow s considerable dangers. The international community did not prepare for it in the least, since it continues to focus on unfruitful negotiations that cannot end with viable solutions. In fact, the compartmentalization of each international organization prevents dealing with the problems in a transversal manner, and the preeminence taken by the WTO has encysted them on ideological positions defended by technocratic barriers. The fact that the Doha Round was called the Development Round is compelling the key nations to adopt a very prudent attitude toward a negotiation failure that is nevertheless almost inevitable. No country will want to be held responsible, the eye of public opinion, for a definitive standoff, while an eventual agreement even a symbolic agreement would not resolve anything, especially for poorer countries. If an increasing number of voices are being heard to underscore the dangers of laisser-faire in agricultural issues, many international decision makers keep pushing hard to promote, one last time, the conclusion of the Doha Round on agriculture as the solution to all evils. Common sense realities have even be denied, such as the strategic importance of minimal food security, when it is very well known that trade will not meet the growth of global demand. We are therefore at the risk of bearing the full brunt of the delayed impact of the poor choices made during the past 20 years, both at the WTO and in Europe. In any case, if we do not act, the formula for failure is in place. Its advent is caused by the European collective myopia fueled by the influence of ideologies and a guilty disregard from a wide majority of political leaders. This is all the more harmful since radically new the economic, political and strategic context pleads for a new public European Union strategy in agricultural issues, as it is implemented in the major world economic and agricultural powers, such as the United States, China or Brazil. Irrespectively of a profound shift in European policy based on a strategy that remains to be designed, it is therefore urgent to initiate a new international cooperation on agriculture and food. Such cooperation is currently clearly insufficient, since international organizations concerned by this major issue are numerous, but none of them has a federating function at the political level. Between the FAO, the WTO, the World Bank, the IMF, the OECD, the UNPD, the WHO and many others, the post-war institutional framework still prevails, at a time when the world population has more than doubled and when strategic issues have fundamentally changed. There is a lack of a dialogue, prevention and crisis management forum that could anticipate their occurrences and implement an effective international cooperation. Price volatility, speculation and the determining factors of global strategies as we previously outlined them, require that a global food security council such as the United Nations Security Council be created in the next ten years. The decisions of the G20 ministers meeting on agriculture in 2011 only represent a first step in this direction, which we must rapidly exceed before the political leaders of major agricultural powers solidify fallback positions and increased competition situations between nations. a) Priority to policies to secure production for key agricultural powers Since the early 2000s, agriculture has be playing a preeminent role in international governmental priorities, due to the combination of four determining factors: Beyond the turmoil and recessions it generated in most areas of the world, the 2007/08 economic crisis not only revealed the inability of market to self-regulate, but even more important the dangers of economic laisser-faire for financialized markets, such as agricultural markets. The repeated food crises that occurred since 2008 in several parts of the world and the

10 overrun from the critical threshold of one billion people suffering from hunger throughout the world have reminded all developed and developing nations of the strategic importance of agriculture as well as agricultural and food commodity security, just as it is the case for energy commodities. The debt crisis affecting most nations in the world is placing agriculture first among ailing economic sectors, and requires improving the added value of public intervention means, as evidenced by the decisions made by the United States to reform the Farm Bill. Such effort has not yet been undertaken in Europe, since it thinks only in terms of budget cuts at the expense of the search for new and more effective forms of support adapted to the specific nature of agriculture. The issues linked to climate change, energy resources and more generally sustainable development, are again providing agriculture with a strategic place in the management of territorial balance. The world in which these concerns are taking shape has totally changed compared to the environment prevailing at the end of WWII, and when the first modern agricultural policies were designed, whether one considers the Farm Bill in the United States or the Common Agricultural Policy (CAP) in Europe. We now have more complexity, more players, more interaction, more changes, more uncertainty, more risks as well as more opportunities for the countries that will know how to acquire the means to do so, in view of the demographic, economic, food and non-food challenges of the 21 st century. An effective and efficient long-term management of public internal support to restrict the damaging effects of agricultural price hyper-volatility has therefore become the crucial condition for performance and competitiveness of farms, irrespective of the areas involved. The failure of the successive negotiations on agriculture held in the framework of the WTO can be partly explained by the very poor initial consensus on the definition, perimeter and impact on trade of public means of intervention allocated by nations to agriculture. Yet, such failure is mostly explained by the highly strategic scope of agriculture, which member states are not willing to sacrifice to the altar of economic and trade justifications. Agricultural issues cannot be reduced to simple trade considerations dictated by applying the theory of comparative advantages. Supply security, maintaining political and social balance, without omitting the growing weight of biofuels, are as many reasons giving agriculture a specific status that is often considered by heads of states as directly relevant to national security. In such context, it is crucial to identify and compare the strategies implemented by the world major economic and agricultural powers, so that preferred development trends, allocated means and implemented support procedures be pinpointed. Such analysis is crucial to better assess which will become tomorrow s key agricultural power, and anticipate development dynamics to best position the ongoing debate of CAP reform. The SGPAA (Global Support to Agricultural and Food Production) indicator designed by Momagri sheds an interesting light on the issue. It assesses the reality of direct and indirect support actually provided to agriculture and food by major countries thanks to the creation of an international classification. All public support expenditures allocated by the United States, Brazil and China have increased since 2008, with rates that are significant and far higher than the rates of population growth: +71 percent for China, +40 percent for the United States and +24 percent for Brazil. Only the European Union is posting expenditure amounts that declined by six percent between 2008 and

11 Per-capita SGPAA, , in US$ Source: Momagri, 2014 The United States: A double system of security for upstream and downstream national agricultural production. Between 2008 and 2012, American public support rose by $47 billion to $153 billion from $106 billion. The increase in support is mostly explained by an increase in public domestic food aid, by market organizations and the development of activities, especially via incentives to the biofuel production. A safety net guarantees revenues and/or farmers margins, thanks to counter-cyclical payments, now strengthened by risk management mechanisms. The very recent Farm Bill reform in 2014 boosted these mechanisms and eliminated all decoupled aid. Compared to the population size, per-capita public support amounted to $488 in 2012, a 40 percent increase compared to the 2008 level. Compared to the total value of agricultural production, it accounts for 39 percent. Brazil: An active policy to support national production and promote demand for food and non-food products. Between 2008 and 2012, global Brazilian support to national agriculture increased by 20 percent to US$38 billion from US$31 billion. This increase is essentially explained by higher aid to biofuels, market interventions through auctioning systems, and investment subsidies through the PRONAF program that is designed to finance family farming. Global support declined slightly in 2012 compared to 2011, due to lower public expenditures granted to the biofuel sector. Compared to the size of the population, per-capita public support reached US$189, a 16 percent increase over Compared to the total agricultural production, it accounts for 20 percent. China: An interventionist policy to secure economic and rural balance. Between 2008 and 2012, public support increased by 92 percent to US$198 billion from US$103 billion. This increase is mainly explained by increased support to farmers standard of living, support to agricultural productivity and support to rural infrastructures and housing. One must note that the implementation of administered prices for most large crops (wheat and rice) represents one of the pillars of public support to agriculture. Compared to the size of the population, per-capita public support reached US$146 in 2012, an 89 percent increase over the 2008 level. Compared to the total agricultural output value, it accounted for 21 percent. 11

12 European Union: A gradual generalization of decoupled subsidies, whose impact on European agricultural production securement is counter-productive. Assessed at US$104 billion in , European public support is posting an apparent stability since 2008, with a fluctuation between US$106 billion and US$124 billion. However, some support has been largely cut since 2008 due to the policy of gradual elimination of coupled aid that is conducted by the European Union, especially export subsidies, support linked to output and support linked to productivity. These cuts were mostly made to the benefit of decoupled payments and green payments. Compared to the size of the population, per-capital public support reached US$207 in 2012, a 17 percent decline over Compared to the value of the total production, it accounts for 22 percent. The global progression of public support allocated to agriculture attests to the economic and strategic importance they carry for the United States, Brazil and China. Its increases are ongoing over the period considered, at a rate which is quite higher than the rate of population growth, thus indicating these nations international strategy as well as their will to stimulate domestic demand through assistance to the most vulnerable and the production of biofuels. The growth dynamics of support in emerging nations Brazil and China deserves to be underlined. Should the rhythm observed during the past few years continues, per-capita public support to agriculture in China will exceed that of the European Union as early as 2015/2016, while the European population is three times smaller. Source: Momagri, 2014 The same applies to Brazil whose per-capita support could reach the same level as in the European Union as early as Beyond these global changes, the analysis of support provisions and favored development paths shows interesting and useful trends in the future debates on reforming the Common Agricultural Policy. b) The new Farm Bill The American agricultural policy better known as the Farm Bill demonstrates agriculture s strategic position in the United States. Adopted on February 7, 2014, the new Farm Bill is the heir of the American agricultural policies initiated in the 1930s, which recognized that, if left on their own, agricultural markets could not ensure sustainable agricultural development and food security. 2 CAP budget + member states budget. 12

13 This is why the Farm Bill, as it is based on the output and economic balance of farms, has, for close to a century, been responding to the chronic market instability and the damaging effects of climate conditions. The reason for this is simple: Market and climate risks bring irreversible consequences on the production potential. It is a fact that farmers subjected to a too severe and recurring price volatility cannot develop their farms, and even worse have to quit farming. By the combining a wide array of clever mechanisms, the income of American farmers is ultimately safeguarded by law at reference levels. Other issues, and especially environmental issues, are clearly secondary concerns. This new Farm Bill also confirms the Americans pragmatism: If a mechanism is no longer pertinent, it is discarded. This is what happened to decoupled aid in favor of a shift toward systems guaranteeing incomes or prices according to plans, that is to say toward support coupled to output and markets. Another incongruity for the Europeans, the $956 billion voted for the next ten years could in reality be spent over the next five years. New budget commitments will then be allocated at the end of 2018, based on actual expenditures since Consequently, $972 billion were spent between 2008 and 2013, that is to say twice as much than what should have been the linear budget consumption. We are indeed very far from European budget practices that set a multi-annual package, which cannot be exceeded! Beyond the lines of domestic food aid and support to biofuels that secure a share of the outlets for the American agricultural production, and thus ensure a form of regulation, the legislators focused on risk coverage through the Titles I and XI. This is why what is termed insurance, which accounts for close to 70 percent of budget expenditures excluding domestic food aid, has become the cornerstone of the support system in the new American agricultural legislation. In reality, the term covers counter-cyclical mechanisms that provide farmers with floor prices, when they fall beyond the reference level fixed by law. An additional plan is implemented for margins, according to a similar rationale. In addition for crop insurance, farmers will therefore have access to programs to support prices or incomes, or even a new insurance on margins for dairy farmers. The Farm Bill key Titles Nearly 99 percent of public support is earmarked toward the four following titles 3 : Title I Commodities includes the free safety nets known under Marketing Loans, Price Loss Coverage (PLC) and Agricultural Risk Coverage (county ARC + individual ARC). Their total budget is over $44 billion. Title II Conservation, with a $57 billion, the line includes a reduction in programs to 13 from 23 and a one percent budget cut. Title IV Nutrition is keeping close to 80 percent of the total budget with $756 billion. Its flagship program the Supplemental Nutrition Assistance Program (SNAP), is much more than food aid. It is also an outlet program for production, since the Americans food purchases include over 90 percent of the national production. Title XI Crop Insurance which, with an allocation of over $89 billion, supplements the toolbox of Title I that protects farmers from market instability and input volatility. The Supplemental Coverage Option (SCO) and the Stacked Income Protection Plan (STAX) are included among the new insurance products whose premiums are subsidized. 3 The Farm Bill 2014 includes 12 Titles. 13

14 The Farm Bill key plans 1 - A climate insurance that covers 70 percent of a farm average yields with the possibility to buy 10 or 15 percent of the deductible for an approximate cost of $30 4 per hectare (2.47 acres). 2 - A system of guaranteed minimum prices named Price Loss Coverage for the three major crops. These floor prices are set at:. $202 for a ton of wheat,. $146 for a ton of corn, thus outlining the competitiveness assets provided to Americans,. $309 for a ton of soybean, all representing 85 percent of the output volume of a farm. These counter-cyclical subsidies will be paid if farmers prices are between intervention prices loan rates and the guaranteed prices. Should prices fall below the loan rates, the marketing loan that would fill the gap, that is to say another type of support to compensate the eventual additional gap. In absolute terms and derisive terms, if global market prices were to fall at zero, farmers would make their sales from the support paid on the basis of the above-mentioned guaranteed prices. 3 - A gross margin insurance that can be undertaken on the basis of the farm s historical gross margin in a rolling manner, if it seems more advantageous than the price loss coverage which will anyway fill the gap in case of market reversal. Here again, the coverage cannot exceed 85 percent of the updated gross margin. 4 - For milk, a gross margin guarantee based on the average price of the feed regime of a dairy cow that will protect cattle farmers. Already endowed with substantial competitiveness assets farm sizes, access to all forms of innovation and a tailored tax system agriculture in the United States is indeed well prepared to confront the intrinsic instability of global markets and negotiate a free trade agreement with Europe. c) Europe is now alone in preferring decoupled aid Comparing the various agricultural policies implemented in the four nations examined and their alterations since 2008 is showing both their deep differences, both in the approach of public support power to economic sectors and their implementation procedures. The United States, Brazil and China all have support and regulation mechanisms for agricultural production, either through aid coupled to output that fluctuate according to global prices, market interventions and export subsidies. In addition, one notes indirect aid to support national agricultural outlets, such as stimulating insolvent demand through public domestic food aid or biofuel production. Classified in the orange category according to the WTO nomenclature, subsidies related to the first category are markedly increasing in Brazil and in China, and are remaining one of the pillars of the American agricultural policy, due to their counter-cyclical nature, whose economic and budgetary effectiveness no longer require any demonstration. The European Union is therefore the only entity to base its agricultural policy on support decoupled to production in addition to environmental constraints (classified in the orange box at the WTO) in line with the never ratified WTO recommendations. In 2012, the share of decoupled payments out of total support was four times higher in the EU compared to Canada, and 19 times higher compared to the United States. In addition, the recent Farm Bill ( The 2014 Agricultural Act ) officially goes on record with the elimination of decoupled support in favor of coupled, counter-cyclical and insurance support. 4 One dollar equates

15 Comparison of the shares of decoupled payments in global support paid in 2012 Source: Momagri, 2014 The European Union agricultural strategy is therefore widely different from the strategies implemented by other world economic and agricultural major powers. Consequently, it could be subject to the effects of price volatility that has become a major risk, and against which it does not provide any public intervention instrument to confront such volatility. 3) A major risk to be controlled: Agricultural price volatility a) Although it is structural, agricultural price volatility is increasing. In order to know the risks facing the agricultural sector, it is crucial to implement the most suitable policy. Until very recently, most experts and international decision makers were considering that exogenous causes, natural climate hazards or epizootic diseases were the sole causes of agricultural prices volatility.. Yet these risks, which are by definition independent from stakeholders behaviors, should logically be mitigated by the liberalization of international agricultural trade, the latter acting as a risk-pooling agent at the global level. Such approach is totally misguided, since demand, although it is growing, is inelastic, and buffer reserves are very often inadequate, which strongly increases tensions. In fact, one cannot believe that a climate hazard could simultaneously and brutally impact production in all areas of the world. If trade liberalization has been going on for several centuries, and more noticeably for several decades, the volatility of agricultural commodity prices has not declined, quite the contrary. The following graphic presents the changes in monthly price volatility for wheat since 1704 measured in standard deviation numbers. The higher the index performs, the higher and more extreme is the volatility, in the sense that the magnitude of price variation is high. It must be noted that the frequency and the magnitude of volatility regularly increased since the early 2000s. Changes in monthly price volatility for wheat since 1704 Source: Momagri,

16 This graph shows that agricultural price volatility is historical and structural and that the risks confronting agricultural markets are many. There are therefore factors explaining price volatility, which are not rooted outside agricultural markets climate and epizootic diseases for instance but represent an intrinsic component. These risks can be defined as endogenous risks, as opposed to exogenous risks. The main problem lies in the fact that such risk factors are not or poorly modeled, assessed and precisely quantified by the models currently used internationally (OECD, World Bank or FAPRI). The result is a misunderstanding of market mechanisms at work to explain, in a pertinent and effective manner, the causes of volatility and the modification of the structural configuration of such volatility, as shown by the graph below. It points out that during the 1987 to 2013 years, the real evolution of the global wheat price was extremely chaotic, while estimates made for the following next years are systematically linear and stable. Example of the Aglink model (OCDE) for estimates of prices disconnected from reality (prices in $/t) Source: OECD, 2014 The multi-annual volatility of prices forecast for the period (four percent) is significantly lower than that recorded for the previous years: 18% for (minimum $100/t and maximum $205/t); 10% for (minimum $105/t and maximum $180/t); 20% for (minimum $170/t and maximum $350/t). Hence, Momagri focused on incorporating the characteristics that substantiate these price variations in a forecasting model the Momagri model to provide agricultural policy leaders with a decision-making tool delivering the possible realities and not a virtual future. b) Volatility intensified with agricultural market financialization The specific nature of agricultural markets now combines the characteristics of structural volatility and the 21 st century geostrategic factors: 1) The irreversibility one year to the next of production and investment decisions prevents any adjustment of supply to changes in market conditions during the production process; 2) The uncertainty and risks are at the heart of agricultural market operations, which are consequently highly volatile; 3) Agricultural commodity markets are increasingly sensitive to geopolitical events, in an environment where public regulatory reserves tend to disappear; 4) The intrinsic specificities of markets, especially their tightness, naturally make them attractive to short-term investors; 5) Trade is conducted not only in physical markets but also in futures markets, which leads to increased financialization and regular speculative runaways, both upward as well as downward; 16

17 6) The gradual integration of economies and the growing interconnection of agricultural commodity markets increase systemic risks; 7) Agricultural futures markets are poorly regulated: 80 to 90 percent of financial transactions are occurring on OTC markets, and over 90 percent of positions on these markets are not generating a physical settlement in times of speculative tensions. Consequently, while speculation on agricultural commodity markets has always been a fact, its magnitude since the early 2000s tends to boost volatility due to the prominence of chartist behaviors. As shown in the following graph, it has played an indisputable role on price level increases, especially grain prices, as well on the recorded higher price volatility. The blue curve shows the changing number of commodity contracts traded between 1998 and Speculation on commodities especially agricultural commodities is a recent and very dynamic trend. The volume of contracts traded on commodities strongly increased in 2005, and in 2008 reached a peak five times higher than the average indices observed for other factors, such as interest rates, securities or precious metals. The financialization of agricultural markets and grain price variations, Source: BIS The gradual financialization of agriculture has led to significant speculation in agricultural markets in 2007/08 and in 2010/11. The two graphs below also show the vitality of financialization in agricultural markets that is, on average, twice that for energy, a sector that is structurally attractive. 17

18 Comparison of funds invested in agricultural commodities and energy Index, Source: Reuters To the extent that agricultural commodities, oil and financial assets have now become close alternatives for investors in agricultural markets. Thus, it is currently known that speculators in futures markets played an increased role in the recent volatility of agricultural commodities by altering the market behavior patterns of the various parties involved farmers, cooperatives, speculators and governments. c) Uncontrolled liberalization would aggravate the situation This is why the uncontrolled liberalization of agricultural markets would facilitate the development of speculation, and thus intensify price volatility. So that uncontrolled trade liberalization stabilizes and directs an upward trend of agricultural prices, it is necessary for agricultural markets to self-regulate, and that the law of averages allowing wide-scale pooling of risks is applied. The historical analysis of prices contradicts this optimistic interpretation, and the recent price hyper-volatility shows that the sole analysis of the fundamentals of agricultural markets is not only incomplete but also incorrect to espouse the complex reality of price changes. While population growth cannot be denied and favors higher prices, analyzing supply is more intricate than it seems, as farmers work in an uncertain domain. In fact, they are subjected to specific risks, in the sense that they cannot exactly anticipate which will is the stability or unsteadiness of global markets and their consequences in terms of price volatility 5. And this without considering the fact that agriculture now takes several dimensions the traded food dimension, the non-traded food dimension (biofuels) and the non-trade dimension (especially environmental protection) whose impact on price formation are real and multifaceted. In addition, net supply and demand from investors involved in futures markets that modify prices in physical or financial markets. The Momagri economic model was designed to simulate agricultural price volatility in global markets, by modeling the various exogenous and endogenous risk factors to which they are exposed. It can assess the impact on price volatility of the various economic policies, especially that concerning a total or partial liberalization of agricultural markets. Independent of the tested scenarios, the results are conclusive: Uncontrolled partial or total trade liberalization will go hand in hand with increased volatility of agricultural commodity prices, contrary to the projections of linear and upward forecasts that were made by the World Bank and the OECD One of the specificities of agricultural markets is the fact that a mere gap in supply compared to demand can generate a strong price fluctuation.

19 Estimates of global grain prices following a hypothesis of an agricultural market liberalization in 2013 Momagri model, $/t, Source: Momagri, 2014 Agricultural markets are thus not governed by an intangible golden rule, such as the one known in physics, that would permit prices to stabilize tomorrow at a relatively high level, and consequently to stimulate output in all the areas of the planet. The world would surely be easier and less chaotic, but facts are there to remind us that the only thing we are currently sure of is precisely that uncertainty keeps increasing. Consequently, it is necessary to implement regulatory policies adapted to this reality, rather than make the dangerous gamble that the free play of market forces will be the cure to price hyper-volatility and its related risks. This is, however, the route on which Europe keeps traveling with the CAP, which it is urgent to redesign in order to meet the challenges of the 21 st century and the risks linked to market instability. 19

20 Part II Redesigning the CAP for 2020: The Momagri-CAP project 1) The CAP misses the point On December 19, 2013 Summit of heads of state and government of the EU 27 nations ended on a lackluster note regarding the Multiannual Financial Framework: 960 billion (2011 value) for commitment appropriations (CA), or one percent of the GNI of the European Union; billion for payment appropriations, or slightly less than 130 billion each year. The decision signals a 3.4 percent decline compared to the years, or 34 billion in CAs. The CAP is experiencing the highest reduction since the CA package declined to billion from billion for the years, or a 12.6 percent cut. As far as structural funds are concerned, they declined by 30 billion, or an 8.5 percent cut. All other European policies globally increased by 44 billion, a 20 percent upsurge, with most of it concerning growth and competitiveness (plus 37.4 percent). Admittedly, the agreement is only window dressing for a compromise borne out of circumstances. The budget crisis creates increasingly sharp constraints within the European Union and its member states. On this issue, one must note that the amounts outstanding equate two years of budget spending. This means that there is a chronic under-financing, thus a quite important virtual deficit. This compromise thus does not have any inspiration, since it does not provide Europe with a new direction. Only a tentative overture in greater flexibility was made, since unused payment credits can now be reported to the following year. This is quite a contrast with other major nations, which are posting ambitious agricultural policies that can effectively answer the G20 call to increase agricultural output in order to ensure the food security of the planet. Following the April 2010 public forum initiated by Dacian Ciolos on the future of the CAP, which was supposed to revive the debate on the status of agriculture, the Commission had set three key challenges in the CAP reform: Food security, Territorial balance, Environmental protection and climate change. In addition, the Commission posted precise objectives to meet these challenges: - Contributing to agricultural revenues and curbing its fluctuations, - Improving the competitiveness of agricultural activities, - Compensating the regions subjected to specific natural handicaps, - Guarantying the implementation of sustainable production practices, - Advocating green growth through innovation, - Pursuing the work to alleviate the effect of climate change, - Supporting employment and upholding the social fabric. While these objectives seemed quite pertinent, the tools available today will not permit to reach them, especially since no solution is proposed to resolve the yet central problem of high volatility of agricultural prices, especially in grain and milk markets. 20

21 Without regulation tools for price instability, which has harmful consequences for farmers and agribusinesses, the above-mentioned objectives will not be fully met. The convergence of a share of direct subsidies between the old and the new member states was an unexpected political motion. So that it is fair, its implementation should have taken into account the specificities linked to production conditions as well as geographic and currency facts. Far from giving additional resources, the Commission is proposing a budget that seems constant, but in fact includes the principle of a gradual attrition. How can we not question the sustainability of direct subsidies, which account for close to 60 percent of the CAP first pillar budget? The stated objective of 30 percent of subsidies earmarked for greening is a dangerous illusion, as long as the proposed criteria are disconnected from reality. This can only lead to lower incomes for most farmers. At a time when Europe s competitors are striving to increase their output, this measure raises the double issue of its impact on the decline of European agricultural production and the competitiveness of European farmers. In addition, when all participants are demanding a CAP simplification, the risk of intensifying administrative procedures and strengthening red tape is considerable. One only has to see the difficulties and complexities of decision making at the national level to put into effect an outside country policy. Yet one day, it will be necessary to acknowledge the fact that farmers are the first ones involved in environmental protection. Without farmers, who will tend to the land? Land conservation is thus primarily done through agricultural activities that could not be sustained in a context where farmers must bear higher costs than their competitors. Establishing a 430 million annual reserve 6 to manage crises seems to be quite a paltry sum. Presumed to be a safety net activated in case of strong market turmoil, it will only act accordingly if a regulation policy is implemented to prevent crises, or even appease them when there is still time. When we know that the European grain output is over than 300Mt and that grain prices are hyper-volatile, we see that this fund will rapidly become insufficient in case of severe agricultural crises. Public stockpiling is neutralized. Yet it provides a genuine lever to prevent crises and curb agricultural price volatility. It will even be eliminated for hard wheat and sorghum, and optionally opened for beef, barley and corn. Governed by volume and price schemes, it remains at very low levels for soft wheat, butter and milk powder. As far as export refunds are concerned, the affected budgets were reduced to zero in 2023, and this without any counterpart. The Commission s proposed budget estimates do not include market regulation mechanisms, and will not withstand to a scenario of repeated crises caused by price volatility, natural hazards or international events. This is already a matter of great concern for dairy markets. The mechanist willingness to apply a theoretical liberal configuration to markets that are highly chaotic has achieved its goal, that is to say a strategic dead-end. Under the pressure of events, the European Commission must therefore go back to the drawing board, and sooner or later propose the draft of a reform that ensures market regulation and the stability of agricultural revenues. 6 In constant Euros. 21

22 2) The CAP in a strategic dead end a) The end of a dismantling process The latest CAP reform, which now covers the 2014 to 2020 years, is the product of a process initiated in Between 1992 and 2013, the main feature of the CAP is a succession of transitional phases between two theoretical systems. Originally, a policy based on guaranteed fixed or somewhat variable prices that are on average higher than international prices, while reserve placements or releases and export subsidies allowed adjusting supply to demand under the protection of variable customs duties, thus ensuring aligning domestic prices to guaranteed prices. Ultimately, agricultural decisions are dictated by global prices, at least for traded production. In the interval, decoupled direct subsidies, which were first linked to historical references and then to farmed land only, provided revenues supposed to be neutral as far as trade is concerned (non-distortive in the WTO sense). By doing so, the European Community passed on to farmers the responsibility to regulate markets, since farmers are supposed to make rational decisions and maximize incomes, no matter the fluctuations they are subjected to. Theoretically, prices are no longer guaranteed but fluctuate by market forces with increasingly loose safety nets letting farmers to bear the growing price volatility. Intervention reserves, export subsidies and production quotas thus disappeared. Customs duties are going to be cut to symbolic levels (see the free trade agreement currently being negotiated). Direct subsidies might also be eliminated in order to bury for good any measure to support markets, except if they are to be considered as payments of non-traded public goods (environmental conservation, maintenance of land or social policy). The road is wide open with the greening measures that will account for 30 percent of direct payments, and with the redistribution payments for the first hectares. This is in addition to the regional and national mechanisms to combine the basic payment schemes, which shows the 28 nations incapacity to set common strategic objectives, but rather setting as a sole goal an administrative egalitarianism in granting subsidies. If the share of agricultural budget regularly declines in the EU total budget, the added value of budget spending seems low compared to the serious deficiencies of the CAP. In fact, this will conclude 50 years of CAP changes, marked by two major eras: and Intended to protect agriculture from market instability, the first era produced a strong increase in production and yields, but in some cases, led to over-production and significant budget costs, due to a lack of effective controls. The second era, which was based on a liberal and pragmatic approach, has done the exact opposite by encouraging the decoupling of subsidies, environmental priorities and the all-market rationale, without any consideration to the strategic and economic realities of the agricultural and agro-food sectors. It is now high time to design a CAP that blends these two key trends, and that provides agricultural and agro-food operations with required instruments to protect them from market instability, while encouraging innovation and competitiveness to serve the common goals of meeting the strategic issues of the 21 st century. By being included among these objectives, but not representing the be-all and end-all of agricultural policies, the protection of the environment cannot be safeguarded if farmers are not financially sound. This objective can and must be reached within the limits of multi-annual financial packages in order to improve the budget effectiveness of the euros allocated by public authorities, and prevent any risk of budget slippage the key criticism voiced against the pre-1992 CAP. There is a prior need to have a clear understanding of the major handicaps of the CAP, and this to best outline the scope of proposals to redesign a new CAP. 22

23 b) Some major handicaps The CAP reform does not resolve the strategic issues facing European agriculture. The post-2013 CAP is a transitional solution, which weakens Europe compared to the giant nations with global agricultural ambitions such as the United States, Brazil, Russia, China and India. The start of the free trade negotiations with the United States should make us less naïve. It provides an opportunity for European farmers to benefit from the similar advantages offered in the United States. Otherwise, we will sign off our food dependence to the rest of the world. There is a need to deeply rethink the principles on which the CAP is based, and select effective and economical public intervention procedures to correct imbalances and fill the gaps that make it inoperative or even dangerous. These are the key issues in question: The price instability and the crises it generates on major markets are not taken into account; The decoupling of direct subsidies represents a budgetary waste and the disengagement from public authorities; Payments of environmental and social programs distort strategic choices; The CAP is becoming a costly administrative structure that is less and less agriculture-related and collective, and that deeply impacts the European agricultural model. b.1) Price instability and crisis management are not taken into account The CAP totally ignores price instability at a time when statistical series one of the structural components of agricultural markets are available. And the resulting volatility has been heightened during the past decade with the development of excessive speculation backed by considerable capital movements. Yet excessive price fluctuations are extremely damaging to farmers, since they give them the incorrect information on consumer needs, while possibly severely affecting their incomes in times of price reversals. If prices are abnormally high, it will lead to inadequate production choices for the years to come, thus maintaining, or even amplifying, the instability process, which is itself at the root of increasingly destabilizing speculation. Consequently, farmers gradually loose any notoriety, thus distorting their investment choices and the integration of technical progresses. If the first phase of the CAP was so influential in favoring production and yields, it was really because longterm notoriety was inherent to protection against market instability. By dismantling this system essentially for reasons of budget costs and wider competitive opportunities, a Pandora s box of the harmful effects of price instability was opened, and became worse over time. Worse even, European experts and political leaders thought as if markets were perfect and had to be free of any regulatory intervention, and let them to be guided by price signals and the adjustment of supply to demand. But agricultural market operations are quite far from this theoretical model. No other nation in the world has become engaged in such denial of reality, and has so resolutely surrendered the anti-crisis mechanisms. In short, the European Union is totally exposed to price volatility. It is now urgent to offset this flaw through adequate mechanisms, primarily including counter-cyclical payments against reference prices. This is all the more urgent that most of the EU budget is allocated to decoupled subsidies, whose economic usefulness is as poor as it is costly. b.2) Decoupling direct subsidies ignores the economic reality and leads to the disengagement of public authorities. The European Commission feels that decoupled payments (or SPSs) accounted for 94 percent of the EU direct payments in 2012, with fluctuations ranging between 77 and 100 percent according to member states. 23

24 At the time of the 2009 CAP Health Check, these decoupled payments represented 86 percent of direct payments with fluctuations ranging between 69 and 100 percent according to member states. In fact, the decoupling of subsidies has been increasing since 2003, and accelerated in 2010, to ensure compatibility with WTO requirements. The new CAP reform does not really alter the deal: Each member state is authorized to apply an optional maximum coupling of 15 percent of first pillar subsidies to output. In France, 982 million must be spread out by crops, i.e. the maximum sum authorized. In addition, if Single Payment Schemes (SPSs) have been eliminated at the end of 2014 to be replaced by new basic payment schemes (BPSs), they remain uncorrelated to production or even to markets. The total or even partial decoupling of subsidies selected by the Commission in 2003, and strengthened by the Commission in its 2009 Health Check, is now contradicting the principles that are at the root agricultural policies, namely the need to master production and supply fluctuations at reasonable and stable prices for consumers. In fact, decoupling is the consequence of the disengagement of public authorities from agricultural market regulation to reinstate price signals and cut down intervention spending, which is considered as unproductive based on the rationale that direct aid to decoupled incomes would permit a more effective allocation of public expenditures. This policy totally has been ignoring agricultural market turmoil since the early 2000s, which leads to the fact that the more prices are exposed to instability, decoupling becomes more arbitrary and a source of spending waste. How can one justify the payment of decoupled aid when prices are high? What good can such subsidies provide when prices are low and are not adequate to cover production costs for most European farmers? Decoupling is the synonym to the irresponsibility of public authorities, who by denying any market reality, built up a costly and inefficient system out of country, leading to distorting political choices by introducing environmental and social objectives that are totally disconnected from markets. This is a surprising paradox when the primary justification of the current CAP is to let markets act freely! A striking comparison can be found in examining the part of decoupled subsidies in the budget of the major agricultural powers. Europe commits 60 percent of its allocations to decoupled payments, the United States zero percent since the latest Farm Bill recently eliminated the last decoupled subsidies and Brazil and China only a few percent. b.3) Greening and convergence are not enough to build a European agricultural strategy. The 30 percent greening of the Basic Payment Schemes, the convergence of direct subsidies and the redistribution payment for the first hectares are not representing the main directions of a reform that aims to ensure food independence for the 500 million Europeans. And this all the more so since, in order to feed the world population, agricultural output must be increased by 70 percent in the next thirty years. It seems that we are alone in not taking the measure of these numbers. We are somewhat focusing on peripheral issues due to the lack of ambitious strategic ambitions. In addition, the debate on convergence and greening has led to overshadowing the thorny issue of agricultural price volatility that is nevertheless at the heart of the policies of other major producing countries. On this issue, the European Union differs from its trade partners by no longer having any specific measures up to the market risks borne by farmers. Even if the current discourse insists on the fact that the European agricultural budget might have been saved, it is only an illusion. It declines in constant euros and its use will be limited by both greening and convergence. Let s not forget that at the same time, our competitors are boosting their agricultural budgets and are using counter-cyclical payments. As far as the premium for the first hectares is concerned, we must keep in mind that European farms are radically different from one region to another, and from one country to the next. 24

25 In addition, the threshold for premium per hectare is left to the assessment of each member state. Strengthening the BPSs for the first hectares will not lead to homogenous consequences for all European farms, or even for a given country. Consequently, some regions could fall behind compared to others due to different farming structures, and it will be the same at the national level compared to other EU members. In fact, dissociating between productions compensated by markets and compensations generated by environmental and social systems financed by public authorities (including farms smaller than a threshold set nation by nation) is raising a fundamental issue. On which coherent economic foundations can we ensure complementarity, and on the basis of which strategic goals? Because in the end, the CAP current system only includes environmental and social objectives, which tends to give them a preeminent situation compared to agricultural and agro-food objectives that no longer carry any justification, because direct subsidies are no longer linked to productive activities. b.4) The CAP therefore becomes an administrative structure that will deeply impact the European agricultural model. The CAP is on the road to dis-collectivization due to both the absence of EU objectives in terms of food security, sectorial policy (Europe now imports 75 percent of cattle feed and livestock farming is in crisis) and exports, and due to the re-nationalization of many decisions under the pretext of subsidiarity. Owing to the possibilities of change, handicap compensations, reorientation of a share of first or second pillar packages and of convergence, over 50 percent of allocations could rely on national options. As a result, there is a probable occurrence of competition distortions and discriminations between European farmers. The CAP is on the road of dis-agriculturization, since it inexorably leads to the transformation of the European agricultural model, with farmers leaving the land due to their inability to make a living from their activities. Family farming will be replaced by financial farming ruled by investment funds or by food conglomerates. Food diversification and land commitments will be turned upside down, without any safeguard to European food security and to the competitiveness of the agro-food industries, which are labor intensive. It is thus urgent to base the CAP on new foundations, and initiate deep reforms during the new legislature. The CAP third era, to start in 2020 at the latest, must be designed now, so that the Commission may propose its legislative framework to the Parliament and the Council as early as 2016/2017. Such reform will be mostly based on the rationale of counter-cyclical payments for the key sectors of grain, dairy and to some extent livestock farming. 25

26 3) The Momagri-CAP foundations a) Principles In line with the founding principles of the CAP in the Rome Treaty and the global geostrategic context, the Momagri proposal is centered on the three following observations: This policy must take into account the facts that: - Markets, especially agricultural markets, do not self-regulate. The recent economic, financial and food crises proved it. - Price volatility is a structural component of agricultural markets. Beyond their exposure to climate hazards and epizootic diseases, they are impacted by the irreversibility of production and investment decisions as well as the low elasticity of supply and demand to prices. - The uncontrolled liberalization of international agricultural trade is generating systemic risks, which increase the probability of global sharp price reversals. - The unilateral decisions made by some agro-exporting nations to postpone and then restart exports, such as Russia, are contributing to aggravate sharp price variations in international markets. - The growing financialization of agriculture and speculation on major crops throughout the world since the 2000s and conducted mostly through opaque OTC transactions, are intensifying agricultural price volatility. Errors and deficiencies of the current CAP to be avoided: - It is based on a decoupling rationale that prevents the implementation of a strategy to develop agriculture adapted to the challenges of the 21 st century. - It maintains a costly system that varies according to nations, regimes and the types of crops at the expense of mechanisms that allow fighting price and income volatility. - It encourages a gradual re-nationalization of the CAP through different mechanisms, and thus pulls away Europe from consolidating an integrated policy that is now more than ever strategic. - It creates an increased confusion between agricultural policies and environmental policies, which leads weakening one without strengthening the other. Imperatives to be met by the CAP alternative project proposed by Momagri: - Implementing regulation mechanisms to provide farmers with adequate notoriety and compensations that are fair compared to their output. - Improve the competitiveness and operations of European agricultural markets by encouraging the development of short-, medium- and long-term investments. - Promoting European production in quantitative and qualitative terms, and therefore maximizing food security. - Ensuring a better prevention and management of the various risks, especially the market risks confronting farmers. - Strengthening the sustainability of agriculture for farmers, consumers and intermediates regarding economic plans, without which any progress can be achieved in social and environmental issues. - Maximizing the CAP budget effectiveness. - Filling the current CAP gap compared to the strategic orientations of agricultural policies conducted by the world major economic and agricultural powers. In this context, Momagri advocates another CAP that is still based on two pillars, but whose greater part of the first pillar budget allocated to basic payment schemes and greening would be redeployed toward instruments to manage agricultural markets and farmers incomes according to a counter-cyclical rationale. 26

27 This project was first applied to the two key agricultural sectors grain and milk. The problems caused by the dispersion of per-hectare subsidies and the dispositions relative to convergence would thus be resolved. A small Europe Quality Aid to be identical for different crops would be paid to all farmers. This simplified system, which is better adapted to the principles of the new CAP, could minimize several management measures that provide complexity and poor readability to the current CAP. b) The operating blueprint A free variation price tunnel based on an equilibriate price (EP) For each crop, an equilibriate price (EP), based on the average cost price observed in the EU, is the central component of the system. It can be revised according to price changes. A free fluctuation tunnel (snake in the tunnel) where prices vary without any public intervention is determined according to an evaluation procedure corresponding to regulation requirements around this equilibriate price. By convention, the equilibriate price is equal to the average cost price 7, and the floor and ceiling thresholds are set according to the recorded average dispersion of cost prices in member states (standard deviation). Payment of a flat rate per hectare Europe Quality Aid The Europe Quality Aid is a subsidy to offset the costs generated by the European agricultural model to meet the qualitative, sanitary and environmental requirements. It is assessed at 75/hectare. In case of prices leaving the tunnel, the European Union would automatically trigger regulation measures based on pre-agreed procedures by the EU Council. When prices are outside the tunnel and below the floor, farmers are granted counter-cyclical payments. Calculated on the gap between regularly recorded market prices and floor prices (bottom of the tunnel), this aid will be provided for almost all the output. If prices decline to a second threshold set by the EU, the threshold of public regulation, public regulation purchases will be made. They will represent up to four percent of annual output (regulation reserves), and will come in addition to a permanent strategic reserve for food security accounting for two percent of annual production established the first year of the Momagri-CAP implementation. On the contrary, when prices leave the tunnel beyond the ceiling, The EU will conduct public regulation releases in controlled proportions. Beyond a threshold of financial solidarity set by the EU, a variable solidarity tax will be initiated on all agricultural, financial and physical transactions of traded products. The proceeds from this financial solidarity tax will finance the reserve fund for crisis management. 7 Based on a five-year rolling basis, except if variation is higher than a threshold to be determined by the Council. 27

28 4) Deeper analysis of the Momagri-CAP mechanisms The above-mentioned overall blueprint requires deeper analysis, so that one can best measure the innovative and effective nature of its principles. From the outset, it must be pointed out that all agricultural sectors can benefit from its application, but that the particularities of some of them, such as the wine-growing sector, are pleading for keeping the current market management system. In general, all sectors subjected to market instability will find specific solutions to their activities. We studied the grain and milk sectors, which both represent a major share of first pillar budget allocations, and whose impact on other sectors economics, especially white meat, is significant. In addition to oilseed operations, they represent the three key sectors whose European prices are directly correlated to global prices and their instability. These three sectors directly or indirectly represent close to 90 percent of the human food consumption. The results achieved are sufficiently determinant (see Part III) to launch the reform project now. a) Principle No.1: Setting up an equilibriate price for each major agricultural product The guiding principle is defining an equilibriate price for each agricultural product corresponding to a level of fair and stabilizing level of compensation for farmers, while remaining comprehensible to consumers. These prices would serve as benchmarks that symbolize balanced markets, given the year s economic and climate data. Price developments would take into account the evolution of production costs and the stakeholders competitiveness increases. Setting up equilibriate prices will concern a number of major agricultural products, whose list must be established by the European Commission. There is a precedent, that of indicative prices. At the international level, associating the organizations involved especially the FAO might complete such a list according the economic criteria showing the production conditions in the major zones considered. In fact, the principles of the Momagri-CAP stem from the governance principles established by Momagri in the framework of a global agricultural and food cooperation for the future. They could therefore be extended to design the international regulation of agricultural markets, hence the importance of having equilibriate prices by major economic homogenous zones. Calculating the equilibriate prices will be the responsibility of a division of the European Commission in coordination with member states through the management committee and the special committee for agriculture (SCA) to which they would be submitted. In case of disagreement, there would be an arbitrage process (Coreper then Council of Ministers). The goals is to design a reference base that will include the economic reality of production factors in order to correct the fact that international prices do not reflect genuine production conditions. Markets will operate freely, without any intervention on physical markets, between the tunnel ceiling and the threshold of public regulation between 230 /t and 140 /t for gain thus constituting a potential significant fluctuation margin. Equilibriate prices will be set by calculation conventions and a common nomenclature, so that the reference they will represent can be traceable and explainable. Just as for any international convention, these calculations will be transparent and will result from informed choices, based on calculations made by recognized experts and integrated into the EU decision-making system. These equilibriate prices will be set in accordance with a representative panel of farms integrating the existing economic differences in the European Union farm sizes, production zones and mechanization levels among others. 28

29 The selection of the equilibriate price for a given product will largely cover the average cost price for farms of the representative panel, and thus illustrate the will to improve the global performance of European agriculture. In fact, setting equilibriate prices too high and tunnel fluctuation margins too narrow would be difficult to finance. This project aims to provide income stability for farmers, to prevent crises without budgetary inflation, and an intervention system including budget reserves to rapidly prevent and manage crises. b) Principle No.2: Variation ranges free from any regulation A range of price variation around these equilibriate prices would be defined as free from any regulation by negotiation between member states, as it involves bearable variability. It is set by convention at +/-1 standard variation of average production costs (over a five-year period) weighted by major products in the EU member states. International markets, especially national or inter-regional markets where over 90 percent of the world output is being traded, would let setting prices without any national or international public intervention, as long as they are in the acknowledged range of variation. Should the price of an agricultural product significantly depart from the price variation range during a time exceeding the minimal duration, a process to implement counter-cyclical payments would be initiated. The fluctuation margins determining the tunnel will be calculated following a double approach: The economic approach where sizing the tunnel margins may come at first glance from the standard deviation of cost prices compared to the EU average. This is what we considered for the simulations regarding the grain and milk markets. The budget approach, where the average of intervention budget may not exceed the inter-annual average of the package set by financial outlooks to ensure the CAP strategic objectives. These application procedures are supposing that simulations were made from different assumptions of equilibriate prices, from varied blueprints and different market price anticipation plans; this to ensure that the system is solid and will hold in the event of sharp crises. Other factors could also be considered, especially those relating to handicap zones, and the promotion of new activities and new pursuits capable of creating added value for European agriculture. c) Principle No.3: Payment of a subsidy recognizing the societal role of agriculture-- The Europe Quality Aid The Quality Europe AID is to be available to all farmers, in order to take into account the non-trade role of land management, preservation of the environment, respect of health restrictions and qualitative norms that make European agriculture a quality sector in every sense of the term. Conceived not as a restriction but as the recognition of the key societal role, this subsidy becomes the positive corollary of greening, which in its current form is quite rightly felt as a penalty system. In addition, by going from a form restriction to a form of appreciation, we are coming out of the bureaucratic dilemma generated by the onset of the historical SPSs, which only enhanced extremely disparate situations in the Union. As a consequence, the objectives of convergence, which form a significant portion of the decisions of the recent CAP reform, will no longer exist since this Europe Quality aid will amount to a flat rate of 75/ hectare. Thanks to this subsidy, we will also abandon the farmers excessive reliance to a decoupled and bureaucratic aid, which is not legitimate when prices are high or are low, since it ignores market fluctuations. As far as eventual sanctions for not respecting the EU rules are concerned, they will result from controls and enquiries made by the relevant authorities, and will be established on rules that will not be based on the benefit, or lack of, of the rightful aid constituted by the EQA. 29

30 Lastly, the EQA will be notified within the green box as it is decoupled. d) Principle No4: Counter-cyclical subsidies To overcome the handicaps affecting the CAP, we must return to a pragmatic base that treats the risks generated by price instability especially crises and that provides farmers with enough notoriety to ensure a decent income and the ability to invest. This foundation mainly includes counter-cyclical mechanisms, to which various specific instruments tailored to each market will be added. Why counter-cyclical aid? Because it is economically effective The issue of counter-cyclical payment is raised in view of both high or low price levels, as well as their hyper-volatility. In such an environment, flexible subsidies are economically much more effective than flat rate decoupled subsidies in assisting farmers to face temporary difficult conditions. The latter are indeed not very legitimate, and in synch with markets when prices are high which is the case today and often inadequate when prices are too low. Because it can be cost-effective for budgets Over time, flexible subsidies are more cost-effective for budgets than the situation prevailing today, if floor and ceiling thresholds, which curb budget sizes while giving them a strong lever to balance incomes, define them. The budget simulations we conducted prove it, and the strategic orientations taken by the United States with its 2014 Agricultural Act and by other major agricultural powers such as Brazil confirm it. In addition, a recent American study 8 shows that eliminating all existing agricultural subsidies in the framework of the Farm Bill and replacing them with counter-cyclical private stockpiling aid, would have led to significant budget savings in the years. Because it is strategically necessary The specific risks facing agricultural markets are preventing farmers to manage them by themselves in the long run. Yet without notoriety, farmers cannot commit to a sustainable investment process, since risks of market reversals are too high without effective safety nets. This situation represents a genuine threat for the stability and the competitiveness of European agriculture, all the more so since the other major agricultural powers the United States, Brazil, China and Canada among others are implementing mechanisms to secure their agricultural output through counter-cyclical support mechanisms, or insurance programs (a variance of the same nature) that are guaranteed by governments. Moving down that road will reverse the rationale prevailing today, which consists in stabilizing agricultural budgets at the expense of sharp income volatility, instead of stabilizing farmers incomes thanks to flexible budgets. Because it is politically appropriate The crisis we are now experiencing has deeply altered the perception of European decision makers regarding the challenges of the CAP, whose key objectives now include the better management of market instability at a lesser cost

31 In today s hyper-volatility context, flat-rate subsidies are quite inefficient in protecting farmers from international price fluctuations. And since the CAP budget is now increasingly curbed, decoupled subsidies might be sharply reduced due to the significant share they represent (60 percent). As a consequence, the implementation of an alternative and flexible system able de guarantee similar income levels to farmers, while stabilizing incomes over time at a lower global cost, is an option that should generate quite an interest from European decision makers. In addition, such a system could be WTO-compatible in the European case, and remain with the margins authorized by the orange and blue boxes, as shown in the WTO-compatibility study included in our proposal (see Part IV). These counter-cyclical subsidies will be paid up to 90 percent of each farmer s output. Farmers can count on them and thus will be able to smooth out their annual sales over time. This will be one of the key issues for the implementation of the Momagri-CAP project. e) Principle No.5: Intervention thresholds Two thresholds have been established: A Public regulation threshold that will trigger a public stockpiling threshold in case of declining market prices beyond this threshold; A Financial solidarity threshold when prices exceed the corresponding threshold situated at a level showing a high speculation boom. In the first case, public purchases at this threshold price will be limited to four percent of the annual output, which will prevent the risks of budget slippage experienced in the first CAP, while contributing to stabilize markets. In case of a major crisis, the Council of Minister may decide to exceed this four percent threshold, in the framework of a concerted international effort in the global Food Security Council. Consequently, combining counter-cyclical payments and public purchases should be enough in practically all possible cases to bring back prices in the tunnel. The budgetary cost of public regulation stockpiling is therefore capped by design. The simulations we made on the grain and milk markets are showing that if, during crisis years, budget costs might be slightly higher than the average budget recorded, the principles of the Momagri-CAP are generating significant savings over a five-year period, while ensuring farmers with equivalent and stabilized incomes. In the second case, that is to say beyond the financial solidarity threshold defined by the EU, a variable solidarity tax will be initiated on all agricultural, financial and physical transactions relating to traded products. The revenues of this financial solidarity tax will finance the crisis management reserve fund. New resources will thus be gathered through this feature, which will further improve the effectiveness of the new budget rules. Generally, when market prices are at the level of equilibriate prices or beyond, the EU will have the option to initiate public regulation stockpiling releases in controlled proportions, with, there again, the goal of converging toward the equilibriate price. The operations will balance reserve purchases and will not generate any stockpiling accumulation over time. This risk will be all the more lowered that the growth of industrial non-food outlets will bring sustainable solutions. This mechanism should be sufficiently solid to rapidly return prices in the tunnel by dissuading speculative market behaviors. In case of emergency, when food aid must be strengthened, or contracts regarding nations subjected to repeated food crises must be filled the European Council might authorize additional reserve release operations at prices below the equilibriate price. f) Principle No.6: A system of levies-rebates In order to fully apply the governance principles set by Momagri, trade between major homogenous eco- 31

32 nomic large zones must be conducted by applying border levies or rebates that will vary according to zones of pick-up or origin. As long as trade prices are in the free fluctuation zone, these levies or rebates would not be applied. Goods thus would move without any customs duty or export subsidy. As a result, there would be a genuine opening of markets without costly and distortive trade subsidies, while maintaining for certain nations especially developing countries the possibility of applying a system of lock at borders, and thus allowing for the development of their agricultural activities. These border levies would provide both a protection to farmers and the indispensible financial means to invest. This in a way extends to the whole world the CAP reference principles in a framework of international cooperation that is totally new and adapted to the world evolution. As far as the specific case of the Momagri-CAP, levies and rebates should thus be based on the public regulation threshold for countries having counter-cyclical regulation, and based on floor prices for the others, especially developing countries. However, this point might be examined independently of the strict application of the rule in the larger framework of international trade negotiations. *** Applying the above-mentioned principles will provide the CAP with a new strategic orientation, without leading to additional budget costs. Quite on the contrary, the implementation of the system we are proposing is a stabilizing system, and only leads to budget expenditures in case of crisis. We conducted simulations and analyzed their results regarding the two major agricultural sectors of grain and milk. The findings are extremely encouraging and plead for its expansion to other sectors within the limit of their specificities. Yet, the central and leading nature of these two sectors will establish a regulation trend, which alone might be sufficient to return the CAP to a long-term strategic development path. Stabilizing and strengthening the effectiveness of the first pillar measures will maximize the value of social and environmental measures currently included in the Second Pillar. 32

33 Part III Economic and budgetary consequences of the Momagri-CAP 1) General assumptions Sectorial and temporal scope of the Momagri-CAP proposal: The economic and budgetary studies of the Momagri-CAP proposal were conducted on two sectors: grain and milk. Other sectors are qualified, such as oilseed and even beef, but were not included in the estimations we made and presented in this White Paper. The budget simulations involved two periods: and , and took into account the CAP reform and the latest budget outlook of the Multiannual Financial Framework as adopted by both Parliament and the Council. All the budgetary data included were executed in the years 9, and anticipated for the years. CAP Budgets, in billion, Budget , Budget simulation methodology: Source: EC, 2014 The simulations were made by replacing the interventions in the grain and milk markets, and the SPSs or BPSs allocated to both markets by the Momagri-CAP expenditures, that is to say by the EQA (Europe Quality Aid), counter-cyclical payments and costs of public or regulatory reserves. Applying the Momagri-CAP principles thus generates budget modifications that only concern the Titles and of the CAP budget, the budget expenditures of the other titles are supposed to remain unchanged. Market interventions (Title 05 02), direct decoupled payments and other direct payments (Title 05 03) for grain and milk were therefore deducted from total payments, except export rebates. These are maintained for all other agricultural sectors concerned. In 2012, the amount of these subsidies allocated to the grain and milk sectors accounted for 60 percent of the first pillar. A Europe Quality Aid is introduced for grain and milk, independently of market price levels. It is set at a flat rate of 75/hectare. Counter-cyclical payments and public purchases for completed reserves might be made according to market prices Committed expenditures for rural development and for the Titles 05 05, 05 06, 05 07, 05 08, and 05 AWBL-01 are presumed to remain unchanged. The cost of the public regulation through reserve placements/releases is included in the budget evaluations. It is currently estimated at five percent of reserve value (cumulated reserves at the tunnel floor price). 9 Payment allocations for

34 At this stage of the project, new resources have not been integrated in case of overrun of the financial solidarity threshold. Setting Equilibriate Prices and Floor and Ceiling thresholds of the tunnel: Equilibriate prices represent a useful reference index to qualify the stability of markets according to the structure and development of average production costs. It is used to assess the regulatory systems (counter-cyclical payments, reserve placements and releases) that may be implemented. Equilibriate prices are set by the average production costs recorded by five-year periods ( and ). The floor and ceiling thresholds corresponding to the limits from which price volatility is considered as excessive, are set based on a study of the average volatility of productions costs for the two five-year periods. For the grain and milk sectors, the floor and ceiling thresholds are determined from the two following relations: Floor price = Equilibriate price + standard deviation Ceiling price = Equilibriate price standard deviation Applying these principles for the grain sector reveals that the average wheat cost price during the years was 192.3/t for a standard deviation of 18.5/t, and the average corn cost price was 204.3/t for a standard deviation of 16.5/t. For the five-year period of , results are as follows: Wheat average cost price: 213.9/t Wheat standard deviation: 15.2 Corn average cost price: 212.7/t Corn standard deviation: 12.8 In view of the rules we established, we can set the floor and ceiling prices, as well as the equilibriate prices for the two five-year periods considered: Equilibriate price: 195/t Floor price: 180/t Ceiling price: 210/t Equilibriate price: 215/t Floor price: 200/t Ceiling price: 230/t The compared evolution of the EU total cost prices for wheat and corn during the years reveals that, for six years out of ten, cost prices were contained in the tunnel bordered by the floor and ceiling thresholds. For the simulations, we have kept the equilibriate price of 215/t and the floor and ceiling prices of 200/t and 230/t, while cost prices tend to increase. 34

35 Changes of EU total cost prices for wheat and corn; Changes of equilibriate prices and floor and ceiling prices for grain , /t, farm-gate prices Sources: FADN, Momagri, 2014 The analysis of European production costs for dairy products reveals that the milk average cost price for the is /t with a standard deviation of For the years, the milk average cost price is 356.3/t and the standard deviation is Just as for the grain sector and in view of the proposed definitions, we set the floor and ceiling prices, as well as equilibriate prices, during the two five-year periods considered: Equilibriate price = 350/t Floor price 330/t Ceiling price 370/t Since 2010, cost prices have significantly increased. In fact, the average cost price was 374.3/t during the three following years, or close to 25 more than the average cost prices for the years. Trends in milk prices confirm this development, and it is identical for Trends in milk prices, Weighted EU average (real fat content), /t, Source: EC,

36 To cope with a new situation that shows a structural development of the sector and a bullish trend of production costs, the equilibriate price and the floor and ceiling prices are set as follows: Equilibriate price = 370/t Floor price 350/t Ceiling price 390/t Trends in European total average cost prices of milk and in floor and ceiling thresholds in /t The compared changes of EU total cost prices for milk in the years reveal that, for ten out of twelve years, total cost prices were contained in the tunnel designated by the floor threshold and the ceiling threshold. Total cost prices were higher than the ceiling threshold of the tunnel for two years. One of the specific features of the milk market is that drinking milk cannot be kept for a long time, contrary to milk powder and butter, and that these two markets are separate one from the other, if only because their respective geographic coverage (local for the first and international for the second). Consequently, it is crucial that the reform proposal integrates in the operating rationale these two markets at the two levels concerned: Drinking milk for assessing counter-cyclical payments to farmers; Milk powder and butter for assessing the stocks that qualify for public intervention. Drinking milk equivalent prices will be calculated based on Milk Powder and Butter quotations, so that these two markets are linked, conforming to distinct rationales and purposes, especially at the level of Threshold of Public Regulation. Counter-cyclical payments will only concern the drinking milk markets so that: They are triggered by market signals, They mitigate the balance of power between farmers and processors by guaranteeing a safety net to farmers, They avoid that the balance of power between farmers and processors lead to maintaining drinking milk prices at lower levels than the floor price. They will be paid to farmers when drinking milk prices will be lower than the tunnel floor price calculated by the Management Committee based on the price calculation formula adopted by the Council. So that over-production is not encouraged, a per country cap, which should be transferred to farms, will be set up in value (quota equivalents). Public reserves will only concern milk powder and butter. They will be effective when market prices of milk powder and butter is lower than the public regulation threshold (calculated on the basis of an equivalent price to drinking milk, and the formula remains to be set based on the current processing rates). 36

37 A strategic food security reserve equal to two percent of volumes produced will be invested during the first year of the implementation of the system. The trade regulation reserve will be capped at four percent of the volumes produced during the year. 2) The assumptions retained for the grain sector a) Market prices The market prices used for budget simulations for the years are the soft wheat annual prices, delivered Rouen, in /ton. It has to be noted that 15/t was deducted from these prices in the budget simulations for the average transportation cost, in order to determine the amount of counter-cyclical payments and warehousing costs. The aniticipated wheat market prices for the period were obtained from the Momagri model 10 for the grain sector. The following graph shows the market prices that were selected to create the budget situations for the years. Trends in market prices recorded ( ) and anticipated ( ) for grain, /t Trends in average prices paid to farmers recorded ( ) and anticipated ( ) for grain, /t, including transportation costs Source: Momagri, 2014 Source: Momagri, 2014 By convention, the prices shown later in this report are net producers, that is to say they incorporate transportation costs. The Momagri model simulations are presenting a double interest at the economic and budget levels The Momagri model is a general computable sequential economic model. It includes a central general linear module, and a specific risk module that models the various types of exogenous and endogenous risks that confront agricultural markets. Its key specificity is to model the volatility of agricultural prices. For additional information, please visit

38 At the economic level, they reproduce one of the main specificities of agricultural markets: The structural, and not cyclical, volatility of grain prices. The volatility recorded for the years gives similar proportions to that of the years. The standard deviation for the years was 31.9 and the standard deviation anticipated for the years is The anticipated OECD standard deviation for wheat for the years is 6.1, or five times less that the standard deviation observed for the years, and four times less than that projected for the years. At the budget level, they allow the study of the impact of the Momagri-CAP proposal in varied market situations, contrary to the price assumptions that base the current CAP proposal, that are linear, stable and at high. Some periods of low prices might thus be followed by periods of high prices, thus allowing to assess the reactivity and the reliability of the Momagri-CAP in a chaotic environment 12, as it has been the case since The following graph recaps the economic parameters retained for the simulations of the grain sector during the years. A dotted grey line represents the Equilibriate Price (EP). The grey full lines represent the floor and ceiling thresholds, respectively named FP and CP. The Public Regulation Threshold (PRT) is indicated by a full blue line, as is the Financial Solidarity Threshold (FST). The central scenario will be based on these price evolution forecasts. A pessimistic scenario was also tested (see Part V- Conclusions) to measure the degree of resistance of the Momagri-CAP system confronted to a lasting crisis. Recap of economic parameters retained for the simulations, /t Including transportation costs Source : Momagri,2014 b) Produced volumes and activation of regulation mechanisms The grain quantities produced for the EU-27 were obtained from the FAO for the years. The data for was estimated based from the average annual growth rate observed during (+1.9 percent). This linear assumption is, on average, acceptable in light of the budgetary impact studies conducted for the years. The changes in produced quantities, however, might be more volatile due to the various risks natural and market risks confronting European producers The increase of volatility since 2007 validates such an assumption. 12 In the sense complex and uncertain.

39 Quantities of grains produced, EU-27, in million tons, Quantities The various regulation mechanisms considered are triggered according to market price levels, and the qualified quantities vary according to these two features. The following chart shows the eligible grain quantities by regulation mechanism considered according to markets price levels. Breakdown of quantities produced by price range Eligible to counter-cyclical payments (CCP) < 140 /t /t /t >230 /t 90% 90% 0% 0% Non eligible to CCP 6% 10% 100% 100% Placed in stocks 4%* 0% 0% 0% Released from stocks 0% 0% 2%** 2%** * Maximal threshold that could move beyond following decision of Council. ** On average and going up to eight percent over two years. 3) The assumptions retained for the milk sector a) Market prices The budget simulations for the years were based on milk prices Weighted EU average (real fat content), indicated in /ton. During that period, the average prices was 325/t with a standard deviation of Annual variation of milk prices, , Weighted EU average (real fat content), /t Source: EC, The average standard deviation of prices over the years is higher than that of total costs for the same period. 39

40 The budget simulations pour the years were made based on two scenarios. The first scenario picks up the OECD outlook in which prices evolve in a linear manner (baseline outlook, OECD, 2013). This is an optimistic scenario in the sense where no price reversal is taken into account, and the average standard deviation during the period is much lower to the levels recorded since 2001, and rising afterward. For the years, the standard deviation of the OECD projections is 4.5, against 32.2 during the seven preceding years, that is to say a level seven times lower. The second scenario considers that milk prices will fluctuate in at least similar proportions to those observed between 2007 and 2013: - Two periods with low prices (2016, 2017 and 2019) - Three periods of high prices (2015, 2018 and 2020) Annual projections of milk prices, , /t Optimistic scenario (OECD) vs. realistic scenario (Momagri) Sources: OECD, Momagri 2014 This second scenario is realistic because it reproduces the price volatility reported since 2007, both in terms of reversal frequency and variation scope. For the years, the standard deviation is 36.9, or a similar level, although slightly higher than that reported for the years (32.2). The following graph recaps the economic parameters retained for the simulations on the drinking milk sector for the years A back dotted line indicates the equilibriate price (EP). The floor and ceiling thresholds, respectively FP and CP, are represented by yellow and green lines. A solid red line indicates the Public Regulation Threshold (PRT), a green line shows the Financial Solidarity Threshold (FST). Just as for grain the transportation costs were not included, since the milk equilibriate price is a collection price at the farm. 40

41 The case of milk powder and butter (References to calculate from the thresholds for drinking milk): b) Produced volumes and activation of regulation mechanisms The data for milk quantities (EU Wholesale Milk deliveries) for the EU-27 were obtained from EUROSTAT for the years. The data was estimated based on the average economic growth rates observed over the years (+4.7 percent). This linearity assumption is, on average, acceptable if we consider the budget impact studies conducted for the years. The changes in quantities will actually be more volatile because of the various risks (natural and market risks) confronting European farmers. The elimination of milk quotas in 2015 should also lead to increasing milk production, thus validating such an evolution of quantities by Milk quantities delivered, EU-27, in million tons, Quantities Source: EC, Momagri, 2014 The different planned mechanisms are triggered according to market price levels, and the qualified quantities are varying according to these two features. The following chart shows the eligibility of produced milk quantities by regulation mechanisms according to market price levels. 41

42 Breakdown of milk quantities by price ranges, < 260/t /t /t > 370/t Eligible for counter-cyclical 90% 90% 0% 0% payments (CCP) Not eligible for CCP 6% 10% 100% 100% Placed in stocks 4%* 0% 0% 0% Released from stocks 0% 0% 2%** 2%** Breakdown of milk quantities by price ranges, < 260/t /t /t > 390/t Eligible for counter-cyclical 90% 90% 0% 0% payments (CCP) Not eligible for CCP 6% 10% 100% 100% Placed in stocks 4%* 0% 0% 0% Released from stocks 0% 0% 2%** 2%** *Maximal threshold that can move beyond on Council s decisions **In average and can go up to eight percent over two years 4) Simulations and results The simulations conducted are budgetary and economic simulations. They concern two periods: and The budget simulations concern the impact of the Momagri-CAP proposals on total EU budgets, as well as on the EU expenditures allocated for grain and milk, Economic simulations on the impact of the CAP and the Momagri-CAP on the average sales of European grain and dairy farmers were conducted. They are based on the same market assumptions than those retained to make the budget simulations for the CAP and the Momagri-CAP. They are not meant to record the average sales level that could be paid to European farmers in the future, but to compare, other things to be equal, the income conditions that would be those of grain and dairy farmers in the framework of the CAP and the Momagri-CAP, especially in terms of average level and volatility. a) A better use of budget resources a.1) Results for the years Applying the Momagri-CAP principles for the period would have allowed an average annual budget saving of 8.6 billion, compared to the budgets actually allocated. In fact, the average budget of the Momagri-CAP would have been 46.9 billion, against 55.6 billion in the framework of the CAP, while farmers sales would have been identical. In addition, applying the Momagri-CAP principles would have also led to multi-annual budget flexibility. The Momagri-CAP budgets would have varied between 40.4 billion and 60.3 billion. 42

43 Comparison of CAP v. Momagri-CAP budget, , in billion Sources: EC, Momagri, 2014 Consequently, the combined budget gap over the period is 61 billion, a 14-month saving of budget execution, or 16 percent of the total CAP budget over seven years. Budget gaps, CAP vs. Momagri-CAP, , billion a.1.1) A 6.1 million annual gap for the grain sector Sources: EC, Momagri, 2014 Comparing budget spending allocated to the grain sector in the framework of the momagi-cap proposal to spending in the framework of the CAP shows an average annual saving of 6.1 billion, or a saving of 35 percent on the amounts allocated to the same sector over the period ( 17.2 billion for the CAP against 11.1 billion for the Momagri-CAP). Breakdown of subsidies allocated to the grain sector, CAP, average , in billion Sources: EC, Momagri,

44 During the years, most of the expenditures committed for the grain sector in the framework of the CAP involved direct subsidies. In fact, market interventions were negligible (less 21.5 million during the period). Decoupled direct subsidies represented the majority of paid direct subsidies (94 percent), an average 16.3 billion during this period. Expenditures allocated to the grain sector showed little fluctuation over the period, the minimal amount reaching 15.9 billion (2011) and the maximal amount 18.6 billion (2008). Not only much lower (35 percent) to the expenditures allocated in the framework of the CAP, the expenditures for grain sector in the Momagri-CAP proposal are also different from the current CAP regarding the breakdown of subsidies paid, as shown the graph below. Breakdown of subsidies allocated to the grain sector, Momagri-CAP, average , billion Sources: EC, Momagri, 2014 Out of the 11.1 billion that would have been paid to the grain sector, decoupled subsidies paid in the framework of the Europe Quality Aid would have represented only 40 percent of the total ( 4.4 billion), counter-cyclical payments representing 59 percent ( 6.6 billion) and market interventions (in the form of public reserve operations) only one percent ( 142 million). On the other hand, expenditures allocated to the grain sector would have been more variable over the period. The minimal amount paid would have been 4.3 billion in 2011 and the maximal amount would have been 21.1 in a.1.2) A 2.5 billion annual gap for the milk sector Over the years, the average annual spending allocated to the milk sector was 8.5 billion. Just as it is the case for grain, most of the subsidies paid were direct subsidies (98 percent) and market interventions were negligible (with 132 million during the period). 44

45 Breakdown of allocated subsidies in the milk sector, CAP, average , million Sources: EC, Momagri, 2014 Decoupled subsidies represented most of the direct subsidies paid (an average of 7.2 billion), or 87 percent to paid direct subsidies. Subsidies paid to the milk sector showed little variation over the period. The minimal spending was 7.7 billion (2007) and the maximal spending reached 9 billion (2013). Just as it was the case for grain, applying the Momagri-CAP proposal would have generated by significant budget saving ( 2.5 billion in average, or less 29 percent), but also a modification in the nature of paid subsidies. Breakdown of subsidies allocated to the milk sector, Momagri-CAP, average , billion Sources: EC, Momagri, 2014 Decoupled subsidies paid in the framework of the Europe Quality Aid would have accounted for 57 percent of paid subsidies ( 3.4 billion), counter-cyclical payments for 41 percent ( 2.5 billion), and market interventions in the form of reserve operations for 2 percent ( 106 million). On the other hand, the subsidies paid to the milk sector would have been more volatile over the period. Consequently, 3.3 billion would have been paid in 2008, against 11 billion in

46 a.2) Results for the years During the period, applying the principles of the Momagri-CAP should permit an average annual budget saving of 4.8 billion, compared to the budgets that should actually be allocated. In fact, the average annual budget of the Momagri-CAP would amount to 50.9 billion, against 55.7 in the current framework. Just as for the years, applying the principles of the Momagri-CAP would bring about more multi-annual budget flexibility. The Momagri-CAP budgets should fluctuate between 38.8 billion and 61.5 billion, or an average standard deviation for the same period of 8.8 against zero in the current framework (due to the assumption of a perfect breakdown of the multi-annual package over the seven fiscal years, which, in reality, will not be the case). Comparison of CAP vs. Momagri-CAP budgets, , billion Sources: EC, Momagri, 2014 The cumulative budget gap over the period is thus 33.1 billion, or the equivalent of the first pillar of the CAP budget saved, or nine percent of the CAP total budget over seven years. Cumulative budget gaps, CAP vs. Momagri-CAP, , million Sources: EC, Momagri,

47 a.2.1) A 3.9 billion annual gap for the grain sector The comparison of budget expenditures allocated to the grain sector in the framework of the Momagri-CAP proposal against those spent in the framework of the CAP shows an average annual saving of 3.9 billion, or a saving of 34 percent ( 16.2 billion for the CAP against 12.3 billion for the Momagri-CAP proposal). Breakdown of subsidies allocated to the grain sector, CAP, average , billion Sources: EC, Momagri, 2014 For the years, 99 percent of expenditures for the grain sector in the framework of the CAP would involve direct subsidies through the new direct payments. Market interventions would be negligible ( 17 million on average over the period). Not only much lower (26 percent) than expenditures allocated in the framework of the CAP, the amount of expenditures for the grain sector in the Momagri-CAP proposal would also differ from the current CAP regarding the breakdown of paid subsidies, as show by the following graph. Breakdown of subsidies allocated to the grain sector, Momagri-CAP, average , billion Sources: EC, Momagri, 2014 Out of the 12,3 billion that would be paid on average to the grain sector, the decoupled subsidies paid in the framework of the Europe Quality Aid would only account for 38 percent of the total paid ( 4.7 billion), and counter-cyclical payments accounting for 62 percent ( 7.6 billion). 47

48 a.2.2) A 2.2 billion annual gap for the milk sector For the years, the average annual spending allocated to the milk sector should reach 9.8 billion in the CAP framework. Just as it is the case for grain, most subsidies paid would be direct subsidies (99 percent). Breakdown of subsidies allocated to the milk sector, CAP, average, billion Sources: EC, Momagri, 2014 The average annual spending allocated to the milk sector should reach 7.6 billion in the Momagri-CAP. Applying the Momagri-CAP proposal will generate significant budget savings (less 22 percent), as well as a modification in the nature of subsidies paid. Breakdown of subsidies allocated to the milk sector, Momagri-CAP, average average, billion Sources: EC, Momagri, 2014 The decoupled subsidies in the framework of the Europe Quality Aid would account for 49 percent of paid subsidies ( 3.7 billion), and counter-cyclical payments for 51 percent ( 3.9 billion). No market intervention in the form of reserve operations is projected between 2014 and b) An optimal management of EU budget for better market regulation The introduction of new counter-cyclical regulation mechanisms results in the budget difference, for both the period and the period. In cases when prices are higher or equal to the bottom to 2009 years to 2020 years.

49 limit of the tunnel ( 200/t for grain and /t for milk), public spending is limited to the sole EQA. Yet, during the years, prices of grain and milk were strongly impacted by volatility and reached average levels that were close or higher than such thresholds ( 175/t on average for grain, and 325/t on average for milk). The Momagri-CAP proposal is prudent in budget terms, and economically effective to regulate farmers sales when market conditions require it. Applying the principles of the Momagri-CAP would have lastingly stabilized the average sales of European grain and milk farmers to levels close to those recorded during the years, and to levels that should be reached with the CAP. In the current CAP framework, budgets are stable and farmers sales are volatile. Agricultural budgets are therefore independent from market realities, and, although it is structural, market volatility has been increasing for the past few years. The public subsidies allocated mostly decoupled subsidies are therefore unable to assist farmers to manage the price hyper-volatility they are confronted to. At the most, they constitute an additional price whose level, which is stable in view of instable prices, is thus never adapted to the situation. Consequently, farmers are the ones subjected to price volatility, as shown by the volatility of their incomes, which is quite comparable to price volatility. The rationale intended by the Momagri-CAP proposal is a reversal from that prevailing today, and that will prevail tomorrow in a context of high agricultural price volatility. In the framework of the Momagri-CAP, budgets are flexible and, on the contrary, farmers sales are stabilized. The introduction of coupled counter-cyclical subsidies increases the CAP reactivity to market realities. In addition, their non-systematic nature greatly limits the structural nature of many current subsidies, which really should account for agricultural market specificities, be relative to economic conditions, and much more flexible both in terms of procedures and payment ceilings. Nevertheless, one question is being raised: Which is the reliability of this model to manage EU agriculture if confronted to any downward price slippage? Would the cost involved be excessive? We developed a scenario where grain and milk annual market prices would have been, or would be, such that average annual budgets for the and would be identical in the CAP and in the Momagri-CAP proposal. The results obtained for the years are as follows: We should have had: Average annual grain prices lower by 15 percent than the recorded average; Average annual milk prices lower by 12 percent than the recorded average. The results obtained for the years are as follows: We should have: Average annual grain prices lower by 10 percent than the projected average prices ( 157/t vs. 174/t), already placed at a fluctuating low level; Average annual milk prices lower by eight percent than projected average prices ( 289/t vs. 316/t) also place at a low level. In any event, should this project come about, farmers sales would be protected and would be quite higher than sales included in the current CAP. 49

50 c) An average sales level that is stabilized to better support farmers incomes and improve competitiveness c.1) A stabilized level of average sales As one of the objectives of the Momagri-CAP proposal is to maximize the effectiveness of European agricultural public spending, economic simulations were conducted in addition to budget simulations to assess the potential impact of the Momagri-CAP proposal on the proceeds of European grain and dairy farmers, compared to those that would have been perceived in the CAP framework. The economic simulations were conducted for the same periods than those retained for the budget simulations ( and ) with identical market assumptions. They permit to assess and compare, based on identical assumptions, the consequences generated by the Momagri-CAP over the and periods, in terms of average level of sales and their volatility. We are thus speaking of simulations conducted under the all other things remaining equal principle, on the basis of precise average assumptions issued by the European Commission (FADN) for budgetary and economic aspects, and by the Momagri think tank regarding the potential production and price levels for the years. Consequently, the main interest of these simulations lies less in the gross value presented than in the comparisons they generate. They show the relevance of the Momagri-CAP proposal compared to the CAP in issues of regulation and economic compensation for average European grain and dairy farmers. As this report is being written, a concrete and quantified application of the Momagri-CAP proposal to the operating results of French farms is currently being designed. The results obtained are proving that, both regarding the and the years, applying the Momagri-CAP proposal goes hand in hand with stabilized sales levels close to those generated by the current CAP. c.2) Efficient support of sales to a minimal level Spending better and supporting more is possible, provided we do not rationalize according to the all other things remaining equal principle, as some people do to resist any new idea. In the framework of the current CAP as well as that to be implemented in 2015 farmers receive a relatively stable share of public subsidies, regardless of price levels according to the rationale of decoupled payments. In the Momagri-CAP proposal, public support is not only flexible but also not systematic. It is paid only when market conditions justify it: Generally low prices, high volatility and cost prices that are not covered. In this respect, we must note that this point is one among others that justified the Farm Bill reform in the United States and the elimination of decoupled direct payments. Two cases must therefore be differentiated: When market prices are higher than the tunnel lower threshold (case 1), When prices are lower than the tunnel lower threshold (case 2). In the first case, the situation is simple. The Momagri-CAP proposal generates significant budget savings, but it is tied to average sales that are lower than with the current CAP, due to a quite lower amount of public support paid. If we consider that in 2012, European grain farmers received an average 280/hectare in direct subsidy, for an average market price of 230/t (or 215/t for farmers with transportation costs), in the framework of the Momagri-CAP, the same farmers would have received 75/hectare of direct subsidy, corresponding to the EQA, or a support that is close to four times lower. In the second case, the situation is much more interesting. When farmers prices and margins are low, the economic and budget effectiveness of the Momagri-CAP is indeed revealed. The counter-cyclical nature of support coupled to the multi-annual flexibility of budgets maximize the 50

51 effectiveness of this support through a sound management of public spending et a better use of markets, as it is done in the United States. Contrarily to decoupled and coupled subsidies that prevailed in the previous CAPs, counter-cyclical payments are not systematic and only involve a qualified percentage of output. They are a type of support that allows farmers to smooth their annual sales. By doing so, this feature allows farmers: To manage market risks 16, which they could not financially handle without counter-cyclical payments, To increase their notoriety in markets that are structurally volatile, Consequently, to improve their investments as drivers for future competitiveness and profitability, To maximize the proceeds from production sales by getting prices that amount to the year s average 17. Counter-cyclical payments therefore offer a twofold advantage: an economic advantage and a budget advantage. They allow smoothing of farmers incomes and a panacea to the flaws of agricultural markets that can lastingly impact the economic balance of European farms. The budget spending of this system is thus lower on average to the one prevailing today, and that will prevail tomorrow, since subsidies are only partly financed by public budgets. Markets provide most of farmers incomes. For instance, let s take the example of a European grain farmer and a market price Rouen delivered of 197/t, or 180/t received by the farmer. With the Momagri-CAP, the farmer would have received: 180/t for the sale of his production at the market price, 75/ha in Europe Quality Aid on his total output, 18/t in counter-cyclical payments, based on a subsidy of 20/t 18 for 90 percent of his output. As a result, it is economically and budgetary possible to make significant savings while allowing farmers to keep or even increase and above all stabilize their incomes through greater budget flexibility and the introduction of counter-cyclical payments. This confirms that the Momagri system is consequently more saleable to taxpayers while better responding to farmers expectations. 5) Conclusions During the years, budget costs would have been lower than actual spending with cumulative savings of 61 billion ( 8.7 billion per year). Forecasts for the years, with assumptions of more chaotic prices thus generating higher counter-cyclical payments remain very favorable in terms of savings since they could reach 33.1 billion. At the same time, farmers sales levels would have been quite similar and quite less volatile during the and periods. Which findings can we draw from the implementation of the Momagri-CAP for the grain and milk sectors? The EU agricultural budget will be maximized while ensuring better market regulation, There is a way to spend differently to better support farmers incomes and improve their competitiveness, It is possible and necessary to reserve unallocated budgets by introducing a sunset clause in a dedicated fund, so that adequate financial resources are available in case of crisis. And globally work so that Europe will benefit from a lasing genuine agricultural policy In the case when prices are not lower than the public regulation threshold. 17 This is the rationale prevailing in the United States with loan deficiency payments. 18 Corresponding to the gap between the floor price and the market price of reference.

52 Part IV Applicability of the Momagri-PAC 1) The WTO compatibility a) The WTO classification of internal support According to the WTO general terminology, internal support to agriculture is classified in three categories, or boxes of different colors: orange, blue and green. The orange box According to the WTO, all internal support measures known to have distortive effects on production and trade (excluding a few exceptions) fit in the orange category. Following Article 6 of the Agreement on Agriculture, the orange box groups all internal support measures, except those falling within the blue and green categories. These are price support measures or subsidies directly linked to volumes produced. These support measures are capped and the commitments for reduction are conveyed through the total Aggregate Measurement of Support (AMS) that incorporates in a single figure all support granted by agricultural product, as well as support other tanb by product (granted by transversal manner to the whole sector or type of activity). A minimal de minimis support is authorized: For each agricultural product, under a ceiling not exceeding five percent (for developed countries 19 ) of the production value of the product involved; For the other than by product category, under a ceiling not exceeding five percent of the total agricultural production value. The rule applying to the de minimis clauses is that of all or nothing : If the amount of support is over the five percent threshold even by only 0.1 percent the total support concerned is not eligible, except for the de mininis clause. In such a case, all support in the orange box is included in the calculation of the country s AMS. If on the contrary, this amount is below the threshold, it is then reduced to zero. During the ongoing negotiations, various proposals were brought forward regarding the issue of knowing by how much these subsidies should be cut again, and if it was better to set ceilings by product rather than maintaining a global, total and unique ceiling. In the Agreement on Agriculture, the AMS is defined in Article 1 and in Annexes 3 and 4. The blue box The blue box aims to alleviate the restrictions of the orange box with a view to lowering the support of the orange box. It is therefore an orange box with conditions to cut down the distortions caused by some types of coupled to production support, indicates the WTO. Any support that would normally fit in the orange category could be filed in the blue category if it induces farmers to limit production % for developing nations.

53 The procedures to be included in the blue box are spelled out in the fifth paragraph of Article 6 of the Agreement on Agriculture. Direct payments in the framework of output limitation programs can be entered in the blue box if: These payments are based on farmland or fixed yields; or These payments are made for 85 percent or less of the basic production level; or Payments for livestock are made for a fixed number of heads. Expenditures granted for the blue box subsidies are not currently capped. Some countries consider that the blue category is really in line with the dynamic forces to cut the distortive support at work since On the contrary, other countries want to restraint this category by imposing limitations or reduction commitments, or even including it in the orange category. The green box Support filed in the green box is that whose distortive consequences on trade are considered as null, or at most minimal. The green category is defined in Annex 2 of the Agreement on Agriculture. Support filed in the green box is not addressing specific products, and mostly represents direct subsidies to support farmers incomes without any link to output levels or market prices (decoupled payments). This support can also take the form of programs for environmental protection and regional development. Support classified in the green box is authorized without any limitation. Nevertheless, it must be financed by public funds and not by consumers through higher prices, and must not represent a price support. During the ongoing negotiations, several nations have questioned the merits of the green box which, due to the importance or the nature of amounts paid, might generate trade distortive effects (and this is especially the case of payments decoupled to incomes). b) Operational leeway of the EU The section I of Part IV of the EU listing includes commitments to reduce internal support that are expressed in terms of overall AMS and of annual and final levels of consolidated commitments. The value of the current overall AMS of non-exempt measures must not exceed the limitation of the overall AMS in the list during any year of the implementation period or afterwards. The EU levels and thresholds for the years (latest year notified) are presented in the following graph: Evolution of EU maximal commitment on overall AMS, of maximal commitment level on overall AMS, and on OTDS 20, ECU billion( )/ billion ( ) Source: WTO, The Overall Trade Distorting Support (OTDS), or SEDE in French, is assessed by the sum of four elements: The final consolidated overall AMS by product, the de minimis level allowed by product (<5% of the value of agricultural output by product), the de minimis level allowed other than by product (<5% of the value of total agricultural output) the subsidies paid out under the blue box.

54 The level of commitment of overall AMS represents a theoretical maximum for the EU, which is nevertheless subjected to more restrictive limitations following the various negotiations and commitments to cut the total amount of its AMS. The negotiations undertaken since 1995 on the issue of internal support in agriculture are seeking to achieve substantial reductions of internal support having trade distortive effects, through the implementation of ceilings and quantified commitments to cut the OTDS and each of its three components, the final consolidated overall AMS, the de minimis level and the blue box. The various ministerial meetings held since 2001 (especially in Hong Kong in 2005 and in Bali in 2013) outlined several points and provide qualified indications, but their nature is not dictatorial. The assumption of cutting down the AMS by 80 percent compared to its maximal commitment level 21 is a unilateral decision by the EU. Consequently, we consider it as an assumption representing the maximal threshold to be taken into account for the EU. The following graph recaps the actual maximal thresholds of current overall AMS and of de minimis levels by product and others than by product 22. For the years 2007 to 2011, the values considered correspond to the amounts actually notified by the EU. The values were estimated on the basis of identical, amounts to those of the latest notified year (2011). Maximal levels of AMS, de minimis and orange box, EU, , billion Actual levels of AMS, de minimis and orange box, EU, , billion Source: WTO, Momagri calculations 2014 Source: WTO, Momagri calculations, 2014 Taking into account the overall AMS amounts notified by the EU up to 2011, the actual EU leeway on the orange box is as follows ( billion): Source: WTO, Momagri calculations, 2014 With regard to the OTDS (or SEDE) (orange box and blue box) the amounts are as follows ( billion): Source: WTO, Momagri calculations, Corresponding to a maximal actual threshold of the AMS of 14.4 billion for the EU for the years. 22 The United States makes considerable use of the AMS other than by product : Support in this category reached $9.5 billion in 2011, against 0.7 million for the EU.

55 c) The WTO-compatibility of the Momagri-CAP proposal The support measures of the Momagri-CAP proposal can be classified in the WTO green, blue and orange boxes. Support mechanisms of the Momagri-CAP Europe Quality Aid Counter-cyclical payments Regulation reserve prices WTO Category According to the Agreement on Agriculture Green Orange or Blue* Orange *Retained assumption for the simulations: orange box The EQA is a subsidy decoupled to production. As a result, it cannot be classified in the green box. Counter-cyclical payments and public regulation reserves are subsidies that are partially coupled to production. They can thus be classified in the orange box or in the blue box. Thereafter, the assumption is made that the two subsidies are classified in the orange box in the simulations. In the Momagri-CAP proposal, the assumption is made is that de minimis levels are oversupplied for grain and milk when counter-cyclical payments and reserve operations are implemented, and that the amounts of reserve operations are higher than the authorized maximal levels of de minimis. Taking into account of the relative weight of direct subsidies for grain and milk in total subsidies (less 60 percent), we consider that 60 percent of AMS other than by product can be substituted to all or part of counter-cyclical payments for grain and milk, according to the following ratio: grain (60 percent) and milk (40 percent). The following chart summarizes the various subsidies of the Momagri-CAP proposal taken into account in the EU AMS, with activation of de minimis clauses by product for grain and for milk. Source: WTO, Momagri calculations, 2014 The amount of the AMS for the EU is the sum of AMSs for all products excluding grain and milk 23, of the grain AMS, of the milk AMS and of other AMS than by product. The column Other AMS, includes the AMS paid to all agricultural sectors, except grain and milk. The amounts indicated under the grain AMS and the milk AMS are deducted from the overall AMS, and are replaced by counter-cyclical payments and regulatory reserves when they qualified. The columns Grain AMS (MSG CER) and Milk AMS (MSG Lait) include the respective AMS for grain and milk, after applying the de minimis clauses by product and using the allowed leeway by the de minimis clause other than by product on the basis of the above-mentioned assumptions. 23 Supposed to be unchanged compared to the amounts notified by the EU. 55

56 In 2007, the current overall AMS of the EU was 12.3 billion. The de minimis level by product was 0.4 billion, and the de minimis other than by product was 1.4 billion. In the framework of the Momagri-CAP proposal: 5.95 billion would have been paid for grain under counter-cyclical payments and 0.6 billion for reserves; 0.7 billion would have been paid for milk under counter-cyclical payments and 0.7 billion for reserves. The theoretical AMS for grain is consequently 6.5 billion, and the theoretical AMS for milk is 1.4 billion. The existing leeway on the de minimis clauses by product for grain coupled to the use of the de minimis clause other than by product will allow notifying only 1.7 billion under the grain AMS, and 0 for the milk AMS. The level of the AMS other than by product ( 6.2 billion) is also lower than the authorized ceiling ( 14.7 billion), and is not included in the current overall AMS. Consequently, the current overall AMS of the EU notified for 2007 would have been 6.4 billion for an overall amount spent under the orange box of 12.6 billion. The following chart summarizes the amounts that could be actually notified for each of the years between 2007 and 2020 by applying these principles. Source: WTO, Momagri calculations 2014 Taking into account the above-mentioned notifications and actual maximal thresholds, as well as the breakdown of the different subsidies included in the Momagri-CAP proposal in the various colored boxes relating to the classification of internal support, the WTO-compatibility of the Momagri-CAP proposal can be examined. The following graph shows that the Momagri-CAP proposal is WTO-compatible with regard to the AMS. The support paid under counter-cyclical payments and public regulation reserves, after optimizing the allowed leeway by the de minimis by product and other than by product levels, is below the theoretical and actual maximal ceilings of the overall AMS for 2007 and In addition, the EU average AMS in the Momagri-CAP is lower by 35 percent than that of the CAP for the years, and 14 percent lower for the years. Comparison of average annual AMS of the CAP vs. the Momagri-CAP, billion CAP Momagri-CAP

57 WTO-Compatibility of the CAP proposal under actual AMS thresholds, billion Sources: WTO, Momagri calculations, 2014 The Momagri-CAP proposal is also WTO-compatible under the OTDS. The subsidies paid and included in the OTDS in the framework of the Momagri-CAP proposal are lower than the actual OTDS ceiling, as well as an average of the observed and notified OTDS levels. As shown in the following graph, the OTDS generated by the Momagri-CAP proposal is, between 2007 and 2020, lower than the actual OTDS ceiling. In addition, the OTDS of the Momagri-CAP would have been on average lower by 35 percent to the one generated by the CAP during the years, and lower by 18 percent for the years. Comparison of average annual OTDS, CAP vs. Momagri-CAP, billion CAP Momagri-CAP 9 9 WTO-Compatibility of the CAP proposal under actual OTDS thresholds, billion Sources: WTO, Momagri,

58 The Momagri-CAP proposal is therefore WTO-compatible in view of EU notifications and the commitments made in the issue of reducing support considered as distortive. Some additional leeway exists, but it has not been used, especially regarding the blue box, and can generate still lower notifications. It is identical for the green box, which is not examined here since it is not subject to any commitment of reduction at present time. The Momagri-CAP proposal includes a significant decline of support incorporated in the green box, due to the elimination of SPSs ( ) and of BPSs ( ) for grain and milk, and their replacement by the EQA, whose amounts are quite lower (average of 75/hectare). 2) The impact on reserves The Momagri-CAP proposal supposes that public reserve operations be conducted when market prices are lastingly under the public regulation threshold set at 140/t for grain and 260/t for milk. Conversely, releases in public reserves can be initiated when market prices are lastingly higher than the threshold limit of the tunnel, set at 230/t for grain, and /t for milk. Based on the past evolution of grain market prices between 2007 and 2013 and their estimated evolution between 2014 and 2020, and on the relative assumptions of quantities placed in and released from reserves, two public reserve operations would have been conducted for grain in 2009 and , and one reserve operation could have been made in Evolution of grain market prices and of thresholds initiating public reserve placement operations and (in red) and public reserve releases (in green), /t Source: Momagri, 2014 No reserve placement/release operation 27 would have been conducted for milk due to the two thresholds that launch reserve placement/release operations were not exceeded For the years. 25 For the years. 26 In addition to strategic reserves (two percent of produced volumes in 2007) made during the first year of simulations (2007). 27 Excluding strategic reserves (two percent of volumes produced in 2007) made the first year of the simulation (2007).

59 Evolution of milk market prices and the thresholds launching operations of public reserve placement (in red) and release (in green), /t Source: Momagri, 2014 The Momagri-CAP proposal does not generate an over-stockpiling occurrence, as it has been the case in the past, quite the contrary. In fact, the following graph shows that the EU grain reserves remain contained and fluctuate between 5.5 million and 8.6 million tons. Evolution of grain reserves, Momagri-CAP proposal, , million tons Calculations: Momagri Milk is mostly stockpiled in the form of powder (WMP and SMP) and butter. For each of these two products, the conversion coefficients EL are as follows: Milk powder (7.6) and butter (6.6). The milk quantities eligible for public reserve in the framework of the Momagri-CAP proposal (2.6 million tons) were converted in EL (milk equivalent) according to the related dry matter (MS) index, in view of average breakdowns observed in 2009 and in 2010, that is to say 20 percent for butter and 80 percent for milk powder. So at the end, one thus gets the following EL for the 2.6 million tons of milk: Milk powder: 274,000 tons, Butter: 79,000 tons 59

60 By comparison, the public reserve quantities for milk powder and butter for the years 2009 and 2010 were as follows: Public reserve SMP (t) 165, ,700 Public reserve Butter (t) 58,000 50,000 Source: EC, Momagri, 2014 No reserve placement/release operation being conducted during the period, the initial milk powder reserves (0.3 million ton) and butter (0.08 million ton) remain unchanged. 3) The impact on sales a) Impact on grain farmers sales A comparison of average unit sales for a European grain farmer for the CAP and the Momagri-CAP has been made. We consider that between 2007 and 2013, the average unit sales of a European grain farmer was 233/t, with a minimum at 175/t and a maximum of 272/t with the CAP. In the framework of the Momagri-CAP proposal, we consider that the average unit sales of a European grain farmer would have been 223/t, with the minimum at 197/t (2009) and the maximum at 230/t (2012). For the years and based on the retained market assumptions, we consider that the average unit sales of a European grain farmer could reach 224/t with the current CAP and with the Momagri-CAP, although much more stable with the latter. We can thus measure the greater effectiveness of an agricultural budget built according to the Momagri-CAP principles, both for farmers who will stabilize their sales through better long-term notoriety, and for European taxpayers who will be assured of a better value added to budget resources. b) Impact on dairy farmers sales Between 2007 and 2013, we consider that the average unit sales of a European dairy farmer was 386/t, with the minimum at 331/t and the maximum at 415/t in 2013 with the CAP. In the framework of the Momagri-CAP proposal, the average unit sales of a dairy farmer between would have been 396/t, with the minimum at 354/t and the maximum at 376/t. Between the 2007 and 2013 years, the average unit sales of dairy farmers would thus have been lower by four percent to the sales, which were effectively perceived. Yet, sales would have been much more stable during the period in the framework of the Momagri-CAP proposal than in the conditions that prevailed. For the period , we consider that, based on the retained market assumptions, the average unit sales of dairy farmers should be 382/t in the framework of the CAP, and at 381/t in the framework of the Momagri-CAP proposal. Just as for the period, sales would also be more stable with the Momagri-CAP proposal than with the CAP. In the framework of the CAP framework, the average unit sales of a European dairy farmer could fluctuate between 333/t and 414/t. In the framework of the Momagri-CAP, the average unit sales of a European dairy farmer could fluctuate between 376/t and 390/t. Applying the Momagri-CAP proposal would thus lead, just as it is the case for grain, to stabilizing the average sales of dairy farmers at a level quite similar to the sales reported for the period. 60

61 4) The impact on farms operating margins in member states: The case of France, Germany and Poland. c) The assumptions retained The study of margins at the member states level for grain and dairy farms was conduced to compare the CAP and Momagri-CAP systems. The data used comes from the FADN and includes three representative member states: France, Germany and Poland, the nations that account for close to 50 percent of the European output for wheat and milk. Three analysis levels were examined: The gross margin, the net margin and the net margin including decoupled subsidies. For the PAC For each of the three countries, the gross margins 28 and net margins 29 were computed from the FADN data available for the years, and were extrapolated for the missing data. Coupled and decoupled direct subsidies were taken into account. For the Momagri-CAP The various costs (operations, depreciation and external factors) are supposed to be identical to those used in evaluation gross margins in the framework of the CAP. The same applies to quantities produced. The farms average unit proceeds vary because applying the Momagri-CAP principles alters the value of the production when counter-cyclical payments and/or reserves are made. Decoupled direct subsidies (EQA) are valued at 75/hectare. The breakdown of grain quantities produced according to the various regulation mechanisms is summarized in the chart below. Breakdown of grain quantities by price range < 140/t /t /t > 230/t Eligible for countercyclical 90% 90% 0% 0% payments (CCPs) Not eligible for CCPs 6% 10% 100% 100% Placed in reserves 4%* 0% 0% 0% Released from reserves 0% 0% 2%** 2%** *Maximal threshold that can be exceeded upon Council s decision **On average and can be up to eight percent over two years. The breakdown of milk quantities produced according to the various regulation mechanisms is summarized in the chart below Sales operation costs. 29 Gross margin depreciation external factors (salaries, rents and interests).

62 Breakdown of milk and milk powder by price range, < 260/t /t /t > 370/t Eligible for counter-cyclical 90% 90% 0% 0% payments (CCPs) Not eligible for CCPs 6% 10% 100% 100% Placed in reserves 4%* 0% 0% 0% Released from reserves 0% 0% 2%** 2%** Breakdown of milk and milk powder by price range, < 260/t /t /t > 390/t Eligible for counter-cyclical 90% 90% 0% 0% payments (CCP) Not eligible for CCP 6% 10% 100% 100% Placed in reserves 4%* 0% 0% 0% Released from reserves 0% 0% 2%** 2%** *Maximal threshold that can be exceeded upon Council s decision. **On average and can be up to eight percent over two years. d) The impact on grain farms The farms average gross margins would have been improved by the Momagri-CAP proposal: +36 percent for France, +18 percent for Germany and +85 percent for Poland. The gross margins would also have been less volatile: 0.2 against 0.4 for France, 0.2 against 0.5 for Germany, and 0.2 against 0.6 for Poland. Comparison of gross margins CAP vs. Momagri-CAP, /t, The average net margin (excluding decoupled subsidies) would also have been increased: +196 percent for France, +67 percent for Germany, and +258 percent for Poland. Just as it is the case for gross margins, the volatility of net margins would also have been lower: 0.4 against 2.2 for France, 0.8 against 2 for Germany, and 0.3 against 1.6 for Poland. 62

63 Comparison of net margins CAP vs. Momagri-CAP, /t, The average net margin including decoupled subsidies would also have been higher for Poland (+27 percent), and lower for France and Germany due to relatively high market prices (>185 /t) and to quite higher decoupled subsidies (300 /hectare on average for SPSs against 75 /t for the EQA). For the three countries examined, the volatility of net margins would have been lower: 0.3 against 0.6 for France, 0.6 against 0.7 for Germany, and 0.3 against 0.5 for Poland. Comparison of net margins including decoupled subsidies CAP vs. Momagri-CAP, /t, e) The impact on dairy farms The farms average gross margins would have been improved with the Momagri-CAP: +34 percent for France, +16 percent for Germany and +59 percent for Poland. Comparison of gross margins, CAP vs. Momagri-CAP, /t, The average net margin (excluding decoupled subsidies) would also have been higher: +629 percent for France, +70 percent for Germany, and +100 percent for Poland. 63

64 Comparison of net margins, CAP vs. Momagri-CAP, /t, The average net margin including decoupled subsidies would also have been higher for France (+51 percent), for Germany (+9 percent), and for Poland (+89 percent). Comparison of net margins including decoupled subsidies CAP vs. Momagri-CAP, /t, In these three scenarios, volatility is slightly higher for France and Poland, and lower for Germany because of the very nature of each market. These results strengthen the general conclusions that were drawn previously. The Momagri-CAP is thus economically appropriate since it improves, at a lesser budget cost, the farms economic margins in the member states considered. In the current CAP, the economic viability of farms is mostly due to decoupled subsidies (SPSs and BPSs), which really confirms the difficult situation facing most European farms, and the possible risks linked to the elimination or diminution of SPSs without alternative mechanisms. Applying the Momagri-CAP to three representative member states boosts the economic acceptability of the proposal: In fact, it levels out farming sales while improving margins and generating significant savings that can be used as emergency payments or counter-cyclical payments in case of crisis. This approach by member states should be systematically made for all member states to assess the impact for each of them, and implement the transitions measures qui could be required during the switch to the Momagri-CAP. 5) The institutional process In order to implement the Momagri-CAP, it will be necessary to adjust some regulatory or institutional procedures. To that end, several issues will have to be addressed, such as multi-annual budgets and the agricultural reserve fund, the applicability of the Momagri-CAP to other sectors and the transition process. More generally, a new environment will be created for the CAP, which will have multiple consequences both for agricultural activities and international cooperation. 64