DCP VERSUS ACRE in 2013 For Indiana Farms

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1 DCP VERSUS ACRE in 2013 For Indiana Farms The extension of the last farm bill for 2013 crops means that individuals need to make the decision of whether to participate in the regular Direct and Countercyclical Program (DCP) or to elect ACRE (Average Crop Revenue Election). The decision of which program to elect does not depend on whether a farm was in DCP or ACRE previously. The 2013 decision is independent of decisions in previous years. A decision to go into ACRE is only for 2013 crops. If a producer elects ACRE in 2013 on an individual farm, then all crops on that farm must be in ACRE. Individuals with multiple farms can elect ACRE for one or more of those farms, but not all. The election of ACRE for 2013 must be made by June 3 at the USDA Farm Service Agency (FSA). The purpose of this article is to provide an overview of the economics involved in the decision to elect ACRE in Individuals need to study the provisions of DCP versus ACRE and to clearly understand the implications for their farms including payment limitations and many other provisions. The USDA has information about the ACRE program at Executive Summary The decision of DCP versus ACRE should be made on the basis of the following criteria: 1. What odds does a producer give to low yields and/or low prices for 2013 crops? This relates to the odds that the State and individual farm would trigger ACRE payments. 2. How big would ACRE payments be if triggered? 3. What is the cost to be in ACRE? 4. How important is it for each individual to protect against the risk of low revenues that could result from low yields and/or low prices ACRE can provide very large payments if yields and/or prices are very low. However, the current odds (May 2013) that ACRE will trigger are also reasonably low. The decision of whether DCP or ACRE will give superior returns on an individual farm in 2013 cannot be known for certain in the spring, but rather will depend on the final outcomes of yields and prices for 2013 crops. What needs to be evaluated by each person is the costs for them to elect ACRE and their perception of the protection ACRE provides against low revenues, as well as their perception of the odds that ACRE will trigger payments in Corn: The Indiana State Revenue Guarantee for ACRE in 2013 is almost assured to be $ per acre for corn. That is low because there was a provision in the ACRE legislation that the State Revenue Guarantee could not move up or down by more than 10% from year to year. So this 10% rule constrained how much the guarantee could move upward for the 2011 and 2012 crops. The unconstrained state guarantee (with current data) would be $903.31/acre (153 1

2 bushels/acre * $6.56/bushel *.90 = $903.31), but the constraints mean the maximum it can be is $ for So, if Indiana has 153 bushel per acre yields in 2013, then the U.S. price of corn received by farmers for the 2013/2014 marketing year (the 2013 crop we are planting this spring) would have to drop to $4.65 or lower to trigger a potential ACRE payment for corn. In the example below, I have the state actual yield at 153 bushels per acre and a $4.00 corn price. The ACRE payment for the state would be $84.98 per acre. Corn 11/12 $ /13 $6.90 Ind. Farm ACRE Yield ACRE Price $6.560 $6.560 Factor Insurance 15 Acre Rev Guar $ $1, MAX Guarantee $ Actual Yield Actual Price 13/14 $4.00 $4.00 Actual Revenue $ $ Trigger =1, ACRE Base Pymt $99.98 Factor 0.85 Farm Yield adj StateACREpaym $84.98 $90.54 Max 25% Of State $ Price to Trigger $4.65 (or Lower) Remember the State has to trigger PLUS the individual farm would have to trigger as well so look under the Farm column in the example. Here I have a farm that has a 10 bushel higher yield than the state average at 153. The individual farm revenue guarantee must also trigger. But the maximum individual farm revenue guarantee is not constrained by the 10% a year rule. So, most farms will have a much higher farm revenue guarantee. In addition you get to add any crop insurance premium to increase the farm revenue guarantee level. So for this example the farm guarantee is $1, per acre with $15 of crop insurance payments (163 bu. * $6.56 * 1 = $1, $15 = $ per acre). With this much higher farm level guarantee, it is very likely that the farm will trigger if the state triggers. The actual ACRE payment to the farm is then the state payment times the ratio of the individual farm to the state yield (163/153= ). The maximum payment to a farm is 25% of the state revenue guarantee ($ *.25 = $178/acre). ACRE can make very large payments ($178/acre) if prices or yields (or a combination) are very low. The primary costs to be in ACRE, is expected to be the 20% of the direct payments given up. On average in Indiana, I think that corn direct payments are about $25 an acre (on average, but that depends on your individual farms). Sequestration is going to reduce direct payments by 8.5% so that would be about $22.88 per acre and 20% of that would be about $4.58/acre as the primary costs to go into ACRE. At the extreme, ACRE could pay $178 per acre. But to get the maximum $178, the U.S. average farm price for 2013/14 would have to drop to about $3.28 a bushel if Indiana yields average 153. (Note: Farms that elect ACRE also give up the potential for countercyclical payments but the odds of prices being low enough to trigger countercyclical payments are tiny. U.S. farm prices for the 2013 crop would have to drop below $2.35 a bushel before countercyclical payments would be made. Also ACRE farms will have their marketing assistance loan rate per bushel reduced by 30%. This could have a small negative financial impact for farms that put their farm crops under commodity loans with FSA). You can play around with yields dropping to trigger the state threshold. If the U.S. corn price averages $5.00 a bushel then the Indiana yield has to drop to 142 bushels (rather than 153) to trigger the state. 2

3 Also the Indiana State FSA office believes that if there are ACRE payments they will NOT be subject to the 8.5% cut under sequestration. But the direct payments made for a farm in ACRE will suffer the 8.5% cut (If you go into ACRE you get 80% of DCP direct payments. Those will be cut 8.5%). Gary Schnitkey at Illinois has updated an ACRE article at: He also has an ACRE Evaluation Spreadsheet that can be downloaded from: acre payment estimator.html I have constructed a table of ACRE payments given various Indiana state yields and U.S. average farm prices. The maximum payment on corn would be $178 per acre. In the table there is a blank if there would be NO ACRE payment. The Indiana State Revenue Guarantee is $712, so you have to have a combination of price and yield that drops below $712. Take 128 bu. and $5.50 prices and you get $704/acre (128 * $5.50 = $704). That means the State would trigger and the State ACRE payment would be $712 $704 = $8 *.85 = $7 (rounded to the nearest whole dollar). Corn ACRE Payment per acre 2013 at various state yields and U.S. farm prices U.S. Farm Price 2013/14 $3.00 $3.50 $4.00 $4.50 $5.00 $5.50 $6.00 $6.50 $ $178 $178 $170 $116 $61 $7 133 $178 $178 $153 $96 $ $178 $178 $136 $77 $19 Indiana 143 $178 $178 $119 $58 State 148 $178 $165 $102 $39 Yield 153 $178 $150 $85 $ $178 $135 $68 $1 163 $178 $120 $ $177 $105 $ $164 $91 $ $151 $ $139 $61 Some conclusions on corn: 1. ACRE can provide a very large amount of payments under conditions of very low prices and/or very low yields. 2. The cost to go into ACRE is $4 to $6 per acre. Not horrible. A fairly small cost, for some large protection against events that have reasonably low odds of triggering. 3. You may have already purchased crop insurance to protect against low yields and/or low prices. Going into ACRE doubles up on your protection against low state yields and/or low prices. In essence if corn drops to $4 or lower you could get large crop insurance payments and large ACRE payments. 4. My outlook is for about $5.00 per bushel as the average U.S. corn price for the 2013 crop. The futures market has generally been higher in the spring of A rough estimate of U.S. average farm price for the 2013/14 marketing year would be about 3

4 5 cents per bushel under the December futures. If Dec 2013 corn is $5.50 that puts my market determined best guess at $5.45 per bushel. At $5.45 it would require Indiana State yields to be down to 131 bushels or lower to trigger a corn ACRE payment ($712/$5.45 = bushels). Odds are probably no more than 10% to 15% that yields would be that low in Indiana. Drought last year gave us 99 bushels but those odds were only 2% to 4%. In addition, if the yields in Indiana are 131 or lower in 2013, there is an increased odds that corn prices will be higher (This point is that Indiana is a major corn state and if yields are low here, then odds are high this will reduce national production and keep prices high). 5. I would put normal Indiana yields this year near 160 bushel per acre. If that is the case, then it will take U.S. farm prices at $4.45 or lower to trigger the Indiana state revenue guarantee ($712 / 160 = $4.45/bu.). That would mean that December futures would have to fall to about $4.50 a bushel. 6. If you go into ACRE on a farm, it applies to all crops on that farm. (You cannot go in on corn and not on soybeans on a farm as an example). 7. The most basic thing to evaluate is the question of whether the State will trigger or not. If the State triggers the odds are higher that the farm will trigger, but certainly not in all cases. 8. An evaluation by Gary Schnitkey at the University of Illinois suggests that the odds were relatively low of a payout under ACRE, but the payout could be high (with small odds). Thus the expected payout on average (say over 100 years) would cover the costs of being in ACRE This point can be illustrated in the graphic below. These are estimates of the corn revenue per acre assuming an Indiana yield of 158 bushels per acre at various U.S. farm prices for the 2013 crop. Given fairly normal yields, then it would require prices to be low to trigger the Indiana revenue guarantee. At 158 bushels, that is about $4.50 a bushel or lower. The red line represents corn revenue per acre under ACRE. The blue line is crop revenues under DCP. You can see how ACRE protects crop revenues as prices drop below $4.50 a bushel. In fact those ACRE payments can get very large if prices move very low. If prices are above $4.50 in this example you can hardly see the difference between ACRE and DCP. This is because the cost to be in ACRE is relatively low. However, the current outlook suggest that the odds of triggering a 2013 ACRE payment are also low, and they would be even lower of getting large payments. 4

5 $1,100 Revenue/Acre at various U.S. Farm Prices and Normal Yields for Average Quality Indiana Land $1,000 $900 DCP Only ACRE $800 $700 $600 $500 $400 $3.00 $3.50 $4.00 $4.50 $5.00 $5.50 $6.00 $6.50 Evaluation of the ACRE decision should also be made with thoughts of how crop insurance protection may interact. Most Indiana farmers use revenue protection as their crop insurance protection. Last year, 83% of the Indiana farms that had crop insurance on corn used a revenue product. Much like ACRE, revenue crop insurance policies also protect against low yields, low prices, or a combination of the two. The following visual shows the impact of being in DCP with NO crop insurance versus DCP with 75% revenue insurance. This chart assumes fairly close to normal yields, thus the December corn futures in October would have to be about 75% of the $5.65 spring price to cause crop insurance to make payments (that s December corn futures prices below about $4.25 a bushel). 5

6 $1,100 $1,000 $900 Revenue Per Acre for DCP and No Crop Insurance Versus DCP + 75% Revenue Insurance: Normal Yields on Average Quality Indiana Land DCP + No Crop Insurance DCP + 75% Revenue Insurance $800 $700 $600 $500 $400 $3.00 $3.50 $4.00 $4.50 $5.00 $5.50 $6.00 $6.50 The point is that farmers who have elected revenue insurance products have purchased protection against the likely events that could cause low revenues. ACRE has a similar impact. Those who do not have crop insurance could use ACRE as a cheap way to get some downside revenue protection. Of course they need to remember that the triggering mechanism for ACRE payments is entirely different than crop insurance. Those who already have crop insurance could use ACRE as a way to add even more downside protection against low revenues as shown in the following visual. The red line represents corn revenues per acre for a farm that elects ACRE and has 75% revenue insurance. You can see how both insurance and ACRE add to returns when prices are low (given this example of normal yields). Again for corn, ACRE provides a lot of protection if yields or prices are low, but the odds that these yields or prices will be low enough to trigger ACRE payments are also low. Looking at the right hand side of the visual where prices are above $4.50 you can see that the highest returns come from DCP and no insurance. Both ACRE and crop insurance have costs that are a trade off for the protection against low revenues that is provided. 6

7 $1,100 $1,000 $900 Corn Revenue Per Acre Various Insurance and Government Program Alternatives: Normal Yields on Average Quality Indiana Land DCP + No Insurance DCP + 75% Revenue Insurance ACRE + 75% Revenue Insurance $800 $700 $600 $500 $400 $3.00 $3.50 $4.00 $4.50 $5.00 $5.50 $6.00 $6.50 Soybeans: The expected ACRE price for beans is $13.40 and the Indiana yield for calculating 2013 ACRE is 46.5 bushel per acre. This would give a State Revenue Guarantee of $560.79, BUT the Soybeans 11/12 $ /13 $14.30 Ind. Farm ACRE Yield ACRE Price $ $ Factor Insurance 12 Acre Rev Guar $ $ $ Actual Yield Actual Price 13/14 $10.00 $10.00 Actual Revenue $ $ Trigger =1, ACRE Base Pymt $81.24 Factor 0.85 Farm Yield adj IndACREpaym $69.05 $69.05 Max 25% Of State $ Price to Trigger $11.75 (or Lower) rule that limits the change in the state guarantee to no more than 10% a year means the maximum for 2013 will be $ per acre. It is highly likely the $546 per acre will be the State Revenue Guarantee because the 2012/13 marketing year price would have to drop from the current estimate of $14.30 per bushel down to $13.60 to cause the State Revenue Guarantee to be any lower than $546 per acre. Soybeans have a better chance to trigger the State Guarantee than does corn. My less than scientific guess would be 20% to 30% chance of triggering the state. If Indiana state yields are 46.5 bushels, then the State would trigger if the U.S. average farm price in 2013/14 is below $ My current outlook is that with near normal U.S. yields, the U.S. farm price will average around $12 a bushel. With 40.5 bushel state yields and $12 prices, the state ACRE payment would be $51 per 7

8 acre a large payment for the $2 to $3 cost for ACRE representing the 20% reduced direct payments. So, there are small odds of those big payments, but think about it this way if there is a 5% chance of a $50 payment that is an expected ACRE payment of $2.50 an acre in any given year.and $2.50 per acre covers the costs to be in the program, but there might only be 1 out of 20 years when you would get that large of payout! On the price side of the revenue equation, if U.S. average farm prices were to be $10 a bushel, then Indiana yields could be as high as 52.5 bushel per acre and the state ACRE payment would still be $18 per acre (see table). It should also be pointed out that the state FSA office believes that ACRE payments will not be subject to the 8.5% cut due to sequestration while direct payments are going to be cut 8.5%. Also remember that ACRE payments are crop specific that is to say that the state could have ACRE payments for soybeans and not for corn. Soybean ACRE Payment per acre 2013 at various state yields and U.S. farm prices U.S. Farm Price 2013/14 $8.00 $9.00 $10.00 $11.00 $12.00 $13.00 $14.00 $15.00 $ $137 $137 $137 $123 $92 $61 $ $137 $137 $137 $104 $72 $39 $ $137 $137 $120 $86 $51 $17 Indiana 42.5 $137 $137 $103 $67 $31 State 44.5 $137 $124 $86 $48 $10 Yield 46.5 $137 $109 $69 $ $135 $93 $52 $ $121 $78 $ $107 $63 $ $94 $47 $ $80 $ $67 $17 Wheat: Wheat is similar to corn in that the no more than 10% a year rule has substantially reduced the State Revenue Guarantee for Thus, like corn it takes low prices or low yields before the state would trigger. So, the odds of the state triggering are low, but like corn and beans if prices or yields are really low, then the ACRE payments could be large. The State wheat yield for 2013 ACRE calculations is 64.4 bushels per acre and the current estimated ACRE price is $7.52 per bushel. This would give a $436 State Revenue Guarantee per acre, BUT the 10% change per year limit constrains that to $387 per acre. Wheat 11/12 $ /13 $7.80 Ind. Farm ACRE Yield ACRE Price $ $ Factor Insurance 12 Acre Rev Guar $ $ $ Actual Yield Actual Price 13/14 $5.00 $5.00 Actual Revenue $ $ Trigger =1, ACRE Base Pymt $64.84 Factor 0.85 Farm Yield adj 8 1 IndACREpaym $55.11 $55.11 Max 25% Of State $ Price to Trigger $6.01 (or Lower)

9 If the state would average 64.4 bushels per acre yield in 2013, then U.S. farmer prices would have to drop to $6.01 or lower for the 2013/14 marketing year before any ACRE payments would be made on wheat. My estimate for U.S. farm prices is $7.00 a bushel. If that should be correct, then it would require 2013 Indiana wheat yields to be 55 bushels or lower to trigger a wheat ACRE payment. (2002 was the last time that happened with yields at 53 bushels per acre). If prices would drop to $6, then a state yield below 64.5 would trigger a state ACRE payment. Like corn and soybeans, the individual farm level Revenue is not constrained by the 10% a year limit. So if the state should trigger, then the odds are pretty high that the individual farm would trigger as well. (But that is not assured; it will depend on what happens to yields on the individual farm). Wheat ACRE Payment per acre 2013 at various state yields and U.S. farm prices U.S. Farm Price 2013/14 $5.00 $5.50 $6.00 $6.50 $7.00 $7.50 $8.00 $8.50 $ $109 $96 $75 $54 $33 $ $104 $82 $59 $37 $ $91 $68 $44 $20 Indiana 58.5 $78 $54 $29 $4 State 61.5 $66 $40 $13 Yield 64.5 $53 $ $40 $ $ $ $ May 3, 2013 Chris Hurt, Purdue Ag Econ hurtc@purdue.edu Final Note: These examples are for illustration only and do not refer to any particular farm. Each person needs to check with the FSA office regarding how the program triggers work and get data for their individual farms. Errors in calculations in this paper could exits. These illustrations have not been checked by FSA officials for accuracy. 9