Help farmers with direct assistance rather than subsidies

Droughts, seasonal fluctuations, and changing commodity prices are a given and unchangeable characteristic of farming.

Farmers voluntarily invest in agriculture and expect that the good times will more than balance the bad times. Most deliberately follow strategies to set aside windfall gains in good times to support them over the bad times.

Adjusting to business risks in farming is not dissimilar to adjusting to risks in other areas of small business, including mechanics, restaurants and tourist operators.

It is inevitable that poor seasonal conditions or low commodity prices will result in some farmers and their households experiencing a period of poverty. Of course, other small businesses and the unemployed also experience poverty too.

Australia has a strong political and social consensus for governments to provide a safety net of a minimum income and access to education, health and other services for all its citizens.

What's proposed

The proposed Farm Household Allowance (FHA) announced in the 2013 federal budget seeks to provide very low income farming households with financial support equivalent to the Newstart allowance provided to unemployed people.

A condition of receipt of the FHA is that the farmer review the future viability and management of the farm to better recognise the effects of future droughts. This form of household-based income support can be considered an arm of government and society's anti-poverty or equity goal.

There are challenges in assessing whether a farm household is in poverty and deserving FHA, as is the case for any small business operator. Over what period is income to be measured, when farming involves reasonable incomes during periods of good seasons and high commodity prices, and low or negative incomes during droughts and low commodity prices? Many low income households, while income poor are asset rich, although farm values become depressed during drought periods. Inevitably, compromises with some deficiencies will be required.

The case against subsidies

By contrast with direct support of households considered to be in poverty, most other forms of drought assistance are effectively farming industry subsidies. These subsidies include low interest rate loans not available to other industries, and subsidies for the transport of water, fodder and livestock.

Farming industry subsidies effectively raise returns in the drought times with no claw-back in the good times. They have the effect of raising average returns from farming, which "privatises the gains and socialises the losses", and they also reduce the variation of returns over time. Both effects lead to a redistribution of scarce national resources from higher value uses to lower value uses, much as subsidies do to the motor vehicle construction industry.

Subsidies in times of drought reduce the incentives for some farmers to plan for the effects of the natural adverse conditions, and they can slow down the necessary structural adaptation of the farming sector.

Expectations that government subsidies will be provided in droughts encourage some, and only some, farmers to overstock during good seasons, to put aside less fodder, and to spend more of the windfall income earned during good seasons. Importantly, the subsidies raise the reservation prices less well-managed farms seek from other better managed farms in the transfer of farms to larger and better managed farms.

Farm subsidies are not an effective way to meet household poverty alleviation objectives relative to direct grants to households, such as the proposed Farm Household Allowance. The amount of debt, or of fodder, water and livestock transported, and the subsidy received, is a very poor measure of household income need. To a large extent the subsidy becomes capitalised as a one-off increase in farm land value. While the higher asset value may help the current farmers, it does not assist those in the next drought.

While most Australians sympathise with the plight of farmers facing drought, governments need to be careful in choosing policy. Droughts and other natural disasters are a given characteristic of the farming industry. Farmers voluntarily invest their labour and capital in farming, rather than other parts of the economy, because they believe on average they will earn a reasonable income. Subsidies for production or inputs distort the allocation of resources and farming decisions with a loss of national income.

Inevitably, some farm families will find themselves in temporary poverty, and here direct income support to these households can be justified to met society equity goals.

John Freebairn, Professor, Department of Economics , University of Melbourne

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