Agricultural Policy Reform in the 21st Century- An Agricultural Strategy for Surviving WTO and FTA Negotiations

As was done in the EU, Japan needs to shift from its tariff-backed, consumer-borne policy of price supports to a system of direct payments that taxpayers pay.

However, providing uniform, across-the-board direct payments to farmers in the manner of Japan's traditional "convoy approach," instead of targeting payments to those who meet certain criteria, would merely shift the burden from consumers to taxpayers without improving the farm industry's efficiency or alleviating the public burden.

The Agricultural Basic Law of 1961 was designed to eliminate the income differential between the agricultural and industrial sectors by reforming the structure of Japan's farm industry (i.e., by lowering costs through larger-scale farming and improved productivity, and by encouraging a shift toward commodities for which demand was expected to grow). Income is the amount remaining from sales revenue (unit price multiplied by the number of units produced) after deducting costs. Thus, it should have been possible to raise farm income sufficiently by lowering costs through large-scale farming, even for crops such as rice that were characterized by stagnant demand.

However, rather than pursuing structural reforms, agricultural policy thereafter took the route of boosting farm incomes by raising the price of rice. Consumption declined further and production expanded, resulting in a rice surplus. Despite more than 30 years of production adjustment, agricultural resources remained concentrated in rice production, which was more profitable for farmers, and, as a result, Japan's food self-sufficiency ratio fell from 79% in 1960 to 40% today.

In the interim, Japan lost 2.3 million of its 6 million hectares of farmland, an area larger than the 1.94 million hectares of farmland freed during the postwar agrarian reforms. Neither statutes governing the conversion of farmland, nor zoning regulations, were strictly enforced. And even though only rice was being overproduced, this surplus gave rise to the perception that Japan had too much farmland. No one seemed concerned about the disappearance of agricultural resources vital to the nation's food security.

Since the unit cost of an agricultural commodity is the cost per hectare divided by the yield per hectare, increases in yield made possible by the development of improved varieties and other technological progresses should have the effect of lowering the cost of farm commodities. However, chronic rice surpluses have discouraged such improvements in yield because they would result in stricter control of production levels, that is more set-aside fields. Consolidation of farmland also reduces costs through economies of scale, but with rice prices kept artificially high, even inefficient smallholders find it cheaper to produce their own rice than to buy. As a consequence, small farmers have hung on to their land and consolidation has stalled.

From the Meiji period to 1960, three farming-related statistics were held to be virtually unchangeable in Japan: a total farmland area of 6 million hectares, a total of 6 million farming households, and a population of 14 million full-time farm workers. But drastic declines have since been seen in all these figures. The full-time farming population has dwindled to around 2.8 million. The number of households engaged in part-time farming and those not dependent on farming has increased, which means that the number of full-time farm workers is lower than the current total number of farming households (3 million). The share of farming households falling into the second category - those who do farming as a sideline - has risen from 30% at the time of the adoption of the 1961 law to 70% today. Meanwhile, the share of farmers aged 65 or older has expanded from 10% to almost 60%.

-Japan should pursue FTAs that achieve a high degree of liberalization consistent with the principle of abolishing substantially all tariffs and similar trade barriers, as called for by GATT/WTO provisions.
-In negotiating FTAs, Japan needs concessions from partner countries and must assume a firm stance that ensures a favorable business climate in East Asia. Agriculture must not be an impediment to that goal.

-It is not advisable that the agricultural sector be excluded from an FTAs under GATT/WTO provisions; however, attention should be devoted to the trade diversion effects when considering which products will be covered by such agreements. FTAs are not necessarily better, even if they cover a larger number of products.

-The EU has taken a proactive stance in WTO negotiations over the agricultural sector through prompt implementation of agricultural reforms. Continuing to pursue a retrogressive agricultural policy is not in the best interests of the WTO negotiation process as a whole. If farm trade negotiations come to a standstill, progress on antidumping issues and other areas of interest to Japan will stall as well.
-Expanding tariff quotas, to which lower tariff rates are applied, while there are still significant gaps between domestic and foreign prices will lead to a drop in domestic production. Even under a regime of reduced tariff rates, lowering domestic prices through the adoption of a suitable system of direct payments will not affect farmer incomes or domestic production levels. If, in the course of WTO trade negotiations, Japan is urged to either lower its tariffs or expand its tariff quotas, it should opt for tariff reductions, which can be dealt with through adoption of a direct payments framework.

-Instead of adopting policy measures only after being pressured by other countries to make concessions, as in past negotiations, Japan should actively implement reforms that address the domestic farm industry's inherent problems regardless of the course of WTO and FTA negotiations.
-By some accounts, it will be several years before certain reforms currently under consideration are put into effect due to the government's internal review process or the passage of legal amendments. Assuming that is the case, the pace of reforms may lag too far behind the pace of international WTO or FTA negotiations.

-Although steps to accelerate the pace of reform are needed, in the interest of administrative continuity, it is also necessary for Japan to create an adequate reform process that is coupled with disclosure of information and attention to public comment and the views of stakeholders.

-Japan needs to implement policies targeted at specific goals (e.g., farm income support, environmental protection).
-The current system of price supports is ineffective because, after accounting for expenses associated with production inputs, price- support-based earnings provide only a 25% increase in average farm income. It is inefficient because it contributes to imbalances between supply and demand as well as other inefficiencies. And it is inequitable in that it forces even low-income consumers to support the incomes of affluent farmers. Instead of raising farm incomes directly, Japan followed the indirect approach of price supports (in the past, by raising rice prices under the food control system; now by limiting production to keep rice prices artificially high). Declining food self-sufficiency and weakened international competitiveness have been among the side- effects of this approach.
-By contrast, policies that shift the burden to taxpayers clearly communicate the costs and benefits to the public at large. Furthermore, targeted policies are better able to limit eligibility for benefits to those farm industries and households that actually need support the most.
-Industrial and economic policies should be kept separate from social and regional policies. Industrial and economic policies should focus on fostering competitive farmers, while social and regional policies should be pursued independently for other ends. Government policy should treat farming as a conventional industrial sector and design agricultural programs with a view to assuring gains in competitiveness and efficiency.
-Environmental problems are often linked to the externalities of farm production. From an economic perspective, such problems ideally should be dealt with by focusing on this point. Any attempt to address them by regulating trade in goods is inappropriate.

-Agricultural policy needs to be disconnected from the interests of the farm lobby. The government must end its "business as usual" approach to agricultural policy and begin a new chapter. The only way forward is to adopt a system of direct payments with clear-cut criteria for eligibility. Agreement between the ruling coalition and the Cabinet is more important than agreement between the ruling and opposition parties. It will not do for the ruling parties to contradict the prime minister's statements. It is necessary to build a political and economic consensus within the ruling coalition and Cabinet.
-The situation has changed over the past decade or so; there are no sacred cows in agricultural policy.
-We should begin by delineating the ideal policy without regard to political feasibility and let the debate proceed from there.

(1) Limiting farmer eligibility
(a) Farmers need training in business management. Progress in the area of structural reform will not be forthcoming unless eligibility for direct payments is limited or targeted. It is necessary to identify those agricultural entities that approach farming as a business enterprise and to remove obstacles to their market participation and business activity.
(b) A full 64% of Japan's rice farmers engage in farming as a sideline to supplement their main source of income. The total annual income of such farmers averages¥7.92 million, of which only¥120,000 comes from farming. Surely that supplemental income does not merit government protection. The annual income of such farming households far surpasses that of regular wage-earning households, which averages only¥6.62 million per year. It would be hard to convince the public of the need to provide direct compensation to such farmers, who have the safety net of another job or business.
(c) Community farming cannot survive for long without leaders. Community of farming is organized in different ways, depending on whether there is a local leader. Farmland should be managed by the community, while farm operations must be in the hands of a full-time farmer.
(2) Eligibility criteria for direct payments should be clear-cut. Without specific criteria, administration of the program at the local level will be confusing. (The management stabilization measures carried out under the rice-policy reforms implemented two years ago provide criteria based on acreage: 4 hectares or more everywhere but Hokkaido; 10 hectares or more in Hokkaido.)
(3) To help community farms develop into legal business entities, it might be helpful to utilize the LLC, or limited liability company structure as a model of consistency in business ownership and management. (In an LLC, a U.S. business structure commonly observed in labor-intensive industries, owners have limited liability, as in a joint-stock corporation, but transfer of ownership interest, internal decision-making, etc., follow the model of a partnership.)
(4) Where the scale of farming has already expanded considerably, as in Hokkaido, and the selection of eligible farms becomes difficult, it may be helpful to adopt the French system of providing incentives for people to abandon farming.

While the need to target direct payments to full-time farmers has been acknowledged, it has also been pointed out that farmers involved in other businesses or those who farm as a sideline play an important role in rural communities through the upkeep of irrigation ditches, farm roads, and other services. Further, given that the farmland owned by individual households tends to be fragmented or dispersed into multiple parcels, in the interest of encouraging improved farm efficiency through the consolidation of farmland, eligibility should also be extended to community farming operations whose members include part-time farmers.

Production controls should be scrapped for the following reasons:
(a) The farming industry should function according to free-market principles (agricultural cooperatives, which are important economic entities, also need to be reformed). From now on, the government needs to focus on promoting the cultivation of rice and other saleable crops. Some farmers are already moving to sidestep production controls. People who farm as a sideline earn only¥120,000 per year from farming, on average. The solution is to target direct payments to those who are most affected by price drops, namely, full-time farmers.
(b) By some estimates, part-time farmers would rent their land if the price of rice dropped from its current¥16,000 per 60 kg to a range of¥11,000 to¥12,000 per 60 kg.
(c) If domestic prices are to be brought down as a step toward international coordination, it is only to be expected that the government would also scrap production controls, which are designed to keep prices high.

Without production controls, the supply of rice would swell to 3.5 million tons and rice prices would tumble. Japanese farmers do not behave in conformance with the demand and supply curves; even if rice prices fall, part-time farmers will not relinquish their land.

Full-time farmers cannot preserve rural agricultural facilities or resources on their own. It will also be necessary to implement separate forms of direct payment to facilitate the preservation of Japan's farmlands, irrigation infrastructure, and other agricultural resources.

Direct payments to full-time farmers will cause land rents to rise, increasing profits of landowners, who can use that money for preservation of farmland, irrigation ditches, and other agricultural resources. Payments for preservation of resources could be considered in situations where finances permit, but when funding is limited, it should be focused on direct payments that will contribute to structural reform.

The potential benefits of mountain agriculture need to be considered. In the Chugoku region, where much of the farmland is situated on hillsides, there are cases in which rice farmers owning 10 to 20 hectares of farmland take advantage of the longer cultivation season resulting from differences in altitude.

When grain and beef prices in the EU were cut between 1993 and 1995 under the MacSharry reforms, a direct-payment scheme covering the entire EU was adopted. Nonetheless, it was impossible to fully compensate farmers in certain areas with unfavorable farming conditions. In these areas, direct payments were increased in increments, from 101 euros per hectare in 1992, to 123 euros in 1993, to 124 euros in 1994, and to 150 euros in 1995. Naturally, structural reforms need to be pursued even in mountainous regions and other areas of limited arability. But in instances where natural conditions prevent farmers from keeping up with the pace of cost cutting elsewhere, the rate of payments should be increased.

-The public will lose confidence in agricultural policy unless the government clearly communicates the need for a major shift in the structure of the agricultural budget. The nation is not in a position to raise additional tax revenues to finance agricultural policy reform. Furthermore, if funding is sought outside the current budget, reform will not have achieved the goal of alleviating the public burden.
-At a tariff rate ceiling of 100% for rice imports, a budget of about¥1.1 trillion would presumably be enough to finance reforms covering all rice paddies, croplands, and pasture. Even at the other extreme, with a tariff rate of 0%, a budget of about¥1.7 trillion would suffice. From the standpoint of bringing prices in line with international price levels on the basis of a phased reduction of tariff rates agreed through WTO or FTA negotiations, until that parity is achieved, implementation of a staged increase in unit prices and budget outlays appears feasible. From a fiscal perspective, this seems realistic. The direct-payment system implemented by the EU also adopted this approach.

Japan's agricultural budget is about¥2.4 trillion - or¥3 trillion if the local burden for farm subsidies is thrown in. If the direct-payment framework were financed as a component of the agricultural budget, the¥4.7 trillion cost of agricultural protection measures - until now borne by consumers - would be eliminated, resulting in a vast reduction of the burden on the public. The agricultural protection level (i.e., the producer support estimates, or PSE, developed by the OECD as a measure of support to agriculture) would fall to below¥2 trillion, less than half the level of the U.S. This would allow Japan to deflect international criticism of the country as having one of the world's most highly protected agricultural sectors despite its high dependence on agricultural imports.

-Japan currently has the lowest food self-sufficiency rate of any advanced industrialized nation. However, it will boost its level of self-sufficiency if it ends production controls, thereby allowing for expanded rice production, lowering rice prices, correcting the gap in the relative profitability of rice and other crops, and expanding the production of other crops. This in turn will provide the nation's consumers with access to a more stable supply of food products and help the food industry resolve its food-stock sourcing problems. Full-time farmers will earn higher incomes and unlike their part-time farmer counterparts, larger-scale full-time farmers who practice environmentally friendly farming methods can be expected to utilize fewer agrochemicals.