UK: Agricultural Bulletin - A Briefing for Farmers and Land Agents - Autumn 2010

Last Updated: 7 September 2010
Article by Susan Shaw

THE NEW GOVERNMENT AND FARMING

How will agriculture fare with this Government? We look at the new line-up for Defra, plans to reduce the deficit, initial cuts and other policies.

With its 'feet under the table', the Coalition Government is starting to tackle its number one priority – the UK's massive budget deficit. This is affecting all areas of government policy, including agriculture. There are also the new administration's initiatives that are separate to any spending cuts. This will give the industry plenty to ponder over the coming months.

The Defra Team

The most interesting aspect of the new team is that, for the first time in a long while, the ministers have direct farming experience. Whether this proves to be positive or not remains to be seen.

The Defra secretary of state is Caroline Spelman. Mrs Spelman is MP for Meriden, which covers an area of the green belt between Coventry and Birmingham. Before entering Parliament in 1997, she had fifteen years within the agricultural sector, including a stint working for the National Farmers' Union (NFU) as sugar beet commodity secretary from 1981 to 1984. Mrs Spelman is also fluent in French and German – useful in future CAP negotiations.

The new minister of state for food and farming will be familiar to many in agriculture. Jim Paice has been MP for South East Cambridgeshire since 1987 and also has a strong background in the industry. He has twice been the Opposition spokesperson for Agriculture and Rural Affairs and previously had a successful career in farm management. He will be responsible for food and farming including animal health, responsibility and cost sharing, the Single Payment Scheme and the Rural Development Programme for England (RDPE). The Defra team is completed by Richard Benyon and Lord Henley who have been appointed as parliamentary under secretaries of state in the Commons and Lords respectively. This completes an all-Tory line up in Defra, with no Lib-Dem ministerial representation.

Deficit Reduction Plans

The new Government's first (emergency) Budget was a combination of overall tax rises and spending cuts to reduce its budget deficit. In terms of cutting the deficit, 77% will be through spending cuts. The remainder will come through tax rises. Government spending, apart from in protected areas such as overseas development and health, will see a 25% real-term drop over the next four years.

It is not clear whether this will apply equally across all departments, or if some will face deeper cuts than others. More detail will be provided in the Spending Review due to be announced on 20 October. Whatever the final figure, it is clear that Defra will face significant cuts. These will also filter down to its associated agencies and quangos, with some effects already being seen.

Initial Cuts

The Spending Review will be looking at longer-term savings. But Defra has already made reductions for the current 2010/11 year. These equate to 5.5% of the department's budget, or £162m. Areas to be cut include new recruitment, temporary staff and consultants, IT spending, Regional Development Agency (RDA) funding, and the usual catch-all of efficiency savings.

As part of the review process, Defra has already started on a 'bonfire of the quangos' it sponsors. The Commission for Rural Communities, the Royal Commission on Environmental Pollution, the Inland Waterways Advisory Council and the Commons Commissioners are all to be abolished. Funding for the Sustainable Development Commission is to end. Also to go are the Agricultural Wages Board (AWB), the 15 Agricultural Wages Committees, the 16 Agricultural Dwelling House Advisory Committees and the Committee on Agricultural Valuation.

Few in the farming industry probably had much idea as to what these bodies actually did, so it is unlikely that they will be greatly mourned. The one exception is the AWB, which did have direct relevance to agriculture. The future of the AWB has been debated for some years. It seems the question of whether it had outlived its usefulness or not has eventually been rendered moot by budgetary pressures.

Although not a Defra responsibility, it was announced that the RDAs will be abolished. It remains to be seen how this affects the distribution of RDPE grants.

What's Next?

The cuts outlined above are likely to be only the start. Defra is presenting a set of spending scenarios to the Treasury: a range of cuts between 25% and 40% are being proposed (with some reports of cuts of up to 50% also being modelled).

According to the department it 'has around 90 arm's length bodies'. The phrasing suggests that Defra is not exactly sure of the number itself. This would appear to offer plenty of scope for further spending reductions. The biggest savings will come from the biggest agencies, with staff numbers at both Natural England and the Environment Agency likely to fall. There are also cuts to be made within Defra itself.

One 'arm's length body' that many farmers would like to see abolished is the Rural Payments Agency (RPA). A review has just been published looking at the performance of the agency (www.defra.gov.uk/foodfarm/farmmanage/singlepay/documents/rpa-exec-summary-190710.pdf). Not surprisingly, the comments are scathing. However, what the report did not recommend was that the agency be scrapped. To quote: "...there is no reason to believe that a scrapping of RPA with a complete new start would produce a fitfor- purpose organisation any faster or at any lower cost to the public purse."

Importantly, UK spending cuts will not directly affect the Single Payment (SP). This is prescribed by the EU under the CAP, and it is not within the UK Government's power to alter payments. But this may be a relatively short-term reprieve.

The current EU support structure is due for another reform, to be implemented for the 2013 SP year. With money tight across Europe, the budget for the next seven-year period to 2020 may well decrease.

What is under greater threat in the short-term are the rural development programmes run by the various UK administrations. These pay for agri-environmental schemes like the entry level stewardship (ELS) and higher level stewardship, along with grants for things like diversification. Funding for rural development comes from a number of sources (including modulation), but part of it is direct from the Treasury. The level of this is under review.

Those who are considering making an application to these programmes may be advised to do it sooner rather than later.

Policies

Within this austere environment, Defra is still trying to carry on with the business of government. It has published a Structural Reform Plan that sets out three departmental priorities.

  1. Support and develop British farming and encourage sustainable food production.
  2. Help to enhance the environment and biodiversity and improve the quality of life.
  3. Support a strong and sustainable green economy, resilient to climate change.

See ww2.defra.gov.uk/about/ourpriorities/ for more details.

In addition, a new task force has been set up to look into ways of reducing the regulatory burden placed on farmers and moving to a 'risk-based system'. The Task Force on Farming Regulation will be chaired by Richard Macdonald. Mr Macdonald was the NFU's director general from July 1996 until December 2009.

A GRAINY COMPLEXITY

Looking back at the last bull market could offer invaluable advice for the next few years.

Coinciding with the start of harvest 2011, the grain markets staged a welcome surge. These spikes have become more common in recent years as the European market has become less managed and more open to global volatility.

It is perhaps worth looking back a few years at the last bull market, and seeing what lessons might be drawn. What led to the grain price spike in 2007 and 2008? It was not simply down to unregulated market forces at work, allowing grain stocks to fall which then led to massive price hikes. It was rather more complex. We outline the individual elements to better understand the whole.

In the 1990s, grain reserves were gradually building up across the world. Central governments, for either strategic or price management reasons, wished to hold significant stocks.

Around 2000, strategic security started to be seen as less necessary. Government policies globally switched to gradually releasing stocks and discouraging wheat production. For example, in China various incentives to produce wheat were dismantled and fresh produce was encouraged. Throughout this period, the EU intervention stockpile was gradually liquidated, and commercial holders of grain steadily reduced their held quantities.

This gradual release added to harvest volumes generating ample grain for consumers' demand, and thereby depressing prices. This low price discouraged grain production.

When the stock liquidation ended, the availability of grains fell as farming had adjusted its production to meet demand (less stock liquidation). This was suddenly insufficient, pushing prices up fast. At the same time demand was rising strongly due to economic growth and the biofuels industry.

It only takes a small shortage to create a large price rise as consumption of staples is inelastic to price (people eat bread whether they are rich or poor – they eat bread whether cheap or dear). The only scenario more costly for processors than expensive raw materials is no raw materials. In order to ensure continued supply, consumers bought heavily. The level of speculation in grain markets was also increasing exponentially.

There is nothing more 'bearish' than a high price. It encourages the consumer to use less and the producer to produce more. For harvest 2008 record grain yields were documented throughout the world, not because weather conditions were good, but because farmers were using more inputs to ensure high yields. Consumers that season also became more careful with the use of grain. For example, many biofuel plants were idled or closed.

Since then, food security policies have changed again. Some countries have reintroduced grain storage programmes, others have policies to manage the availability of inputs such as fertilisers and so on, and others have been taking long-term leases of land in other countries (the so called 'land grabs').

The volatility we saw between 2007 and 2009 was as a response to the specific factors discussed above (and some others too). It implies that this level of price volatility, i.e. a doubling of prices in a matter of months, is not likely to happen again in the short term. As we have seen in the past few weeks, volatility has not gone away, but the events of two or three years ago may well not be repeated until a similar number of factors come together again.

CAP REFORM UPDATE

Highlights from the European Parliament's report on the CAP.

It has been confirmed that the EU Commission will produce its paper on the CAP post-2013, in November 2010. This will be discussed by EU farm ministers at the Farm Council during the winter. After a formal public consultation in early 2011, legislative proposals will be published at the end of the Hungarian Presidency in June or July 2011. There are then likely to be further discussions with the European Parliament (EP) during the rest of 2011 and probably through into 2012 to arrive at an agreed compromise.

Over the last few months many papers have been delivered in an effort to influence the debate on the future of the CAP post-2013. But one which might hold more weight than most is that of the EP. Due to the result of the Lisbon Treaty, the Parliament now has 'co-decision' powers over farm policy. This means it has an equal say with the Farm Council when EU farm ministers meet.

The EP report, drafted by the Scottish Lib Dem MEP George Lyon, has no official weight in the reform process. However, the views expressed will influence the formal proposals published by the commission in November.

In terms of the overall objectives of the CAP, the EP is of the opinion that supporting the production of safe and nutritional food should be the primary aim.

What it terms 'second-generation' aims, such as environmental land management and animal welfare, should be complementary to food production, and not replace it.

We highlight some of the main points of the report.

  • The CAP budget should be maintained at least at current levels (and there should be no co-financing of the CAP by member states).
  • The two-pillar model of the CAP is to be retained.
  • The distribution of direct aids should be "fair to farmers in both new and old member states" (although the report does not give any criteria on how this fairness should be achieved).
  • Farmers should get a top-up payment for measures to mitigate climate change.
  • EU production standards in animal welfare, food safety and environmental protection need to be maintained, with imports also being required to meet the same quality criteria.
  • Producers' power in the supply chain should be strengthened, and more risk management instruments to deal with market volatility introduced.

MERCOSUR TALKS RESUME

The EU is to restart free-trade talks with the Mercosur group. If these are successful there could be big impacts on some EU commodity markets – especially meat.

Mercosur (Mercado Común del Sur in Spanish, or Southern Common Market) comprises four South American countries: Brazil, Argentina, Uruguay and Paraguay. Venezuela is negotiating to become the fifth full member; other South American states are associate members. The agricultural industry within this trade block is large and competitive.

Free-trade talks between the EU and Mecosur began in 1999, but have been on hold since October 2004 as the two sides failed to bridge their differences. With the Doha World Trade Organization round going nowhere fast, attention has turned to these types of 'bilateral' agreements as a way of increasing trade and boosting economic recovery.

Now, the Trade Directorate within the EU Commission has revived talks between these two bodies. It believes that gains from the industrial and services sectors more than outweigh potential losses in agriculture. However, the farm commissioner, Dacian Ciolos, has registered his opposition, along with farm ministers from 14 EU member states. Internal EU Commission analysis puts the potential reduction in turnover for EU farming anywhere from €3bn to €13.5bn per year – depending on the precise terms of an agreement. The sectors likely to be hit hardest are beef, poultry and pigmeat. The French farm minister has stated that a deal could see beef imports rise by 70%, and poultry by 25%.

Producers should note this is only the restarting of talks. Last time around these took five years and still failed to achieve an agreement. Even if a draft agreement is reached it has to be ratified by EU trade ministers, and also, crucially, the European Parliament (following the Lisbon Treaty).

DAIRY PROFITABILITY

Prospects are looking good in the dairy sector.

Milk prices have been increasing steadily over recent months and with this there has been a return in confidence within the sector. The increase in prices has been due largely to a recovery in global milk product values, assisted by the favourable exchange rate in the UK. Commodity markets appear to have peaked, but this may not affect domestic prices too much as the full effect of the commodity market increase has yet to filter down to producer level. Table 1 shows Andersons' Friesian Farm model – a notional 100 hectare holding in the Midlands running 150 cows. It has a liquid milk contract.

Table 1: The Friesian Farm model. (Source: Andersons

 

2009-10 Result

2010-11 Estimated

2011-12 Budget

Milk price

24.8

26.1

26.8

Total output

27.2

28.6

29.1

Variable costs

11.8

11.9

11.3

Overheads

10.5

10.6

10.9

Rent, finance and drawings

5.0

5.0

5.2

Total costs of production

27.3

27.5

27.4

Margin from production

(0.1)

1.1

1.7

SP and ELS

2.6

2.4

2.3

Business margin

2.5

3.5

4.0

The 2009-10 figures are based on actual returns and costs. For this year the business dipped into negative returns from production (both the previous years produced a positive margin from production of around 1.7-1.8 ppl). This was mainly due to the fall in milk prices but was not helped by high fertiliser prices. Overheads also went up for the 2009-10 year as Friesian Farm invested in compliance for nitrate vulnerable zones.

With milk prices steadily rising for 2010-11, Andersons is budgeting an average price for Friesian Farm of 26.1ppl (1.3ppl more than last year). Variable costs are also expected to be slightly higher this year compared to last as extra concentrate, straw and bulk feed is required due to the the summer's drought. The rise in variable costs would have been higher but for an offsetting fall in fertiliser prices.

The net effect is a positive margin from production. Friesian Farm has been in the ELS and is planning to renew its agreement for a further five years. The SP is budgeted to fall due to a stronger pound than last September. This support, when added to the margin from production, produces a reasonably healthy return.

Looking to 2011-12, profitability is predicted to increase compared to the current year. It is believed the yearly average milk price may firm further for the 2011-12 year although this will be dependent on currency. Variable costs should fall if weather patterns return to normal. However, base rates may start to increase, which pushes up the farm's financing charges. Considering the capital employed, and the hard work involved, a return of around 4ppl is not unreasonable if we want a thriving dairy industry reinvesting for the future.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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