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Directorate of
Intelligence
The European Community:
Agricultural Policies
Create Tension
EUR 86-10015
May 1986
Copy 4
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Directorate of Confidential
Intelligence
Create Tension
The European Community:
Agricultural Policies
This paper was prepared by analysts from the
Office of European Analysis. Comments and queries
are welcome and may be directed to the Chief,
European Issues Division, EUR
Confidential
EUR 86-10015
May 1986
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The European Community:
Agricultural Policies
Create Tension
Key Judgments The European Community's Common Agricultural Policy (CAP) ensures
Information available trade rows with the United States and other agricultural exporters,
as of 1 May 1986 threatens to throw the EC into recurring budgetary crises, diverts resources
was used in this report.
away from the industrial restructuring effort, and undercuts LDC efforts
to boost agricultural output. By encouraging production through high
support prices in the face of intensive farming techniques and slow growth
in consumption, the CAP has taken the Community well beyond the
original goal of food self-sufficiency and made it a major world agricultur-
al producer and exporter-in value terms second only to the United States.
The highly organized EC farm lobby has blocked efforts to limit produc-
tion, and the Community has found it far cheaper to subsidize exports of
surplus commodities than to purchase them outright and store them
indefinitely. We expect the Community will be very aggressive in promot-
ing grain exports in all markets, but especially to the Soviet Union because
of its size and nearness to EC producers. In our view, this will enhance So-
viet leverage over the EC and possibly lead Moscow to link the purchase of
increased EC commodities to conditions such as greater EC purchases of
Soviet natural gas.
We believe US exporters will be hard pressed when competing with the
EC's aggressive pricing and marketing efforts, particularly during periods
of dollar strength. Even during periods when the West European currencies
are strong, we expect the Community to come up with the necessary export
subsidies because of the need to reduce production surpluses.
The new GATT (UN General Agreement on Tariffs and Trade) multilater-
al trade negotiations this year will be complicated because of the impact of
growing EC exports on the external and domestic markets of developing
countries. EC sales of poultry and red meat are cutting particularly into ex-
ports from Brazil and Kenya, while farmers in a score of other developing
countries-including India, Pakistan, Morocco, Tunisia, and Algeria-are
threatened by rising food imports from the EC priced below their own
production costs. Given the renewed emphasis on agricultural self-suffi-
ciency in these and many other LDCs, debt-ridden Third World govern-
ments are likely to protest EC agricultural policies in the new round.
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The Community's agricultural policies will have a strong negative impact
on the EC's competitiveness in other areas. Its continuing support of
agricultural production and exports through the budget will divert re-
sources that could be used to promote more advanced industries-an area
in which the EC now lags behind the United States and Japan. In 1985 the
Community spent nearly $4.9 billion-nearly one-fourth of its budget-
subsidizing exports. It spent $755 million alone on grain refunds-50
percent more than what it has earmarked over the next five years to
develop the area's information technology industry.
We expect the EC, despite recognizing the need for reform, will bring
agricultural production under control only slowly. Because all four major
West European governments face national elections during 1986-88, we
doubt that little more than marginal reform will take place over the next
two years. Budgetary shortfalls-caused by the falling dollar and the
integration of Spain and Portugal into the CAP over the next 10 years-
will probably give a boost to incremental reforms such as price cuts,
production quotas, and production taxes. We believe, however, that EC
member states over the next three to four years will not tolerate a
fundamental reform of the CAP-that is, a change away from a subsidized
system to a free market system-because of the overriding political
imperative of guaranteeing farm incomes.
Confidential iv
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Rising Prices and Expenditures
1
Other Factors Boosting Production
4
The Export Push
Impact of EC Enlargement
10
Prospects for CAP Reform
10
A. A Primer on the Common Agricultural Policy
B. Profiles of Major EC Agricultural Commodities
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The European Community:
Agricultural Policies
Create Tension
The European Community has become a major world
agricultural producer and is the second-largest agri-
cultural exporter after the United States.' The EC's
remarkably generous system of price supports and
high import levies under the Common Agricultural
Policy (CAP) has helped agricultural production out-
strip consumption since the late 1970s (see appendix
A). EC farm response to guaranteed high prices,
import protection, and no production limits has been a
sharp increase in overall production-20 percent by
volume in the 1970s. Grain production rose 33 per-
cent; wheat production, 48 percent; and meat output,
25 percent (see table 1 and appendix B). Thus far in
the 1980s, production volume of these commodities
has increased another 10 percent. Meanwhile, EC
food consumption has risen very little. Population
growth averaged only 0.4 percent a year in the 1970s
and is expected to average only 0.2 percent a year in
the 1980s. Rising incomes have encouraged only
limited increases in per capita consumption because,
to begin with, EC consumers were well fed (see table
meat, sugar, wine, and grains.' The Community re-
mains an important importer of feedstuffs, such as
corn gluten and soybean meal.
Rising Prices and Expenditures
The CAP's support prices are set at levels to provide
politically acceptable incomes for farmers, not to clear
internal markets or to equate to world commodity
prices. Each year politically powerful farmers' organi-
zations put great pressure on EC farm ministers to
raise prices while consumer groups offer little orga-
nized opposition.' For example, last year West Ger-
many for the first time used its veto to block a
proposed cut of 1.8 percent in the subsidized grain
price rather than raise the ire of Bavarian farmers.
Taking into account the previous record harvest, the
EC Commission had originally proposed a cut of 3.6
percent, which the agriculture ministers bargained
down to the vetoed 1.8 percent. The veto ended all
ministerial consideration of the price level, so the
Commission unilaterally cut the grain price by 1.8
percent. To placate the West Germans, a package of
financial management measures for grain farmers 25X1
was also implemented, largely canceling the effect of
2).
With production up and consumption relatively flat,
the Community, long a major food importer, has met
one of its original goals of becoming self-sufficient in
most foodstuffs (see table 3). Indeed, substantial
unsold surpluses-purchased and stored at Communi-
ty expense-have accumulated in dairy products,
' The European Community is composed of 12 members: West
Germany, France, Italy, Belgium, Luxembourg, the Netherlands,
the United Kingdom, Ireland, Denmark, Greece, Spain, and Portu-
gal. Since Greece joined the Community only in 1981, and Spain
and Portugal just this year, all aggregate data are for the EC Nine
and all trade data refer to extra-EC Nine trade. Data and
information for this assessment were largely drawn from published
the price cut
1 The "butter mountain" now stands at 1.1 million tons, more than
the combined weight of the entire population of Belgium; the "wine
lake" exceeds 2.4 billion gallons; and beef supplies exceed 750,000
tons. Despite substantial sugar surpluses, the EC continues to
import about 5 percent of world sugar exports-1.3 million tons in
1985-from African, Caribbean, and Pacific (ACP) developing
countries under the Lome Convention at prices above world market
prices.
' Although the number of farmers has dropped from about 16
million in 1960 to about 8 million today, EC farmers still constitute
a sizable voting bloc in each country. The EC farm population is
nearly two and a half times that of the United States. Farm
employment accounts for 8 percent of total employment in the EC,
7FX'I
25X1
25X1
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Table 1
EC: Production of Major Agricultural Commodities,
Crop Years 1970-85
1970 1975 1980 1981 1982 1983 1984 1985a
Dairy (fluid milk 92 99 104
equivalent)
Table 2
EC: Consumption of Selected
Agricultural Products
Kilograms per person Table 3
EC: Self-Sufficiency Ratios
for Selected Agricultural Products a
Cereals (excluding rice)
85
83
99
107
65
59
51
45
Fresh milk products
103
102
Cheese
9
13
Cereals (excluding rice)
86
109
Total vegetables
98
99
Total fresh fruits
80
84
Wine
97
102
Fresh milk products
100
101
Cheese
98
107
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Not surprisingly, gains in EC prices for selected
commodities have usually outpaced world price rises.
During the period 1975-83, EC producer prices in-
creased at an average 7.6 percent annually. In con-
trast, world food prices fluctuated around a trend rate
increase of 1.8 percent annually and are currently
below the 1982 peak (see figure 1). EC butter prices
were four times higher than New Zealand prices in
1978, while beef and wheat prices were nearly double
Argentine beef prices and US wheat prices. Only
during the period 1983-85 did EC and other produ-
cers' prices become more nearly comparable in wheat,
butter, and beef, in large part because of the apprecia-
tion of the dollar. This year, however, the declining
dollar is again causing EC prices to start outpacing
world prices. EC sugar prices remain nearly five times
the level of Caribbean prices because of high EC
support prices. To protect its farmers from these lower
world prices, the CAP uses import levies to equate
import and domestic farm prices.
Rising prices have meant increased CAP expendi-
tures.' In the late 1970s the widening gap between
most world and EC prices, reinforced by the weak
dollar, caused CAP expenditures to rise at an annual
rate of nearly 13 percent. In 1983 they jumped almost
25 percent, and in 1985 total CAP spending reached
about $15 billion (20.5 billion ECUs-European cur-
rency units), or nearly three-fourths of the EC budget.
The bulk of these expenditures, 70 percent, went for
price support and export refund payments. Three
commodity categories-dairy, meat, and grains-ac-
counted for over half of the payments (see figures 2, 3,
and 4).
By late 1983 expenditures were clearly outpacing
revenues. The Community escaped insolvency
through a number of stopgap measures, including the
suspension of advance payments on export subsidies
and producer aids, as well as raising loans from
member states. To stave off another budget crisis, EC
agricultural ministers in March 1984 passed several
Figure 1
European Comunity-World: Prices of
Selected Agricultural Commodities, 1980-85
0
25 1970 75 80 85 40 1970
Weighted indexes of EC and world prices of wheat,
beef, butter and sugar.
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Figure 2
European Community:
CAP Spending, 1970-85
I I I I I I!
75 80 85
Figure 3
European Community: CAP
Expenditures by Type, 1985
Price support 5.4
Export refunds 4.9
Storage 3.5
Monetary compensatory
amounts 0.1
25X1
25X1
unprecedented measures to retard spending, particu-
larly on dairy subsidies (see inset). On the revenue
side, EC leaders agreed in June 1984 to raise the take
from members' value-added tax (VAT) revenues from
1.0 percent to 1.4 percent as of January 1986.
Other Factors Boosting Production
High farm prices have encouraged production in-
creases in nearly all commodities by stimulating more
intensive and efficient use of land and capital:
? The EC accounts for only 2 percent of the world's
utilized farmland but roughly 15 percent of world's
fertilizer use.
? EC agriculture has become one of the most mecha-
nized in the world; the Community is the largest
user of tractors and milking machines and the
fourth-largest user of combine harvesters.
The certainty of price support policies has given
farmers an incentive to increase yields and to gear
production patterns for the long term. Expanded use
of new seed varieties has raised grain yields, especially
in the United Kingdom. Dairy farmers have used
genetic improvements and better herd management to
boost output per cow 2 percent annually since 1970.
In the case of meat, guaranteed CAP subsidies have
also enabled the EC farmer to view the purchase of
livestock and breeding stock as a long-term invest-
ment and have encouraged high output over the long
term. By contrast, many US farmers raise pigs for a
few years while prices are high, and then liquidate
their stock when prices drop.
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Figure 4
European Community:
CAP Expenditures by Commodity, 1985
Beef and veal 12.2
Grain 12.0
Oils and fats 9.2
Fruits and
vegatables 6.7
The EC has increasingly turned to selling off the
growing surpluses in world markets in order to recoup
some of the cost of production and storage. Because
EC prices almost always exceed world prices, the EC
has made its products competitive by paying refunds
to exporters. Since 1970, as EC exports have grown
and EC commodity prices have remained above world
prices, export refunds have quadrupled. In 1985 the
Community spent $4.9 billion on export refunds-
$755 million on grain export refunds alone. Although
the rapid appreciation of the dollar from mid-1980 to
early 1985 made EC prices more competitive with
world prices, the rise of EC producer prices in the past
two years and the overall growth in EC farm export
value kept export subsidies high (see figure 5).
Because export refunds are paid out of EC revenues
rather than national budgets, individual countries are
encouraged to export as much as possible. French
Major Features of Common Agricultural Policy
Reform Measures Adopted March and June 1984
ECfarm support prices were lowered for the first
time since the early 1970s-an average of 0.5 percent
in terms of the European currency unit for the April
1984-March 1985 period. In national currency terms,
price increases ranged from a 17.6 percent rise for
Greece to a 0.6 percent decline for West Germany and
the United Kingdom. For all EC countries, price
changes were lower than the EC's forecast of infla-
tion.
The EC agreed to dismantle positive monetary com-
pensatory amounts (MCAs) by 1988. Through subsi-
dies, positive MCAs compensated agricultural ex-
porters in strong currency countries-West Germany
and the Netherlands most recently for the higher
price of their products in foreign currency terms. To
importers, MCAs leveled out the effects of currency
fluctuations on agricultural products, making farm 25X1
imports from strong currency countries equally price
attractive.
The EC imposed a "superlevy" on excess milk pro-
duction. The Council established an overall 98-
million-ton annual quota on milk deliveries for five
years, allocated to the member states either among
farmers or among dairies according to Community
criteria based on 1981 production, except for Ireland.
Overproduction is penalized; dairy farmers producing
over quota receive only 25 percent of the target price
and no support at all if the milk is produced by a
collective or large dairy producer.
Agricultural and Trade Ministers have been particu-
larly aggressive about expanding their agricultural
markets. In late 1982 they signed an unprecedented
wheat trade protocol with the USSR that called for
the Soviets to purchase between 1.5-3.0 million tons of
EC-subsidized French wheat annually for the next
three years. The United Kingdom was a net wheat
importer just seven years ago, but British wheat
exporters anxiously sought non-EC markets to sell
their 1984 bumper crop.
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Figure 5
European Community: Agricultural Exports
Excluding Intra-European Community Trade
US dollars 30
ECUsa
I~I~I~I~I~I~I~I
1970 72 74 76 78 80 82 84
a The appreciation of the US dollar between 1980 and 1985 distorted the
value of European Community agricultural exports. A more accurate
measure of value is the European currency unit (ECU), a weighted average
of all European Community currencies.
Primarily as a result of the CAP, the growth in EC
agricultural exports has outpaced the growth in world
trade over the past 15 years. The volume of world
agricultural trade in the 1970s grew at about 4
percent annually and slowed to about half that rate in
the 1980s; EC exports grew 4.5 percent annually in
the last decade and have not slowed appreciably this
decade. Growth in world grain trade has slowed even
more during the same intervals, from 7 percent
annually to an estimated 0.4 percent, while EC grain
export growth dropped from a robust 10 percent
annually in the 1970s to a still-strong 4.2 percent in
the 1980s.5
' The slowdown in grain trade in the first half of the 1980s has
occurred in part because many former importers-India, Pakistan,
and the EC-have become self-sufficient, while major exporters-
Canada, Australia, and Argentina-have significantly boosted
output. Faced with mounting surpluses, grain traders are fighting
The EC and the United States since 1970 have both
increased their shares of the world agricultural mar-
ket at the expense of a large number of countries. The
Community's share of world farm exports climbed
from 8 percent in 1970 to nearly 11 percent in 1983,
while the US share rose from 14 percent to 19
percent. These gains have brought the EC and the
United States increasingly into direct competition in
home and third-country markets.' The EC, for exam-
ple, has now surpassed the United States as a supplier
to the Soviet Union, and the EC share of the OPEC
market has climbed 8 percentage points since 1970,
while the US share has dropped by an almost equal
amount.
EC export gains have come in several product catego-
ries (see figure 6):
? The EC in 1983 has nearly tripled its share of wheat
exports to the world, to 16 percent from 6 percent in
1970. A net wheat importer as recently as 1977, the
EC now trails only the United States and Canada as
a wheat exporter. EC gains have come at the
expense of Australia and other small exporters,
while the US world market share has remained
stable at 38 percent.
? Already the number-one exporter of poultry, wine,
sugar, and dairy products in 1970, the EC since
then has enlarged its share of world markets in all
four categories. In dairy products, the Community
now accounts for more than 50 percent of world
exports (see figure 7). Butter sales to the Soviet
Union in 1982 and 1983 were at prices as much as
50 percent below world market prices. Australia,
New Zealand, and the United States claimed these
sales violated the GATT as well as the International
Dairy Agreement. To retaliate, the US Government
subsidized sales of butter and cheese to Egypt in
1983.
' Former EC Director General for Agriculture Claude Villain said
in early 1983 that the Community intended to hold its sales of
wheat and wheat flour to 14 percent of the world market. However,
Community sales exceeded 14 percent in 1983 and 1984, and were
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Figure 6
Agricultural Commodities: Trends in
World Export Shares, 1970 and 1983
0 United States
Canada
0 European
Community
Australia
Brazil
New Zealand
Eastern
Europe
Wheat
1970
Poultry
1970
? Community red meat exports have climbed to third
place by volume from fourth place in 1970. EC
subsidies and aggressive marketing are threatening
producers in Brazil and Kenya, while traditional
beef exporters such as Australia, Argentina, and
Canada have lost market shares. Brazil and other
developing countries had been looking to expanded
beef production to conserve foreign exchange. Aus-
tralia is particularly concerned that rapidly mount-
ing EC beef surpluses are causing the EC to look to
some of Australia's traditional customers in Asia.
Red Meat
1970
Butter
1970
Canadian beef producers are outraged at the qua-
drupling of EC beef exports to their own country in
1984 and have demanded much tighter import
quotas.
Against this background of EC gains in a slowing
world market, Australia, New Zealand, Brazil, and
especially the United States have criticized the Euro-
pean Community's system of export subsidies for
distorting competition in world markets by keeping
world prices lower than they otherwise would be.
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Figure 7
European Community: Principal Agricultural
Exports as a Share of World Market,
1980-82 Average
Wheat
Feed grains
Wine
Sugar
Total milks
Butter
Cheese
Milk powder
Beef and veal
Pork
Poultry meat
Eggs
for export. Because of recently imposed dairy quotas
and the EC's preferred trade with Lome countries in
sugar, we expect sugar and dairy export supplies to
remain stable.
We have projected EC production, consumption, and
export supply trends for grains, meats, dairy products,
and sugar through 1987 based on USDA and Europe-
an Community forecasts. Our forecasts assume nor-
mal weather conditions and we believe the forecasts
are conservative in all cases (see table 4).
Grains. Following a production decline of about 10
percent last year because growing conditions returned
to normal after exceptionally good weather in 1984,
we expect grain production to increase by nearly 1.5
percent during 1987. Better seed varieties and man-
agement practices are the primary reasons for the
expected increases. Wheat and coarse grain consump-
tion growth, however, should average about 0.2 per-
cent and 0.7 percent per annum, respectively, and,
assuming that EC grain imports remain stable, EC
export supplies by 1987 could rise by 20 percent over
crop year 1983-the most recent year with normal
growing conditions.
Meat and Poultry. We expect meat production to
remain stable at 22 million tons through 1987, up
from 21 million tons in 1984. Consumption increases
should slow to perhaps half or three-fourths of past
rates as more and more EC consumers become satis-
fied with present consumption levels. As in the 1970s,
population growth will have little impact on overall
consumption. Continued improvements in feed variet-
ies and stock management will cause supplies of meat
and poultry available for export to grow steadily in
the next few years, probably to 2 million tons by 1987
from I million tons in 1985. We expect poultry
exports to continue to be a particularly bright spot for
EC exporters. Poultry consumption is growing faster
than consumption of any other meat in a number of
LDCs-particularly the OPEC countries, which al-
ready purchase about one-fourth of total EC farm
exports. Despite policies in many of these countries to
stimulate domestic production, only Libya is expected
to be self-sufficient by 1990. In the view of the
Lower prices have forced some farmers out of busi-
ness, particularly in LDCs, where many farmers are
barely above subsistence levels. The EC has agreed to
study the question of export subsidies in the GATT,
but the Community has publicly stated that it is not
willing to discuss "fundamental" changes in the CAP
during the new trade round.
Under the current EC price structure for agricultural
commodities, the Community has the technology and
resources to continue boosting production faster than
consumption. We expect the Community will continue
to purchase as much surplus meat and grain as
farmers can deliver, thus ensuring expanding supplies
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Table 4
EC: Supply/Demand Balance
for Major Agricultural Commodities,
Marketing Years a 1980-87
Imports
19
10
9
6
6
7
Consumption
122
117
118
121
122
120
Exports b
15
20
20
26
24
24
Imports I NEGL NEGL NEGL 0 0
Consumption 20 20 20 20 20 20
Exports b 1 1 2 1 2 2
Change in inventories ? NEGL NEGL - I I NEGL NEGL
Consumption 91 92 92 93 93 93
Exports b 14 19 17 13 10 10
Marketing year is assumed to be the year following actual year of
crop production.
b Projections are amounts available for export out of production;
historical data are actual exports.
Includes rounding error.
Sources: Historical: USDA and EC data.
Projections: Based on USDA and EC forecasts.
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USDA, poultry imports by many OPEC countries
should double by the end of the decade as these
countries continue to upgrade their diets.
Dairy. The "superlevy" imposed on milk production
exceeding set quotas in 1984 should reduce milk
production over the next few years, perhaps to 103
million tons by 1986 from the 1983 level of 112
million tons. At best, however, the levy will only
stabilize the amount of surplus milk and milk prod-
ucts available for export. Even if EC dairy production
stabilizes in 1987 at 103 million tons as estimated by
the EC, surplus output will still be about 10 million
tons because internal EC consumption is expected to
remain stable at about 93 million tons.
Sugar. The EC is unlikely to encourage growth in
domestic sugar production, and output should average
14 million tons per annum over the next few years.
We expect the EC to maintain limits on sugar
production and, despite self-sufficiency, to continue to
import sugar at above-market prices from African,
Caribbean, and Pacific (ACP) countries under the
Lome Convention as a way of strengthening those
countries' economies. We also expect the EC to
continue exporting slightly over 6 million tons of
sugar annually through 1987; the bulk of these ex-
ports go to the Middle East and Africa.
Impact of EC Enlargement
The accession of Spain and Portugal this year will
probably mean a gradual increase of EC-10 farm
exports to those countries, largely at the expense of
the United States. We expect present EC members to
raise exports of feedgrains, nonfat dry milk, other
dairy products, beef, and poultry to the new members
as tariffs are reduced between Spain, Portugal, and
the EC over a 10-year period. Spain especially will be
looking to the other EC members for some feedgrains
until its own production increases. In the early 1980s
both Spain and Portugal purchased about half their
farm imports from the United States and close to 80
percent of their foodgrains and feed imports. In 1983
the two countries purchased a combined total of
nearly $2 billion of US agricultural products, includ-
ing over 6 million tons of grains and 3 million tons of
soybeans. The shift toward EC farm imports will
begin to cut into US farm trade with Spain and
Portugal this year.
In the longer run, once Spanish and Portuguese
agriculture are brought under full CAP support, the
gradual rise of their farm prices will, in our view,
stimulate additional production, dampen domestic
consumption, and add to the increasing surpluses the
EC-12 must export. Spain has the greatest potential
to increase durum wheat and barley production, part-
ly because EC prices exceed Spanish prices by 25 to
30 percent in these commodities. Fruit and vegetable
production should also increase, but probably not
enough to reach self-sufficiency in these commodities.
Increased Spanish and Portuguese olive oil production
will, in all likelihood, simply add to EC surpluses
because there is practically no potential for expanding
exports to third countries. Enlargement will also
worsen the EC's present wine surplus problem, al-
though the impact on world markets should be mini-
mal because world wine demand is fairly stable and
the Community does not subsidize wine exports.
EC member states are increasingly aware that the
CAP as it now functions is a threat to the stability of
the EC and its trade relations and that something
must be done to reform it. Yet reform of the CAP is
most likely to occur incrementally on the margins of
its provisions-in ways such as freezing or cutting
support prices and fiddling with production and inter-
vention regulations-and in an evolutionary manner
that is highly unlikely to achieve a totally free market
for farm goods. We believe the fundamental goals of
the CAP-to guarantee a supply of food for consum-
ers and high incomes for farmers-and the means of
its implementation-a controlled market based on
common pricing and the variable import levy-will
not be questioned by any member state because they
are at the core of the Community's identity and the
workings of its economy and politics. We also deem
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unlikely that any member state would totally abandon
the CAP and renationalize its agriculture policy
because the risks this would entail-the possible
unraveling of other EC policies-would be enormous.
National elections in all of the largest EC members
within the next two years-West Germany next Janu-
ary and France, the United Kingdom, and Italy by
1988-will tend to stymie incremental reform efforts
as governments seek to avoid antagonizing the farm
vote. The current round of reform initiated by EC
Agriculture Commissioner Andriessen has already
succumbed to member state politics. The Commis-
sion's green paper published last July called for a
radical change toward a more market-oriented ap-
proach to the CAP, yet in practice this has meant only
a price freeze for the 1986/87 marketing year and
modest proposals for the grain, beef, and dairy sectors
that might merely stop surplus production from grow-
ing larger still. Even these measures are a source of
dissension as members perceive them unfairly imping-
ing on their own unique agricultural problems. The
United Kingdom and France, with relatively large
and efficient grain farms, for instance, are opposed to
a production tax weighted in favor of small producers
more prevalent in West Germany.
On the other hand, we expect looming budgetary
shortfalls will provide a significant impetus for incre-
mental reform. Now that Spain and Portugal have
joined the EC, Community officials expect CAP
expenditures to rise significantly as price supports are
gradually extended to Spanish and Portuguese agri-
culture and 3 million more farmers are integrated into
the Community-an increase of 40 percent. A con-
tinuing fall of the dollar will probably exacerbate a
budget shortfall and increase the pressure to control
CAP spending. Already in 1986 the EC is facing an
estimated deficit of at least $3 billion caused in large
part by the widening of the gap between EC domestic
farm prices and world prices as expressed in ECUs,
necessitating larger export subsidies. Community offi-
cials expect EC expansion and the relatively weaker
dollar to exhaust revenues this year. Budgetary pres-
sures, which bring EC finance ministers into the CAP
decisionmaking process, have in the past put a brake
on rising CAP expenditures.
Attempts to solve the impending budget crisis by
raising still higher the EC's share of member-
collected VAT revenues-requiring unanimous con-
sent of member country parliaments-are not likely
to succeed because of strong opposition to raising
revenues. In 1984 the move to boost the EC share to
1.4 percent was held up on the question of budget
rebates for the United Kingdom. West Germany-the
largest contributor to the EC budget and increasingly
seeing itself as the EC's paymaster-and the Nether-
lands are expected to lead the opposition on the
grounds that the increase to 1.4 percent was touted as
taking care of enlargement, and that a further in-
crease so soon points strongly to the need for curtail-
ing expenditures, not increasing revenues. They might
be joined by the United Kingdom, which has already
called for more budgetary discipline, and perhaps by
France, which will see its status change this year from
a net beneficiary of CAP expenditures to a net
contributor.
Other options the EC will probably consider include
an expansion of production controls beyond dairy
products, price cuts, and introduction of new taxes on
agricultural output, such as the recently proposed 3-
percent "coresponsibility levy," or tax on grain pro-
duction, to help fund export subsidies.
As EC agricultural export supplies continue to grow
and world demand for agricultural exports slows,
competition for world market shares is likely to
sharpen during the rest of this decade between the
Community and its competitors, especially the United
States. We expect intense competition with the Unit-
ed States, especially over grain trade, to continue
fueling bilateral trade disputes, such as the US and
EC complaints in the GATT against each other's
grain export subsidies. The Community is likely to try
to negotiate market sharing arrangements for grain
with the United States and other major exporters as a
way to control the competition, and might try to cite
its unusually large 1984/85 export level as its "nor-
mal" market share.
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Others pinched by EC sales, especially Australia,
New Zealand, Canada, and some developing coun-
tries, are also likely to have disputes with the EC.
Complaints from LDCs that rising EC agricultural
exports are depressing world agricultural prices are
likely to grow and affect relations between the EC
and a score of developing countries. Ironically, many
of these countries-including India, Pakistan, Brazil,
Kenya, Morocco, Tunisia, and Algeria-have benefit-
ed from EC agricultural development aid. Their
renewed emphasis on agricultural self-sufficiency by
carefully building up the productivity of the farm
sector will come into conflict with subsidized imports
from the EC. We believe pressure by farmers in these
countries for protection from EC products is likely
to embroil the Community in numerous political
quarrels.
CAP-inspired trade disputes between the EC and the
United States and a lack of progress on reform of the
CAP could, in our view, jeopardize the inclusion of
agriculture in the new round of GATT negotiations.
The EC says it is willing to work at the new round
within the existing GATT framework to improve
agricultural trade, but it refuses to discuss the funda-
mental objectives and mechanisms of the CAP during
the trade talks. France, insistent on ensuring its EC
and external farm export markets, wants the internal
EC issue of CAP reform settled before the Communi-
ty begins to negotiate about agriculture in the new
round. Paris, believing Washington will attempt in the
talks to ban or severely curtail farm export subsidies,
fears being isolated on the topic of agriculture, and
might use its national veto to delay EC agreement on
the agenda. Procedurally, Paris wants to contain the
discussion of agricultural subsidies in the GATT
round to just one committee and fears Washington's
effort to broaden discussions is an attempt to under-
mine the CAP.
We expect the EC's need to push agricultural exports
will make the Soviet Union a more important custom-
er for the Community in the years ahead. As the
United States and a nearly CAP-bankrupt EC com-
pete in the grain market, the USSR's number-one
position as world grain importer will enhance its
leverage over the EC. The Soviets, for example, may
link the purchase of EC commodities for foreign
exchange reasons to increased sales of Soviet gas to
the EC-12. In 1983 the EC spent $200 million in
export subsidies for grain sales to the USSR.
We believe the CAP, because of the halting pace of
the incremental reform effort-moving ahead at
times of budgetary crisis, but stopping for national
politics-will continue for several years to be the
major problem crowding other issues off the Com-
munity's agenda. The continued absorption of three-
fourths of EC funds and of considerable time and
effort on agricultural issues will serve to divide EC
members over petty national interests instead of
bringing them together to solve the serious problem of
revitalizing the West European industrial base and
improving international competitiveness. In contrast
to the nearly three-fourths of the EC fund spent on
agriculture, only slightly over 2 percent of the 1986
EC budget is committed to research and new technol-
ogy innovation. In 1985 the Community spent $4.9
billion on export refunds-$755 million on grain
export refunds alone-or about one and a half times
the total it has earmarked over the next five years for
the ESPRIT program on the development of informa-
tion technology.
Even if the EC manages to curb price support hikes,
we do not believe such restraint will necessarily curb
production. The effects of the nominal price support
freeze in 1984 were outweighed by unexpectedly good
weather and higher yields because of the growing use
of new plant strains. In addition, Community efforts
to restrain production will be compounded by another
paradox common to farm sectors in developed coun-
tries. Many EC farmers-particularly the smaller
producers-are marginally efficient and would proba-
bly have gone bankrupt years ago without the hefty
price increases of the 1970s. If prices in the Commu-
nity do indeed trend downward and force these farm-
ers out of business, their land probably will not be
taken out of production but be transferred to more
efficient users, resulting in a net increase in productiv-
ity and output. Just as in the United States, the
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newer, larger farms will be better able to take advan-
tage of economies of scale and expensive new technol-
ogies to operate profitably at lower price levels than
their predecessors. This structural change is already
evident in southwestern England, southwestern
France, and the Paris Basin and makes the upward
course of EC production and exports almost inevitable
in the short and medium term.
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Appendix A
A Primer on the Common
Agricultural Policy
The Common Agricultural Policy (CAP) is the largest
EC-wide program, accounting for over two-thirds of
the EC budget and probably an even larger share of
EC policymakers' time and energy. Formulated by
the original six signatories-France, West Germany,
Italy, the Netherlands, Belgium, and Luxembourg-
of the Treaty of Rome in 1957, the CAP assumes the
need for governments to intervene in the farm sector
to increase farm productivity, stabilize markets, en-
sure a fair standard of living for farmers, guarantee
regular supplies, and ensure reasonable prices for
consumers.
To accomplish these goals, the Community during
1962-67 set down a series of basic regulations for
grains, poultry, pork, eggs, fruits, and vegetables.
Since then, regulations for practically all other agri-
cultural commodities have been added except alcohol
and potatoes. All these regulations are centered
around three principles: Community preference, com-
mon pricing, and common financing.
Community preference establishes within the Com-
munity a preferred market for EC-produced agricul-
tural products. The EC does this by charging fixed
import duties on some products and variable levies on
other products such as wheat and corn. These variable
levies come into play when world market prices fall
below the minimum import prices established by the
EC. If the EC price should go below the world price,
which rarely happens, the Community uses an export
levy to keep products within the Community.
The second principle of the CAP, common pricing,
requires the price of an agricultural commodity to be
the same throughout the Community, without inter-
ference from either national duties or subsidies. The
Community has established a system of border taxes
and subsidies-called Monetary Compensatory
Amounts (MCAs)-to offset currency fluctuations.
To work toward common pricing as well as to support
farm income and stabilize markets, the EC uses a
complex system of target, intervention, and threshold
prices, and open-market buying and selling by inter-
vention agencies. Target, intervention, and threshold
prices are fixed each spring, based on proposals of the
Commission, and approved by the Council of Minis-
ters of Agriculture. For the basic product groups-
grains, rice, dairy products, olive oil, oilseeds and oil-
bearing materials, and sugar-full producer-price
guarantees apply. For fruits and vegetables there are
partial or no producer-price guarantees. The three
prices apply to the season beginning 1 August and
ending 31 July of the following year:
? The target price is the wholesale market price that
the EC believes provides a fair income for the
average farmer. It is generally 15 to 20 percent
above the intervention price because it includes a
"market element" (profit) and transport costs.
? The intervention price is the price at which a
producer is assured a buyer, because the interven-
tion agency in each EC country is obligated to buy
at that price. It is the primary support mechanism
and is similar to a support price in the United
States.
? The threshold price is a set minimum import price.
The prices of agricultural imports are raised to this
level by applying the variable import levy.
According to the third principle, common .financing,
the EC obtains its revenues from Community-wide
resources. The EC must balance its expenditures with
these revenues annually. These revenues are obtained
from the Community-wide value-added tax (55 per-
cent of total revenues in 1984), customs duties (30
percent), import levies and sugar levies (9 percent),
and miscellaneous contributions (6 percent). At pre-
sent, the VAT revenues earmarked for the budget
cannot exceed 1.4 percentage points of each country's
VAT revenues.
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Appendix B
Profiles of Major EC Agricultural Commodities
Equal to 20 percent of value of EC
agricultural production-single-
largest EC farm sector; over 50
percent of EC farms have dairy
cows, although over 70 percent of
these farms have less than 15 cows.
The number of dairy cows has re-
mained constant at 25 million since
early 1970s, but milk production
has increased about 1.4 percent an-
nually since 1970. France and
West Germany together account
for nearly half of total EC milk
production.
Direction of
Trade
Surpluses are large and expensive
to maintain. Butter stocks hit 1.1
million tons in November 1985 and
dry milk powder supplies are
500,000 tons.
$4.1 billion in 1983. Dominates
world dairy market; nonfat dry
milk, butter, and cheese each ac-
count for about 50 percent of world
exports.
70 percent to developing countries,
primarily Africa and Middle East,
expecially Algeria, Nigeria, Saudi
Arabia, Iran, Egypt; 13 percent to
other West European countries; 10
percent to United States, Canada,
and Japan; 3 percent to Communist
countries and remainder of other
countries.
Equal to 13 percent of value of EC
agricultural production, grown on
nearly 60 percent of EC arable
land, composes 70 percent of ani-
mal feeding stuffs. Land devoted to
grains has been constant since early
1970s, but production has in-
creased 2.6 percent annually due to
better seeds and increased fertilizer
usage. Wheat accounts for one-half
of grain production value, barley
for one-fourth and corn for one-
fifth. France and United Kingdom
lead in barley production, France
in corn production, and Italy in rice
production.
Surplus stocks at end of 1985 stand
at about 24 million tons.
$4.2 billion in 1983. Third-largest
wheat exporter after US and Cana-
da; 17 percent of world wheat
market.
50 percent to Africa and Middle
East, especially Saudi Arabia, Al-
geria, Morocco, Libya, and Egypt;
33 percent to Communist countries,
especially USSR; 17 percent to
other West European countries, es-
pecially Scandinavia, Switzerland,
and Austria.
Combined red meat production
equal to 29 percent of value of EC
agricultural production; beef and
veal production contribute 14.6
percent; pork production, 12.0 per-
cent; and lamb and goat produc-
tion, 2.0 percent to value of EC
agricultural production. Beef pro-
duction increased 2.4 percent annu-
ally in the 1970s. France and West
Germany account for half the beef
and veal production and 46 percent
of pork production.
Beef stocks amounted to 750,000
tons at the end of 1985 due to the
culling of dairy herds in response to
milk quotas and sluggish internal
demand. Pork stocks are negligible.
$0.9 billion in 1983. Fourth-largest
meat exporter; 18 percent of world
meat market.
50 percent of meat exports to devel-
oping countries, primarily Middle
East and Africa with Algeria, Lib-
ya, Iraq, and Iran largest markets;
25 percent to Communist countries,
especially Soviet Union; 25 percent
to other developed countries, espe-
cially Greece.
Poultry production equals 4.5 percent
of value of EC agricultural production.
France and Italy together produce
nearly 60 percent of EC poultry. As a
proportion of total farm production,
UK production ranks highest at about
12 percent. Poultry production in-
creased about 4 percent annually in the
1970s. Production declined in 1983
due to sluggish export demand and
increased competition from Brazil.
Poultry surpluses are almost 100,000
tons.
World's largest poultry exporter; $0.4
billion in 1983, or 36 percent of world
poultry market.
75 percent of poultry exports to devel-
oping countries, especially Middle East
and Africa; 20 percent to Communist
countries; remainder to other devel-
oped countries, especially Switzerland.
Sugar beet production equal to 2.4
percent of value of EC agricultural
production. West Germany and
France together produce over 55
percent of EC sugar beet
production.
$1.9 billion in 1983. World's larg-
est free market exporter with 14
percent of world sugar market.
60 percent of sugar exports to de-
veloping countries, especially Mid-
dle East and Africa; 20 percent to
Communist countries, primarily
Soviet Union, remainder to other
developed countries.
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