Micro-economic analysis of alternative policies for Dutch dairy farming

The dairy sector is to a large extent influenced and restricted by environmental and agricultural policies. These policies are often very detailed in nature and oriented at the farm level. That is, policy measures and regulations, such as taxes and support payments often depend on local farm circumstances and farm management. Dairy farmers constantly face minor and major policy changes, causing farm-specific uncertainties and adjustments in production. This thesis aims to quantify the effects of specific policies on production decisions and profit of individual Dutch dairy farms. Thus, the individual behaviour of dairy farmers in response to policy changes is the main focus here.An empirical economic model of the production behaviour of dairy farming is developed and applied to determine the effects of policy changes. It is assumed that farmers react differently on policy changes, especially because policies become increasingly farm-specific. The empirical micro-economic model presented in this thesis is a flexible tool to show short-term behaviour of individual Dutch dairy farms in response to policy changes. The approach of combining historical information on production technology and production behaviour with information on future or new policy measures is suitable for analysing policy effects at the farm level.The supply constraint, enforced by the milk quota regime, combined with the price support and border protection measures, play a central role in dairy policy. The efficiency of milk quota trade and the effects of distortions in quota trade are analysed. The alternative EU policies analysed in this thesis are a two-tier milk price system, quota abolition, and the Agenda 2000 reform, which include quota increases, price cuts and compensating premiums. Moreover, the effects of phosphate surplus taxes, especially in relation to the demand for farmland, are investigated.Distortions in quota trade are caused by limits on the amount of quota that can be traded according to the regulations. Costs related to transaction services by a middleman or a notary are less visible. Both types of trade distortions are simulated and compared with unconstrained quota trade. Efficiency gains can be obtained if restrictions on milk quota trade are removed. However, the trade restrictions protect small farms because they gain more from quota trade than large farms.In a two-tier milk price system with free quota trade, B-milk will be produced if the world market price is higher than the industries' average marginal costs of producing A-milk. The most efficient farmers will produce B-milk instead of buying A-quota. The Agenda 2000 reform for dairy farming results in a loss in profits, which is mainly due to the decrease in milk prices. The proposed direct payment per tonne of initial quota only compensates 52 per cent of this profit loss. If quotas were abolished, milk production increases if the price of milk is higher than the current average marginal costs. However, profits decrease, asking for compensating payments. At a world price of 0.60 guilders per kg, the necessary compensation in the case of quota abolishment is smaller than in the Agenda 2000 case, while milk production is higher.The disadvantages of Agenda 2000, i.e. increased budget costs and the insufficiency to meet future WTO (World Trade Organisation) demands, are complemented with strong negative income effects for Dutch dairy farmers. The income of the farmer is guaranteed in a two-tier price system and it serves farmers with some flexibility (partly giving in to the WTO demands). The burden on the government budget in a two-tier system is probably lower because price support, export subsidies and compensation payments are lower. Quota abolition is, from an income point of view, still less attractive for Dutch dairy farmers (although highly dependent on the price at the world market) but more freedom in production could outweigh this disadvantage. The fact that the Dutch government did not opt for quota abolition probably has to do with the fear that a rise in milk production would increase environmental problems and would lead to a weakened financial position of farmers because their quota lose value.The phosphate surplus tax is an effective instrument to reduce manure surpluses in dairy farming. In order to avoid paying the tax, farmers reduce the input of livestock. The opportunity to attract additional land has a minor impact on surplus reduction. However, for the average farm, purchasing land offsets the small negative effects of the surplus tax on profit. Introducing the phosphate surplus tax increases the demand for farmland and therefore the equilibrium price of land is higher than in a situation without a surplus tax