Economic Measures of Sustainability

Economic Measures of Sustainability

Richard Gray

University of Saskatchewan, Saskatoon, Saskatchewan

In this paper sustainable agriculture is defined as the maintenance of the net benefits agriculture provides to society for present and future generations. Unplanned scarcity and abundance b a t e n s food security and economic viability respectively. The ability to respond to potential external shocks is largely a function of the elasticity of supply. The ability of futed factors, such as land, to enter and exit the sector augments sustainability. Economic flexibility is also enhanced with alternative technologies that can be applied at very low or high prices. This flexibility has to be valued not at expected prices but rather for the option values at extreme prices.

INTRODUCTION Recent history has led world leaders to question the environmental sustainability of economic development on earth. The "green house effect," "global warm- ing,"and "ozone depletion," have become a part of everyday vocabulary in many parts of the world. In 1987, the World Commission on Environment and Develop ment released a report entitled "Our Common Future," which suggested that there was an urgent need for international cooperation to find solutions to issues relating the atmosphere, the climate, and the oceans. Increased environmental awareness has brought into sharp focus the resource depletion environmental destruction that has been occurring recent decades in both developed and developing countries. The demand for global change has its origins in a few facts:

0 There is strong evidence that the current level of energy and food production

0 Population will increase from its current level of 5 billion to 8.2 billion within

0 The people in developed countries, %%, consume energy from commercial

is already causing widespread environmental damage.

the next 35 years.

sources at over ten times the rate of the 74% of people living in LDCs.

l l e se simple facts raise some very strong doubts about the sustainability of the current course of development in the world. There is a need to plot a new course of "sustainable development" that was called for in the UN document. Food production will remain a key aspect of sustainable development. If the agricultural systems are not sustainable neither will the ability to feed the human population.

DEFINING SUSTAINABLE AGRICULTURE In its very broadest sense, the term "sustainable" suggests that limits to an activity have been recognized. To sustain is to cause to continue in a Certain state. Sustainable development is development that can be sustained, or is capable of

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continuing without interruption. For mankind this is a idea that extends beyond a single human lifetime.

In Canada the concern over the sustainability of agriculture was highlighted during the 1980s by several reports written by many Federal Government institu- tions including the Senate of Canada, Agriculture Canada, and, P.F.R.A. In 1989, Agriculture Canada released a green paper entitled "Growing Together: a Vision for Canada's Agri-Food Industry." These reports highlighted the need for an agri-food sector policy reform to support environmental sustainability and have provided a catalyst for intensive public discussion of sustainability of Canadian agriculture.

The Growing Together Report suggests that four principles must be acted upon to ensure sustainability in Canadian agriculture. The farming sector must become more market responsive, more self-reliant, more responsive to regional diversity and more environmentally sustainable for ours andfuture generations. This definition proposed by Canada Agriculture does not explicitly address social concerns and could therefore be categorized as a combination of the food sufficiency and the good stewardship approaches.

Unfortunately, the four principles are conflicting and internally inconsistent, making the measurement of sustainability an impossible task. Any definition of sustainability must be sufficiently clear that any two alternatives can be ranked, at least in theory. Having multiple objectives or principles is similar to having no cbjective at all.

For the purposes of h s paper sustainable agriculture will be defined as: The niaintenance ofrhe net benefitsagricultureprovides to society forpresent andfuture generarions. Given this definition the measurement of sustainable agriculture is still a very difficult task. In particular, there are at least three important issues in the definition that have to be addressed. How broadly should society be defined? How should trade offs be made between the needs of the present and future generations? Finally, what is maintenance in the presence of risk and uncertainty?

How Broadly Should Society be Defined? Much of the original discussion of sustainable development was motivated from a global or world perspective. In general, however, "society" is usually defined much more narrowly. The narrow definitions of society in themselves can create vastly different measures of sustainability. A farm leader may see sustainable agriculture as maintenance of income. A rural community leader may see sustainable agriculture as the maintenance of rural population. The United Nations may see sustainable agriculture as an agriculture that will continue to produce an abundance of cheap food. An environmentalist may see sustainable agriculture as an agriculture that sustains the natural ecosystems even at the expense of human welfare.

For the sake of simplicity I will initially divide society into two very broad categories of interest. The first is the view of agriculture as a means of producing an abundance of quality food for society. The second view is agriculture as an income generating activity that has economic and social value. The first view is one in which sustainable agriculture is one that maintains a level of consumer surplus in the consumption of food. Obviously food security is a large element of this aspect

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of sustainable agriculture. For obvious reasons, countries that import food or consume more than they produce tend to adopt this view of this aspect of sustainable agriculture. The second view of sustainable agriculture is concerned with maintaining a net benefit from the sale of agricultural products. This perspective, which is shared by most agronomists in Canada, is based on agriculture’s ability to generate income and other benefits for society. One could think of this measure as the maintenance of producer surplus of real economic rents in the sector. A global perspective requires the combination of these views. Obviously agriculture does provide much needed food and does produce income.

The Conflict behveen Consumer and Producer Surplus The maintenance of producer and consumer surplus can be incompatible objectives. The possible conflicts highlight difficult issues that surround the measurement of sustainable agriculture. Conflict is easily illustrated in a partial equilibrium supply and demand fmmework as shown in Figure 1. A producer facing a demand curve DD, is faced with the choice between technologies giving him supply SS or S’S’. Clearly consumers and society as a whole are better off with supply S’S’, whereas, the producer is worse off if area A exceeds area C. Put in the context of today, maintaining a stock of land may be in the consumers interests but may not in the producers interest. The maximization of either consumer or producer surplus (even when properly measured) is not synonymous with the maximization of total surplus.

Price

Quantity

Figure 1. Change in producer surplus vs. total surplus. sustaining corsumer surplus Long term food security is an issue often at the centre of the demands for a more sustainable agriculture. This is especially true in low income countries that live under the constant threat of food shortages. In low income countries food shortages can occur through yield losses in domestic production or in food distribution within the country. In those countries importing food the risk is expanded to include high


import prices and low foreign exchange capacity. In extreme cases food security is jeopardized by a lack of continual food aid.

Measuring food security is difficult. One way to approximate the concept would be the probability of a famine weighted by the expected number of people in the famine. Using this very crude measure, society may wish to minimize the probability weighted size of famine in the future. For countries that face a large threat of famine they may behave such as maximize food security and pursue very few, if any, other objectives. For countries where food security poses a smaller threat clearly the society trades off many other objectives with the objective of food security. For example, they may wish to maximize growth subject to some minimum level of food security. To model the effect of food security in an objective function is nearly impossible. Ultimately it requires making a trade off between the quality of life for some individuals versus the existence of life for others. This issue is obviously beyond the scope of simple economic measurement.

Consumer surplus measured under the compensated demand for food also would in theory, incorporate food security. For example, consider an individual with enough food to survive. If you were going to compensate the individual to leave him at the same level of utility at what price would he willing to forego his subsistence level of food for other goods? Obviously money or other would have little value in the face of starvation making it impossible to bribe a person enough to starve himself to death. Thus it could be argued the compensated demand curve for food becomes asymptotic at the subsistence level of consumption. Thus the compensating variation (C.V.) of an action that starves an individual is infinite. The problem of using compensating variation of a food price increase, given that compensation is not paid, is that it become infinite at the level of subsistence. The difference between the area undex the ordinary demand curve and the area under the compensated demand curve becomes infinite. (See Figure 2). If we were to measure the effect of grain price increase using compensation, we would by definition allow no one to starve, which is far from our current food policy.

Two other important issues in measurement of food security are discounting and aggregation. The issue of time preference is very difficult. It is obvious that people reveal a positive time preference in the way they behave. However, if we apply a positive time preference this implies that people in future generations are inherently worth less than our current generation. If all individuals present and future have an equal weighting in social welfare is it easy to argue that a negative discount rate should be applied if population is anticipated to increase. A similar problem arises in trying to aggregate across individuals in society, which given only preferences is impossible without some very sweeping value judgements. These difficulties in describing and measuring aggregate consumer surplus and food security does not mean as applied economists we should abandon any attempts. It is up to society to select between conflicting objectives but it may be up to economists to illustrate the inconsistencies in each approach.

SustaMng Producer Surplus in Agriculture Agricultural production provides an important source of income formany individuals, families, communities and countries. Sustainable agriculture is, at least in part,

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Price

compensated demand

t B ordinary

% demand

S Demand

Figure 2. The effect of subsistance on consumer surplus.

a maintenance of the flow of income from agricultural production. From societies perspective it is important that all the costs and benefits of production are carefully measured so that alternative policies and action can be evaluated.

Major issues include: 1) discounting, 2) private versus social costs (negative externalities), 3) non-market benefits (positive externalities), 4) community non- market benefits, 5 ) economic flexibility and risW income preferences. Each of these topics has been the focus of much research. Rather than recap much of the work that has been done in each of these areas, this paper focuses on the economic flexibility and income/risk preferences.

A related idea to maintaining producer surplus is to sustain farm families, family farms and community structures. This has long been an objective of policy makers in developed counuies. For economists to argue the most efficient (and therefore the socially optimal) policy is to let market forces prevail in the determination of farm survival may be a little presumptuous. The effect of a price decline is to disrupt, dislocate and impoverish farm families. Government have repeatedly shown a willingness to transfer money to the sector. If people are risk averse, and the marginal utility of money for individuals does decline, this income distribution could in theory be warranted. In addition, the lack of tenure security created by unstable incomes, has implications for investment in the land resource. In particular producers facing the threat of bankruptcy or dislocation have no incentives to maintain the land resource.


MAINTAINING NET BENEFITS UNDER UNCERTAINTY One the basic issues of sustainability, that is often ignored, is the effect of unanticipated changes in weather and climate and the economic environment on the agricultural sector. For instance, suppose with anticipated technological im- provements and anticipated demand increases real food prices will continue to decline. To draw a conclusion &om the analysis that sustainability is not aproblem is a quantum leap in faith. Forecasts will inevitability be in error, (particularly when they are about the future). At this time we know very little about the potential of the greenhouse effect or the future demand for food in the lesser developed countries. How then is it possible to make projections with areasonable confidence interval? Furthermore, suppose technology, climate and demand wasn’t changing over time. Is it possible to rule out 5 years of very poor world weather conditions that could threaten food security? The ability to deal with unanticipated shocks, rather than being on the periphery of the issue of sustainability, is central to the whole concept. If the probability of a disaster (or the lack of sustainability) is to be reduced, perhaps a process that can respond to anticipated changes is of more value than any given plan.

As economists we are very familiar with using prices, rather than quantities, to measure relative scarcity. Extremely high prices would represent severe scarcity of food. Similarly very low prices would indicate an abundance of food. High prices threaten food security and low prices threaten farm incomes. If one were comparing two agricultural structures that had the same expected mean prices, the system that had more stable prices would be more sustainable.

Production Flexibility and Sustainable Agriculture Flexibility is an important component of sustainable agriculture. Sustainability should not focus on the ability to produce at expected prices. It should explicitly recognize that future prices are unknown and that to be sustainable the sector must be able to respond to these variable prices. This is related both to food security and the maintenance of minimum levels of farm income within the sector.

Transitory shocks in food production can to some extent be dealt with through grain storage. If weather increases yields stocks are increased smoothing the price effect. With adverse weather stocks are drawn down to smooth prices. But, as with any commodity storage there is finite possibility of a ‘stock out’ or a stock shortage when stocks no longer smooth prices. This stock out phenomena creates the long periods of low stable prices followed by short period of high unstable prices. (Wright and Williams)

As indicated storage alone is not sufficient to provide price stability. This is particularly true if the unanticipated changes in the environment are permanent in nature. Many changes such as population growth, technology changes, environmental changes have this permanent effect. If the shocks are permanent in nature, or there have been several transitory shocks in the Same direction, the agricultural system must respond to avoid disaster. This ability to respond to the level of scarcity is a natural part of the economic system. In the light of scarcity, or a food price increase, consumers will substitute away from consumption and producers will apply more inputs and adopt new technologies to expand production. Because of


its nature, the elasticity of demand for food is small, limiting the ability of consumers to reduce demand with high prices. The elasticity of supply may be therefore be amore relevant indicator of the sustainability of an agricultural system. The ability of producers to respond to price increases is to a large extent a function of the technologies and inputs they have at their disposal and their incentives to respond.

Landasstorage Land is a very important input in production. Historically the use of marginal land in production has proven to be very important element in food security. Much of the increase in production since 1950 has come through the more extensive use of land. The United States’ government has historically used set asides in their stock management policy. One can think about land as a cheap form of storage. A land set aside or conservation reserve has some important option value that does not exist with the storage of the food commodity. If grain is set aside, the full costs of production have already been incurred. With land set asides, these up front costs are avoided yet there is some option to produce grain for short term needs if required. In a competitive market, producers would naturally remove land from grain production if prices are low and bring the land back into production if price increased. However, governments block this pracess by supporting agricultural incomes when prices are low maintaining the use of the land in food production. If governments are to remove the distortion, which they have created, they must become active in taking land out of production when prices are low and encourage its reuse when prices increase. This is required at a minimum, to get back to where competitive markets would prevail. If food security and farm security are perceived as a problem the governments may not only wish to neutralize the effects of their programs but also become more pro-active in increasing production flexibility through land reserves.

A similar strategy that governments could employ to increase production flexibility is to provide research dollars for technologies that can be employed at extreme prices or technologies that by their nature lead to a more elastic supply. Because many food production technologies have a component of public informa- tion, or public good one cannot rely on the private sector to develop such technologies.

THE ROLE OF GOVERNMENT Governments have a role in sustainability. Government should tax and regulate negative externalities and subsidize and promote positive externalities. Govern- ments should pursue policies that enhance the elasticity of supply. Many existing government policies that stabilize income through prices have the opposite effect. The effect of these programs is to limit the response of the agricultural sector to price changes. These programs should at a minimum be decoupled. Governments should spend public research dollars on technologies which enhance the elasticity of supply. Finally, land set aside programs, add great deal to the elasticity of supply and therefore should be a part of a sustainable agriculture.


SUMMARY Sustainable Agriculture is a term that has grown out of global call for sustainable development. Unfortunately, the term has been very widely adopted to represent a variety of initiatives. If the term is to retain any meaning it must be refined and defined. In this paper sustainability was defined as: The maintenance o f the net benefits agriculture provides to society for present and future generations. This defrnition is very much a humanist approach, which includes both consumer and producer surplus. The paper identifies the conflict that may occur between consumer surplus, producer surplus and total economic surplus.

From a consumer surplus point of view food security, and discounting are major issues. The compensating variation of a famine may be infinite making food security a primary goal of many nations. The maximization of the net returns from agricultural production represents the producer surplus point view. A second, somewhat related concern is the maintenance of minimum level of income in the agricultural sector.

Consumer surplus is threatened by food scarcity, and agricultural income is threatened by surpluses. Price is the best measure we have of scarcity. To discuss sufficiency in the absence of price is very misleading. Similarly, describing sustainability in terms of expected output and prices is also misleading.

It is unplanned scarcity and abundance that threatens food security and economic viability respectively. It is therefore, the ability of the agricultural system to respond and rule out extreme pnce that is central to the issue of sustainabiiity. Given the inelastic nature of the demand the ability for sustainable agriculture may largely be a function of the elasticity of supply. The ability of fvced factors such as land to enter and exit a sector may also augment sustainability. A thirdsource, of economic flexibility is alternative technologies that can be applied at very low or high prices. This flexibility has to be valued not at expected prices but rather for the option values at extreme prices.

Government has a role in sustainability. Governments should pursue policies which enhance the elasticity of supply. Policies that stabilize income through prices have the opposite effect. These programs should at a minimum be decoupled. Secondly, governments should spend research dollars on technologies that enhance the elasticity of supply. Finally, land set aside programs, add great deal to the elasticity of supply.

REFERENCES Agriculture Canada. 1990. “Growing Together: Report to Ministers of Agricul- ture.” Federal-Provincd Agriculture Committee on Environmental Sustainability. Barlowe, R. 1978. Land Resource Economics (3rbed.l. Englewood Cliffs, N. J.: Prentice Hall. Economic Council of Canada. 1988. Handling the Risks: A Report on the Prairie Grain Economy (EC22-154/1988E). Sparrow, H. 0.1984. Soil at Risk (Ottawa: Supply and Services Canada). Report of the Senate Standing Committee on Agriculture.


P.F.R.A. 1983. Land Degredation and Soil Conservation Issues on the Canadian Prairies. Regina, Soil and Water Conservation Branch, P.F.R.A. World Commission on Environment and Development. 1987. Our Common Future . New Yak: Oxford University Press. Wright, B. D. and J. C. Williams. 1984. “The Welfare Effects of the Introduction of Storage.” Quarterly Journal of Economics. 99( l(Feb.)): 169-192.

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Economic Measures of Sustainability