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Report from the Bichel Committee - Organic Scenarios for Denmark

7. Consequences for production, economics and employment

Primary agricultural production has been described in chapter 5 for six different scenarios for 100% organic farming in Denmark. In this chapter we will look at the economic consequences of these scenarios and the consequences for employment.

It should first be emphasised that it is extremely difficult to predict the socioeconomic consequences of 100% organic farming because the change is a very big one, with both primary production, the foodstuffs industry and a number of associated sectors affected to a greater or lesser extent.

The economic and employment consequences depend on both the size of the production and the price of the products, including both the price ex farm and the value addition that occurs in the secondary industries. Lastly, there may be an environmental benefit that can be valued. In the following we will look at the market perspectives (section 7.1) and the socioeconomic consequences under different assumptions (section 7.2). The economic consequences at farm level will be illustrated by examples of conversion of some different types of farm (section 7.3). In section 7.4, some different environmental benefits will be valued.

In the organic scenarios, "de-regionalisation" of Danish livestock production with a 30-year time horizon is assumed, in that the manure is assumed to be evenly distributed in relation to the crop rotations (see chapter 5). There would also be a need for substantial restructuring in the food industry and other associated sectors. These restructuring costs have not been included in the economic analyses. It is thus assumed that conversion to organic production takes place in step with the wearing down and depreciation of the existing capacity.

7.1 Market perspectives

The Danish market for organic food products has developed in a very interesting way in recent years. In the 1990s, it grew from very limited quantities to the market shares shown in table 7.1. It will be seen that there are big differences between the various products – from 0 to 22% of the market. In the case of milk, eggs and plant products, for example, the market share is more than 10%, whereas organic meat, particularly pork, has only a marginal share of the market (less than 2%). Today, organic products account for around 3% and 4% of total food sales and 5% in the case of the product categories in which organic products are offered (Ministry of Food, Agriculture and Fisheries 1999).

Table 7.1
Market share of selected organic products (The Ministry of Food, Agriculture and Fisheries 1999)

Organic food products are sold at a higher price than corresponding conventional products. Table 7.2 shows the price premiums paid to farmers (ex farm) for some selected products. It will be seen that the price premium varies somewhat, both between products and within products. The price premium for milk has been the most stable at around 25% for most of the milk in recent years.

Table 7.2
Price premiums in per cent ex farm from 1994 to 1996 for organic products compared with conventional products (Borgen 1998)

The price premium paid by the consumers (in the retail trade) varies greatly and is characterised by the fact that some organic products are small niche products. As the market share of organic products increases it must be assumed that the middlemen’s mark-ups on organic products will approach those on conventional products. With that, the premium paid by the consumers will gradually fall.

There are only a few market surveys describing the future possibility of increased sales of organic products. It is therefore extremely difficult to predict how the market will develop in the long term. According to the Ministry of Food, Agriculture and Fisheries (1999), the Danish organic market is furthest ahead with respect to both size of production and sales. However, a similar development is going on in a number of other countries in Western Europe. The UK and Germany, together with the USA, are of particular interest as potential markets for exports of Danish organic products (Ministry of Food, Agriculture and Fisheries 1999, Abrahamsen & Ingemann 1998).

Abrahamsen & Ingemann (1998) estimate that, in 1998, sales of organic food products in a number of Western countries totalled DKK 80 billion, or about 1% of the entire food market, and that there was an import demand of the order of DKK 15 billion. On the basis of studies of major export markets, the authors estimate that the relative price premium will have to fall by 10-25% at the retail level to enable continued strong growth in the market share of organic food products. If demand in the coming decade develops in the same way as in the last few years, we could see a tenfold increase in sales in the same markets. However, it must be stressed that this prediction is encumbered with great uncertainty; it is based, for example, on an assumption that the consumers compose their consumption not only with a view to satisfying their material needs with different products but also on the basis of their values, including a preference for the organic form of production.

Abrahamsen & Ingemann (1998) find that fundamental changes are taking place in people’s values in the highly developed industrial countries. This means that these societies are gradually moving in a new direction owing to ever higher prioritsation of "soft" values, such as quality of life, self-realisation and environmental protection. This gradual change in values has been noted both in society as a whole and at the individual level, and it is affecting people’s political attitudes and their actions as consumers.

As an element of this change in values, understanding of sustainability is influencing the development of the consumers’ values and thus the development of demand. As a result, the production process is gaining importance in line with the product, so that the consumers’ perception of the quality of a product covers both product and process. The production process is accordingly expected to meet a given, value-based standard, at the same time as requirements are made concerning the quality of the product itself, i.e. the more traditional perception of quality. The production process is therefore becoming not simply a means of producing a given product but, equally, a goal in itself. From this it follows that the quality of the production process must be communicated to the consumers because it cannot be seen directly from the product itself. The consumers must therefore trust that the production process is actually as expected. This also applies to the extent that the preference for organic food products is based on individual health considerations.

The consumers’ trust that all levels of the production process are in accordance with the organic rules can be gained through nearness and/or certification. By nearness we mean that the food products are produced and sold locally. This strategy is most suitable for small enterprises. Large companies must primarily depend on certification, which means that the consumers’ trust depends greatly on the efficacy of the inspection system. Many surveys show that there is today great faith in the government Ø-label (organic label) in Denmark (Ministry of Food, Agriculture and Fisheries 1999). Here, however, it is also important to remember that other environment-friendly and animal-friendly systems have been developed as well as the organic system. All the same, organic farming is the only system that is based on a unique and internationally accepted concept for which international production, certification and sales structures have been developed.

The European agricultural sector must generally be regarded as well ahead of the pack in the development of organic production, measured by total converted acreage or by the proportion of the acreage converted (Abrahamsen & Ingemann 1998). However, there are big differences in both the rate of conversion and the proportion of acreage converted up to the present time. Austria stands out, with respect to both rate of growth and proportion of acreage converted. It is followed by Sweden, Finland, Spain, Denmark and Germany, in that order. However, the converted acreage can naturally not be used as an indication of whether the individual pioneering countries might be potential competitors of critical importance to Danish organic production.

Similarly, it is not possible to derive from the rate of conversion any information about the technological level and thus competitive positions with respect to the development of process technology and the derivative export opportunities. However, Denmark must be assumed to be the country that could best make use of possibilities for assuming a central position in important export markets since it is the only country among the pioneers that has a production capacity and an institutional base that are targeted on extensive exports. However, it must be stressed that other countries are thinking about promoting conversion to organic production with a view to competing for these markets (Abrahamsen & Ingemann 1998).

Abrahamsen & Ingemann (1998) judge that the necessary technology for primary production, processing and distribution of organic food products is in place in Denmark and that Denmark also has competencies and an institutional network in connection with its existing agricultural production that can be used for further development of production and marketing. That depends, however, on the existing institutions being willing to switch tracks technologically.

7.2 Socioeconomic consequences

Analyses based on a general equilibrium model

The sectoral and socioeconomic consequences are clarified in a number of analyses using the general equilibrium model (AAGE) developed and used by researchers at the Danish Institute of Agricultural and Fisheries Economics (DIAFE) to describe the socioeconomic consequences of various agricultural measures

The calculations with the AAGE model primarily throw light on the socioeconomic costs that would arise from the fall in primary production. The analyses are based on "compulsory" conversion to organic production because that would be the only sure way of achieving 100% conversion. Any preferences the Danish consumers may have for organic farming have thus not been valued. On the other hand, a sensitivity analysis has been carried out in which it is assumed that foreign consumers’ preferences change to the benefit of Danish organic products.

The AAGE model has also been used to clarify the phase-out of pesticides. A detailed description of the model’s assumptions and mode of operation are given in the report from the Sub-committee on Production, Economics and Employment (Danish Environmental Protection Agency 1999c, Jacobsen & Frandsen 1998).

Despite being based on the same model theory, the analysis of restructuring for organic production differs greatly from the analyses of the phasing out of pesticides. The reason for this is more limited knowledge about a number of actual economic relationships at farm level in connection with a total restructuring of Danish farming for organic production. Similarly, such restructuring would also imply considerably more far-reaching structural changes in Danish agriculture. The calculated socioeconomic consequences are therefore also encumbered with considerable uncertainty compared with the calculated sectoral and socioeconomic consequences of a reduction in the use of pesticides.

The uncertainty associated with the calculated consequences is naturally also a result of the assumptions that must necessarily be included in such model calculations, and the results are therefore only an expression of the direction and order of magnitude of the socioeconomic consequences of a total restructuring for organic production.

The model has been used on four scenarios

The AAGE model has been used on 4 scenarios: 0-import, 15-25% import with the present and improved level of yield (see table 5.1 for a more detailed specification of the production), and with the following assumptions:

	primary production corresponding to the four scenarios (exogenous production)
	unchanged consumer preferences, i.e. a special market for organic products is not assumed
	a unilateral Danish approach, i.e. there are conventional prices for both exported and imported products.

- and a sensitivity analyses with a price premium on exports

A sensitivity analysis has also been carried out in which changed consumer preferences in the export markets are assumed, corresponding to a price premium of 10% on milk and beef and 20% on pork and poultry. This calculation was only carried out with 15-25% import and improved yield level.

The assumed fall in production

The two scenarios with import corresponding to an unchanged livestock population have been omitted, partly due to problems in handling different prices for the imported feed. In that connection, it should be mentioned that the scenario with 15-25% import and improved yield level is very close, with respect to production, to the scenario with unchanged livestock population (see table 5.1) and will therefore give a good indication of the economic consequences, also with unchanged livestock population. The changes assumed in the four scenarios compared with Danish agriculture today are shown in table 7.3. It will be seen that the total, weighted fall in the volume of production varies from 10 to 34%. A detailed description of the scenario set-up is given in Jacobsen & Frandsen (1999).

Table 7.3
Assumed changes (%) in agricultural production (Jacobsen & Frandsen 1999)

7.2.1 Fundamental consequences of a restructure

Compulsory conversion to organic production would have considerable consequences for the whole of primary agriculture (see table 7.3). One would thus expect a marked reduction in plant production and, depending on the development of productivity in plant production and the rules for import of feed for livestock farming, the production of pigs and poultry. A considerably lower production of pigs, in particular, would have serious consequences for employment in primary production and processing in this area, and a number of supply industries would experience a fall in the demand for goods and services for primary agriculture.

With the given preferences and use of present technology, restructuring for organic production can be equated with a fall in productivity in primary agriculture and the traditional, derivative consequences of that. This means an increase in unit costs in agriculture, resulting in increasing production costs. This would reduce the sector’s competitiveness, resulting in increasing imports and falling exports, which would directly impair the balance of payments. The extent of the fall in the net export of agricultural products would depend greatly on the intensity of the competition on the international food markets, including whether one is talking about ‘bulk goods’, such as grain, or more differentiated products, such as pork and dairy products. The overall effect on the balance of payments would depend on the overall impact on imports and exports, including changes in export and import prices.

The consequences for employment in primary agriculture would depend on the relationship between, on the one hand, falling production in terms of quantity and, on the other, more labour-intensive production per unit with conversion to organic production. There is little doubt that the former effect would dominate in the event of total restructuring, which means that total employment in primary agriculture would fall. In addition, employment in the processing industries (e.g. abattoirs) would fall in step with the fall in production.

Socioeconomically, rising prices for agricultural products and falling nominal wages (due to reduced employment in primary agriculture and the processing sectors and the assumption of unchanged employment in the long term) mean that real wages would fall in connection with such a negative productivity impact. Correspondingly, real GNP and private consumption would fall as a consequence of lower remuneration of the primary production factors. The result, in the longer term, would be a smaller capital for a required outcome (interest rates are set abroad). If the balance of payments were impaired as a consequence of possible total growth in imports and falling exports, combined with changed terms of trade, financial policy would have to be tightened to achieve equilibrium on the balance of payments.

These sectoral and national consequences naturally depend on the magnitude of the assumed loss of productivity that would result from restructuring for organic production. If it is assumed that the present yield level could be improved with a restructuring of the whole of Danish agriculture for organic production, such a development would naturally partially counter the above-mentioned economic consequences. Similarly, a change of preferences, particularly among foreign consumers of agricultural products to the benefit of Danish organic products would also reduce the economic costs in connection with a restructuring of Danish agriculture for organic production. All else being equal, such a change would increase the value of the net export of Danish goods and services, with derivative favourable consequences for the Danish economy.

Table 7.4
Changes in prices and exports (%) of primary and processed agricultural products (Jacobsen & Frandsen 1999)

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Table 7.5
Economic consequences of organic agriculture, present yield level (Jacobsen & Frandsen 1999)

Table 7.6
Economic consequences of organic agriculture, improved yield level (Jacobsen & Frandsen 1999)

7.2.2 Results

Tables 7.4, 7.5 and 7.6 show the prices deriving from the change in production and the economic consequences.

Big changes in prices

It will be seen from table 7.4 that there are relatively big changes in both prices and export, except in the case of beef and milk, because, as shown in table 7.3, beef production is unchanged in all the scenarios. The biggest change would be in cereals and pork. With 0-import, the supply of grain would be very limited, which would result in a high level of demand and therefore a high price to the farmer (+91%). This would affect both pork and poultry, where it is assumed that the increased demand would result in a price rise of 25-27% ex abattoir.

It will be seen from table 7.5 that the fall in production with the present yield level would result in a fall in GNP of 2.0-3.0% or DKK 17-26 billion (1992 level). Private consumption would fall by 3.7-5.5% or DKK 16-24 billion, corresponding to DKK 3,100-4,700 per capita per year. With an improved yield level (table 7.6), similar effects would be seen, but they would be much less as a consequence of the small fall in production.

In the scenario in which a change in the preferences of foreign consumers is assumed to benefit Danish organic production (far right-hand column in table 7.6), GNP would be reduced by DKK 8.5 billion. With this willingness to pay among foreign consumers, private consumption would fall, which can be taken as an expression of the welfare-economic consequences, although it would only fall by DKK 2.5 billion, corresponding to DKK 500 per capita per year. A detailed discussion of the results is given in Jacobsen & Frandsen (1999).

7.3 Operational consequences

The structure of farms in the organic scenarios is expected to differ considerably from the structure in present-day Danish farming. Today, most full-time farmers specialise in one particular production – arable farming, pig farming or dairy farming. It is assumed that, with 100% organic production, a more diversified crop rotation would be practised throughout the country, as described in chapter 5, and that manure would be evenly distribution in relation to the crop rotation. That means that the cattle would be spread over the entire country in order to make use of the large quantities of clover grass that are a substantial part of the rotation. At the same time, it is assumed that there would be a number of changes in the livestock housing systems (see section 5.3).

If implemented over a short span of years, the big change in the structure of farming would have very serious economic consequences for most types of farm because the existing housing for livestock would have to be changed or shut down. This is one of the main reasons for choosing a 30-year time horizon. A time horizon of this length would allow depreciation of the existing livestock production facilities without major extra costs.

To obtain an indication of how the existing types of farm would be affected economically, (Folkmann 1999a) carried out a comparison of the operating economy of the three main types of farm converted to organic production. In this comparison it is assumed that the specialisation would be maintained. The analyses have been made with conventional prices and without subsidies for organic production. The need of the organic farms for price premiums has then been calculated in such a way as to achieve the same total result at farm level in conventional and organic production. The advantage of this comparison is that it thereby becomes possible to see the products’ mutual competitiveness with organic products compared with the present situation, which is important when considering the development perspectives for organic agriculture (see section 9.3). However, it should be stressed that the general economic framework, as described in section 7.2, is of critical importance to the national economy and therefore also to the operating economy at farm level. Therefore, the results shown in table 7.7 should be seen only as some selected examples.

It will be seen that the need for price premiums varies greatly between the different products. There would be least need in the case of milk because dairy farming is the easiest production to adapt to the organic production rules. In the case of pig farming, the analyses apply to an intensive organic farm that imports 25% organic feed, for example from an arable farm. In this situation, a price premium of 46% would be needed for pork, but the premium would have to be twice that size in the case of a self-sufficient farm. In the case of arable farming, the price premium needed would vary slightly between clayey and sandy soil, but would be around 60%.

It should also be noted that the EU pays more in hectare support to conventional farmers because organic farms use less land for such crops as cereals and special crops, for which hectare support is provided, and more land for clover grass, which does not qualify for hectare support.

Table 7.7
Examples of economic results at farm level of restructuring specialised farms. DKK 1,000 per 100 ha (Folkmann 1999a)

7.4 Economic valuation of environmental improvements

The purpose of the valuation has been a tentative calculation of the value to society of the environmental improvements that a ban on the use of pesticides or complete restructuring of Danish agriculture for organic production can be expected to produce. The improvements include reduced pesticide and nitrogen pollution, smaller energy consumption, greater biodiversity and recreational and aesthetic benefits.

The valuation studies have not created a basis for a real cost-benefit analysis of a pesticide ban or conversion to organic farming. That is partially due to the fact that the scientific part of the Bichel Committee’s work has not generally led to conclusions on which valuation estimates can be based. That applies, for example, in the health sphere, where it has not been possible to arrive at quantified estimates of the health effects of pesticides. In the case of biodiversity and other "soft" values, it has not been possible to find foreign valuation studies sufficiently similar to the scenarios analysed here for unit values found to be used. That leaves three calculations of benefits based on the alternative cost method. The benefits in question are savings to society from reduced energy consumption, savings within water supply with a ban on pesticides and a very rough estimate of the potential savings from reduced nitrogen leaching in the organic scenarios.

An alternative cost analysis covers only the savings to society from future conversion to organic farming in future. Coming losses as a consequence of the "sins of the past" in the form of production practised in the foregoing decades cannot be prevented by changing the form of production in future. In economic terms, it is a question of "sunk costs" (Dubgaard et al. 1999a).

The calculated economic orders of magnitude are DKK 100 to 200 million a year with discontinuation of the present use of pesticides, calculated as saved prevention measures, DKK 300 to 500 million per year with reduction of the national emission of greenhouse gases, calculated for the organic scenarios in which feed is imported (see section 6.2.2), with the reduction valued as substituted wind energy, and, lastly, DKK ¾ billion a year as a consequence of reduced nitrogen pollution. The nitrogen leaching is valued as saved costs in connection with AEP II. However, all the calculations must be treated with great caution because they are encumbered with considerable uncertainty. All in all, these calculations give benefits of the order of magnitude of DKK 1-1.5 billion on an annual basis from restructuring for organic production (Dubgaard et al. 1999a, 1999b, 1999c).

As mentioned, there are considerable benefit components that it has not been possible to value. This applies primarily to human health effects and biodiversity. It would not be sound, either, on the present basis to say anything about the order of magnitude of these benefits seen in relation to the calculated loss figures. A complete cost-benefit analysis of the socioeconomic advantages and disadvantages of ceasing to use pesticides/switch to organic farming requires extensive empirical analysis of people’s willingness to pay for the "soft" values associated with these scenarios.

7.5 Discussion

The economic analyses have been very much in the nature of a set task: to analyse 100% restructuring for organic agricultural production with an implicit assumption of "command and control". With such an assumption, total restructuring can be envisaged, but the analyses show that the costs would be high. If one instead allowed demand and the price mechanism to govern the rate of conversion via the market, there would be no guarantee as to how much would be converted, but it can be assumed that the conversion that did take place would improve society’s welfare. That is because, according to current economic theory, a market-driven change is synonymous both with a more effective resource allocation in society, with the consumers, through their change of preference, individually assigning the "right" value to organic food products, corresponding to their willingness to pay. This assumes, however, that the change is not connected with negative externalities in the form of impairment of the environment or similar. When it is a case of conversion to organic production, it can be assumed that the change would have positive environmental effects. That means that – once again according to current economic theory – conversion would not have to be based on market forces alone in order to improve society’s welfare.

As far as the health aspects are concerned, it can be held that it is partially a case of private goods. The consumers can choose organic food products produced without pesticides etc. – and pay the necessary price premium. On the other hand, it is difficult to imagine efficient regulation through the market with respect to allocation of such common goods as groundwater and biodiversity. The consumers could admittedly reduce the use of pesticides and nitrogen by buying organic products, but in the case of public goods it is unlikely that voluntary payments would ensure an adequate supply, seen from a societal point of view. That would correspond to basing the production of "classic" public goods, such as law enforcement and military defence, on voluntary payments. The solution is financing through compulsory contributions in the form of taxes and levies. The economic explanation for the need for environment policy instruments in the form of injunctions, bans, environmental taxes, etc. is that externalities are also in the nature of public goods.

The counterpart of taxes on pollution is grants to produce positive externalities, such as increased biodiversity. Therefore, as long as conventional agricultural production must be regarded as more environmentally harmful than organic production, it can be argued that the rate of conversion should not depend solely on the consumers’ willingness to pay price premiums for organic products. A societally optimum supply of organic agriculture’s total bundle of private and public goods therefore means that the market-driven price premiums must be supplemented by public regulation. Valuation analyses have not provided an exhaustive answer to the question of the societal value of the positive externalities from organic agriculture.

7.6 Summary and conclusion

An established market

Today, there is an established market for organic food products. About 3% of all Danish food consumption is organic and the share of the market ranges from 0-22% for different products. It is characteristic that the highest market shares are gained for relatively cheap food products, such as milk, potatoes and vegetables. For processed products, such as meat, cheese and butter, the market shares are small.

- with price premiums

The price premium also varies greatly – from 5 to 90% for the farmer in relation to corresponding, conventional products. In the longer term, it is estimated that a price premium of 10-25% would have to be paid by the consumers to enable continued growth in the market share of organic food products. However, for a growing market for organic food to materialise, the consumers would have to compose their consumption not only with a view to satisfying their material needs but also with consideration for their own values, including an interest in the production process in food production.

The consequences are difficult to predict

It is extremely difficult to predict the socioeconomic consequences of 100% organic farming because the change is a very big one, with both primary agriculture and a number of associated sectors affected to a greater or lesser extent.

A number of analyses have been carried out with a socioeconomic model that primarily throws light on the socioeconomic costs – consequences that would arise from the fall in primary production. The analyses are based on a "compulsory" switch to organic farming because that would be the only sure way of achieving 100% conversion. Any preferences the Danish consumers may have for organic farming have thus not been valued. On the other hand, a sensitivity analysis has been carried out in which it is assumed that foreign consumers’ preferences change to the benefit of Danish organic products.

Impairs the national economy

The socioeconomic analyses show that 100% organic farming in Denmark with unchanged consumer preferences (i.e. without premium prices) would impair the national economy. The gross national product (GNP) would be reduced by 1-3%, corresponding to an annual reduction of DKK 11-26bn. Private consumption would be reduced by 2-5%, corresponding between DKK 1,900 and DKK 4,700 per capita per year.

The reduction is most significant in scenarios without import of feed, and improved yield levels reduce the reduction. The different agricultural sectors would be affected very differently. For example, the cattle sector would remain largely unchanged, whereas the pork and plant sectors would be very badly affected.

- depends on consumer preferences

A sensitivity analysis has also been carried out in which changed consumer preferences in the export markets are assumed, corresponding to a price premium of 10% on milk and 20% on pork. This analysis has only been carried out for 15-25% feed import and improved yield level. The analysis shows that this would reduce private consumption by about DKK 500 per capita per year and that GNP would be reduced by DKK 8.5 billion per year.

Analyses have been carried out of the economic consequences of conversion at farm level. They show that the costs would be relatively greater for the arable and pig farmers than for dairy farmers.

A valuation has also been carried out of the quantifiable environmental benefits of omitting pesticides, reducing nitrogen leaching and reducing emissions of greenhouse gases. There are big differences in the different groups’ willingness to pay for environmental benefits, and the valuation here is based only on alternative costs in the form of society’s savings in connection with the conversion. The analysis shows that the alternative costs of the environmental benefits can be put at DKK 1-1.5 billion per year, but it should be noted that the valuation is very uncertain.

The socioeconomic analyses show that the costs of compulsory 100% conversion are high. If one instead allowed demand and the price mechanism to govern, there would be no guarantee as to how much would be converted, but it can be assumed that the conversion that did take place would improve society’s welfare. That is because, according to current economic theory, a market-driven change is synonymous both with a more effective resource allocation in society and with the consumers, through their change of preference, individually assigning the "right" value to organic food products, corresponding to their willingness to pay. Since a switch to organic farming is associated with beneficial environmental effects, it need not be based on market forces alone in order to improve the welfare of society, but can also be based on government regulation.

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