Providing Environmental Public Goods under the Common Agricultural Policy as a Cure for Market Failure

Purpose: In the reality of the marketplace, a situation often arises where an economic surplus (rent) achieved by agricultural producers is partly taken over by related non-agricultural sectors. In this sense the category of economic rent embraces market failures related to such factors as price flexibility, and thus represents an effect of the misallocation of resources in the agricultural sector. The question therefore arises of whether there exists a developmental model of agriculture in which such market failures would be reduced. Apparently the only coherent response to this need is action taken under the paradigm of sustainable agriculture. This type of model for the sector’s functioning is supported by the objectives of the European Union’s Common Agricultural Policy (CAP), including through support for the supply of public goods in rural areas. Design / Methodology / Approach: To verify the hypothesis, a panel regression analysis was performed on three sets: the EU-15 countries and the EU-12 countries. The analysis covered two hitherto accomplished CAP programming periods: 2004-2006 and 2007-2013. Findings: Increase in the level of payments for public goods, as a percentage of total subsidies to agriculture, leads on average to a reduction in the drainage of economic rents through prices. It was also found that the financing of public goods under the CAP is more effective in reducing market failures in the EU-15 countries than in the EU-12. Practical Implications: This article addresses the question of whether CAP payments for public goods are a desirable systemic solution serving to reduce market failures. It is hypothesised that the financing of activity relating to the supply of public goods mitigates the “market treadmill”, since it reduces the unexpected outflows of economic surplus away from farms, caused by agricultural prices.