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The Role of Risk in the Decision to Produce Post-Decoupling A Stochastic Budgeting Example

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  • Fiona Thorne

    ()
    (Rural Economy and Development Programme, Teagasc, Athenry, Co. Galway, Ireland)

  • Thia Hennessy

    (Rural Economy and Development Programme, Teagasc, Athenry, Co. Galway, Ireland)

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    Abstract

    Under the Mac Sharry and Agenda 2000 reforms, direct payments comprised a significant portion of farmers’ income in the EU. Farmers had to engage in production to receive these payments but the payments were relatively risk-free and therefore risk may not have played an important role in the production decision. This paper considers the effect of the decoupling of direct payments from production in the EU on the decision to engage in production and in particular, the paper focuses on the role of production risk in that decision. In an environment where direct payments are completely decoupled from production, farmers may engage in an ‘entitlement farming’ system, that is retain their land only to activate the decoupled payment and not actually produce any tangible goods. This paper examines the effect of production risk on the economic trade off between ‘entitlement farming’ and conventional farming. A stochastic budgeting model is developed for two representative farms. The model is used to measure the probability that the returns to the ‘entitlement farming’ system could exceed the profit emanating from a conventional farming system given production risk. The results show that for the less efficient representative farm, the probability of achieving a significantly higher profit by engaging in entitlement farming is 46 percent, while further analysis shows that there is a 9 percent probability that profits from conventional farming systems would be only marginally higher than the ‘entitlement farming’ option.

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    File URL: http://www.agresearch.teagasc.ie/rerc/downloads/workingpapers/05wpre03.pdf
    File Function: First version, 2005
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    Bibliographic Info

    Paper provided by Rural Economy and Development Programme,Teagasc in its series Working Papers with number 0503.

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    Length: 20 pages
    Date of creation: 2005
    Date of revision:
    Handle: RePEc:tea:wpaper:0503

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    Postal: Athenry, Co Galway
    Phone: +353 91 845845
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    Web page: http://www.agresearch.teagasc.ie/rerc/
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    Related research

    Keywords: Decoupling; Risk Analysis; Production Risk; Decision Analysis; Stochastic Modelling;

    References

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    Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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    1. Lien, Gudbrand, 2003. "Assisting whole-farm decision-making through stochastic budgeting," Agricultural Systems, Elsevier, vol. 76(2), pages 399-413, May.
    2. Maurice J. Roche & Kieran McQuinn, 2003. "Grain price volatility in a small open economy," European Review of Agricultural Economics, Foundation for the European Review of Agricultural Economics, vol. 30(1), pages 77-98, March.
    3. Harwood, Joy L. & Heifner, Richard G. & Coble, Keith H. & Perry, Janet E. & Somwaru, Agapi, 1999. "Managing Risk in Farming: Concepts, Research, and Analysis," Agricultural Economics Reports 34081, United States Department of Agriculture, Economic Research Service.
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