Changing Structures In The Barley Production And Malting Industries Of The United States And Canada

Substantial changes have taken place recently in the regulation of agricultural trade in North America. The effect of these changes on trade in agricultural commodities is of particular interest to producers and policymakers in the Northern Plains and Rockies region. In this paper, we discuss specifically the malt barley production, malting, and brewing industries in light of these new trade agreements and their ramifications. We evaluate the incentives that free trade provides for mergers between barley malting firms, and then we assess the consequences of these mergers on the realized gains from trade for consumers, barley producers, and malting firms. The globalization of markets has fundamentally changed the world in which economic agents operate. Trade has been liberalized through multilateral world-wide agreements such as the General Agreement on Trade and Tariffs (GATT) and through regional free trade agreements such as those within the European Union, the Canadian/United States Trade Agreement (CUSTA), and the North American Free Trade Agreement (NAFTA). A striking phenomena which has accompanied trade liberalization has been the international merger of firms and the creation of many jointly owned multinational operations. There are two distinct types of malt barley that differ in their yield and in their production areas in North America. Montana and the Canadian provinces grow primarily high-quality two row barley, while North Dakota and Minnesota produce primarily six row malting varieties. Two row barley yields more malt per bushel for maltsters, but it is more prone to disease for barley producers. The opening of the border between the United States and Canada has made large quantities of two row barley available to U.S. malting firms and brewers. The trade policy literature suggests that trade liberalization will have a profound impact on domestic policy choice, making the costs of any government action to increase market prices above the prevailing world price more expensive. Open borders should also provide discipline on how industries price in the domestic market. With import restrictions such as tariffs in place, the non-competitive industry structures that raise prices in the domestic market can exist with limited fear of foreign competition. With freer trade, however, the industry faces more potential competition. When a free trade policy merges formally distinct markets for which stable industry structures exist, this creates additional incentives for mergers within the newly combined industry that reduce these gains from free trade. This analysis was motivated by observing the malting barley industry in Canada and the United States. In 1985, prior to CUSTA, the two domestic markets for barley malt were distinctly separated by import license requirements into Canada and import tariffs in the United States. As such, both countries had large malting industries, but there was little trade flow between the two countries in malting barley, in barley malt, or in beer. Four firms controlled 90 percent of the Canadian malting market, and six firms controlled over 80 percent of the U.S. malting market before CUSTA. As a result of mergers after CUSTA, five firms owned 90 percent of the malting capacity in North America. Economies of scale and elimination of high cost plants often drive industry consolidation. Interestingly enough, despite all of the merger activity among malting firms, there were very few plant closures and very little new capacity built. Even new entrants to either the United States or Canadian industries purchased the assets of existing firms, rather than building new plants. We review relevant literature for firm behavior and report the results of a model for the incentives for plant mergers in the North American malting industry following CUSTA. We evaluate malting firm profits, the changes in malting margins, the price effects, and the overall welfare effects of the creation of the free trade area and subsequent mergers within the industry. We found that free trade, in the absence of mergers, increases output in both countries and reduces malting margins leading to large gains for consumers and producers of malt barley. The agreement, however, also increases incentives for mergers. With the mergers that took place, we show that merging barley malting firms have incentives to decrease output by about 21 percent, while their producers' surplus increased by approximately 34 percent. The net benefits of free trade to consumers and input suppliers are reduced by mergers, while the profits of merging firms are increased by them. Overall, with free trade and mergers, there is still a net social gain relative to pre-CUSTA. Malt production in Canada increases by over 12 percent, while that in the U.S. is slightly lower, leaving North American consumers, firms, and barley producers better off.