Budgeting for drought

By John Freebairn

March 26, 2019

Farming is a risky business. Seasonal conditions are always variable – ranging from drought back to normal and then onto above average rainfall, as well as floods and cyclones. Added to this, commodity prices are volatile.

The current crippling drought hitting eastern Australia is reducing agricultural output and incomes, as well as causing distress to many rural families across the country. And it could get worse – with climate change likely to increase both the frequency and severity of future droughts.

The current crippling drought hitting eastern Australia is reducing agricultural output. Picture: Getty Images

Most people voluntarily commit to farming if the anticipated returns in the good times balance the low or negative returns during adverse conditions. The majority of farmers and their families prepare for and adjust to the ups and downs of farming – and this includes drought.

But can the same be said for government?

Some forms of government assistance can help facilitate adjustment to drought, including support for those small-business families facing poverty, as well as helping people to make better decisions when it comes to planning and preparing.

On the other hand, ad hoc handouts to farm businesses in the form of subsidies for interest, freight and transport can have undesirable effects in terms of Australia’s national productivity and equity.

Farm business subsidies

One general form of drought assistance involves government subsidies on interest, freight and animal fodder.

These subsidies raise the average return from farming and could be termed ‘privatise the profits of good seasons and subsidise some of the losses of drought’. Like other forms of selected industry assistance, such as tariffs on imports of motor vehicles and clothing, subsidies for drought increase returns to the farm product.

Some forms of government assistance can help facilitate adjustment to drought. Picture: Shutterstock

In turn, the drought subsidy encourages redistribution of limited national labour, capital and other resources from more productive uses in non-subsidised industries to less productive use in the subsidised farm industry. But ultimately, subsidies – including drought subsidies – must be paid for by higher taxes or lower government outlays and these are costs for other people.

In addition, there are other adverse side-effects of farm business drought subsidies.

Firstly, the knowledge that subsidies will be provided during drought can reduce the incentive for some farmers to adopt appropriate drought preparation and mitigation decision strategies.

Secondly, structural adjustment involving the amalgamation of smaller farms into larger ones and the adoption of new technology is a continuing feature of farming, as is its record of increasing output and productivity, like many other industries.

The increased costs of labour relative to capital equipment and the larger scale bias of a lot of the technological change in farming favours the expansion of farm sizes over time. Drought subsidies can work to delay inevitable structural changes, including smart farmers who have planned for and adapted to buying-out less successful operators.

Subsidies for farm outputs or inputs are a very blunt policy instrument to support those farm families facing poverty. For example, subsidies on interest provide no income support for farm families free of debt or reluctant to borrow, and they provide considerable funds to large borrowers who often have above average incomes.

But there are other tools available which are more effective in meeting society equity goals.

Drought subsidies must be paid for by higher taxes or lower government outlay. Picture: Getty Images

Minimum farm household income support

Australia has long-established equity objectives of a minimum income and safety net for all of the country’s citizens, along with government-funded education, health and other basic services for all.

There’s the Newstart policy for the unemployed, the Age Pension for retirees and the Disability Support Pension for anyone with a permanent physical, intellectual or psychiatric condition that stops them from working.

Because of poor decisions or simply bad luck, some farm households find themselves with insufficient money to provide their families with the basics in the event of drought. The Farm Household Allowance (FHA) is a means-tested, government-funded safety net to help counter the poverty of farming households.

When it was introduced in 2014, the FHA rate was the same as Newstart – then, in 2018, the government added additional payments and reduced the assets test.

Providing a minimum income support to the self-employed, which includes farmers along with small businesses in other parts of the economy, has been a challenge – mainly as a result of the difficulties in administrating a means test.

The 2018 decision to make FHA more generous than Newstart, and the absence of a similar low-income payment for other small businesses, both raise concerns of horizontal equity across different members of society.

Some farm households find themselves with insufficient money to provide their families with the basics. Picture: Shutterstock

Government funding of mental health, social and other support networks for drought-affected farmers and their families is an important social equity instrument. And these programs would be more effective if they were provided on a long-term and continuing form, rather than an ad hoc response to each drought.

Better decision-making

There are a number of government programs that support farming communities to better plan for drought.

These programs can provide information like meteorological data on seasonal conditions to help guide decisions; hands-on education to individual farmers to develop longer term decision strategies, and adaptive strategies for droughts and other unfavourable times. Programs like the Rural Financial Counselling Service warrant government support and some funding.

Additionally, the system of Farm Management Deposits allows farming businesses and families to shift taxable income from the exceptional good years to the bad years, both reducing average tax payable and smoothing the available funds.

Ultimately, this means helping to build a more robust and self-sufficient farming sector. But any plan for government assistance must be continuing and long-term, rather than ad hoc reactions to each new drought.

But, regardless of any government help, none of them can induce the much-needed rainfall in the parts of the country that need it most.

This article was first published on Pursuit. Read the original article

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