FOOD FOR THOUGHT - CAP Reform and Southern Africa

Recommendations on CAP

CAP REFORM AND AGRICULTURAL DEVELOPMENT IN SOUTHERN AFRICA

An Information Dossier on the Potential Impact of CAP, CAP Reform and Moves Towards Free Trade with the EU on Agricultural Development In Southern Africa

November 1998
GLOBAL FOOD SECURITY GROUP - IRELAND

Executive Summary

* In Southern Africa agriculture is the economic backbone of the economy. It is a major source of employment, and outside of South Africa lies at the heart of national industrial development. Agriculture is central to poverty alleviation and has an important bearing on the economic foundations of gender relations. What happens in the agricultural sector is thus of central concern to the people and governments of Southern Africa. Indeed, issues which may be of marginal interest in Europe can be of tremendous significance in Southern Africa.

* It is against this background that the CAP, CAP reform and moves towards free trade between the EU and ACP countries, including those in Southern Africa, need to be seen.

* Despite the EU's strong policy emphasis on free trade, in the agricultural sector the EU remains committed to managed trade. This will remain the case for as long as the CAP generates internal prices which are substantially higher than world market prices.

* Although the EU is an extremely high cost agricultural producer, it plays a major role in international and certain national markets. This arises through the perverse external consequences of the CAP.

* High internal prices have encouraged levels of production which exceed Europe's needs, but which largely price EU products out of world markets. This has necessitated the establishment of extensive publicly financed surplus disposal programmes.

* Across a number of sectors this has had the effect of depressing the prices of the agricultural products concerned. It has also necessitated the establishment of extensive programmes of support for EU agri-processing companies to compensate for higher CAP driven raw material prices. There has been a tendency for these programmes to over compensate EU agri-processing companies for the price increasing effects of the CAP, which further distorts international and national markets.
* This situation has been compounded in some sectors by systematic abuse or fraud of European agricultural support programmes.
* While the CAP is now undergoing a process of reform, it continues to create a situation where farm incomes are de-linked from the income derived from the sale price of the commodities produced.

* As a consequence the prices at which CAP products are sold on international and third country markets, do not necessarily bear any relation to either:
- the actual costs of production in the EU;
- the "normal" international price for the product;
- the price charged for the product on specific national or regional markets.

* The effects of the CAP on Southern African agriculture has been and continues to be multifaceted. On the negative side the CAP has in certain sectors:

- fostered the disposal of EU surpluses at prices which are way below the actual costs of European production, and which have substantially undermined the international price of products of vital national importance;
- financed the disposal of surpluses on Southern African markets at prices which have disrupted national and regional markets;
- over compensated EU agri-processing companies to such an extent that European exports have been able to displace lower cost Southern African production in important third country markets;
- required the maintenance of restrictions on imports of agricultural products despite a commitment to duty free access for Southern African exports under the Lome Convention.
On the positive side, the CAP has:
- allowed certain privileged exporting countries to benefit from the high internal EU prices which arise as a result of the CAP (most notably the sugar and beef protocol beneficiaries);
- generated grain surpluses which have been available to feed drought prone areas such as Southern Africa;
- generated cheap grain for sale to wheat mills in Southern Africa, which has stimulated the development of an export orientated milling industry.

* The impact of the CAP on Southern African agriculture is thus multifaceted and complex. In this light the impact of CAP reform is likely to be equally complex and multifaceted. It is also likely to be of considerable importance to Southern African farmers, employees, processors, traders and consumers.

* A highly nuanced approach is required in analysing the likely consequences of CAP reform for Southern African agriculture. Not only will the consequences of reform be multifaceted but these will be impacting on diverse national agricultural economies, in which the relative weight of consumers, producers, processors and traders interests will vary.
* The current proposals for CAP reform will result in a lowering of the internal EU intervention price for the products effected. This lowering of the intervention price will however be compensated for by an increase in direct aid payments to EU farmers. This will result in lower prices of EU agricultural products and reduce the gap between EU and world market prices. This will improve the competitive position of EU agricultural exports in the sectors concerned, with exporters continuing to benefit from export refunds, though be it constrained by WTO agreed limitations.

* From a Southern African perspective the overall net effect of CAP reform will be to make certain EU markets less attractive to agricultural exporters, and make EU agricultural exports cheaper, with consequences for both domestic markets and exports to third countries.

* The threat posed by CAP reform to Southern African agricultural producers and processors serving domestic and regional markets is exacerbated by an EU trade policy which is promoting the establishment of CAP compatible free trade areas. Under this policy the EU is seeking to secure duty free access for EU agricultural and processed agricultural exports, whilst maintaining in place both restrictions on access to the EU market and extensive programmes of public assistance to European farming. Given the unfair competition generated by these support programmes, Southern Africa producers and processors are concerned that they could find their own production being displaced in national and regional markets by "subsidised" EU exports.

* This it is felt could result in: lower farm incomes; reduced agricultural employment; retrenchment of workers in the agri-processing industry and factory closures in the agri-processing sector.

* Against this background steps need to be taken within both the process of CAP reform and moves towards free trade to ensure that:
- existing forms of agricultural production in Southern Africa are not undermined by the application of existing and revised CAP instruments;
- opportunities are retained for the development of regional strategies for the consolidation and expansion of agricultural and agri-processing industries in Southern Africa;
- new opportunities are opened up for Southern African agricultural exports in those areas which pose no economic threat to the EU but which offer scope for the development and consolidation of agricultural and agri-processing industries in Southern Africa.

* In order to ensure that these broad objectives are realised in ways which bring positive gains for Southern Africa, without fundamentally undermining the CAP, it is necessary to look at the impact of CAP distortions and CAP reform on a sectoral, sub-sectoral and product by product basis, in the light of the current and emerging patterns of regional trade in CAP related products.

Beef Sector

* The beef sector in southern Africa provides a vivid illustration of the trade distorting effects of the CAP. It demonstrates how regional economic realities in the beef sector in the developing world need to be taken into account in assessing the impact of the application of CAP policy instruments. The recent regional experience in Southern Africa also demonstrates how the process of trade policy reform can increase the vulnerability of regional markets to disruption from the application of CAP policy instruments.

* In the beef sector the specific CAP policy instrument causing problems in Southern Africa is the export refund scheme, for without the availability of high levels of export refund, EU beef would not under current circumstances be exported to Southern Africa.

* While EU beef was being exported nominally only to South Africa, its effects, to varying degrees, were being felt throughout the Southern African Customs Union. Indeed as the region moves progressively towards the establishment of a SADC Free Trade Area its consequences are likely to be felt throughout the SADC. Beef exported from the EU with the benefit of export subsidies took markets away from regional suppliers of 'C' grade beef and undermined prices offered local producers.

* While as a result of reductions in EU export refund payments the extent to which EU beef has undermined local markets has been reduced, the basic system of export refunds remains in place and the Southern African beef sector remains vulnerable to further disruption.

* The basic system of export refunds will remain unaffected by the process of CAP reform. What the agenda 2000 reforms in the beef sector will do is increase the level of direct aid payments to farmers and reduce by 30% the intervention price for beef.

* With other Agenda 2000 reforms in the arable sector reducing the costs of animal feeds, this will make EU beef cheaper, thereby reducing the gap between EU beef prices and world market prices for beef. This will in turn reduce the need for export subsidies, although the system will nevertheless remain largely in place to assist EU traders in disposing of surplus EU beef.

* The aim of the Agenda 2000 reform programme is to enhance the international competitiveness of the EU beef, arable and dairy industries.

* Post the Agenda 2000 reforms therefore the EU beef, arable and dairy industries are likely to pose an increased competitive challenge to Southern African farmers. This however, will not have occurred primarily as a result of overall increases in the efficiency of EU farming, but will largely have been achieved by increasing the level of direct assistance to farmers from the public purse in compensation for a reduction in intervention prices.

* Southern African beef farmers may therefore find themselves facing a growing competitive challenge from EU beef farmers not because Southern African beef farmers are inherently uncompetitive, but because unlike their European counterparts they do not enjoy access to publicly financed programmes of direct financial assistance to beef farmers.

* While Southern African cattle farmers are willing to face up to fair competition, they find it unacceptable that there markets should be undermined by the provision of public funds to European beef farmers or beef traders.

* Whereas in recent years it has been aid to EU beef traders in the form of export refunds which has resulted in an unacceptable depression of local beef markets in southern Africa, the danger is that in future Southern African beef markets may well be depressed by a combination of increased levels of direct EU assistance to beef farmers and continued (if somewhat diminished) EU programmes of assistance to beef traders.

* As in the coming years Southern Africa contemplates movement towards free trade with the EU, what Southern African beef farmers would like to see is the removal of all CAP distortions from the competition they must face from the European beef farming industry.

* In the absence of the removal of such distortions Southern African farmers will look for the establishment of mechanisms, within Southern Africa and at the EU-Southern African level, to remove or reduce the distortions created on local markets by the application of CAP instruments.

* Only on this basis will it be possible to draw up a regional strategy for the development of a SADC wide regional red meat market. On this platform the red meat sector in the region could move towards increased international competitiveness, which takes advantage of their comparative advantage in producing extensively, clean high quality meat for international markets and clean lower quality meat for the mass consumption urban market.

The Dairy Sector

* In the dairy sector, as in the beef sector, the current source of CAP distortions of most concern to Southern Africa is the system of export refunds.

* While the GATT agreement places limits on export refunds in the dairy sector, the important issue is not the aggregate level of export refund support allowed under the WTO agreement, but how these export refunds are deployed to target particular markets.

* The EU is a major player in the global dairy trade with policies being determined largely with reference to the competitive threat posed by the US and Cairns Group suppliers, rather than the specific developmental needs of Southern Africa's dairy industry.

* The EU's ambition in the dairy sector is to achieve world competitiveness in the most profitable dairy export products. However, relative to other producers the EU is a high cost dairy producer. Efforts to include dairy products in the tariff elimination commitments made by South Africa under the current EU-South Africa FTA negotiations need to be seen in this light.

* The SADC dairy sector is tiny by EU standards, being equivalent to less than 1/3 of the surplus dairy production generated by the EU. A key to the expansion of dairy production in the SADC region is the regional insulation of SADC dairy markets from unfair competition. At present low tariffs in certain countries, leave many SADC dairy traders vulnerable to unfair competition from subsidised exports from higher cost dairy producers (most notably the EU).

* There is considerable scope for the development of the dairy industry throughout the SADC. Indeed, in recent months national dairy associations in Southern Africa have sought to come together at the regional level to formulate a regional dairy sector development strategy which takes in to account the distorted nature of world dairy markets. The regional development of the dairy industry could offer considerable scope for small holder farming development and employment creation both on-farm and in the dairy processing sector.

* In the major market for dairy products in Southern Africa, South Africa, the EU currently offers export refunds for butter of between 1.65 ecu per kilo and 1.70 ecu per kilo (around Rand 10 per kilo or twice current South African protective tariffs). According to EUROSTAT statistics, the value of the EU export refunds for butter currently exceed the average price of EU butter exported to South Africa (1.498 ecu per kilo).
* In certain components of the SADC dairy industry, most notably butter, imported products are now replacing domestic raw materials. In Zimbabwe production of butter has fallen by 92% in the last 5 years, with it now being deemed no longer economic to produce butter from domestically produced milk. The ready availability of subsidised EU butter has transformed the economics of butter production throughout the SADC region.
* While in a context of raw material supply constraints it may make economic sense to import in bulk EU butter and then repackage it, over time these type of EU surplus disposal programmes could come to represent a serious impediment to the development of the SADC dairy industry.
* Given the nature of potential consumer demand in Southern Africa the utilisation of long life technology offers tremendous scope for the development of regional dairy production. However, it is in precisely these long life products where the greatest potential threat arises from imported products. This is particularly the case since traditionally there have been no import duties on fresh milk, since the limited shelf life of the product restricted trading possibilities. Technological change is now overcoming this constraint on international trade.
* From the perspective of the Southern African dairy industry an immediate policy priority is to ensure that the potential growth and development in the dairy sector in both South Africa and neighbouring SADC countries is exploited by Southern African dairy producers.
* By reducing the intervention price and increasing direct payments to EU dairy farmers the Agenda 2000 reforms will further de-link the price of EU diary products from the actual costs of production. Effectively, EU diary farmers will not need to cover in full their fixed and marginal costs through the income they receive from the sale of milk.

* This will reduce the costs of milk to the dairy processing industry and so close the gap between EU and world market prices in the dairy sector. This will improve the competitive position of the EU dairy processing industry on world markets.

* However, given the scale of the gap between the costs of production within the EU and world market prices the system of export refunds will continue to be necessary. EU efforts to have import duties removed on EU dairy products (whilst being maintained against other third country suppliers) in the context of free trade area negotiations with South Africa need to be seen in this light.

* If the EU successfully gained preferential access to South Africa's dairy markets, given the moves under way in the region to create a SADC wide Free Trade Area, this could have serious implications for plans for the development of the dairy sector in the whole of Southern Africa. It could lead to a scenario where the local dairy sector invests in developing local markets for dairy products, only to find that as these markets mature EU dairy sector traders step in and cream off sections of the market, with the benefit of export subsidies.

* An immediate priority for Southern African dairy associations is thus to retain the space for the development of a regional dairy sector strategy by excluding diary products from the South African tariff elimination offer under the current FTA negotiations with the EU. Within the window of opportunity this provides the national dairy associations of Southern Africa will then seek to collectively determine the arrangements to be set in place to ensure that regional producers are able to capitalise on new market opportunities opening up in the dairy sector.

* The key consideration is the need to retain, through appropriate external trade arrangements, the economic space for the development of an effective regional dairy development strategy.

The Grain Sector

* The arable sector is the sector where progress away from price support to direct aid to farmers is most advanced. As a consequence developments in the arable sector are a sign post to where other CAP sectors are heading under the agenda 2000 reform process. The arable sector is the area where the greatest progress has been made in closing the gap between EU prices and world market prices. After the Agenda 2000 reforms have been implemented the price differential with the world market will be virtually eliminated. This will enable EU cereal products to be disposed of on world markets without the need for export subsidies.

* This does not mean that CAP distortions will have been removed from world markets, but rather that the nature of the competitive distortion generated by the CAP will have been transformed. No longer will it be the deployment of export refunds which distorts free and fair competition, but rather it will be the provision of high levels of direct aid to EU farmers. The provision of such direct aid will mean that European cereal farmers do not have to recover their full costs of production and profit margins from the sale price of the grains produced.

* The net effects of CAP reform in the arable sector will be to increase the competitiveness of both EU grain sales and European grain based processing industries. This is likely to assist European grain processors in winning new national, regional and international markets, which in turn will assist the EU in disposing of production which is surplus to domestic requirements.

* Within Europe the arable sector has important linkages to other sectors, with price reductions in the arable sector feeding in to reduced input costs in the dairy, beef, pig and poultry sectors. This could serve to improve the competitiveness of European livestock farmers on national, regional and international markets.
* The arable sector is of vital importance to the majority of the population in Southern Africa both as producers and consumers.
* Currently, the direct aid paid to EU farmers in the arable sector, when spread across total grain production, is equivalent to the producer price paid in Southern Africa to its grain producers. However, the situation in the Southern African grain sector is complex and hence so are the effects of CAP distortions and CAP reform.

* In Botswana, a milling industry has also emerged based on imported grains which serves both a domestic pasta and biscuit company and certain regional markets. While in Mauritius an export oriented milling industry has been created on the basis of annual contracts for the import of subsidised EU wheat. These industries require the maintenance of systems which allow the import of cheap subsidised EU grain, but would like to see cheap EU flour kept out of their markets.

* Other SADC countries have wheat farmers who would like to see protection for their domestic markets. In still other countries urban consumers constitute a major factor in the policy equation, with cheap bread being an important pillar of political stability. These countries would welcome cheaper EU flour.

* The situation is further complicated by the role grain plays as an input in meat production. In South Africa around 50% of all grain produced commercially goes into the animal feeds industry. If these meat producing industries find their costs increased by agricultural protection for grain farmers, they could find their competitive position deteriorating.

* The complex linkages which exist between the grain sector and other agricultural sectors greatly complicate the policy making equation, as Southern African governments face increased pressure to liberalise their agricultural sectors.

* Key policy questions which need to be addressed include:
- how at a national level the interests of producers, first stage processors, second stage processors, traders and consumers are to be reconciled;

- how at a regional level, with efforts under way to create a SADC Free Trade Area and the arable sector varying considerably in importance between SADC countries, is a regional strategy for the arable sector to be developed which reconciles regionally the different and competing national interests.

* The Southern African grain sector, as a result of the EU's Agenda 2000 arable sector reforms, is likely to face increased competition from the EU. The extent to which this will effect regional and national grain markets will be crucially determined by the nature of the liberalisation process introduced in the various Southern African grain sectors.

* There is a belief, within the Southern African milling industry that, if the grain sector and its associated industries are not to face fundamental restructuring as a result of the introduction of competitive distortions arising from the de-linking of farm incomes in Europe from the sale price of European grain, then the Southern African grain sector will need to be subject to special trading arrangements within any moves towards free trade with the EU, .

* At present however, there is no consensus on what such special arrangements should cover and how they should be structured. The debate is at an early stage. However, what needs to be recognised is that in Southern Africa, the arable sector is a "basic needs" industry which is of fundamental importance to the food security and economic well being of the majority of the regions population. As such it is important that policies are set in place which maintain the economic space for the sustainable development of the region's basic grains industry, in ways which reconcile the interests of the different interest groups involved.

* While this is likely to be a difficult task, what needs to be established from the outset is that priority should be given to establishing a SADC regional market in basic grains and grain based products and that any arrangement with the EU should be consistent with and supportive of, a SADC wide regional grain market arrangement. Only on this base can the economic space be retained for the regional development of the SADC basic grains industry, which is so central to the economic well being of so many of the regions people.

Canned Fruit and Vegetable Sector

* In addition to agricultural and first stage processed agricultural products which are directly covered by the CAP, the EU has had to develop a parallel system for second stage agricultural products whose costs are increased as a result of CAP policies. This has involved the development of a regime of import levies and export refunds for a range of so called non-annex II goods that make use of CAP products in their manufacture (cereals, sugar, and milk, canned fruit and vegetables etc.).

* If second stage processed products did not receive a similar degree of protection or export refund support to that afforded the basic raw material then they would be priced out of either their national or international markets. This provides the background to the issues in the canned fruit and vegetable sector.

* The principal problems for the South African fruit and vegetable canning sector arise not from CAP export refunds but from
- the application of CAP processing and marketing aid schemes;
- systematic fraud of CAP support programmes in the fruit sector;
and
- the CAP generated imperative for the EU to maintain high protective tariffs around the EU canned fruit and vegetable sector.

* At present this is resulting in:

a) SA canned fruit exports being driven out of the EU market;
b) the loss of third country markets for SA canned fruit to subsidised EU exports;
c) the disruption of SA canned vegetable markets by subsidised EU exports;
d) the closing off of diversification possibilities, as a result of the maintenance of high EU protective tariffs in various sub-sectors of the fruit and vegetable sector.

* This has led to job losses in South Africa. Indeed if the underlying issue of CAP distortions are not in various ways addressed it will lead to further job losses and a fundamental restructuring of agricultural production in fruit and vegetable dependent areas.

* For South Africa's fruit and vegetable canning industry a major issue is the removal of all CAP distortions from the markets which the South African industry is seeking to serve (be it domestic, regional, EU or international).

* Moves towards free trade in canned fruit and vegetable products would pose a major threat to the South African industry unless the issue of CAP distortions is fundamentally addressed.

* To date however, within the free trade area negotiations which are under way, there is no evidence that the issue of the trade distorting effects of the CAP are being addressed in the fruit and vegetable canning sector.

* As a consequence the South African fruit and vegetable canning industry is increasingly looking to domestically based measures which can be adopted in order to ameliorate the negative effects of the trade distorting effects of the CAP.

* If the current situation continues then not only will opportunities for diversification and the maintenance of the fruit and vegetable processing sector be lost but a major down sizing and restructuring is likely.

The Sugar Sector

* EU sugar sector policies have had a major effect on world markets, massively distorting world markets and creating an entirely artificial world sugar market.

* Unlike in the beef sector, where at present publicly financed export refund programmes are the major source of market disruption, in the sugar sector disruptions arise on world markets as a consequence of the entire structure of the EU sugar regime.

* The EU sugar regime has created a situation which has transformed the EU from a major sugar importer to the major sugar exporter. The EU has become the major sugar exporter, despite the fact that it is one of the highest cost producers in the world, with production costs over twice those of the lowest cost Southern African producers.

* The adverse effects of EU policies on world market prices (where world prices are depressed by on average around US $ 106 per tonne) has been reduced in Southern Africa by the provision of high levels of preferential access to the EU market, where prices have been between 2 and 3 times world market levels.

* This has created a high dependence amongst ACP Southern African countries on the EU market. Amongst the 6 Southern African countries benefiting from preferential access to the EU market, revenues from sugar sales on the EU market account for 55% of total revenue. Without this preferential access to the EU market it would be impossible to sustain current levels of sugar production, for sales in other markets are to varying degrees cross subsidised by revenues from sales on the EU market.

* While the sugar sector is not subject to Agenda 2000 CAP reforms, price reductions in other sectors have served to increase the attractiveness of sugar production. While quota restrictions will prevent this from manifesting itself in an increase in EU sugar production, it will make it more difficult to reduce production within those quotas which are solely for export.

* At one level therefore the Agenda 2000 CAP reforms are likely to make it more difficult to remove the trade distorting effects of the CAP from the world sugar market.

* This being said, the introduction of Agenda 2000 type reforms in the sugar sector beyond the year 2000 (involving increased direct aid to farmers in compensation for major reductions in the intervention price of sugar) could have potentially serious consequences for the ACP Southern African sugar producers and indirectly for the whole of the Southern African sugar sector.

* If EU sugar prices were to decline by say 30%, without a major reduction in production quotas to eliminate EU sales to the world sugar market (thus leading to an increase in the world market price for sugar), this would have a significant impact on Southern Africa sugar revenues from sales to the EU, without a corresponding increase in revenues from sugar sales on the world market.

* Lower revenues from the sale of sugar on the EU market would make it more difficult to cross subsidise Southern Africa sugar sales in to other markets, such as the residual world market, where prices are below the costs of even the most efficient southern African sugar producers. This would seriously constrain efforts to expand Southern African production in a sector where it has major cost advantages.

* Against this background, a careful and considered approach to reform of the EU sugar regime will need to be formulated which fully takes in to account the external implications of the domestic reform process.

* Until such time as the distortions of the world sugar market which the EU has generated are removed, Southern African sugar producers will look to retain current levels of preferential access at the current levels of remuneration.

* Given the high levels of protectionism and gross distortions which exist in the sugar sector, no serious consideration can be given to moves towards free trade in the sugar sector until these distortions have been removed.

* Against this background, in Southern Africa there is a felt need to create and protect a SADC regional sugar market, so that the foundations can be created for an expanded internationally competitive sugar sector, which can take advantage of its comparative advantage once more liberalised sugar markets emerge.

* Unless a protected and carefully structured Southern African sugar regime is established, moves towards regional free trade could result in surplus sugar from one SADC country being exported to neighbouring countries at prices which depress national sugar prices down to world market price levels.

* If preferential access to the EU and US markets can be retained and the distortions on the world market can be removed, than Southern African sugar production could expand creating over a 100,000 new jobs, largely in some of the poorer countries of the region.

* While reform of the CAP is needed to remove the distortions of the world sugar market, this will not necessarily occur in ways which are favourable to the Southern Africa sugar industry. From a southern African sugar perspective it is important to avoid a worst case scenario, where internal EU sugar prices are significantly reduced without any reduction in EU sugar exports and consequent improvement in world market prices.

* If this worst case scenario emerged and was combined with unregulated liberalisation of Southern African sugar markets, then the effects could be disastrous for a sector which currently employs over 500,000 people.

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