Brazil Details STAX Criticism In First Formal Reaction To Senate Farm Bill

Posted: July 19, 2012

Roberto Azevedo, Brazil’s ambassador to the World Trade Organization, last week offered the clearest picture to date of how Brazil believes U.S. farm policy should be shaped in order for it to be consistent with international trade rules. He did so in a written critique of the Senate-passed farm bill delivered to Isi Siddiqui, the top agricultural negotiator in the Office of the U.S. Trade Representative.

In a July 9 letter to Siddiqui, Azevedo highlighted the changes he believes must be made to the farm bill’s safety net for U.S. cotton farmers, known as STAX, and the General Sales Manager (GSM) 102 export credit guarantee program. The letter was forwarded to the leaders of the Senate Agriculture Committee on July 13 and to committee staff members this week by the Brazilian embassy in Washington.

The letter was sent ahead of meetings this week between Azevedo and Siddiqui, along with the U.S. Department of Agriculture (USDA) Under Secretary Michael Scuse. The two sides, meeting in Brasilia under the U.S.-Brazil Cotton Framework Agreement from July 17-18, were expected to discuss the farm bill process.

Brazil successfully proved in the WTO that both U.S. subsidies for cotton farmers and the GSM 102 program violate international trade rules, for different reasons. While the U.S. has yet to comply with the ruling, the two sides agreed under a temporary interim deal in 2010 that the next five-year farm bill would bring U.S. policies in line with the ruling.

Both the Senate and House Agriculture Committee leaders have said they are aiming to avoid running afoul of WTO rules in crafting the next farm bill, but every farm bill proposal thus far has encountered criticism from Brazil, which alleges that they move in exactly the opposite direction by making subsidies more trade-distorting.

In the July 9 letter, Azevedo laid out eight steps the U.S. must take “at a minimum” in order to make sure its policies are WTO-consistent. Of those, seven involve changes to the cotton support program known as STAX, which was designed and proposed by the Tennessee-based National Cotton Council (NCC).

The first step is to not reintroduce a fixed “reference price” into the STAX program. An early draft of the Senate farm bill included a $0.65 per pound reference price for STAX, although that was dropped in the face of criticism from Brazil (Inside U.S. Trade, May 18). But the House version of the farm bill reintroduced the reference price element — and at a higher price of $0.68 per pound (Inside U.S. Trade, July 13).

STAX is a cotton-specific crop insurance policy that is designed to cover some portion of the losses a farmer incurs compared with an expected level of revenue, which is calculated using price and yield data. Without a reference price, that expected revenue level can fluctuate up and down depending on the market. But a reference price sets a floor for how low the benchmark can drop, essentially guaranteeing a higher level of payment when the cotton market is weak.

“In this scenario, cotton growers in Brazil and elsewhere would suffer a double blow: first from the low international prices, and second from lower participation in world markets due to artificially inflated production in the U.S.,” Azevedo said in his letter. He charged that the reference price would lead U.S. cotton farmers to respond “to incentives provided by the program, not by the market.”

Second, Azevedo said that the 120 percent “multiplier” or “protection” factor in STAX — under which a farmer receives a payment equal to 120 percent of his covered losses — must be eliminated and replaced with a maximum payment factor of less than 100 percent. This would ensure that farmers are “responsible for a reasonable part of the shortfall, and makes cotton farmers more responsive to market forces,” he said.

Third, the Brazilian ambassador said there should be a “maximum reference price” in the STAX program. The inverse of the $0.65 or $0.68 reference price “floor,” a maximum reference price would serve as ceiling for the expected revenue level benchmark used in calculating STAX payments, Azevedo explained. This would ensure that U.S. cotton farmers would not receive STAX payments in situations when market prices are still relatively high but nonetheless fall short of expected levels.

The other four changes Azevedo suggested to STAX are reducing the amount of indemnities that the policy can pay, currently set at 30 percent of the expected revenue benchmark; increasing the deductible beyond 10 percent of the expected level; reducing the amount the U.S. government would pay to help a farmer to buy a STAX policy, currently set at 80 percent of the premium; and eliminating possible payment overlaps — including by disqualifying U.S. cotton farmers from the separate marketing loan program if they already have STAX coverage.

Throughout the paper, the ambassador avoided proposing any specific parameters for changes, instead broadly flagging which elements of STAX should be changed in order make it less trade-distorting from Brazil’s perspective.

The U.S. Department of Agriculture’s marketing loan program was one of the subsidy programs faulted by the WTO in the dispute with Brazil. Currently set at $0.52 per pound of cotton, a farmer can use the program by taking out a loan to cover operating costs, using his crop as collateral.

If the market price is higher than $0.52 per pound — currently, it is at roughly $0.72 per pound, but has been declining — then a farmer sells his crop and pays off the full loan. However, if prices are lower than the trigger, then the farmer gets to keep the difference.

The NCC, as part of its proposal to adjust support for cotton farmers in order to comply with the WTO ruling, proposed creating a flexible marketing loan rate that would move within a band of $0.47 up to $0.52 per pound, depending on world prices. This change was included in both the Senate and the House versions of the farm bill.

But Azevedo, in his letter, attacked this as insufficient. “The Marketing Loan Program, if maintained, should use a fixed trigger price of less than $0.47 per pound,” he writes. “In addition, Marketing Loans should not cover 100 percent of the producer’s shortfall, if prices fall below the trigger price,” but should instead have some maximum payment factor of less than 100 percent, he argues.

The ambassador also said that since the WTO dispute, the existing crop insurance program for cotton “has expanded rapidly and now provides vast sums in revenue insurance at high subsidies that have created a new level of trade distortion.” Brazil “would hope and expect that the U.S. Farm Bill would address the increasing distortions caused by the crop insurance program as well,” he wrote, without providing specifics.

Lastly, the ambassador noted that the Senate version of the farm bill decreased the availability of funds for GSM 102 from $5.5 billion to $4.5 billion, and that USDA has adjusted its fee structure in response to the operational reviews of the program since the U.S. and Brazil entered into the cotton framework agreement.

“Although positive steps, such modifications remain far from sufficient to address the trade-distorting nature of the program,” he writes. He adds that Brazil would “look favorably” at two approaches that would bring the U.S. “in the direction of complying with its WTO obligations, at least partially.”

The first is to “substantially reduce” the maximum permissible tenor — or length of time before repayment is due — for export credits secured by GSM 102 guarantees. Under the framework deal, the U.S. is supposed to aim for an average of 16 months when it comes to loan tenors, although it can currently still offer tenors longer than that.

The second approach would be to focus on the benchmarks for GSM 102 fees, which Azevedo said should be offered at market rates, “commensurate with both the tenor and risk level of the transaction covered.” Brazil has charged that current GSM 102 loan rates are much lower than market value.

USDA has already jacked up its benchmark fees in an attempt to drive down usage rates in line with the framework agreement, but usage continues to be high in the wake of the financial and economic crises of 2008 (Inside U.S. Trade, Oct. 21). That said, USDA has made a number of other tweaks to the program designed to substantially reduce the amount of trade retaliation to which Brazil would be entitled if it chose to retaliate (Inside U.S. Trade, June 22).

Overall, Azevedo concluded his letter to Siddiqui by saying that “a number of concrete and meaningful policy changes in the 2012 Farm Bill are still required to begin to make the cotton support programs and GSM 102 WTO-consistent,” adding that Brazil “continues to be open to work with the United States on these elements.”