This article originally appeared in the Fall 2000 issue of our New Rules Journal.
When the Farmer Makes the Rules
Forty years ago, two roads diverged in the chicken industry. Sick of being squeezed by processors, Canadian poultry farmers asked their local governments to construct a system that provided them with bargaining power. In the U.S., efforts to create similar systems failed. And that has made all the difference.
By Brian Levy
Chickenfarmers in Canada and the U.S. are anything but birds of a feather. Both raise the same product, but they do so in two different worlds. The Canadian farmer is ensured a fair, stable price and maintains complete independence from the processors that buy the chickens. The U.S. chicken farmer works for poverty wages under a rigid contract system, indebted to and dependent on the processors. Farmers do not own the chickens, and have no bargaining power to improve their situation.
Thesestriking differences did not come about by chance. Forty years ago, Canadian chicken growers faced a situation familiar to their modern American counterparts. "Processors would play one farmer against another to get lower prices," says Peter Hepburn, who has raised chickens in Ontario since 1953. "It was pretty bad. We were paid just enough to keep us going."1
Canadianchicken farmers decided to take matters into their own hands. In the early 1960s they asked their provincial governments to create agricultural marketing boards that would project chicken demand and manage production, allowing farmers to earn a reasonable income. Instead of Canadian farmers fending for themselves, the boards collectively negotiated, on behalf of chicken growers, with the processing industry.
In the U.S., plans similar to this were proposed for other agricultural products. In the 1920s, in an attempt to stabilize markets, the farm cooperative marketing movement sought to organize commodity cooperatives that could control the supply of goods. But under antitrust law, cooperatives were forbidden to implement systems to control production. The movement failed. During the Kennedy administration – the same period when Canadian farmers were creating a new system – U.S. Department of Agriculture economist Willard Cochrane proposed a supply management plan for grains. 2 Fear of government intervention, lack of grassroots organizing and the promise of new government support programs defeated the proposal. Many also attacked the plan as limiting "farmer freedom." The possibility of supply management systems faded and the last chicken farmers were forced down a path paved by the processing industry, which wrote the rules in its favor.3 Today in the chicken industry, growers have no freedom left to speak of.
Bothsystems of poultry production are vulnerable to the same fundamental problem of agriculture: the risky roller coaster ride of prices associated with the unregulated boom and bust cycles of over-demand and over-supply. Years of fluctuating prices are responsible for the bankrupting of farms and rural economies and make efficient long-term planning nearly impossible. For consumers, price swings bring little benefit – farmers receive so little of the retail food dollar that the cost of raw ingredients has little effect on the price of processed foods. And for all taxpayers, price instability brings millions in bailouts to farmers.
There are three basic ways of handling the price roller coaster – and three dramatically different outcomes. The first method is to do nothing. After multiple years of low prices even the most efficient smaller farms will lack the resources to survive, and the market will lead to a concentration of large farms. Politically, this "hands off" approach has led to last-minute, billion-dollar handouts to support failing farms. A second strategy is to allow or encourage the vertical integration of agriculture by larger, private interests who are able to weather the inherent instability of the market. Under this system, smaller farms contract with large processors for a guaranteed price. But what would happen if instead of vertical integration, farmers organized laterally to manage production and control pricing? In Canada, the question has been put to the test.
The Canadian System
Canadiangrowers organized a system that maintained their control over all aspects of their operations while giving them a choice over which processors to sell to. This system – commonly referred to as supply management – needed three components: control of chicken imports, chicken production, and chicken pricing.
Successfulsupply management first required restrictions on imports. In the 1960s Canada’s provinces individually established an early form of supply controls. However, without provincial authority beyond provincial borders, farm products crossed from province to province, undermining the effectiveness of the marketing agencies. This became painfully apparent when various provinces started banning each other’s products in order to protect their own producers. In addition, foreign imports threatened to undermine the system. To overcome these difficulties the federal government passed legislation in 1972 to create national marketing agencies to regulate internal supplies as well as imports and exports. In the following six years, national boards were also established for eggs, turkey, chicks and milk.
Asecond critical component to the regulation of supplies is a quota system, whereby farmers purchase a permit (quota) to produce a specified quantity of chickens. Quotas are purchased in a one-time fee that averages approximately CN$24-40 per bird, depending on the province. Legally, quotas are retained by the marketing boards, which reserve the right to make small adjustments (typically +/- 2-3 percent a year) or issue new quota as markets expand. Quotas are bought and sold in an open market in each province; they may also be willed or passed on. To avoid speculation, all quotas must be used by the owner within one year. With quota in hand, farmers are free to sell their chicken to processing plants at the negotiated prices.
Inrecent years the management of chicken supplies has devolved into a bottom-up process driven by provincial marketing boards. The boards serve as a liaison between processors and farmers, making sure processors get the products they need and that farmers get a fair price. Every eight weeks, provincial marketing boards consult with processors to determine what their markets need. Any special products needed by the processors are determined between growers and processors during procurement. Supplies are also established for export markets. All estimates are then forwarded to the national marketing board – the Chicken Farmers of Canada (CFC) – which then approves a countrywide quota subdivided for each provincial marketing board. The CFC board of directors has 14 members, 10 of whom are farmers (the other four are from the food-service and processing industry). With quotas approved by the CFC, the provincial boards then allocate the quota to individual producers and negotiate chicken prices with the processors several weeks before the next production cycle. If provinces overproduce, each provincial commodity board pays damages to the CFC production over the yearly provincial allocation. If provinces underproduce, they risk losing market share the next time quotas are set. To cover administrative costs, the CFC assesses levies on all chickens, which are then collected by the provincial boards. Consequently the administration of the supply management system is self-financed, and chicken producers receive no government subsidies.
Theentire Canadian system is monitored by the National Farm Products Council (NFPC), an organization that requires that farmers themselves have majority voting rights. The NFPC oversees the CFC and serves as a bridge between the federal and provincial governments, marketing boards, producers, processors, retailers and consumers. The NFPC is primarily responsible for Federal-Provincial Agreements (FPAs) that define in detail how the supply management system will operate.
Theimmediate result of the highly managed Canadian supply management system is to maintain farmers’ autonomy over production. In comparison to the U.S., the effects on farm structure and farmers’ incomes are equally significant.
The American System
In1950, 95 percent of U.S. broiler production remained independent. Just 10 years later, 90 percent of the industry was under contracts. Today, virtually all U.S. chicken is grown by farmers under contract.4 Any remaining chickens are raised on farms owned and operated by the processors, or by smaller independents providing chicken to local markets.
Under production contracts, an individual company called an "integrator" performs all or most production aspects. Farmers are dependent on integrators for the basic inputs they need to produce chicken. Integrators place chickens on farms and provide technical expertise, feed, medication and other supplies. They maintain ownership of the chickens while the farmer provides land, labor, buildings and care until the chickens reach processing size. Farmers must agree to detailed operation instructions to maintain a consistent product.5
Underthis type of contract production system, farmers supposedly benefit by having a guaranteed market, price or access to a wider range of technologies. However, it is unclear how much farmer risks are minimized. Typically, only one processor contracts with and recruits chicken farmers within a particular vicinity. With only one processor to which to sell, growers are left in a vulnerable position. Processors may withdraw contracts at will, leaving producers with heavy liabilities (half a million dollars worth of chicken houses, etc.) and no markets. Several recent examples prove this point.
CaseFarms contracted with growers for 30 new chicken farms (with 3-4 houses per farm) in North Carolina. Growers paid for and constructed the houses and had raised chickens for six months when Case pulled the contract.6 Threatened by lawsuits from growers, Purdue Farms cancelled all of their contracts, reissuing new ones in which growers must waive their right sue.7 Processing companies have also been widely criticized for providing substandard chickens to raise, using broken scales and making unrealistic promises of financial returns. In addition, instead of carefully managing supply, processing companies never agree to cap their production in the region in which they operate, and may encourage growth to provide additional downward pressure on prices at the end of each contract cycle.8
Underthis system growers gain no security and they shed little responsibility. Despite the fact that the processors contract with large growers and technically own the chickens, growers remain saddled with the major environmental liability of chicken wastes. In addition, the quickly changing technologies and upgrades that are required by the production contracts often serve to keep farmers in debt indefinitely. Many growers have speculated that maintaining continual debt burdens is an effective way to guarantee future dependence on the processors. Under debt and with no way out, growers are powerless to negotiate better contracts and have too much at risk to raise their voice. In effect, "contract risk" replaces the yield and price risk they originally sought to minimize. U.S. chicken growers are left at the short end of the stick – with no independence or power, and very little real security to show for it.
Higher Farm Prices, Higher Incomes
Overthe past decade, the total number of Canadian chicken farms increased 23 percent (to 2,800) as the number of all Canadian farms fell.9 In the U.S. the total number of farms selling chicken has fallen in the past decade (1987-1997) by 14 percent (to 23,000).10 This occurred as overall production was increasing dramatically in both countries. In both countries the scale of production has increased significantly, but the Canadian industry is by comparison smaller and decentralized. In Canada, the average farm raises approximately 192,000 birds a year.11 In the U.S., the average contract farm raises around 268,000 birds yearly.12 In both countries, however, farm size has been steadily increasing. Chicken farms are found all across Canada, and production roughly correlates with provincial population levels. In contrast, U.S. production continues to concentrate in a handful of Southern states. Georgia, Arkansas, Alabama, Mississippi and North Carolina currently produce more than 60 percent of all U.S. broilers.13
Underthe U.S. system of vertical integration, integrators provide many of the inputs (such as feed) that farmers would otherwise purchase themselves. The fewer inputs farmers must buy, the less value they add and the lower the price they may receive. In Canada, the farmer’s price reflects all the production costs and inputs. It is therefore difficult to make direct comparisons of the prices farmers receive, but figures do indicate that U.S. farmers have dramatically decreased margins in which to make a profit. In the U.S., contract chicken growers typically receive US$ .036 to .043 cents per pound of chicken returned to the processing plant, or about US$ .20 to .25 per chicken. Small bonus incentives are given to growers who achieve lower production costs. 14 In Canada in the past decade, farmers received from CN$ .52 to.57 per pound (US$ .40 to .48 per pound).15 Both systems have succeeded in providing a stable price to growers, but only one is equitable. When these prices are translated to income, the differences are significant.
U.S. broiler farms with sales over $50,000 had average net cash income (revenues minus expenses) of $32,602 in 1995. In the same year, the average net cash income for Canadian poultry growers with revenues over CN$50,000 was US$53,980.16 Once depreciation of assets (chicken houses, etc.) is factored in, the real take-home pay for both Canadian and U.S. farmers decreases even further – average net farm income for U.S. broiler farms in 1995 stood at about $16,000; for Canadian growers, the figure was approximately US$27,000.17 With lower incomes, U.S. chicken growers must look elsewhere to support themselves. All U.S. chicken farming households have significant off-farm wages and salaries – even for those farmers listing poultry as"major occupation," 50 percent or more of their income came from off-farm sources.18 In Canada, chicken farms are considered a modestly profitable business, capable of supporting the farmers that run them. Understandably, the great majority of Canadian chicken growers support their system, while most American growers lament theirs.
Both systems rightly claim that they are able to exist without any direct government subsidies. U.S. chicken processors claim that although they may not have the farmers’ welfare in mind, they are part of an efficient, productive system that outcompetes the Canadian industry. To assess this requires a closer look at the efficiency of the systems.
Criticsclaim that having a guaranteed market decreases the farmer’s incentive to become more efficient. Both common sense and experience suggest that efficiency (output per unit input) is equal or better with stable prices. Ensured of a stable price, farmers are more willing to invest in the latest techniques and technology to improve productivity. Although quotas cap production levels, the incentive to become more efficient remains – even under a managed system, any changes farmers make to reduce costs will improve their bottom line, from decreasing feed requirements to saving energy. Just as U.S. processors have demanded the latest, most efficient techniques from their contracted farmers, Canadian farmers have kept up with the times by themselves.
Anotherway to measure efficiency is the amount it costs to raise a chicken. In both Canada and the U.S., feed costs are very similar. Over the past forty years, the amount of feed required to raise a pound of chicken fell in unison in both the U.S. and Canada (from approximately 2.3 to 1.9 pounds). Chicks are slightly more expensive in Canada (though 20 percent originate in the U.S.). Historically, building and heating costs have been higher in Canada, but this is now changing as Southern processors are requiring a switch from open-air barns to climate-controlled facilities. While these factors account for slightly higher Canadian production costs, the most significant factor remains higher labor costs.19 Under supply management, farmers simply ensure that their labor is compensated at a rate much greater than in the U.S.
Competition and Retail Pricing
Supplymanagement is effective in increasing the farmer’s overall share of the food dollar. Canadian chicken farmers received approximately 30 percent of the final sale value of their product. In the U.S., contract chicken farmers receive less than 5 percent. Marketing boards with supply management power provide farmers with a measure of independence from an increasingly few number of large processors and retailers that would otherwise squeeze farm profits.
Despite the fact that Canadian farmers receive more of the retail food dollar, the impact of the supply management system on final retail price is not direct. At every level – from farm to processor to retailer to consumer – prices are marked up, so that the farm price of chicken is a fraction of the final grocery store price.
Historically, Canadian retail level chicken prices have been higher than in the U.S. At present a Canadian broiler at the grocery store sells for CN$1.94/lb(US$1.66/lb). A similar broiler in the U.S. costs approximately$1.09/lb.20 In Canada in 1998, farmers received CN$0.55/lb (US$0.47/lb), processors resold the same chicken for CN$1.18/lb (US$1.01/lb) to grocery stores, who placed whole chicken in their frozen food isle for CN$1.86/lb(US$1.56/lb).21 At the same time in the U.S., contract growers received approximately US$.04/lb, processors sold finished birds to grocers at US$0.63/lb, who in turn resold whole chicken for US$1.09. Thus, although supply management is one factor in higher chicken prices in grocery stores, it accounts for only a fraction of the effect. Even with a 50 percent increase in the farm price for Canadian chicken, the price in the grocery store should increase by less than a quarter. So while Canadian retail chicken prices have grown at twice the rate of U.S. in the past two decades, higher Canadian prices have been primarily a result of increasing processor and retail margins rather than higher farm gate prices over time.22 From 1980-1998, Canadian chicken farmers increased their prices by 33 percent (CN$.30/lb), while processors and retailers increased prices by about 56 percent each. Over the same time, U.S. processors increased prices 28 percent and retailers, 48 percent (all figures unadjusted for inflation). In both the U.S. and Canada, the chicken consumer price index (CPI) has closely paralleled overall price increases.23 So while prices climb in both countries, they are not being raised more quickly than on any other product.24
The Quota Question
Despitethe benefits of supply management, the system is controversial. One of the primary criticisms centers on the issue of chicken quotas. When originally issued, quotas were a windfall for farmers, rapidly increasing their equity. The downside to this wealth creation is that as quota costs rise they create a barrier for new farmers who wish to raise chicken. The problem is compounded when new chicken production is allocated exclusively to existing farmers.
The"barriers to entry" created by supply management are a significant concern. It is important to realize that any increase in the net return to farmers’ operations tends to become capitalized – from price subsidies to natural causes such as population growth to successful sales promotion. While the effect is less direct than with quotas, higher farm profits always increase the value of farming resources. Despite high costs, in the past decade the Canadian chicken industry expanded as farmers bought and sold quotas.
Toovercome the quota barrier, some provinces have initiated innovative programs. British Columbia abolished minimum quota requirements and began a program to encourage new entrants into chicken farming. Now anyone in the province can apply for a permit to raise up to 4,000 birds per cycle. Instead of paying for a quota, they pay CN$0.18 on each bird they raise. After 12 years of poultry farming, they are given a free title to the quota. In other provinces, farmers start with a small quota (4,000 to 5,000 birds) and gradually expand their operations. At the end of the day, the quota is more than just a barrier to entry: higher up-front costs translate into guaranteed income, equity and stability for the life of the farm. For smaller sums of money, U.S. chicken growers invest in chicken houses but gain none of the advantages that benefit their Canadian counterparts.
Anotherquota concern centers on the limitation of quota ownership. Historically, quota caps were established to limit the maximum size of chicken operations. However, in the past decade there has been a trend toward larger operations. Ontario (the largest chicken-producing province) abolished caps about five years ago. Other provinces, such as British Columbia, have raised the limits to a maximum of 250,000 birds per cycle (though very few growers are this large). Presently it is only the high costs of quotas that keep farmers from increasing in size. Throughout Canada, farmers are pushing to expand their profitable businesses in pursuit of higher returns and in anticipation of competition from the world market as tariffs fall. As farms increase in size, the benefits of a growing industry will be spread to fewer farmers.
Will Canadian Chickens Fly the Coop?
Whilethe chicken barn builders in Canada remain busy, internal and external pressures on the Canadian system build. Internationally, as party to NAFTA and the WTO trade agreements, Canada is under constant pressure to lower or eliminate the quotas and tariffs that uphold the supply management system and protect chicken farmers from a flood of low-priced imports.
While price controls and production quotas have remained untouched by trade negotiations, Canada was required to convert its import quotas into tariffs under the WTO’s Agreement on Agriculture (AoA). The agreement allowed tariffs to be set high enough (278 percent) that they serve a similar purpose as the original quotas, but required that they eventually fall to 238 percent by 2000. The AoA also maintained an existing NAFTA agreement allowing duty-free imports of up to 7.5 percent of Canadian production from the U.S. While no further reductions are planned, each subsequent trade round will likely call for a slow chipping away at the tariffs and an increase of duty-free import limits. Farmers view the process as the slow first step toward the elimination of supply management.
Mostvocal in the challenge to Canadian tariffs is the U.S., which does not limit chicken production and constantly seeks new markets for its chicken industry, which is 16 times the size of Canada’s. The Canadian tariff levels have been unsuccessfully challenged by the United States under NAFTA, though future disputes are possible.25
InCanada, the call to lower tariffs is joined by chicken processors and restaurants seeking cheaper chickens to process and sell.26 Farmers wishing to expand production without quotas have also challenged the system, though the practice of agriculture supply management is routinely upheld by the Supreme Court of Canada.27 In addition, provincial tensions have been a constant throughout the history of Canada’s supply management system. Provincial governments commonly complain that their production quotas are too low and threaten to leave the system. Larger provinces also feel held back under supply management: the Prince Edward Island province has 10 chicken farmers while other have thousands, yet each province is represented equally on the national boards.
Even with its flaws, the Canadian system looks like heaven to U.S. chicken farmers. In the U.S., farmers are just beginning to fight a long uphill battle. Iowa, Minnesota and a handful of other states have developed basic laws to protect farmers from unfair contracts. The Iowa Attorney General’s office has written comprehensive model legislation for a "Contract Producers’ Bill of Rights." Nevertheless, the power to issue and revoke contracts and to set prices remains soundly with the processors. As contract production advances to the hog and cattle industries, Canada’s experience with supply management offers a compelling alternative of what is possible when the farmer makes the rules.
Research Associate, Institute for Local Self-Reliance
© 2000 Institute for Local Self-Reliance
2. See Cochrane, Willard W. 1959. "Some Further Reflections on Supply Control." Journal of Farm Economics 61, No.4: 697-717; Levins, Richard A. 2000. Willard Cochrane and the American Family Farm. University of Nebraska Press.
4. Martinez, Steve W. "Vertical Coordination in the Pork and Broiler Industries: Implications for Pork and Chicken Products," Food and Rural Economics Division, Economic Research Service, USDA Agricultural Economic Report No. 777. p. 5-10.
9. CFC 1999 Chicken Data Handbook, p. 2. While overall growth is up for the decade, growth in the past 5 years has been stagnant.
12. Perry, Janet, David Banker and Robert Green. "Broiler Farms Organization, Management, and Performance," Resource Economics Division, Economic Research Service, U.S. Department of Agriculture. Agriculture Information Bulletin No. 748. March 1999. Source: USDA 1995 Agricultural Resource Management Study. With 6.5 cycles a year, the average farm capacity is approximately 41,000 birds.
16."Economic Overview of Farm Incomes: Poultry and Egg Farms," January 2000. Source: Statistics Canada, Whole Farm Database. Income data is only available for all poultry and egg farms in Canada. Prices converted to $US using OECD purchasing power parity tables. Income statistics for Canada are skewed lower because Canadian data includes farms with revenues under CN$50K (US$42016) – all of which were the least profitable. A new average was calculated based on farms in the revenue classes above CN $50K. Overall, Canadian poultry growers and milk producers (also a supply managed industry) have had the second and third highest net cash incomes by farm type in Canada in recent years.
17. Perry, Janet, David Banker and Robert Green. "ERS/USDA Broiler Farms Organization, Management, and Performance," Resource Economics Division, ERS, U.S. Department of Agriculture. Agriculture Information Bulletin No. 748. March 1999. Data from USDA 1995 Agricultural Resource Management Study. An eight-month Sun investigation across 13 states found that a new chicken farmer today can expect an annual net income of only $8,160 – about half the poverty level for a family of four -until he has paid off the 15-year loan he took to get into the business. Other calculations figure $4000/year per poultry house. Canadian figures derived from data obtained directly from Statistics Canada and the Whole Farm Database for all poultry and egg farms.
19. Conversation with Robert DeVaulk, Robert DeVaulk consulting, Canada, July 2000. Conversation with Mike Nailor of the Ontario Chicken Farmers, July 2000. The Canadian COP is a formula driven price determined by marketing boards. It includes all input costs (feed, chicks), labor, operating expenses and capital. It does not include catching or transportation fees, or the value of production quota. Changes in feed costs account for almost all of the COP fluctuations.
21. Agriculture and Agri-Food Canada, in CFC Chicken Data Handbook 1999. Prices converted to $US using OECD purchasing power parity tables. Similar figures for the U.S. supply chain is complicated by the fact that"farmgate" price figures distributed by the USDA are in effect farmer/processor prices, as this first stage of production has been integrated with the second. The only point where basic supply and demand conditions generate a publicly visible price is at the interface between the processor and retailer (or distributor). At the retail end of the supply chain, approximately half of all chicken goes through restaurants rather than grocery stores.
22. Coffin, Garth H., Robert F. Romain and Meghann Douglas, 1989."Performance of the Canadian Poultry System Under Supply Management," Department of Agricultural Economics, McGill University and Le departement d’economie rurale, Universite Laval, p. 122-125. From 1980-1989, the study concluded that retail margins for chicken in Canada averaged 50 percent higher than those of the U.S. The retail margins were found to be the greatest single contributor to consumer price differences between Canada and the U.S.
23. "Snapshot of the Canadian Chicken Industry," Agriculture and Agri-Food Canada, 1998.
24. Ibid. There is evidence that higher Canadian poultry prices have not significantly affected consumption: the spread in chicken meat per capita consumption has increased in the past 20 years. In 1976 Americans consumed 3.3kg more than Canadians; in 1997 the figure increased to 7.7kg. However, this is a gap emerging between two dramatically rising consumption levels. Poultry per capita consumption in both Canada has more than doubled from 25.8 lbs. in 1967 to 55.5 lbs. in 1997. In comparison, U.S. consumption increased from 40 to 96 lbs. per capita over the same time period. While Canadian consumption is lower than the U.S. (2nd in per capita consumption), Canada is 6th in per capita consumption of chicken products worldwide (USDA, Statistics Canada, as cited in "Snapshot of the Canadian Poultry Industry").
25. CDA-95-2008-01: North American Free Trade Agreement Arbitration Panel Established Pursuant to Article 2008. In the Matter of Tariffs Applied by Canada to Certain U.S.-Origin Agricultural Products, Final Report (.pdf) of the Panel, December 2, 1996.
26. Under NAFTA, highly processed poultry products (those with up to 87 percent chicken content by weight, such as TV dinners) may be imported in tariff free. Canadian processors who compete with these products complain that they are disadvantaged by having to buy higher-priced raw chicken. To take the pressure off of this Canadian sector, there is a special arrangement that allows Canadian processors to import cheaper U.S. chicken under the NAFTA’s 7.5 percent duty-free import quota.
27. Most recently, Canadian supply management system was upheld in a 7 to 2 decision that confirmed the powers of the Canadian Egg Marketing Agency, which had tried to stop producers in the Northwest Territories from selling eggs in other parts of Canada without a license.