A36-Lancaster Farming, Saturday, December 18, 1999
PRODUCTION RISK
MANAGEMENT
JOHN BERRY
Penn State
Lehigh County
Risk has always been associ
ated with agriculture. Not onlj
are producers faced with weath
er risk, but we are also faced
with marketing risk. This article
will focus on the production
risks with some reference to the
associated marketing risks.
CLIMATE
There are differing views
about changes in the earth’s cli
mate with some arguing that we
are in a global warming trend
and others arguing that is not
true. One thing we know for sure
there is yield variation. Yields
have been more variable since
1975 than during the previous
25 years Even though technolo
gy will continue to push yields
upward, weather will continue
to be one of the major risk pro
ducers will face in the produc
tion of agriculture
Farm Policy
The evidence indicates that
production risks are increasing
but there are a number of other
reasons why we must learn to
manage production and price
risk The two primary factors
changing the nsk environment
the new farm legislation and
global trade patterns.
The Federal Agriculture
Improvement and Reform Act,
better known as the Freedom to
Farm Act, became law in 1996.
Under the act, crop subsidies are
no longer tied to price fluctua
tions in the market. Instead,
producers receive fixed pay
ments over a seven-year period,
on a declining basis, ending in
2002. Under the law, the risk
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becomes greater because the
producer must rely totally on
the marketplace, especially as
we near the year 2002.
Another factor, sometimes
overlooked, is that the Freedom
to Farm Act increased the risks
of the producer because much of
the first two years of payments
have been capitalized into high
er land rents and higher land
values. This means the fixed
farm payments are being used to
pay higher production costs
instead of being used to retire
the debt.
Global Competition
Global trading patterns have
always been changing but they
will probably change faster as
we enter the next century. In the
’7os and early ’Bos, everyone
thought the Soviet Union was
the answer to our world trade
needs. Look where they are
today!
China is now being looked
upon as a major buyer of US.
agricultural products. There are
a number of critical points to
consider. The market is indeed
large, but can be disrupted at
any time. The potential is large
but the downside risk is also
large.
The stability and policies of
governments can greatly impact
our ability to sell agricultural
products. For example, human
rights issues and other political
disagreements can quickly dis
rupt markets. The changing
weather patterns referred to
earlier can produce production
variations in the rest of the
globe as well as here Along with
changing global trade patterns,
several major grain producing
countries are de-emphasizing
grain reserves. This, combined
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with a similar policy here at
home, means increased price
volatility.
Managing Yield Risk
Managing yield risk has
always been a challenge for the
producer. Producers can have
the best of prices but if they
have little or nothing to sell, the
results can be disastrous
Production risk can be con
trolled somewhat by making
sound management decisions.
Managing yield risk can be
categorized under these six gen
eral headings:
• Capital investments
• Crop production practices
• Crop insurance
• Access to inputs
• Production arrangements
• New technology.
Capital Investments
1) Irrigation. An irrigation
system lowers the risk of crop
failure in a dry year. However,
the total investment cost for a
pivot system can be in excess of
$6OO per acre including the well,
land preparation and the sprin
kler system.
2) Drainage. In some areas
tile drainage is used extensively
to reduce the risk of crop failure
in years of excess rainfall but
the cost is $4OO to $5OO per acre.
3) Machinery. Machinery
capacity in excess of what is
needed in a normal year allows
the work to be completed in a
timely manner if there are
delays due to weather, break
down or other unforeseen
events.
For any capital investment,
compare the expected returns
with the alternative uses of the
capital, including other risk
management strategies such as
the purchase of inputs. Since
these investment costs are high,
we must also look at strategies
which do not require a direct
expenditure to reduce risk such
as diversification.
Crop Production Practices
1) Crop rotation. Having a
crop mix not only has biological
benefits but spreads the risk.
For example, July is the most
stressful month for corn and
August is the most stressful
month for soybeans. The overall
yield risk is then reduced signif-
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icantly by raising a 50-50 mix.
Crop rotation has the benefit of
reducing the amount of chemi
cals needed. This reduces costs
and, probably just as important
reduces personal risk by reduc
ing exposure to chemicals.
2) Diversification. There are
potential benefits of diversifying
into more specialty crops but the
risk is that the markets for
many of these crops are not yet
sufficiently developed to reduce
the overall risk. Other issues are
acquiring the production exper
tise and having the necessary
equipment for a new crop.
3) Tillage system. No-till can
lower production costs. Reduced
tillage is a long run risk man
agement strategy. In the long
term it will save soil which will
allow ground to remain competi
tive from a soil productivity
point of view.
4) Pest management. A criti
cal factor in the effective use of
chemicals is the timing of appli
cation. Also, it is critical that the
correct herbicide is used for the
specific variety being sprayed.
There have already been cases
of Roundup mistakenly being
applied to varieties which were
not Roundup-ready. An increas
ing concern with genetically
engineered seeds is the risk of
chemical drift. One outcome is
that custom application costs
could increase substantially due
to the potential liability prob
lems. Chemical choices are a
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sions. Emerging technologies
will alter the choices.
5) Spatial distribution (how
far apart the fields are). There
are really two aspects to this.
Weather conditions can change
significantly over a 10- to 20-
mile area. If a farm is not con
centrated in one area, the risk of
a major crop disaster is reduced.
Spatial distribution also will
probably mean different soil
types will be farmed. Having
sandy, clay and silt loam soils is
a hedge against weather vari
ability. The tradeoff to spatial
distribution is higher production
costs due to the travel.
There are a number of rea
sons for increased use of MPCI
in recent years including the
increased costs of production,
crop failures in large areas, and
pressure from lenders. But the
main reason has been the action
taken by Congress to eliminate
ad hoc disaster relief. There was
n’t much incentive for producers
to buy MPCI when they knew,
under political pressure, Congress
would come to their rescue.
Congress has now sent the mes
sage that MPCI is the basic tool
for disaster relief.
By working together, the gov
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(Turn to Page A 37)
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