Impacts of Risk Attitudes on Farm-Level Acreage Flexibility Decisions

Abstract

The 1990 Farm Bill included “flexibility,” which allows farmers to plant alternative crops on a percentage of base acres without losing those base acres. This study was conducted to determine how sensitive the flex decision is to the consideration of price and yield risk and to producers' degree of risk aversion. A whole farm simulation model is used to analyze alternative flex planting decisions of representative farms developed throughout the USA using deterministic, stochastic, and risk neutral and averse assumptions. The results indicate that the inclusion of stochastic yields and prices has little impact on the flex decision. For 13 of the 18 farms, the deterministic budgeting results corresponded to the risk analysis recommendations. Where the deterministic and stochastic results differed, the analysis suggests planting fewer flex acres to other crops, i.e. maintaining the crop mix status quo. In conclusion, enterprise budgets can be used to make the flex decision even though they ignore stochastic yields, prices, and risk aversion. Research Question The 1990 Farm Bill included a major change in the income support provisions for program crops subject to target prices. This change was “flexibility,” also known as flex. Flex allows farmers to plant up to 25% of their crop acreage base (CAB) to another approved crop without loss of base. Deficiency payments on 15% of CAB are lost whether an alternative crop is planted or not. The purpose of this paper is to determine how sensitive the flex decision is to the consideration of price and yield risk and to the producer's degree of risk aversion. Study Description Eighteen representative crop farms in nine major production regions are simulated under deterministic and stochastic yield and price conditions to project flex producer's preferred planting decisions under risk. The representative farms were developed with panels of producers in major production areas in the USA. The farm data includes production costs, rotational information, and cultural practices. Crop yield distributions were developed from 10 yr of actual yields for the farmers involved in the farm panels. These distributions include the impacts of rotations on crop yields; for example, corn yields include the impacts of soybeans grown in the rotation. Price risk was incorporated in the multivariate yield and price distribution by using 10 yr of actual prices for crops in the study area. The most widely used decision tool for crop mix decisions is a partial budget. Although partial budgets ignore the effects of yield and price risk on net cash farm income and the long-term effects of crop mixes, they continue to be used by farmers and extension specialists for making flex decisions and recommendations. To test the robustness of using partial budgets for flex divisions, budgeting results were compared with cropmix preferences estimated using a whole farm simulation model and stochastic dominance with respect to a function. The whole farm simulation model incorporated historical crop yield and price risk and the stochastic dominance analysis analyzed preferences for both risk neutral and risk averse farmers. Applied Questions Can enterprise budgets effectively be used to make flex decisions? In this study the budget (deterministic) and stochastic analyses arrived at the same flex strategy in 13 of 18 cases. In the other cases, the consideration of stochastic yields and prices suggested farmers adopt a more conservative strategy—flex less than the budget analysis suggested. for most of the representative farms examined, the distribution of yields for the crops were not great enough to warrant a different flex strategy than the decision based on enterprise budgets. Does the level of risk aversion affect the flex decision? In 15 of the 18 cases studied the risk averse farmer would make the same decision as the risk neutral farmer for the first best alternative. The close correspondence between the risk neutral and risk averse results suggests that the level of risk aversion is not particularly important in making the flex decision. Will flex greatly change crop mixes of grain farms? Farm program flex provisions allow for shifting up to 25% (15% NFA and 10% OFA) of a crop base to another crop. Only four of the 16 grain farms analyzed would not choose to flex any crop. The large Iowa, moderate and large Missouri, moderate and large South Carolina, and moderate Arkansas farms all flex corn and/or wheat to soybeans. The Texas Coastal Bend farm would flex its NFA and OFA grain sorghum to cotton. The results indicate that there are shifts among crops, particularly shifts to soybeans.