DO COUNTER-CYCLICAL PAYMENTS IN THE FSRI ACT CREATE INCENTIVES TO PRODUCE?

Analytical results in the literature suggest that counter-cyclical payments create risk-related incentives to produce even if they were "decoupled" under certainty (Hennessy, 1998). This paper develops a framework to assess the risk-related incentives to produce created by commodity programmes like the loan deficiency payments and the Counter-Cyclical Payments (CCP) in the FSRI Act. Because CCP are paid based on fixed production quantities they have a weaker risk-reducing impact than loan deficiency payments. The latter have a direct impact through the variance of the producer price distributions, while the impact of CCP is due only to the covariance between the CCP and the producer price distributions. The methodology developed by Chavas and Holt (1990) is applied to calculate the appropriate variance-covariance matrix of the truncated producer price distributions created by the FSRI in 2002. Risk premiums are computed showing that the risk related incentives created by CCP are significant and they do not disappear for levels of production that are larger than the base production on which they are paid.