Producer Compensation under Government Programs: What Should the Magnitude Be?

When policies are changed it is not uncommon for losers to be compensated. Economic theory and quantitative analysis are useful in determining the efficiency gains/losses associated with a policy change, but are little help in deciding what the approach to compensation should be. The amount of compensation varies, depending on, in part, the political clout of the parties being negatively affected by a policy change—compensation is what politicians and the sector demanding compensation can agree on. We formulate four approaches to producer compensation within the context of the Ontario Tobacco Transition Program where producers would have suffered losses in the absence of compensation. The approaches range from providing zero-compensation to providing compensation based on the entire value of the tobacco quota. The Canadian government chose to compensate producers for the termination of the tobacco quota program based on an approach that far exceeded other possible compensation approaches. Importantly, efficiency is not affected by the compensation approach.