The Effects of Agricultural Tariffs

Agricultural economists have spent much time examining the domestic and international impacts of agricultural tariffs, which have been a favoured policy lever in many countries and continue to be applied to a greater extent than in other sectors.

Key messages:

·        Domestically, these policies provide short-term benefits to producers but are an inefficient and inequitable way of supporting farm incomes, impose a burden on consumers and – by encouraging overproduction – harm the environment.

·       Internationally, tariffs induce an inefficient allocation of resources. This lowers overall incomes and, by suppressing trade, makes international markets more volatile.

·       Politically, agricultural tariffs have been hard to remove due to the political power of agricultural interests, making agriculture particularly contentious in trade negotiations.

·       The use of tariffs can spark retaliation: in 2018 responses to US tariffs on a broad range of products lowered American agricultural exports by about $27 billion, with China accounting for 95% of that loss.

·       More efficient alternatives to tariffs, such as investments to improve productivity and income safety nets, can help farmers effectively without exacerbating international trade tensions.

Introduction

Governments have a long history of using tariffs to protect producers in vulnerable sectors from overseas competitors. After the Second World War, governments agreed to reduce tariffs under the 1947 General Agreement on Tariffs and Trade, but agriculture was effectively excluded from these commitments. The average tariff on manufactures fell from about 40% in the late 1940s to under 5% when the WTO was formed in 1995. Despite agriculture’s exclusion, the broad post-war commitment to an open and stable environment for world trade contributed to a general rise in trade and incomes through the second half of the 20^th century.

With the creation of the WTO, agriculture was finally brought within international rules, with countries obliged to convert other forms of trade protection, such as bans and quotas, into tariffs that could then be reduced over time, with lower commitments and longer implementation periods for developing countries. Agricultural tariffs were originally bound at an average of nearly 50% and reduced into the 2000s, such that the average applied rate is now about 10% -- still more than twice the average for manufactures.

Decades of agricultural trade protection via tariffs, notably in Europe, disrupted agricultural markets: producers had diminished incentives to reduce costs, while consumers paid higher prices; surpluses were dumped onto international markets, which heightened world price volatility. In the case of developing countries some consumers benefited from lower import prices, but suppressed world prices undercut poor farmers and stifled export opportunities, exacerbating poverty. Bringing agriculture into the multilateral system started a process of unwinding this damage.

The Rationale Behind Agricultural Tariffs

A tariff is a charge levied on imports, which makes them a trade policy. Yet in agriculture, tariffs have essentially been a by-product of domestic policies, used to keep domestic price support policies in place and safeguard farmers from international competition. A price commitment that sustains the domestic price above the level at which a country can import requires an accompanying restriction on imports. If the country is an importer, then tariffs alone can keep prices elevated, but if the extent of support becomes extreme, such that a country is transformed from a net importer to one with a disposable surplus, the use of export subsidies may also be required. Since 2015 export subsidies have been illegal under WTO rules, but informal ways of offloading surpluses onto world markets have inevitably been found.

A secondary rationale for tariffs is that they generate government revenues. Tariffs on imported goods can be a significant source of income for governments, particularly in developing countries with limited tax bases, although they account for less than 3% of all tax revenue in the United States and in China, compared with 7% in India (World Bank data). However, low tariffs will not generate much income per unit of import, while high tariffs may deter imports to the extent that revenues fall. Judging the “sweet spot” is difficult, and, given the potential costs that tariffs impose on the economy impose, not an optimal way of raising money.  

Effects on Domestic Markets

The immediate beneficiaries of agricultural tariffs are farmers. While agricultural tariffs provide a shield for domestic producers, a range of research by agricultural economists has made the point that price support, including via tariffs, is less effective in raising farmers’ incomes than a direct income payment. This is because a large share of the benefits from supported prices leaks away via higher prices for purchased inputs and increased payments to non-farming landowners (OECD, 2024). The benefits of tariffs are also unequally distributed within the farming sector, as they correspond directly to production and hence to farm size. Direct payments de-linked from production decisions do not induce these leakages and can also be targeted more equitably.

Tariff protection may provide an incentive for farm businesses to invest. However, it may also encourage inefficiencies, raising the question of whether the resulting operations would still be profitable in the absence of tariffs. By contrast productivity enhancing investments – in areas such as agricultural research and extension, rural roads and irrigation – require financing but can form the basis for enduring viability,

The flip side of producer benefits from tariffs is higher food costs and reduced consumer choice, with the risk of higher food prices contributing to wider inflation. This effect is particularly pronounced in countries that rely heavily on food imports to meet their population's needs. In the case of the UK, DEFRA estimated that after Brexit, applying non-EU tariffs to hitherto tariff-free EU imports would increase food import prices by 9%, with an assumed 2% increase in trade costs pushing the prices increases up to 11%. Overall, this was calculated to add about 3% to food prices (DEFRA, 2016; Lloyd et al., 2011). Agricultural tariffs tend to be particularly regressive, because lower income households spend a greater share of their budgets on food.

A tariff on a primary import also represents an increase in input costs for processors and retailers, which can transform a tariff on imports into a tax on exports. Globally, about 15% of agricultural imports are re-exported (OECD, 2020).

An argument sometimes advanced for tariff protection is that it provides farmers with the necessary flexibility to adhere to stricter environmental standards and food safety requirements compared to those implemented internationally. But it is questionable whether tariffs are the best way of doing this: better to have clauses in trade agreements whereby foreign producers must adhere to similar standards or reach separate agreements on those issues. Moreover, higher prices artifically stimulate production which may raise greenhouse gas emissions and worsen local environmental impacts (Deboe, 2020).

Politically, once in place tariffs can be difficult to remove, as farmers have a strong incentive to protect the benefits bestowed upon them. Indeed, agricultural price support policies, and the trade policies required to keep them in place, have been notoriously difficult to reform.

Effects on International Markets

Trade policies, and the trade distortions caused by domestic policies, compound the income losses incurred due to the domestic misallocation of resources. In effect, countries forgo the benefits that derive from specialisation and trade according to the principle of comparative advantage. This principle holds that a country can gain from specialising in those goods (or services) in which its relative costs of production are lower than in other countries and exporting them in return for products in which it has a comparative disadvantage. The basic case for multilateral trade liberalisation rests on the potential for global benefits if countries follow this principle. A recent study by the USDA Economic Research Service estimates that the global removal of agricultural tariffs (leaving aside other trade restrictions) would increase the value of trade by 11%, generating $56 billion of income benefits and raising agricultural incomes by 2% (Beckman, 2021).

Reflecting this general principle, agricultural trade plays a vital role in ensuring food security by moving food from surplus to deficit regions, a role that would be impeded by agricultural tariffs. Given that the regions in the world where supply can be increased sustainably (notably the Americas) are not the same as the regions where population and hence demand is increasing fastest (most acutely the Middle East and Africa) an escalation of agricultural tariffs risks sending signals that could compromise food security in the long-term (OECD and FAO, 2024).

Price support policies that stabilise domestic prices via tariffs also export market instability. A critical benefit of open agricultural markets is that they pool the risks from weather and climate shocks. While countries remain vulnerable to world market shocks, these shocks tend to be less frequent and less severe than domestic shocks such as major harvest shortfalls (Brooks and Matthews, 2015).

Agricultural tariffs inevitably strain international trade relations, potentially provoking retaliatory measures from trading partners. In the 2018 trade war, China responded to US tariffs on a wide range of products by imposing retaliatory tariffs on numerous U.S. products, including many agricultural and food products. This led to significant reduction in U.S. agricultural exports to those China and other nations affected by US tariffs. As a result of retaliatory tariffs from the onset in summer 2018 through the end of 2019, U.S. agricultural export losses exceeded $27 billion, with China accounting for about 95% of the value lost (Morgan et al., 2022).

Undoing the damage of tariffs and trade wars is difficult. Agriculture has been at the origin of multiple failed multilateral trade negotiations at the WTO and is invariably a major stumbling block to bilateral and regional trade agreements, such as the agreement that the EU and Mercosur have been trying for 25 years to achieve.

Conclusion

In economic terms, agricultural tariffs are a sub-optimal way of providing support for farmers. They provide a short-term band aid rather than a long-term cure to those who are unable to compete on international markets and encourage environmentally harmful practices. Tariffs create inevitable costs for consumers, potentially imperiling food security for the poor. More broadly they induce an inefficient allocation of resources and destabilise international markets. Politically, tariff protection has shown a tendency to become entrenched domestically, and to be a deep source of international tensions. It has crippled multilateral initiatives at the WTO and thwarted regional and even bilateral efforts to reap the benefits of open markets. The agricultural sector has a long experience of the effects of tariffs, nearly all of it bad. Policymakers need to learn from this experience and recognise their shared interest in choosing better alternatives.

References

Beckman, J. 2021. Reforming Market Access in Agricultural Trade: Tariff Removal and the Trade Facilitation Agreement, ERR 280, April 2021. U.S. Department of Agriculture, Economic Research Service. https://ers.usda.gov/sites/default/files/_laserfiche/publications/100866/ERR-280.pdf?v=81563

Brooks, J. and A. Matthews (2015), “Trade Dimensions of Food Security”, OECD Food, Agriculture and Fisheries Papers, No. 77, OECD Publishing, Paris.  https://doi.org/10.1787/5js65xn790nv-en.

DeBoe, G. (2020), “Impacts of agricultural policies on productivity and sustainability performance in agriculture: A literature review”, OECD Food, Agriculture and Fisheries Papers, No. 141, OECD Publishing, Paris, https://doi.org/10.1787/6bc916e7-en.

DEFRA (2016). How Defra has estimated the potential effect of import tariffs on UK food prices. https://assets.publishing.service.gov.uk/media/5a802e1740f0b62305b89a64/defra-food-price-methodology-paper.pdf

Morgan, S., S. Arita, J. Beckman, S. Ahsan, D. Russell, P. Jarrell, and B Kenner. January 2022. The Economic Impacts of Retaliatory Tariffs on U.S. Agriculture, ERR-304, U.S. Department of Agriculture, Economic Research Service. https://ers.usda.gov/sites/default/files/_laserfiche/publications/102980/ERR-304.pdf?v=76554

Lloyd et al. (2011) “Retail Food Price Inflation Modelling: Final Report to Defra”. http://randd.defra.gov.uk/Document.aspx?Document=FinalDefraReport280411.doc

OECD (2020), “Global value chains in agriculture and food: A synthesis of OECD analysis”, OECD Food, Agriculture and Fisheries Papers, No. 139, OECD Publishing, Paris, https://doi.org/10.1787/6e3993fa-en.

OECD (2024), Agricultural Policy Monitoring and Evaluation 2024: Innovation for Sustainable Productivity Growth, OECD Publishing, Paris, https://doi.org/10.1787/74da57ed-en.

OECD/FAO (2024), OECD-FAO Agricultural Outlook 2024-2033, OECD Publishing, Paris/FAO, Rome, https://doi.org/10.1787/4c5d2cfb-en.