Michigan State University Extension
Extenstion International Trade Res. - 10179501
03/31/96
Recent changes to the EU's agrimonetary regime--the system by which agricultural policy prices and payments in ECUs are converted to national currencies--will make the system more transparent, reduce its inflationary tendencies, and reinforce the shift from support prices to payments as a means of providing support to producers. However, the changes threaten to create disparities in the support provided to producers in different member states.
Revisions to the EU's agrimonetary scheme adopted in late 1994 took effect on February 1, 1995. Problems raised by the new system led the EU to reconsider certain aspects, and the agrimonetary policy was again amended in June 1995.
The main result of these changes is the elimination of the switchover mechanism. Under the previous system, the switchover mechanism prevented declines in policy prices and payments in national currencies when a currency was revalued against the ECU by inflating the value of the ECU used for agricultural policy amounts--the so-called "green" ECU. With the end of the switchover mechanism, the green ECU has also been eliminated. Green rates (expressed in units of national currency per 1 ECU) have been reduced by 20.7509 percent, the value of the switchover coefficient. Prices, payments and other CAP amounts have been increased by the same percent. As a result, support levels in national currencies are unchanged. However, by eliminating the switchover mechanism, the EU can avoid the built-in increases in CAP amounts that resulted from the mechanism's application, and any increases in CAP amounts due to agrimonetary factors are made more transparent.
The system of green rates, the exchange rates used to convert agricultural prices, payments, and other CAP amounts from ECU to national currencies, has been preserved. Agricultural policy amounts (prices, compensatory payments,levies and subsidies) fixed in ECU will continue to be converted to national currencies until a single currency is adopted. With a single currency, CAP amounts could be set in that currency, and would thus obviate the need for a separate system of agricultural exchange rates to prevent price and payment variability due to fluctuating market rates.
Some of the more complex changes in the policy relate to the rules for modifying green rates. Movements in market exchange rates cause green rates to deviate from the market rate for currencies. This difference is called the monetary gap. When these gaps become large, green rates must be adjusted to avoid distorted trade flows.
Green rates are normally reviewed, and adjusted if necessary, every 10 days. The new policy sets a 50-day confirmation period to verify the currency trend for an "appreciable" revaluation. If the trend is confirmed, the Council of Agricultural Ministers decides the amount of the revaluation. If the appreciating currency shows an average positive monetary gap greater than 5 percent during the confirmation period,countries showing negative monetary gaps must devalue their green rates to narrow their gap to zero and reduce the spread between strong and weak currencies. This provision is designed to avoid a revaluation, which reduces the value of common ECU prices in the revaluing country, but is costly to the EU budget because it raises support prices, and may eventually increase the value of CAP payments, in devaluing countries.
In general, green rates must be changed when the green rate exceeds the market rate (a positive monetary gap) by more than 5 percent, or when the spread between the monetary gaps of weak and strong currencies is greater than 5 percentage points, with a maximum 5 percent positive gap or negative gap of 2 percent. Green rates are also revised when currencies in the European Monetary System (EMS) are realigned. Currently, currencies in the EMSū Exchange Rate Mechanism float within plus or minus 15 percent of the posted, or "central" rate, meaning a very large movement in an exchange rate would be needed to prompt a realignment.
For contiguous countries whose currencies are diverging, a maximum 5 percent spread may not be narrow enough to prevent trade distortions. In this case, the Commission may adjust green rates to reduce the spread of gaps by more than the normal requirement to avoid the risk of trade distortion. Strong currency countries may elect to revalue their green rate at a lower monetary gap (4 percent instead of 5 percent) to avoid distortionary trade flows.
Revaluing countries are given protection from losses resulting from uts in direct payments. For any appreciable revaluation taking place between June 23, 1995, and January 1, 1996, CAP reform payments will continue to be converted from ECU to national currencies at the green rate prevailing on June 23. For those countries undertaking a revaluation prior to January 1, 1996, green rates are frozen for the purpose of converting direct payments until January 1, 1999, the deadline for implementing a single currency under the Maastricht treaty. The provision does not prevent weak currencies from devaluing during that period.
Revaluing countries are also compensated for income losses due to lower support prices that result from green rate revaluation. Payments are limited to 3 years, are reduced by one-third each year, are co-financed by EU and the member state, and are subject to a ceiling.
A member country may provide a flat-rate compensation if it is able to prove that its farmers have incurred a large income loss resulting from monetary changes in other EU member countries. The aid may be granted for a maximum of 3 years, and must be degressive.
The first agrimonetary policy revisions, enacted in February 1995, had also provided for a mini-switchover". The mini-switchover increased compensatory payments, livestock headage payments, and structural and environmental payments (but not prices) in ECU when the strongest currency was revalued. Payments were to be raised so as to neutralize the effect of the green rate revaluation, and thus would have maintained the effect of the switchover mechanism on these payments. The provision would have been costly to the EU budget, because higher payments would apply to all EU member countries,not only the country whose currency is being revalued.
In early 1995, turmoil in European currency markets put pressure on the Italian lira, the UK sterling, and the French franc. Strong currencies (the Deutschmark, Dutch guilder, and the Belgian franc) appreciated, while weak currencies continued to decline, leading to large and growing spreads in monetary gaps that were uncorrected because of the required 50-day confirmation period. By mid-March, revaluations had been triggered but not implemented for four green currencies: the Belgian franc, the Dutch guilder, the Deutschmark, and the Austrian schilling. The Council resisted implementing revaluations because an appreciable revaluation would have triggered large outlays under the mini-switchover. According to EU estimates, additional payments generated by the mini- switchover would have added over 1 billion ECU in expenditures to the 1996 budget. In June, the agrimonetary policy was amended to provide compensation only for income losses in the revaluing countries. Once protection was given against income declines from cuts in payments, revaluations were allowed to take place.
The new policy will be more transparent; revaluing countries will be compensated through higher payments in lieu of "hidden" price and payment increases through the switchover mechanism. The system not only reduces the inflationary effect of automatic increases in support prices, but also allows support prices in strong currency countries to decline with a revaluation. For these reasons, the new agrimonetary policy could make the intervention option less attractive to producers. Freezing green rates for direct payments does, however, tend to protect CAP reform payments from reductions that would result from revaluation. This is important because producer payments now comprise a significant part of farm income. The new system thus reinforces the shift toward providing support through producer payments, and away from support through high prices. It could, however, lead to discrepancies in payment rates among countries if strong and weak currencies continue to diverge.
Implications for EU GATT commitments: The compensation that producers receive to offset income loss in case of a revaluation or from monetary changes in other EU countries could have implications for the EU's commitments under the GATT. Payments to producers compensating for income loss due to agrimonetary developments would be disciplined under the EU's commitments on internal support. It is not expected that additional compensation resulting from the new agrimonetary regime would cause the EU to exceed its commitment levels for internal support.
The "Peace Clause" in the Agreement on Agriculture exempts CAP reform payments from particular GATT actions (those based on serious prejudice and non-violation nullification and impairment of tariff concessions). The EU would not be protected from GATT actions under the Peace Clause if the increase in payments under the agrimonetary rules raised the level of support for a particular commodity above the levels agreed upon in 1992. This exemption is also contingent on the EU's respecting its Uruguay Round commitments.