Risk in Australian agriculture

Risk is a fundamental feature of Australian farming and agribusiness, yet in many respects risk management systems in Australian agriculture are much less developed than is the case in other nations. New research to be conducted by the Australian Farm Institute (AFI) will have the ultimate aim of identifying potential initiatives that may facilitate improved risk management options for Australian agricultural businesses.

Generally, the risk faced by agricultural businesses can be separated into three broad components, these being:

  • Production risk: risk associated with the production system on-farm, including climate, disease, inappropriate management etc.
  • Market risk: risk derived from fluctuations in the market value of farm produce – including due to supply and demand and the exchange rate.
  • Institutional risk: risk associated with changes external to either production or market factors, such as government policy changes, trade restrictions etc.

Australian agricultural production is subject to one of the most variable climates in the world. As an indication of this variability, ABARES has forecast production for the 2017 national wheat crop of 21.6 million tonnes. This figure is 38% lower than the record crop of 35 million tonnes experienced in 2016, even though the area sown to wheat has been relatively stable (ABARES 2017).

Market risk is also a major factor for Australian farm businesses due to the complete exposure to international markets of much of Australia’s agricultural commodity production. Australia is one of the least regulated agricultural economies in the world – meaning that there are few, if any, government supported mechanisms for insulating Australian agriculture from international price movements.

With almost two-thirds of Australian agricultural production being exported, trade agreements which provide access and certainty to export markets are critical for lowering risk for farm businesses. Policy changes can have significant and unforeseen impacts on trade, as was experienced during the live export ban of 2011.

Historically, national and state governments in Australia assisted farmers to manage risk by maintaining a variety of different farm assistance measures to supplement farmers’ incomes during periods of ‘exceptional circumstances.’ This included access to cheap finance and the waiving of a range of different state government charges, as well as the provision of family welfare measures and farm business support in the form of grants and interest rate subsidies. These measures were triggered with increasing frequency over the period from 1980 to 2010.

A series of reviews commencing in 2010 eventually resulted in an inter-governmental agreement on drought policy in 2013. This replaced existing drought measures with an easier-to-access farm family welfare support measure, but essentially removed farm business support measures such as interest rate subsidies.

Part of the rationale for removing these risk management measures was that government supported programs (and earlier statutory marketing arrangements) ‘crowded out’ the development of commercial agricultural risk management options in Australia. It was anticipated that one of the outcomes of the dismantling of drought policy would be the development of some of these instruments, that are more commonly traded and utilised as part of risk management strategies by farmers in overseas locations. To date there is little evidence that the development and widespread use of commercial risk management products has occurred as anticipated.

The AFI research will be investigating commercial risk management products that are more widely used overseas. Farmers in the United States and Canada for instance, have a number of different commercial products available that can be used to manage risk. These include commodity derivatives (options and futures), forward contracts and specific insurance products (such as multi-peril crop insurance). These are utilised either directly by farmers, or by marketing intermediaries who use these as wholesale instruments to underpin ‘retail’ marketing and risk management options commercially provided for their farmer clients.

An in-depth understanding of these products will allow an assessment of their applicability on a commodity-by-commodity basis as might be applied against the risks that Australian farmers face. The research will also involve analysis of risk management gaps, and consideration of potential industry or government actions that might be required to overcome those gaps.

Reference

ABARES (2017), Agricultural commodities: September quarter 2017.

Image:  USDA