Risk management: which model will win out?

Wednesday, August 1, 2012

Federal ag minister Gerry Ritz favours a producer-funded insurance program on Alberta lines, a model which Ontario cattlemen have already rejected. Meanwhile, Ontario's Ted McMeekin, accepting the need for change, is looking at yet another approach

by MARY BAXTER

Just over a year ago, to much fanfare, Ontario's agriculture industry and provincial government announced a series of risk management programs (RMPs) to help several different commodities deal with market fluctuations.

It had been a massive, months-long process to develop the commodity-specific programs – most of which are inspired by a model proposed and piloted by the province's grains and oilseeds sector – and to obtain the provincial government support needed to get them off the ground.

Yet almost immediately, they came under criticism. Money dispensed under the programs is counted as an advance on AgriStability payments, but many farmers argued the payments should have been regarded as separate from those under the federal-provincial whole farm risk management program. While the programs had provincial support, federal Agriculture Minister Gerry Ritz flatly refused to commit federal money. In March 2012, in an open letter to members of the U.S. Congress, the National Pork Producers Council in the United States described the series of programs as an example of Canadian "trade-distorting federal and provincial programs." Also in March, the cash-strapped provincial government capped its contribution to the programs at $100 million, beginning in 2013, and announced plans to "recast" the program.

Now, the made-in-Ontario RMP faces its greatest challenge yet – the growing popularity of a fledgling, producer-funded cattle and hog price insurance program in Alberta.

In recent months, federal officials have vaunted the Alberta program, declaring it a favourable alternative to government-funded risk management programs like AgriStability. "We've seen the pilot in Alberta work extremely well," Ritz told reporters in April following a meeting of federal, provincial and territorial agriculture ministers. "I think ultimately that's where we should be," he later said in the session, referring to the future of risk management of livestock.

Ritz noted that AgriStability hadn't been much of a hit with farmers, especially after payments were capped. He also hinted strongly that, to encourage enrolment in the program, AgriStability coverage would have to be reduced from its current level of 85 per cent. He blamed the current coverage level "to a certain extent" for holding the Alberta insurance pilot "in abeyance."

In late May, Ritz was still enthusing about the insurance program, although more cautiously. In a May 25 prepared statement, delivered by email from his director of communications, he states that the federal government "is open to looking at new ideas, such as livestock insurance and innovation, that could help farmers manage risk and earn their living from the marketplace. Federally funded programs, however, must apply to all farmers in all parts of the country and must comply with our trade obligations."

By then, the Standing Committee on Agriculture and Agri-Food (a federal committee of Parliament that includes representation from all parties) had added its support to expanding the program, recommending in a May report that Agriculture and Agri-Food Canada study the possibility of establishing price insurance programs across the country, using the Alberta program as a model.

Rejected by the OCA  
However, Ontario producers are not in favour of the concept. Dan Darling, president of the Ontario Cattlemen's Association, says the association explored the idea when developing the cattle component of the RMP. They rejected it in favour of the provincial grains and oilseeds model, which uses a combination of provincial government funding and producer premiums to provide compensation.

The Alberta program, administered by Alberta's Agriculture Financial Services Corporation (AFSC), "is basically set up so you can lock in a (floor) price on your cattle and it'll cost you a fee depending upon what the price is that you lock them in at," Darling explains. However, if prices haven't been strong enough to make a profit, coverage may not be enough to cover the cost of production. "We'd rather spend our money on a program where at least our costs of production are covered."

Moreover, the program hasn't proved popular with either cattle or pork producers. Strongest participation has come from feedlot operators, who have had the program since 2009. Response to premiums that cover cow-calf production (introduced last year) and background feeding (introduced in 2010) is gaining momentum but is still low, says Bill Hoar, AFSC's livestock price insurance program co-ordinator. The total number of cattle insured under the program from April 1, 2011, to March 31, 2012, was 47,900 or the equivalent of less than one per cent of the province's on-farm January cattle herd.

The participation rate in the hog section of the program is even worse. Only 2,300 hogs have been covered under the program since its introduction in June 2011 to March 31, 2012. Those numbers are the equivalent of 0.15 per cent of the pigs on Alberta farms in April 2012.

One problem is that the program's premiums and indemnities are treated as expense and income in AgriStability calculations. Some farmers wonder why they would buy insurance when the federal-provincial program will cover their losses, says Hoar, who defends the approach by pointing out that other risk management tools, such as futures and options, are also treated this way.

Lack of awareness is another issue that AFSC is trying to address by speaking to producers one on one. "We go to auction markets. We go to the producer meetings. We make ourselves available to do presentations and just talk with them to explain the program and what it's trying to do for them and then they can see it fits into their risk management profile," Hoar says.

He blames too-high premiums prices for the lacklustre response to the hog insurance program.

Darcy Fitzgerald, executive director of Alberta Pork, agrees. He says the problem could be addressed by lowering the reinsurance portion on the premium that covers any potential catastrophic risk for the government.

Other factors, however, have been at play as well. The program was introduced at a time when hog prices were "looking pretty good" and "most producers just starting to learn about it really didn't take up the challenge of getting involved in it," Fitzgerald says. The program also faces competition from a growing number of forward contracting opportunities with packers, previously a rarity in Alberta.

"Overall, the program is really good," he says, describing it as easy to access and one of a number of risk management options available. He points out that those who bought the insurance would have found it helpful when prices took a sudden downturn in spring, when normally they begin to rise.

Moreover, one of the program's key advantages is that it doesn't conflict with international trade agreements.

Mystifying choice
Back in Ontario, spokespeople from commodity organizations like Ontario Pork and Grain Farmers of Ontario aren't convinced. Mary Jane Quinn, Ontario Pork's senior marketing communications leader, points to the low participation rates. Erin Fletcher, manager of public affairs and communications for Grain Farmers of Ontario, defends Ontario's RMP program by noting that a recent study commissioned by the provincial commodity organizations proves "there were insufficient grounds for the federal government or the provincial government not to fund RMP based on concerns over trade action." Fletcher wrote that she could not release a copy of the study because the commodities have not made their trade information public.  

What has Darling mystified is why Ritz would consider making such a poorly performing program national. He observes that the Canadian Cattlemen's Association has advocated for the expansion of the program across Canada and there is a push to extend it to all of the western provinces. However, "we've made it very clear to the minister that in Ontario we're not interested," Darling says. Neither are any provinces east of Ontario, he adds. "It kind of splits the country, unfortunately."

What has Darling and representatives of other Ontario commodity groups really worried is the possibility that all this talk of producer-funded insurance may herald some deep slashes to AgriStability as the federal minister and his provincial and territorial counterparts begin finalizing the finer details of a new national agricultural policy in September. The current policy expires next year.

"Ontario's commodity organizations, in particular, don't want to see any losses" within the suite of Growing Forward business risk management programs, says Fletcher over the telephone. "We've made some recommendations for enhancements to the programs that will actually work better for the diversified farms in Ontario. We don't want to see the federal government go down a path of cutting the existing suite of programs in favour of other programs that we don't feel will work for Ontario's farmers."

Steven Illick, who farms between Orangeville and Grand Valley and is a former chair of Ontario Pork's safety net committee, says cuts to AgriStability are "a done deal" and will likely take the form of a reduction in the reference margin percentage used to trigger payment. Right now, a drop in current year whole farm income to 85 per cent of the farm's historic reference margin triggers the payment.  Cutting government budgets is a big motivator for changing the program but so too is  "the almost bottomless liability that exists in AgriStability," he says. The grain sector is a case in point: Higher prices in recent years have meant the historic reference margin, an average of the program margin over three of the past five years, is also soaring for some farmers. "If something happens to the grain industry over the next two years, there are going to be huge, absolutely huge, payouts to the grains sector and my guess is they don't want to be around for that party."

A national insurance program similar to Alberta's livestock program would essentially be a salve for AgriStability. "It's of no value," he says, likening the Alberta program to a Chicago market option product. "Options are generally never a very cost effective product. They tend to have a lot premium attached to them and so to take something like that and then further package it and add costs of administration and everything else to it, you're probably getting a little crazy. I think Alberta producers saw that and have basically said nah, that's not for us."

Illick says that he is enrolled in the provincial risk management program and in late June was waiting to hear if there would be payouts connected to his 1,200-sow operation for the program's first quarter. He also milks about 35 cows.

But he's not depending solely on the program to manage risk. "We've personally made a decision a few years ago to take greater control of our own risk management program." That has involved looking for margin opportunities in the markets to both manage costs and protect livestock prices.

While the RMP initially "looked like it was going to do the right thing," he says the provincial changes and possibility of federal cuts to AgriStability will push it "towards being useless."  He predicts that farmers, in turn, will be faced with the task of having to become better risk managers.

Given the cuts announced in the federal agriculture ministry's budget, "retrenchment" in the new suite of federal/provincial agriculture policy is inevitable, says provincial Agriculture Minister Ted McMeekin. He says he plans to resist cuts but also appreciates that the federal government has "some fiscal challenges." Arguing for modest change is the fallback position.  

McMeekin says no one in the federal government "has picked up the phone" to ask if Ontario would be willing to look at making the Alberta insurance model national.

He doubts it presents a magic solution to offset cuts in federal-provincial business risk management programs "and we get a little bit anxious when we go and we say ‘what do you think of this' and they all say ‘no, that won't work here.'"

At the same time, McMeekin reiterates the need for Ontario's risk management program to change. He cites the recent Drummond report on reforms to Ontario's public service that panned the RMP "as not being the best way to grow the agricultural sector," adding that "we're having to take that critique pretty seriously." Lack of federal participation in the program and poor participation rates in some commodity groups are other indications the program isn't working as well as it should. That the provincial government now has to cap the program "is potentially another impediment."

The provincial ag minister says he's working closely with the industry to explore other ideas. One that has caught his attention is a ledger system that the Ontario Cattle Feeders' Association has proposed building into its Ontario Corn Fed Beef brand marketing program. The brand supplies several grocery chains in the province owned by Loblaws Companies Limited.  

The Cattle Feeders first broached the idea with the provincial government four years ago and presented it again just before the last provincial budget (no allocations were made). The program would be administered by a private, producer-owned corporation that would also control the Ontario Corn Fed Beef brand, says Jim Clark, the Cattle Feeders' executive director.

Under the program, producers would own the ledger account and receive an amount based on the cost of production for the animals acquired for the Ontario Corn-Fed Beef brand. If that amount were above what the current market pays, a fund kick-started with $20 million from the provincial government would make up the difference to the farmer. If it's below current market rates, the difference is put back into the fund.

Once the pool is built up and can sustain itself at a certain level, "based on the number of cattle that you sold, there would be a payback to you as a producer," Clark says. Having a major insurance company underwrite the risk would be another key component.

The price security that the program offers would help attract younger producers and new entrants, and ensure that the brand can deliver a year-round supply at the volumes that will be needed. "This could lead to more investment in the cattle industry. If banks are showing confidence in the beef industry and in the younger producers, it would allow them (younger producers) to get in and cover off some of the risks so they weren't so exposed," Clark says.  

The ledger would be "totally separate" from the RMP, Clark notes, explaining that, if the program ever flies, cattle involved in the ledger account would not qualify for RMP coverage. Moreover, because it's a producer insurance program, "there wouldn't be trade concerns" since, although provincial funds start the fund, the producer assumes the risk "as it goes down the road."

McMeekin says he's interested in the idea and, if the province decides to back it, would launch a pilot. "We're having conversations on what it might look like and how we might fund it."

As September rolls around, however, it's AgriStability that's the priority. McMeekin talks about the importance of "significant conversations" with industry stakeholders and how his first priority is protecting Ontario's farmers.

Industry representatives have warned that dramatic change would "be potentially quite detrimental to their confidence in their ability to grow forward," he says. "We're hearing that from some of our other provincial colleagues as well." BF

How Alberta's livestock price insurance program works

The concept for Alberta's livestock price insurance program emerged out of the BSE crisis, the recognition that major challenges to the industry can arise and reflection on what producers could do to manage such risks on their own, says the program's co-ordinator, Bill Hoar. The Agriculture Financial Services Corporation, an Alberta Crown corporation, administers the program and foots administration costs.

The program has offered coverage for fed cattle since 2009, feeder cattle between 750 and 950 pounds since 2010 and, since 2011, calves to 650 pounds as well as hogs. Basis insurance for cattle is also offered. No other livestock price coverage is planned, says Hoar.  He estimates it will take three to five years to build a fund that will be able to cope with a major price disaster.

Under the program, producers buy a policy based on a forecasted price for their animal at a future date. If the price they receive for their animals when that date arrives is less than the amount insured, they would receive the difference between the sale price and the forecasted price.

Premiums are adjusted three times a week to offer "real time prices" that reflect current market information and come in different coverage levels, says Hoar. BF