BL-801
Brian Hurd, Christopher Goemans, George Frisvold and Janine Stone
College of Agricultural, Consumer and Environmental Sciences, New Mexico State University

Authors: Respectively, Associate Professor, Department of Agricultural Economics and Agricultural Business, New Mexico State University; Assistant Professor, Department of Agricultural and Resource Economics, Colorado State University; Professor and Extension Specialist, Department of Agriculture and Resource Economics, University of Arizona; and Graduate Research Assistant, Department of Agricultural and Resource Economics, Colorado State University. (Print Friendly PDF)

Department of Agricultural Economics and Agricultural Business

Abstract

New Mexico has many unique agricultural characteristics that are important to consider when assessing economic impacts of climate change legislation, such as the American Clean Energy and Security Act of 2009 (ACES, H.R. 2454, also known as the Waxman-Markey Bill). Based on existing data and studies, this assessment considers many of these characteristics in developing preliminary findings on the economic effects of proposed legislation on the state's agricultural economy. Agriculture is varied and diverse in this region, from large-scale orchards of tree nuts to vegetables, cotton, and a variety of row and field crops, and from widespread cattle grazing and ranching to large-scale dairy production. The proposed climate change legislation almost surely entails a relative rise in energy and fertilizer costs. Energy costs are expected to rise by as little as 4% or as much as 13% by 2020, and fertilizer costs by a smaller amount, perhaps ranging between 0.3% and 2% by 2020. Projected increases in fertilizer costs are much less because of the availability of rebates for energy-intensive, trade-exposed (EITE) industries and projected falling natural gas prices. Though the projected increases are modest, such increases will be important for agriculturalists, who must operate on relatively thin profit margins. Furthermore, as farmers throughout the nation adjust to these cost increases, increased demand for bio-energy fuels; increased value of carbon-sequestration; and changes in crop management, land use, and market strategies will likely result in higher commodity prices received by farmers, in many cases largely offsetting projected cost increases. Even in cases where these cost increases are not offset—or if cost increases are perceived by many to be much more certain than revenue increases—the expected rise appears to be well within the range of recent energy-price variability. While new production and revenue opportunities and higher commodity prices will generally benefit farmers, resulting feed prices will adversely affect livestock and dairy producers. In the western states, cattle and dairies are important segments of the agricultural economy. Higher feed and energy costs will pose several threats and challenges. Our preliminary findings suggest that energy, fertilizer, and feed cost increases expected under the proposed legislation could initially shrink the region's agricultural economy until these losses are offset by rising revenues—primarily from higher commodity prices. On balance, based on expected patterns of cost and price changes, we estimate that, compared to baseline levels, state-level net farm income in 2020 rises by about 4.1% for New Mexico. Crop producers will likely experience improved revenues from high crop prices, and if they are able to take advantage of new biofuel crop markets and opportunities to sequester carbon and gain offset revenue they may be able to more than offset their cost increases. Traditional ranching, the dominant practice throughout this region, has few bright prospects, although dairies and other concentrated feeding operations may be able to generate additional income through methane-saving devices, such as digesters, that will provide revenue not only through carbon-offset markets but also through electricity sales.

Introduction

Growing concern about the possible effects of greenhouse gas (GHG) concentrations in the atmosphere on global climate has resulted in federal legislation to limit emissions and develop mechanisms and incentives to encourage long-term storage (e.g., sequestration) of carbon. In 2009, the U.S. House of Representatives passed the American Clean Energy and Security Act of 2009 (ACES, H.R. 2454, also known as the Waxman-Markey Bill). This legislation initiates a so-called "Cap and Trade" (C&T) program under which major industrial emissions of greenhouse gases are regulated such that the quantity of total permitted emissions is limited by the total emissions set by the "cap." Under C&T, major industrial generators of greenhouse gases must either limit emissions to a level consistent with their permits or purchase additional permits. Central to the program, therefore, is an emissions permit/credit market where permit buyers and sellers can trade permits and credits at a free market price. The result is an economically efficient distribution of the burden to limit emissions at the least possible industrial cost to consumers.

Agricultural Greenhouse Gas Sources and Sinks

Agricultural activities and agricultural lands are both a source of greenhouse gases (primarily through methane and nitrous oxide releases) and a sink in which carbon dioxide is captured—i.e., sequestered—from the atmosphere and "fixed" as long-lived organic soil matter, forests, and wood products. As a source, agriculture contributed about 6.1% of U.S. greenhouse gas emissions in 2008. Vegetation and soils have the capacity to capture and store carbon dioxide for relatively long periods of time, much as fossil fuel deposits essentially are stores of hydrocarbons from millions of years ago. Sequestration in forests and agricultural soils is estimated to offset about 12.7% and 0.6% of total emissions, respectively (U.S. EPA, 2010). Agricultural activities and their share of agricultural emissions are shown in Figure 1 and described below.

Figure 1. 2008 Greenhouse gas emissions from agriculture.

Agricultural Greenhouse Gas Emissions

Agricultural soil management (50.5%). Nitrous oxides are emitted through processes related to nitrogen fertilizer application, uptake, and use. High-nitrogen using crops like corn have increased nitrous oxide emissions. More efficient and effective nutrient and soil management practices can significantly reduce emissions, lower production costs, and reduce surface and groundwater contamination.

Enteric fermentation in domestic livestock (32.9%). As part of the normal digestive process in which microbes contribute to the fermentation of forage and feed, ruminant livestock, such as beef and dairy cattle, emit significant amounts of methane, primarily via exhaling and belching. Changes in both quantity and quality of feed and forage can influence methane emissions.

Livestock manure management (14.5%). Anaerobic decomposition of manure results in methane production and release, primarily when waste is stored as a liquid or slurry in lagoons, ponds, or pits. In contrast, aerobic handling, for example with field application of wastes, results in much lower levels of methane production and release. Alternatively, manure can be processed through a digester that captures the methane and uses it as fuel to generate electricity.

Agricultural Carbon Sinks

Afforestation and Reforestation of Agricultural Lands (-12.7%). Forests and long-lived forest products are able to capture (through photosynthesis) significant amounts of carbon dioxide, thus reducing atmospheric levels and effectively offsetting emissions from other sources. Nut and fruit orchards, shelterbelts, and forested riparian areas are examples of agricultural afforestation that provide carbon storage and other valuable benefits, such as wildlife refugia and aesthetics, in addition to marketable crops.

Soil Carbon Sequestration (-0.6%). Soils have an important capacity to sequester carbon as organic matter, which if properly managed can be built up and maintained. Frequent or excessive tillage tends to oxidize and release soil carbon, whereas conservation, reduced-till, or no-till practices tend to increase soil carbon, reduce production costs, and limit soil erosion.

Overview of Existing Studies on Agricultural Impacts of Climate Change Legislation

Agriculture is excluded from emissions caps and permit requirements under the currently proposed legislation, but unfortunately not from the rising energy and fertilizer costs that will directly and indirectly raise costs of production, transportation, and distribution. Mitigating these cost increases for many producers will be benefits from the development and sales of greenhouse gas offsets (carbon offsets) and from increasing production and sales of bioenergy crops for which greater demand is anticipated as the value of carbon offsets rises. Among the highest potential opportunities for agriculture to supply carbon offsets are converting crop and pasture land to forests (afforestation), producing bioenergy crops (e.g., corn, canola, sunflower, switchgrass, camelina, etc.), changing tillage practices on cropland to enhance soil carbon accumulation (sequestration), and managing livestock waste (e.g., with methane digesters where livestock are concentrated, such as near dairies and feedlots).

Several recent studies investigate and assess the potential costs and benefits of C&T on the agricultural sector of the United States and certain regions and states. This report focuses on these studies' implications for impacts on agricultural producers in New Mexico. Several assessments of the proposed climate change legislation have examined impacts on various aspects of the agricultural economy. The foundation of this assessment rests on all of the currently available, relevant reports. Figure 2 identifies and highlights the eight available studies.

Figure 2. Currently Available Studies Examining the Potential Impacts of Climate Change Legislation on the U.S. Agricultural Economy.

The first five studies in this list represent efforts to model the impacts of H.R. 2454 at the national level. Table 1 presents a summary and comparison of this set of studies along with their scope, findings, and key assumptions (a more detailed overview can be found in Golden et al., 2009). None of the studies in this list was specific to either New Mexico or the Rocky Mountain Region. Most describe national-scale impacts to the agricultural sector. The Babcock (2009) and FAPRI (2009) studies represent the exceptions to this; these were state-level efforts focused on Iowa and Missouri, respectively. The USDA and AFPC studies were the only two that provided any regionalized estimates. Both studies used similar models and methodologies in their development. The USDA estimates form the underlying basis for our assessment of impacts on New Mexican producers and New Mexico's agricultural economy.

Table 1. Comparison of Select Studies on the Costs and Benefits of Climate Change Legislation on the U.S. Agricultural Economy

New Mexico Agricultural Overview

Agriculture's industrial importance to New Mexico is significant, providing jobs and economic livelihood totaling more than $1.2 billion in 2008 to the state's gross domestic product (NMBBER, 2010). With a land base composed of 77.6 million acres, New Mexico is the fifth largest state in total area. Nearly half of this area (about 37 million acres) is used for livestock grazing. Crops are harvested on just over 1 million acres, 83% of which are irrigated (U.S. Census, 2010).

Cattle and dairy dominate the agricultural economy of New Mexico, together generating more than 75% of the agricultural income of the state. If livestock feed crops such as hay and corn silage are included, then livestock-related agriculture generates more than 85% of agricultural revenues in the state. In addition to the dairy and cattle industries, New Mexico is an important producer of pecans (second only to Georgia in overall production). New Mexico is also an important producer of both onions and chile. Wheat is important in some areas of the state, as is cotton. Figure 3 shows the share of gross receipts generated by the various commodities.

Figure 3. Value of agricultural production in New Mexico by commodity.

The aggregate agricultural income of New Mexico is characterized in Table 2. In particular, the table shows that agricultural revenues total about $3.4 billion and variable production costs total about $2 billion. Of these variable production costs, energy and fertilizer costs account for nearly 10% and 3.5% , respectively, of variable production costs averaged over the entire industry and state.

Table 2. Net Income From Farming in New Mexico (in $1,000s)

Estimating the Range of Impacts of Cap and Trade on New Mexico Agriculture

Under C&T, New Mexico farmers, ranchers, and dairy producers will all confront higher energy costs, and farmers will pay more for energy-intensive inputs, such as nitrogen fertilizers that rely heavily on natural gas. USDA estimates of higher energy costs are shown in Table 3, and are representative of the estimated price increases across the available studies.

Table 3. Estimated Energy and Fertilizer Price Increases Above Projected Baseline Prices Resulting from Proposed Cap and Trade Legislation (H.R. 2454)

Based on the range of estimated price changes reported in USDA (2009) and shown in Table 3, the following values were selected to represent approximate price increases by 2020 for fuels, electricity, and fertilizer: 8.5% , 12% , and 2% , respectively. Using these and the production costs and cost shares given in Table 2, the increase in agricultural production costs for New Mexico are estimated at $20 million (2008$ ), or approximately 1% in total variable production costs, which results in an estimated loss in net farm income of about 2.4%—not including any changes in livestock feeding costs.

Livestock and dairy producers face substantial animal feeding costs. If corn silage, sorghum, and hay prices rise as a result of acreage diversions and declines from baseline production levels, then feeding costs for dairies and supplemental feeding costs for ranchers can be expected to rise. Table 4 presents estimated changes in commodity prices for corn, sorghum (used as a proxy for hay), fed beef (used also as a proxy for changes in all cattle prices), and milk estimated by USDA (2009) resulting from the proposed C&T legislation. For example, New Mexico ranchers must budget for significant supplemental feed costs, particularly in the event of poor rainfall and vegetation growth on rangelands. In typical cattle and calf operation budgets, the share of variable production costs attributed to feed can range from 20% to 40% (pers. comm., Dr. Jerry Hawkes, New Mexico State University expert on agricultural production budgets, February 20, 2010). In milk production, feeding costs are a very significant share of total variable production costs. Based on values reported through September 2010, dairy feeding costs in New Mexico were 61% of total variable production costs. Therefore, an increase in feeding costs of 10% by 2020 will result in an increase in variable production costs of approximately 0.2% to 0.4% for cattle producers and about 0.6% for dairy producers.

Table 4. Estimated Commodity Price Changes from Projected Baseline Prices Resulting from Proposed Cap and Trade Legislation (H.R. 2454)

Using the 2008 estimate net farm income figures for New Mexico shown in Table 2, and applying the fuels, electricity, fertilizer, and feed cost changes—respectively, 8.5% , 12% , 2% , and 10%—the estimated changes in variable production costs and net farm income are 4.4% and 10.6% , respectively, or approximately a loss of $88 million in net farm income.

Potential for New Mexico Agriculture to Offset Higher Costs with Increased Revenues

How might revenues change in response to the market changes and opportunities presented by the proposed legislation? Studies with a comprehensive assessment of the impacts of the proposed legislation (e.g., USDA, 2009; Texas A&M, 2009; Nicholas, 2009; University of Tennessee, 2009) indicate that the implementation of a carbon offset program would generally result in diversion of existing agricultural lands into production of bioenergy crops and afforestation, resulting in a net decrease in production of current commodity crops and a consequent relative increase in commodity prices, as shown in Table 4.

Assuming that New Mexico producers will benefit from the rise in relative commodity prices, there is measurable potential to offset some or all of the increased production costs. If these commodity price increases are factored in for New Mexico farmers and ranchers, and conservatively assuming no change in the existing shares of crops produced, then gross revenues can be expected to rise, resulting in an increase in net farm income of about $33 million (about 4%) compared to current levels. This assumes that current production levels of both crops and livestock are maintained. In accounting for these price changes, the analysis weights the effect of the price change by the relevant share of cash receipts as reported by NMDA. For example, in 2008, milk sales accounted for 43.7% of total cash receipts in agriculture. Since projected increases in commodity prices are less certain and less immediate than expected increases in energy and energy-intensive input prices, declines in harvested acres and in both dairy and livestock herd sizes can be expected in the short run. Therefore, projections of a net increase in net farm income resulting from longer-run commodity price increases should be considered optimistic.

In addition to the projected increases in commodity prices, there are additional revenue enhancements that could be enjoyed by New Mexico farms and ranches. The proposed legislation provides opportunities for agricultural producers to enhance revenues and net returns by contributing to renewable energy production, bioenergy crops, and greenhouse gas sequestration.

Of these opportunities, the one that appears to have the greatest immediate promise is the installation of methane digesters and the co-production and sale of offsets and electricity on the largest of New Mexico's dairies. Based on economic feasibility assessments on dairies in Pennsylvania, Leuer et al. (2008) indicate that there are likely positive net returns to methane digester installation on dairies with herd sizes in excess of 1,000 head. On these dairies, the net annuitized return is estimated at $4.89 per cow per year (Leuer et al., 2008), with the net present value of a digester for a 1,000-head dairy estimated to be $61,000, and assuming a 5% discount rate and a 20-year facility life.

If digesters are installed on one-third of the dairies, the result generates an additional $546,000 per year and, if added to the revenue increases from commodity price increases, results in a net increase in net farm income of approximately 4.1% . Though the potential is there, initial investment costs are high, and increased feeding costs could further constrain consideration and installation of digesters unless and until carbon prices and electricity prices rise sufficiently. Table 5 summarizes the changes in annual net farm income across each of four scenarios. As shown by the similarities between the results of Scenarios 3 and 4, the potential for carbon offsets to add to net farm income is very small.

Table 5. Estimated Baseline Changes to New Mexico Net Farm Income in 2020 Resulting from Proposed Cap and Trade Legislation (H.R. 2454)

Opportunities for other sectors are somewhat limited by the production environment and currently available mitigation opportunities. For example, cattle and calf producers in New Mexico are primarily grazing pasture and rangelands and, therefore, have little or no capacity to either change feedstocks or manage manure in order to reduce methane emissions. Without offsetting increases in beef prices, New Mexico cattle producers will be hard hit by increased costs. There is, however, some potential for New Mexico farms to grow bioenergy crops—research on feedstock crops such as camelina is ongoing, and there may be opportunities from advances in cellulosic ethanol.

These opportunities are at present difficult to quantify and are likely to contribute little change in net farm income—being close substitutes to existing crops. Another potential but somewhat of a long shot is the possibility that planting agricultural forests—afforestation—of pecans (maybe even citrus someday if climate changes enough) could someday be counted in the carbon offset markets. Currently, it seems that there is little about this on the CCX carbon market—though personal communication with Brian Murray (an economist at Duke University who is an expert on land use and land use changes under climate change) indicates that this is conceptually possible. There maybe a little potential to use orchard prunings as bioenergy sources—some feasibility studies have been done, but there seems to be not enough source material to develop the energy-producing infrastructure.

There may be some potential to adopt soil-carbon conserving practices on field crops, yielding some GHG offset income. Limited tillage is already widely practiced, especially in response to higher fuel costs. In addition, New Mexico farmers are highly dependent on irrigation, much of which is pumped and, therefore, associated with very significant energy costs. It would be difficult to imagine that offset income from tillage practice changes would offset the increased energy costs of pumped groundwater.

The proposed climate change legislation almost surely entails a relative rise in energy and fertilizer costs, estimated between 4% and 13% for energy and between 0.3% and 2% for fertilizer by 2020. Though the projected increases are modest, such increases will be important for agriculturalists, who must operate on relatively thin profit margins. However, changes such as increased demand for bio-energy fuels will likely result in higher commodity prices received by farmers, which would offset some of the projected cost increases. Even in cases where these cost increases are not offset—or if cost increases are perceived by many to be much more certain than revenue increases—the expected rise appears to be well within the range of recent energy-price variability. While new production and revenue opportunities and higher commodity prices will generally benefit farmers, resulting feed prices will adversely affect livestock and dairy producers. In the western states, cattle and dairies are important segments of the agricultural economy. Higher feed and energy costs will pose several threats and challenges. Our preliminary findings suggest that energy, fertilizer, and feed cost increases expected under the proposed legislation could initially shrink the region's agricultural economy until these losses are offset by rising revenues—primarily from higher commodity prices. Traditional ranching, the dominant practice throughout this region, has few bright prospects, although dairies and other concentrated feeding operations may be able to generate additional income through methane-saving devices, such as digesters, that will provide revenue not only through carbon-offset markets but also through electricity sales.

References

Agricultural and Food Policy Center (AFPC). 2009. Economic implications of the EPA analysis of the CAP and trade provisions of H.R. 2454 for U.S. representative farms (AFPC Research Paper 09-2). Retrieved Feb. 23, 2010, from http://www.afpc.tamu.edu/pubs/2/526/rr%2009-2%20paper%20-%20for%20web.pdf.

Agricultural Policy Analysis Center (APAC). 2009. Analysis of the implications of climate change and energy legislation to the agriculture sector. Retrieved Feb. 12, 2010, from http://www.25x25.org/storage/25x25/documents/ut_climate_energy_report_25x25_november11.pdf.

Babcock, B.A. 2009. Costs and benefits to agriculture from climate change policy. Iowa Ag Review, 15, 3. Retrieved Feb. 23, 2010, from http://www.card.iastate.edu/iowa_ag_review/summer_09/article1.aspx.

Charles River Associates (CRA). 2009. The American Clean Energy and Security Act of 2009. (H.R. 2454). Retrieved Feb. 16, 2010.

FAPRI. 2009. The effects of higher energy prices from H.R. 2454 on Missouri crop production costs (FAPRIMU Report #05-09). Columbia: University of Missouri Food and Agricultural Policy Institute. Retrieved March 3, 2010.

Golden, B., J. Bergtold, M. Boland, K. Dhuyvetter, T. Kastens, J. Peterson, and S. Staggenborg. 2009. A comparison of select cost-benefit studies on the impacts of H. R. 2454 on the agriculture sector of the economy. Retrieved Feb. 25, 2011.

Leuer, E.R., J. Hyde, and T.L. Richard. 2008. Investing in methane digesters on Pennsylvania dairy farms: Implication of scale economies and environmental programs. Agricultural and Resource Economics Review, 37, 2, 188-203.

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Acknowledgments

We would like to acknowledge financial support from the American Farmland Trust, Center for Agriculture in the Environment, which helped support the initiation of this effort. In addition, we would like to express our continuing support and appreciation to the Agricultural Experiment Stations in Arizona, Colorado, and New Mexico, and to funding through USDA's Hatch Act for ongoing support of agricultural research. All opinions, findings, conclusions, and recommendations either explicitly or implicitly expressed in this document are solely those of the authors based on their objectivity and expertise, and do not in any way reflect those of the American Farmland Trust.

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Printed and electronically distributed July 2011, Las Cruces, NM.