U.S. TOBACCO PRODUCTION
"Will There be a Quota Buyout?"

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"How Many Buyout Proposals?"
"Likelihood of Passage?"
"What if There is no Buyout?"

"Forecasting is a difficult science - especially with regard to the future."

Four major events during the past four years shaping production of flue cured tobacco: Quota reduction, baling of marketable leaf, retrofitting curing barns and direct contracting have totally changed the production and profit of tobacco production. And when we add TSWV to this list of factors, we wonder what can be added to make production even more difficult - and uncertain.

The two questions we most hear today regarding tobacco are: Will there really be a quota buyout?, and When?

The first significant proposal for a quota buyout was in 1997 by Senators McCain (R-AZ) and Ford (TN). Others surfaced before the Master Settlement Agreement was signed in November 1998, and many more have been introduced since then.

The proposals come at a critical time for U.S. tobacco growers. During the last two years, contracting has become the dominant means of marketing tobacco, replacing traditional auction markets. The price support program functions in an auction where USDA grades of leaf are linked to different levels of price support. However, contract sales bypass the auction and are not eligible for price support.

Further, due to the declining demand for tobacco products and U.S. leaf overseas, there is less available quota and quota rental rates and sales price have risen. Growers who try to maintain economic scales of production face increasing costs and less aggregate income.

For these reasons, grower interest in a buyout is at an all time high. Quota owners see this as an opportunity to exit with a generous payment. Some growers seem ready to give up the security of the price support safety net for greater freedom in making production decisions and selling directly to manufacturers.

Several quota buyout bills have ben introduced in this session of Congress that would provide for the purchase of quota from growers or other quota holders. These would either modify or eliminate the tobacco program and some would set up entities to explore new production alternatives. Others would set up programs for rural development and funding in communities where tobacco is grown. Still others would grant provisions for FDA authority to regulate tobacco products.

A summary of the major proposals are included in this discussion (and table 1).

Nearly all bills propose to pay quota owners $8.00 per pound for quota loss, and $4.00 per pound to active growers to help replace lost income. These monies would generally be paid over a five year period. Most of them would terminate the current tobacco program. But some would retain an annual production right (non-transferrable) - or limited transfer - to grow tobacco which would be placed in the hands of the growers. Still others would include a minimum price guarantee of leaf based on the cost of production.

A primary concern with all buyout proposals is funding. Current federal budget deficits effectively prohibit any public monies being used. So most bills propose this be funded by tobacco manufacturers; this, of course, would be passed on to consumers in the form of a user fee. Total costs of these proposals, over a five year period, range from $15 billion to $19 billion.

But there may be some opposition here. Initial payments may have to come from the U.S. Treasury as user fee collections may not be sufficient to fund early payments. Of course the intent would be for the Treasury to be repaid as fees are collected, but any payments from public monies (although to be repaid) will be opposed by some.

This is big money. But future Phase II payments would likely be terminated upon passage of any buyout.

At this writing, Congress has many pressing bills on the agenda (Homeland Security, Possibility of war, Agency appropriations, etc.). Most of these are in front of any tobacco buyout in the political process. Any quota buyout would have to get a lot of support from Representatives and Senators from states that will not directly benefit from buyout money, and would essentially impose higher prices on their tobacco consuming public. Only about 100 representatives in the House are from all tobacco states combined. Further, each tobacco state has only two senators.

In the time span, Congress will likely adjourn (or recess) some time before the November election. And it is likely there will be a lame duck session after the election. We don't know what effect the election might have on this legislation. Some think it could put a rush on buyout legislation, while other think Congress may take a wait-and-see attitude to see how any balance of political power may shift in November.

But there is support from the public health community for a buyout. Further, this group has supported some type of tobacco program for growers along with FDA regulations over tobacco manufactured products.

We like the term that Kelly Tiller (TN) used when she stated, "It is not all uncommon for a Congressional committee to take a pig and a cow and somehow send a zebra out of a committee". Once the situation moves into the political arena, most anything is possible.

Failure to enact a buyout means the current program would stay in place. We would continue growing the current basic quota with the current price support system. Continuation of contract selling would rest in the hands of the buyers. And the guess here that if contracting does continue, there will likely be more specifications imposed on tobacco production. While tobacco product manufacturers are often viewed as large impersonal entities, it should be kept in mind their reason for existence is to make a profit. And if the leaf content or characteristic affects the demand for their product, then they will set specifications for this leaf.

And with the size of today's basic quota, the industry has an excess capacity for farm level production with the barns and harvesting equipment that were in place few years back.

But the continuation of the present system would likely result in smaller quotas due to future declining exports and domestic usage.

Export of U.S. tobacco (while it is of extremely high quality) must compete with tobacco grown in other countries. And many of these countries have cheaper labor and lower production costs. One purpose of the quota buyout in to eliminate the equity inherent in the right to grow tobacco, so that the producer growing the tobacco is the only beneficiary of the right to grow it. This would eliminate quota as a factor in the cost of producing tobacco, lowering overall costs and increasing competitiveness.

Currently, a producer who owns quota does not pay himself rent, but there is the opportunity cost of holding quota because it has value. A grower who rents quota must pay the quota owner, which boosts his costs.

When the cost of producing tobacco is inflated by the right to grow it, it is more difficult for U.S. growers to be competitive with foreign tobacco. The proposal that have been submitted would eliminate the equity issues associated with quota.

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Sources used:

Capehart, Tom. "Is There a Tobacco Quota Buyout in the Future", Agricultural Outlook, ERS-USDA, August, 2002.
Tiller, Kelley. "Status of Tobacco Quota Buyout Legislation", Policy Update, APAC, University of Tennessee, August 2, 2002.

Prepared by:

Bill Givan, University of Georgia
Russell Sutton, Clemson University
J. Michael Moore, University of Georgia

Table 1. Comparison Of Selected Tobacco Buy Out Proposals; 2002.

# Payment Amount: The first number is dollars per pound paid to quota owner; the second is amount paid to producers exiting the system; the third is for producers continuing to remain in production.
Original by R.W. Sutton & D.T. Gooden; Clemson Univ; 03/02; updated by R. Sutton & B. Givan; 09/02

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