What's wrong with the efficient scale?
President-elect Barack Obama vowed on Tuesday to cut billions of dollars from wasteful government programs....An obvious example, Obama said, were reports of crop subsidies to farmers who make more than $2.5 million per year.Like President-elect Obama (but unlike candidate Obama), I am all for getting rid of farm subsidies. But why would you want to use taxpayer funds to encourage large, efficient, profitable farms to break up into smaller, less efficient, less profitable farms? Isn't that precisely what you do if you maintain subsidies only for small farmers?
As all ec 10 students know, competitive markets push firms toward the efficient scale, defined as the level of production that minimizes average total cost. The low costs are in turn passed on to consumers in the form of low prices. These conclusions no longer hold true, however, if government policy tilts the playing field by rewarding small scale.
Update: Hal Varian's best-selling intermediate microeconomics textbook tells this story:
Thanks, Hal, for sending this in.
The Food Security Act of 1985 significantly restricted the payments to large farmers. As a result, the farmers broke up their holdings by leasing the land to local investors. The investors would acquire parcels large enough to take advantage of the subsidies, but too small to run into the restrictions aimed at large farmers. Once the land was acquired the investor would register it with a government program that would pay the investor not to plant the land. This practice became known as "farming the government.''...
Note that the ostensible goal of the program---restricting the amount of government subsidies paid to large farmers---has not been achieved.When the large farmers rent their land to small farmers, the market price of the rents depends on the generosity of the Federal subsidies.The higher the subsidies, the higher the equilibrium rent the large farmers receive. The benefits from the subsidy program still falls on those who initially own the land, since it is ultimately the value of what the land can earn---either from growing crops or farming the government---that determines its market value.