Economic Policy Review ISSN 1313 - 0544

An Overview of the Policies in the Tobacco Production Sector

Author: Metodi V.Metodiev / 29.01.2007
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In the political space this week there has been talk about the real prospect for subsidizing Bulgarian tobacco producers with money from the state budjet for three more years. This proposal is based on the permission given by the European Commission at the end of August.

We set as our task to make a general overview of the policies of the European Union and the Bulgarian state regarding tobacco production.

What is the situation in the tobacco production sector?

Tobacco production is under the protection of the Common Agricultural Policy (CAP) of the EU. In its frames the ensuring of the production and its following realization are guaranteed on the basis of the so called instruments of the CAP:

1) direct (compensation) payments – funds are granted directly to farmers by a scheme for income support. They compensate the gradual reduction of the prices of agricultural production and are, as European practice indicates, a substantial additional income for agricultural producers.

2) intervention – i.e. buying up of agricultural products by a special Intervention agency of the country, for a certain period (a period of intervention), at fixed (intervention) price. Thus, the realization of the production at an acceptable price is guaranteed. Intervention is a means of market interference – agricultural production is bought up in case there is a very high supply at low prices. This process is to be administered by the State Fund “Agriculture”, which will be accredited as an intervention agency. For some sectors like fruit and vegetables, interventions will be carried out by acknowledged producer organizations.

3) international trade regime – this is the special EU regime for the import and export, whose main aim is protection of agricultural production and of the market for agricultural production in the European Union. Export subsidies belong to this type of aid.

The Common Agricultural Policy introduces a single payment per farm or per hectare, with which direct payments are decoupled from production. In the case of tobacco, the reform will become effective from harvest 2006, as for the period from 2006 to 2009 inclusive, a compulsory decoupling of direct payments and production is envisioned, ranging from 40 to 60% (at the choice of the member state). From 2010 on, after the three years have elapsed, the Single Payment Scheme (SPS) will be applied, i.e. a single payment per farm will be applied.

Besides the instruments of the CAP, the tobacco production sector also enjoys the protection of the state. The mechanism through which it provides the welfare of tobacco producers is entitled “Common Organization of the market for raw tobacco”.
Its main aspects of activity are:

1) a system for determining production quotas – the Council of Ministers determines a maximum guaranteed limit for production of raw tobacco in the EU, within which individual maximum guaranteed limits are determined for each group of tobacco for three consecutive harvests. On the basis of these limits the Council allocates through production quotas the quantity for each group of tobacco, which is consigned for production to each country – producer of tobacco. The member state, on the basis of the quantity assigned to it, determines and allocates individual production quotas to the respective national producers or producer organizations.

2) a premium system – the amount of the premium is determined for each harvest by the Council and is different for the separate brand groups raw tobacco, but is the same for the brands in a certain group. Only tobacco produced within the limits of the respective quota is awarded a premium. The premium is divided into three parts: a) fixed – it is paid only to producers or their organizations, b) variable – comprises 30% to 45% of the total amount of the premium and is paid to the producer organizations, and they distribute it among its members according to the quality of their individual production and the price paid by the primary processor, c) specific – amounts to 2% and is granted to organizations for definite purposes like improvement of the management and the organization, activities related to environmental protection and others.

3) producer groups - a) their members should be only producers of raw tobacco, b) the group should not carry out primary processing of raw tobacco, c) each producer should be a member of only one group of tobacco producers, d) they should have information about the production which has been produced and realized, information about areas, brand structure, quantities, quality classes and sales, e) pay their members the price of the production which has been sold, f) have a common quota for raw tobacco, which the members of the organization produce, no less than 1% of the total amount for the country per year and 0.3% for 16 specially appointed municipalities in the country, etc.

4) tobacco-growing contracts – in the tobacco-growing contracts there are some explicitly specified requirements like: a) contracting parties b) minimum quality requirements for each class, with minimum 3 classes and an obligation from the producer to supply tobacco, which meets at least these minimum requirements c) an obligation from the primary processors to pay the purchase price according to the quality, etc.

5) approving of processors, who can conclude contacts – the member states, on whose territory the primary processors are found, are obliged to approve the processors, who can conclude contracts for tobacco growing, as in the case of breaking some of the requirements, the permit of the processor could be taken away by the member state.

The necessary conclusions

Led rather by narrow party interests, than by rational economic reasons, statesmen increase the interference with a sector, which has been (for reasons unknown) declared a priority. Thus the state encourages keeping the status quo – protectionism of a highest level, logically linked to ineffectiveness and lack non-competitive production. For sustaining the vital functions of the tobacco sector enormous amounts of funds are being poured, taken of course from the tax payers.

It is obvious that this does not stimulate the sector’s development; on the contrary – it is put in isolation from the real market situation. And this hinders market competition. The state interferes in the economy by allocating resources to a sector with a low added value for economy, and last but not least, thus distorts market logic and stimuli.

What should be done? A few recommendations

1) The right of ownership should be guaranteed through a stable, effective and transparent judiciary system.

2) Privatization of “Bulgartabac”

3) Withdrawal of the state from its inappropriate regulatory functions in the sector – i.e. minimizing the state’s interference with the tobacco market, abolishing of the barriers to export and import, abolishing of all protectionist tariffs, abolishing of the production quotas.

4) Abolishing of subsidies, because they create a culture of dependence and are an obstacle to the effective management of farms and hinder the natural process of land consolidation.

5) Dedicating vigor and energy to quickly completing the establishment of an Integrated Administration and Control System (IACS), Paying agency and Land Parcel Identification System (LPIS).

As a conclusion we can say that the proper enactment of these recommendations would encourage the effectiveness, entrepreneurship, sense of innovation and competition in the sector, which, combined with the free market determinants of demand and supply, will decide its future.