Statement of August Schumacher, Jr.

Under Secretary for Farm and Foreign Agricultural Services

United States Department of Agriculture

before the

Senate Committee on Agriculture, Nutrition, and Forestry

July 26, 2000

Mr. Chairman and members of the Committee, I am pleased to appear before you to discuss the Department of Agriculture's policies and recent actions in administering the U.S. sugar program, a provision of the Federal Agriculture Improvement and Reform Act of 1996 (1996 Act).

My testimony begins with several overall comments on the American sugar industry and a brief summary of past sugar policy. I will follow with a discussion of recent actions by USDA to implement the program that Congress provided, and I will conclude with some observations about expected USDA activity regarding sugar over the next several years.

The American Sugar Sector

Sugar products have provided farmers with a reasonable rate of return and rural communities with an important source of income. Unlike many other agricultural commodities, a large portion of the value of the processed commodity is returned to the farmers and rural communities. All sugar from domestic sugarcane and sugar beets is sold on a "pooled" basis, with the grower getting about 60 percent and the cane or beet processor getting 40 percent of the proceeds from the sale of sugar. A growing percentage of sugarcane and sugar beets are processed at farmer-owned factories. Cooperatives or farmer-owned factories currently comprise about 72 percent of the sugar produced in the United States.

The US sugar industry is in a period of transition due to the current oversupply of sugar on the domestic market and the resulting reduction in prices. Because of this oversupply, any actions undertaken by USDA under the current sugar program will not return prices to the levels enjoyed by the domestic sugar sector for most of the 1990s, and, as a result, adjustments are now occurring. Production of sugarcane and sugar beets in high cost production areas is decreasing in favor of production in low cost areas. Production at a sugarcane mill and several sugar beet mills is in jeopardy and closures are likely.

Evolution of Sugar Policy

American sugar policy has been contentious even prior to the First Continental Congress. The British Sugar Act, which taxed sugar imported into the colonies, was one of the many irritants that led to the American Revolution. As one of the first acts of an independent nation, Congress passed a tariff on imported sugar, which raised funds for the Federal Government, while also providing protection for cane refiners and domestic sweetener producers. Sugar policy in the nineteenth and early twentieth centuries focused on setting the level of tariffs on sugar imports to meet U.S. government revenue, farm income, and foreign policy objectives.

The Sugar Act of 1934 represented the "high water mark" of Federal intervention in the domestic sugar market. Foreign countries and domestic areas were given marketing quotas, a sugar tax was instituted, minimum wages were established for sugar workers, and direct payments were made to sugarcane and sugar beet farmers. That act expired during the period of high sugar prices of the early 1970s.

USDA's sugar price support loan program began in the late 1970s. Prices received by farmers were supported by Commodity Credit Corporation (CCC) nonrecourse loans, similar to those used for corn and other grains today. Borrowers of nonrecourse loans have the option to or forfeit title to the loan collateral to CCC in lieu of repaying the loan principal and interest. The primary tool for price support was still the import quotas, but the loan program provided a price target that was maintained by the import quotas. The Food Security Act of 1985 (1985 Act) formalized the link between the quotas and the loan program by requiring the President to use all authorities available to the President to operate the sugar price support loan program at no net cost. The quotas were converted to a tariff-rate quota (TRQ) in the late 1980s in response to a complaint brought under the General Agreement on Tariffs and Trade (GATT).

During the 1980s corn sweeteners captured a large share of the domestic sweetener market. Sugar's loss of domestic market share combined with increasing domestic production reduced raw sugar imports (and cane refiner inputs) to low levels. To ensure a minimum level of raw sugar imports and to maintain the viability of the no-cost provision of the sugar program, marketing quotas were included in the Food, Agriculture, Conservation, and Trade Act of 1990. Marketing quotas were established for the summer of 1993 and for fiscal year (FY) 1995.

Recent Sugar Policy

The 1996 Act suspended marketing quotas, added a penalty for forfeiting loan collateral to CCC, and changed the loans to be recourse loans, unless the TRQ is established above 1.5 million tons, in which case the loans become nonrecourse loans. The 1996 Act also eliminated the formal link between the loan program and the sugar TRQ with respect to actions required of the President. The loans have consistently been nonrecourse under the 1996 Act, since the sugar TRQ has always been established above 1.5 million tons.

In response to concerns about the ad hoc manner in which the TRQ was established and adjusted in 1996 and prior years, an administrative plan for the TRQ was established in 1997 that provided for adjusting the allocation of the TRQ in a transparent and predictable manner. The TRQ was established prior to the start of the fiscal year based on USDA projections of domestic sugar supply and use. A portion of the TRQ was held in reserve and allocated to exporting nations at established times during the fiscal year unless USDA projections of the fiscal year ending stock-to-use ratio exceeded 15.5 percent. USDA views stock-to-use ratios of 15.5 percent or lower as a signal that the domestic market needs the reserve sugar to be adequately supplied at reasonable prices. This policy provided a stable domestic sugar market in FY 1997, FY 1998, and FY 1999.

FY 2000 Sugar Policy

As FY 2000 approached, it became apparent that sustained increases in domestic production had outstripped increases in domestic sugar demand and that the administrative remedies we had used in the three years prior would not be feasible. The minimum TRQ established in conjunction with the WTO was expected to result in a stocks-to-use ratio of higher than 15.5 percent. However, the estimates of supply and use are subject to considerable error when made so far in advance. USDA announced a TRQ of 1,501,348 short tons (1,362,000 metric tons) and held 250,225 short tons in case the projected supply did not materialize.

Because the TRQ was established above 1.5 million tons, CCC offered nonrecourse loans for FY 2000.

In September 1999, USDA did not believe that forfeitures were likely for FY 2000. But, given the uncertainty in forecasting, USDA knew there was a chance that supplies would be greater than expected, prices could be lower than expected, and forfeitures were a possibility. However, given the inelasticity of demand for sugar, the potential price declines could have been catastrophic for the domestic industry if the protection of the recourse loan program were not available.

USDA also believed that FY 2000 would likely be the only year that the recourse vs nonrecourse loan issue would exist since Mexico's access under the North American Free Trade Agreement (NAFTA) was expected to increase to 276,000 short tons in the next fiscal year. The increased NAFTA access was expected to result in a TRQ in excess of 1.5 million tons and, therefore, mandatory nonrecourse loans for FY 2001 and the remainder of the 1996 Act sugar provisions. Thus, USDA faced the possibility of acquiring sugar inventories, even if recourse loans had been offered in FY 2000.

The USDA projections of sugar supply made in September 1999 now appear to be low by about 300,000 tons. Several different factors combined to significantly affect the domestic sugar market in FY 2000. Partly in response to low prices for other crops, for example corn and wheat prices are about 30 percent below the past nine year average, U.S. sugar farmers have increased plantings of both sugar beets and sugarcane. Technological improvements and favorable conditions in most sugar producing regions resulted in high yields for both cane and beets as well as increased extraction rates from both crops. Slippage in the TRQ through the import of unregulated sugar syrup ("stuffed molasses") also added additional, and unexpected sugar to the domestic supply.

Sugar prices have fallen farther than expected given the currently estimated FY 2000 stocks-to-use ratio. Wholesale refined beet sugar prices are expected to average 23 percent less in FY 2000 than in FY 1999 and 23 percent below the past 5-year average. Raw cane sugar prices are expected to average 20 percent less in FY 2000 than in FY 1999 and 21 percent below the past 5-year average. The traditional price vs stocks-to-use model employed by USDA for the past decade predicts a raw sugar price almost 2 cents per pound above the current raw sugar price. However, since the mid 1980s, the current level of ending stock-to-use estimate, 18.5 percent, has only occurred when marketing allotments were in place and were triggered to address the surplus.

Sugarcane and sugar beet acreage have increased more than anticipated because the sugar crops are relatively more profitable than alternative crops. Sugarcane and sugar beet acreage is responsive to returns from other crops. Acreage in both crops substantially dipped in 1996, by 5.1 percent, in response to the high prices of other crops in 1995 and 1996. The recent low prices of grains and cotton are at least partially responsible for the increase in acreage in sugar crops. Acreage in sugar crops increased in 1997, 1998, and 1999 by 5.1 percent, 2.3 percent, and 4.4 percent, respectively. USDA does not expect acreage in most production areas to decline in spite of the reduced returns to sugar crops, given the price situation of other crops.

Overall sugar imports have been reduced in recent years as the sugar tariff-rate quota has been reduced, but sugar supplies from other foreign sources have risen significantly during this period. Sugar syrups are a small component of total supply, but they have contributed to the growing carry-over. FY 2000 ending stocks and expected CCC acquisitions would be substantially smaller if the sugar syrups imported under 1702.90.40 of the harmonized tariff schedule were under the TRQ. The 67,000 tons of high-tier tariff imports from Mexico in FY 1999 also contribute directly to FY 2000 carry over. The FY 2000 ending stocks-to-use ratio would be estimated at only 15.6 percent had these sugars not been imported.

Substantial forfeitures are expected over the next few months. The market price of refined sugar, about 19.0-21.5 cents per pound, is significantly below the proceeds most borrowers retain from forfeitures, about 23.0 cents per pound. The price of raw sugar, about 17.0 cents per pound, is also significantly below the level needed to discourage forfeitures, about 19.5-20.0 cents per pound. There are 1.4 million tons of sugar currently pledged as collateral for CCC loans, with loans on 60,500 tons maturing at the end of July, about 257,000 tons at the end of August, and about 1.073 million tons at the end of September.

CCC's recent sugar purchases were made under the authority provided to CCC in section 1009(c), under the Cost Reduction Options of the 1985 Act. The sugar purchase was made to stabilize the low sugar prices and reduce the cost of the sugar program to taxpayers. CCC purchased 132,000 tons of refined sugar at a cost of $54,125,900, for an average cost of 20.5 cents per pound. The terms of storage under the purchase are similar to the terms of storage under forfeitures and the only cost difference between the two types of acquisition are the direct acquisition costs. Since the expected acquisition cost under forfeitures is 23.0 cents per pound, CCC saved an estimated $6.6 million by making the sugar purchase.

Disposition of CCC sugar inventory

USDA has analyzed many potential outlets for the surplus sugar but most have serious disadvantages or limitations. Foreign donation, ethanol, and restricted use sales are possible but either expensive or reduce the price of other commodities with already depressed prices. The most feasible use of surplus sugar appears to be to make Payment-in-Kind (PIK) payments to sugar beet producers to reduce the quantity of beets harvested and sugar produced in FY 2001.

CCC can use the authority under the Cost Reduction Options of in section 1009(e) of the 1985 Act to accept bids from producers for the conversion of planted acres to diverted acres in return for PIK payments from CCC sugar stocks. We are assessing this option because the PIK option would eliminate the $264,000 per month cost of storage for the 132,000 tons of sugar currently in inventory, as well as storage costs for any forfeited sugar utilized for this program, and may reduce CCC outlays next year as the sugar surplus is expected to be larger in FY 2001 than FY 2000. If nonrecourse loans are mandated in FY 2001, a PIK program may save CCC more than the cost of the purchases. The PIK payments are limited by statute to $20,000 per year per person but are not agregated in the other payment limitations. A sugar PIK program is not expected to solve the oversupply problem for the domestic industry because the program would be limited by the availability of CCC inventories and the payment limitation severely limits the number of acres that can be diverted per farm. Also, the planted acres also are under contract to processors who may not be willing to forego the production.

While USDA would prefer a market where neither sugar purchases or a sugar PIK program were used, these options seem to be the best available alternatives to provide support to U.S. farmers in the most cost effective manner.

Sugar Market Outlook

USDA projects that domestic sugar production is not likely to increase for the next several years as the domestic industry adjusts to the recent lower price levels, which are expected to continue through the remainder of the 1996 Act. Production lost through plant closures is expected to be made up by continuing productivity improvements in the remaining factories and increased productivity will occur on the farm. Supply is expected to increase in FY 2001, due to the increased NAFTA access for Mexico, in addition to the mandated minimum TRQ, and rise slowly from FY 2001 through FY2003. CCC net expenditures on the sugar program are expected to increase dramatically beginning in FY 2004.

Mr. Chairman, in response to a combination of factors that have affected the U.S. sugar industry and the statutory mandates of the program, USDA has taken a measured and directed approach towards stabilizing the domestic sugar market. We have carefully considered the impact on consumers as well as sugar producers. The PIK program and our sugar purchases represent a pro-active stance on the part of USDA to aid struggling sugar producers through a very difficult period, deal responsibly with forfeited sugar, and implement existing law.

The Administration is committed to work with this Committee and the sugar industry to reform the program in a sustainable manner that will support our nation's sugar farmers while maintaining a stable supply of sugar for American consumers.

I would say in conclusion, however, it should be our collective position that we take steps to help farmers thrive, not just survive. We are doing all we can to help American family farmers reach that goal. As we work to pull our farm economy up from these tough times, I encourage your input and look forward to an ongoing dialogue with you.

Thank you, Mr. Chairman, and I would be pleased to answer any questions that you or the Committee may have.

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