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Safety net programs, decisions for 2022

Curt Arens Planter in field
DECISION 2022: As cropping decisions are being made for the new growing season, commodity program and crop insurance decisions made this spring will also affect profit potential and revenue protection for the new crop.
Policy Report: There are decisions to make about commodity programs and crop insurance.

As crop producers make final production and management decisions for 2022 before the growing season begins, the outlook seems generally favorable with stronger commodity prices — but also more challenging with higher input costs driving up breakeven prices and risk.

Producers have multiple tools to manage production and marketing risk, including farm bill commodity programs, crop insurance policies and, of course, marketing tools to build their risk management strategies.

Commodity programs

The Agricultural Risk Coverage and Price Loss Coverage programs continue for 2022, but with the now annual opportunity to change the enrollment decision between ARC and PLC. Producers could keep their existing enrollment — which has tended to lean toward PLC for corn, grain sorghum, wheat and many other commodities, and toward ARC for soybeans under the 2018 Farm Bill.

However, with much higher market price expectations at present (new-crop futures prices above $5 for corn, $7 for wheat, and $13 for soybeans as of late January), the protection provided by either ARC or PLC is far below the market, meaning substantial risk for the producer before either farm program safety net would kick in.

The PLC program offers income support if the national marketing year average price drops below the effective reference price. Using corn as an example, the effective reference price of $3.70 works much like a put option to cover price losses below a $3.70 national marketing year average cash price all the way down to the $2.20 national average loan rate that would cover further losses.

But, with current price expectations above $5, there is a very small probability of PLC triggering a payment, and a very large downside price risk that producers face before PLC would kick in. The options market currently values a $3.70 price at just $0.01 per bushel, suggesting the limited value or the small probability of that level of price protection being relevant.

Even when PLC does provide downside price protection, it doesn’t cover all production, as it only pays on the producer’s farm program payment yield that generally lags current expectations and on 85% of base acres.

By comparison, the ARC program at the county (ARC-CO) or individual (ARC-IC) level provides revenue protection tied to a benchmark revenue equal to a benchmark price times a benchmark yield. The benchmarks for 2022 are based on Olympic averages from 2016-20.

The benchmark yield is trend-adjusted and should approximate expected yield for 2022. However, the national marketing year average prices for corn from all but one of those years were below the reference rate of $3.70, thus the benchmark price remains at $3.70 per bushel.

ARC guarantees 86% of the benchmark revenue, effectively covering losses below 86% of $3.70 or $3.18, assuming no yield variance. ARC only covers losses up to 10% of the benchmark, or about 37 cents down to $2.83. As a result, the ARC protection most closely resembles an option fence strategy from about $3.20 to $2.80 assuming no yield variance, although it too only pays on 85% of base acres.

Crop insurance

Unlike the commodity programs, the crop insurance policies do catch up to the higher price levels of 2022. Yield Protection, Revenue Protection with the harvest price component, and Revenue Protection with the Harvest Price Exclusion (RP-HPE) remain in place, as do the area yield and revenue plans and the Whole Farm Revenue Protection plan. The Supplemental Coverage Option (SCO) and the newer Enhanced Coverage Option (ECO) are available to provide more add-on county-level coverage on top of a farm-level policy.

With most producers using RP and most choosing the trend-adjusted yield option, producers are effectively protecting their crop from revenue losses below a given percentage of trend yield times the higher of the base or harvesttime futures price.

With current new-crop corn futures trading around $5.50 per bushel, a producer choosing 75%, 80% or 85% coverage is effectively protecting against revenue losses below $4.13, $4.40 or $4.68 per bushel, respectively, assuming trend yield, similar to a put option strategy at $4.10, $4.40 or $4.70 on full production.

The SCO and ECO coverage provide county-level protection tied to county-level yields and the same price component as individual coverage. Given that county yields are generally not as variable as farm-level yields and are certainly not perfectly correlated, the county-based coverage is not likely to substitute effectively for protecting substantial farm-level yield risk.

But it may provide a convenient tool to bump up the effective price protection via crop insurance. SCO protects from 86% down to the producer’s underlying coverage level, while ECO covers from 90% or 95% down to 86%, all providing an even higher level of potential price protection as part of the insurance plan.

Analysis

All of these examples focus on the effective price components of the farm program and crop insurance tools to give a simple comparison for illustration. However, all of the tools except PLC specifically cover yield risk as well, so the effective price protection adjusts for yield results (higher/lower yields result in lower/higher effective price protection).

Producers should consider their farm program and crop insurance choices carefully. Analysis of the ARC vs. PLC decision generally shows higher payment projections for PLC for most commodities and practices, although the probability of any payment is relatively small.

You can analyze your specific situation with the national online decision tools available via the Farm Service Agency website under the Resources tab on the ARC/PLC program page at fsa.usda.gov.

Given the higher price expectations and the substantial downside risk before farm programs would kick in, crop insurance provides significantly greater protection below current price and yield expectations. By coupling a sound crop insurance decision to either ARC or PLC, and then considering the value of SCO and ECO as an add-on, producers could bump up their effective price protection over what farm programs and underlying crop insurance could do alone.

This discussion of the price components of farm programs and crop insurance is not meant to diminish the need or value of sound marketing strategies. Whether covering futures price risk through futures and options strategies — or using cash marketing contracts to hedge futures, basis or local cash price levels — producers have the decision not only of what tools to use, but also of how much of expected production to price. It is just important to remember that all of the available tools can work together and can sometimes substitute for one another.

These decision deadlines will be coming up quickly for producers. Farm program enrollment at FSA is due by March 15, while crop insurance decisions for spring-planted crops are also due March 15 with crop insurance agents. With those decisions as a foundation, producers can also make informed and improved marketing decisions, helping to manage the combined production, price and financial risk they face for the year ahead.

Lubben is the Extension policy specialist at the University of Nebraska-Lincoln.

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