After an extra year of internal debate, the EU Commission has proposed major sugar policy changes that would take affect for the 2006-07 crop marketing year. Other EU farm programs changes were effective January 1 of this year. The combination of EU farm program costs, WTO trade negotiations and the loss of the WTO trade case on sugar brought by Brazil and other countries made reforms inevitable. The EU Agricultural Council will make a final decision in November.

The EU sugar program has remained mostly unchanged for 40 years. Sugar farmers have A and B quotas that are protected by an intervention price if market prices fall below the intervention price. This year sugar was sold into the intervention program for the first time since 1986. Any sugar produced above the A and B quotas is considered C quota and must be either sold into the export market without subsidies or stored by the producer for future years when production may be short of the A and B quota total.

The EU sugar program is further complicated by permitted imports at intervention prices of up to 1.6 million metric tons (MMT) sugar raw value equivalent from 18 developing countries (called ACP countries for Africa, Caribbean and Pacific, including India) that is then re-exported using export subsidies. Beginning in 2008/09 other least developed countries will have full access to import sugar under the Everything But Arms (EBA) initiative. Net sugar exports have been about 3.0 MMT raw value in recent years.

Under the proposed reforms the price of processed sugar would be cut by 39 percent over two years from 631.9 euros per MT (35.0 cents per pound) to 385.5 euros per MT (21.3 cents per pound). The intervention system and intervention price would be replaced with a reference price. Payments to farmers would be made equal to 60 percent of the difference between the old intervention price and the new reference price based on sugar quotas for 2000-2002 as part of the Single Farm Payment program that began on January 1 of this year for other commodities. These payments would be decoupled from production.

The A and B production quotas would be combined into one quota. That total quota would be increased by one million metric tons based on the amount of C quota sugar produced in recent years. The new plan would remain in place through the 2014/15 marketing year with no requirement for an interim review of the program.

A private storage program would be created to serve as a safety net if market prices fall below the reference price. Sugar produced for use in chemicals, pharmaceuticals and ethanol would be excluded from the production quota. Sugar used for energy would qualify for the energy crop aid of 45 euros per hectare (about $23 per acre).

The plan also provides incentives for sugar refiners to leave the industry, with the greatest incentives in the first year of the plan. Sugar beet producers would also receive additional payments to exist the industry if the refinery they normally deliver to takes the buyout program. The plan is clearly built around a voluntary reduction in production rather than a mandatory cut in the old A and B quotas. The cost of the restructuring would be paid by a charge to sugar processors.

The lower reference price would also apply to the imported sugar from the ACP countries. The new program includes funds, about $50 million in 2006, to cover social, economic and environmental concerns to be negotiated with each individual ACP country. Some ACP countries are expected to reduce or eliminate sugar production because they are not competitive.

An impact assessment by the EU staff estimates that sugar production on a raw value basis in the EU would decline 7.5 MMT by 2012/13 to 12.2 MMT. Imports in 2012/13 are expected to increase by 1.6 MMT to 3.9 MMT, mostly from EBA countries. Exports would decline by 2.7 MMT to 0.4 MMT. Domestic consumption is expected to remain unchanged at 16.0 MMT.

The impact assessment also estimates that about 9 percent of EU quota A and B sugar production (1.5 MMT) is in countries where the reduction in sugar production is likely to be drastic. Another 13 percent of A and B quota production (2.8 MMT) is in countries where the reduction in sugar production is expected to be significant. Also, in recent years about 3 MMT of sugar C sugar has been produced and only 1 MMT would be added to the new quota. If the drastic countries cut production by two-thirds, 1 MMT, and the significant countries cut production by half, 1.4 MMT, combined with the 2 MMT reduction in old C quota that would total 4.4 MMT. The other countries would still have to cut production by about one-fourth to meet the staff impact assessment.

The WTO complaint by Brazil focused on the exports of C quota sugar and the re-export of the ACP sugar. The EU Court of Auditors estimated that C quota sugar has a hidden subsidy of about $1.8 billion per year and the WTO ruled that C quota sugar exports were subsidized. The WTO panel also ruled that the amount of re-exported ACP sugar is higher than the limit established in the WTO agreement. The proposed plan addresses both of those issues.

The trade-off of a lower reference price in return for an increase in direct payments is consistent with the movement toward decoupled payments.

There will be much discussion between now and when the EU Agricultural Council meets in November to accept, modify or reject the proposal. An almost 40 percent reduction in production is tough for any industry to accept. If it is accepted and the estimates of impacts become a reality, the world sugar market will be fundamentally changed.