A federal jury in Alabama recently awarded $1.28 billion to cattle farmers who claimed that they had been wronged by the country's major meatpackers. According to the cattlemen, the meatpackers were unfairly refusing to purchase their cattle; instead, the processors were buying cattle from other cattlemen who had previously signed an agreement to produce beef that met the meatpackers' specifications. The plaintiff cattlemen alleged that the agreements manipulated the market for live cattle to the tune of hundreds of millions of dollars in damages.
The lawsuit has all the makings of a modern-day David and Goliath, with small cattlemen going up against some big name, deep-pocket meatpackers who control billions of dollars in beef production. The New York Times opined before the verdict that the jury should find in favor of the plaintiffs and restore "equitable competition" to the beef industry.
The case has many parallels in agriculture, and has implications for the rest of the economy as well. In recent decades, most agricultural production has undergone a radical transformation as local commodities auctions have increasingly been replaced by contractual relationships between farmers and food processors: The farmers produce commodities to the processors' specifications and the processors, in turn, guarantee the producers a certain price. In this case, the farmers provided cattle of a specific quality to the meatpackers for a specified price. The recent jury award would have us believe that such arrangements are inherently "unfair" because some producers did not sign them.
The plaintiffs in the Alabama case claimed that the new practices are hurting them because the meatpackers are receiving a higher percentage of the money that consumers pay for beef than what the cattlemen used to receive. That may be true, but it ignores the substantial changes in the production and packaging (and thus cost) of beef over the past 30 years. Because the cost of consumer beef is dominated by processing costs (which reflect rising wages in the overall economy), consumer prices are bound to rise relative to the price paid to farmers, and thus the farmer's share will fall relative to the processor.
In fact, the new contractual relationship between farmers and processors, on balance, benefits farmers. Cattlemen who have entered contracts with meatpackers are likely to receive higher prices on average for their product and they are more insulated from what can be a very mercurial livestock market.
The use of these contracts offers real benefits for U.S. consumers. Such arrangements -- referred to as "vertical integration" by economists -- can help lower the cost of consumer food products significantly. Partly, they help lower the cost of exchanging products between farmers, ranchers, feedlot owners who fatten the cattle and the meatpacker. But they also help guide the production of the livestock itself so that costs are lower and the final product is of higher quality.
Vertical integration in livestock markets goes hand in hand with consolidation of production into larger firms. The average cattle producer, whether a rancher or a feedlot owner, operates on a larger scale today than in the past. Consolidation in farming occurs for the same reason as consolidation in meatpacking: to capitalize on efficiencies and produce goods at a lower cost. It's the same reason that Wal-mart can sell goods more cheaply than the local hardware store.
What is the proper role for public policy in the face of these changes? Probably nothing. While it is easy to assert that someone is manipulating the market to "cheat" cattlemen out of money they "deserve," the government's solutions to such problems usually create more havoc than they solve. Think of the prices that people had to pay for airplane tickets, long-distance calling or trucking in the years before those industries were deregulated. Why would we want to bring that dark era of high prices into the food sector of our economy?
The recent lawsuit is a reminder that agricultural and food markets, rather than being "special," are much like markets in the rest of the economy. Market participants act in their own self-interest to produce food more cheaply and thus maximize their own profits. In the United States, the result has been the cheapest -- and safest -- food supply in the world.
Decisions like the one returned by the Alabama jury are likely to have negative effects for consumers and for farmers. Artificially restricting the ability of food producers to engage in the least-cost supply arrangements will necessarily push up their production costs and thus food prices. Will that benefit farmers and cattlemen? Not likely.
Producers who now can no longer enter into contracts with processors will undoubtedly be hurt, while the producers on the "winning side" of the suit could also see their profits fall if the overall costs of producing consumer beef rise. This ruling is a lose-lose for consumers and producers alike.