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Resource Productivity
and
1^ Income Distribution
With Implications for
Farm Tenure Adjustment
\
By Roger W, Strohbehn
BULLETIN 720 University of Illinois College of Agriculture
Agricultural Experiment Station — In Cooperation
With Economic Research Service, U.S. Deportment of Agriculture
CONTENTS
Theoretical Orientation 4
Method of Analysis 6
Model selection and specification 6
Selection of empirical data 8
The Analysis 11
Statistical estimates 11
Interpretation of Results 15
Return to real estate 19
Return to operator 20
Capital accumulation for land purchase 24
Capital gains and farm income 24
Summary and Implications 27
Literature Cited 30
Appendix 30
ACKNOWLEDGMENT
This study was initiated as a cooperative project between the Natural
Resource Economics Division, Economic Research Service, and the Depart-
ment of Agricultural Economics, University of Illinois. It supports the North
Central Land Economics Research Committee regional research project,
"Needed Adjustments in Land Tenure to Meet Changing Agricultural Con-
ditions." Major responsibility for the study was assumed by the Economic
Research Service. The University of Illinois provided the data and com-
putational facilities.
The author wishes to thank Gene Wunderlich and W. B. Back of the
Economic Research Service for their assistance in this study. Dr. Wunderlich
provided encouragement and assistance in delineating the research prob-
lem, and Dr. Back constructively criticized the presentation of the research
findings. Appreciation is also extended to Foike Dovring, Earl R. Swanson,
Vincent I. West, C. B. Baker, and Franklin J. Reiss of the University of
Illinois for their guidance and counsel throughout the study. If there are
errors in the report they remain the responsibility of the author.
Urbana, Illinois August, 1966
Publications in the Bulletin series report the results of investigations made
or sponsored by the Experiment Station
Resource Productivity and Income Distribution
with Implications for Farm Tenure Adjustments
by Roger W. Strohbehn^
RAPID STRIDES IN FARM TECHNOLOGY IN RECENT DE-
cades have encouraged farm operators to combine more units of capital
and land per unit of labor in order to achieve efficient resource use and
maintain a competitive position in agriculture. As the per farm capital
requirements for efficiently organized farms have risen, farm operators
have begun considering alternative tenure arrangements to the time-
honored goal of owner-operatorship of the farm resources.
These new or modified tenure forms include such arrangements as
equipment rental, vertical integration, and farm incorporation. One of
the perplexing questions in agriculture is whether the tenure system has
accommodated the adoption of technology to enable farmers' income to
keep pace with urban people, or whether the benefits of more efficient
production have been siphoned off in rising land values.
The role of a tenure system is to provide an institutional framework
through which entrepreneurs allocate resources among alternative uses
in response to market forces and distribute the ensuing income among
the resources. A measure of the effectiveness of a tenure system is its
ability to associate resource costs and returns, or more specifically to
equate factor costs and factor earnings, and thereby achieve efficient
resource use.
If a dissociation of costs and returns exists among resource owners,
the tenure system itself may be jeopardized. Thus the structure of the
tenure system, the allocation of resources, and the distribution of income
are highly interrelated and must be examined simultaneously. An ap-
propriate starting point for an investigation of forces impinging on tenure
arrangements would be a historical examination of the factor shares to
determine whether the resources used in agricultural production have
been properly compensated and whether this compensation is adequate
to enable the farmer to acquire ownership of the resources in keeping
with the traditional tenure goal.
If the distribution of farm earnings among the factors results in the
^ Dr. Strohbehn is an agricultural economist with the Economic Research
Service, USDA.
4 Bulletin No. 720 [August,
association of factor costs and returns, the problem facing farm operators
is one of how to gain access to a quantity of resources that is adequate
for an efficient business and that will yield a satisfactory level of living
for the operator and his family. On the other hand, if one of the residual
claimants (land and operator labor) is overpaid while the other is under-
paid, this would suggest the need for a different type of tenure modifica-
tion, perhaps a major alteration of the tenure structure rather than a
modification of the existing system.
The objectives of this study were to: (1) analyze the influence of
imperfect mobility of farm operators upon farm resource income distribu-
tion; (2) examine the relation between imputed land values and actual
land values; and (3) analyze the effect of rising land values on the ability
of farmers to achieve the goal of owner-operatorship of their land. Two
interrelated hypotheses were used to guide the investigation toward the
accomplishment of these objectives: (1) the market value of farmland
exceeds its imputed value based on the contribution of land to the prod-
uct of the farms; and (2) a portion of labor and management earnings
of farm operators is capitalized into land values. An analysis of farm
account data for different types of farms and regions of Illinois was per-
formed in testing the hypotheses.
Theoretical Orientation
Application of the usual assumptions of perfect competition and
mobility of resources, which underlie micro-static economic theory, results
in an equilibrium distribution of income to factors of production in ac-
cordance with the marginal contribution of each factor to total output.
If one factor such as land is fixed, it becomes a residual claimant to
income, otherwise the marginal productivity theory of distribution holds.
By considering any residual shares to fixed resources to be consistent with
their marginal contributions to output of the firm, an equilibrium situa-
tion may be expressed as :
(1) PyY = PiXi + P2X2 + . . . + PnXn
In this equation Y is physical output, Xj's are resources, and Pi's are
prices for the output and the resources. This expression indicates that the
value of the output is exactly exhausted by the sum of the income shares
to the resources and is consistent with Euler's theorem expressed in
marginal productivity theory as follows :
1966] Resource Productivity and Income Distribution 5
In this equation Y and Xi's are units of physical output and units of
resources, respectively. The latter expression is the same as the first when
each term is multiplied by the price of Y(Py) and the resulting marginal
value products for the resources are considered equal to the respective
resource prices. Empirical implementation of Euler's theorem was ob-
tained by use of the Cobb-Douglas form :
(3) Y = aXibiX2b2 . . . Xn^n
In this equation 2lbi = 1, and all variables were expressed in dollars.
Estimation of marginal productivities of resources used on farms in this
manner provided the benchmark for identifying and measuring depar-
tures from equilibrium returns to resources.
The hypothesized existence of disequilibrium in factor shares origi-
nates with technological change. The adoption of technology that sub-
stitutes capital for land and labor where there is immobility of land and
labor will result in excess resources being used and a tendency for output
to expand beyond the equilibrium level. If the price flexibility of Y at the
farm level is less than — 1.0, as is the case for many farm products, the
value of the new total product will be less than the value of the output
produced under the old technology.^ Hence the equality sign in (1) will
be changed to a "less than" sign as follows:
(4) PyY < PiXi + P2X2 + . . . + PnXn
In this new situation, the sum of the distributive shares exceeds the quan-
tity to be shared, and reestablishment of equilibrium usually would require
an exit of some of the resources made redundant by factor substitutions
caused by technological advance. However, if the technological advance
created a situation where larger quantities of land per farm would be
needed in order to take advantage of the technological advance, land
would not be a redundant factor, but the opposite. In this situation the
adopting farm operators compete for the available supply of land for
farm enlargement with a consequent increase in land prices.
This places much of the burden upon the farm labor (farm operator
and family) to adjust by entry into nonfarm employment. However, farm
operator labor tends to be fixed (immobile) because of lack of training
for skilled nonfarm jobs, lack of knowledge of possible alternative em-
ployment, and nonmonetary values attached to entrepreneurial freedom
and farm life. If a farm operator places a high premium on remaining
^ See G. E. Brandow, "Interrelations Among Demands for Farm Products
and Implications for Control of Market Supply," Pa. State Univ. Bui. 680, 1961,
for estimates of price flexibilities of farm products. Price flexibilities at the farm
level for selected products are: cattle, — 1.59; hogs, — 2.33; all milk, — 2.64;
soybean oil, — 1.77; and corn, — 2.0.
6 Bulletin No. 720 [August,
a farm operator, and it is hypothesized that most do, he likely will under-
value his own labor in order to pay the higher prices for land needed to
efficiently utilize new technologies. Under such circumstances, techno-
logical advance will be accompanied by land prices rising above the
marginal productivity value of land, and correspondingly, the income
share of farm operator labor will be below its marginal productivity
value. ^
Method of Analysis
Model Selection and Specification
Whole farm production functions of the Cobb-Douglas type were
chosen for this study, since it is concerned with the distribution of returns
from the total farm business to the factors of production. A production
function, in a sense, becomes an accounting tool when it is used to deter-
mine the marginal factor shares for an allocation of the total income of
the firm among the inputs. A firm in equilibrium would receive a dollar
return for each dollar expenditure that included the opportunity cost of
the dollar. In addition, the return to land and operator labor would be
equal to their marginal factor shares.
The Cobb-Douglas function is particularly suited to the study because
it specifies diminishing returns to individual inputs and is a homogeneous
function that can be easily constrained to be a homogeneous function of
degree one, indicating constant returns to scale. ^ The application of
Euler's theorem requires constant returns to scale for the sum of the
factor payments to just exhaust the total product when the factors are
paid according to their marginal value products. The data can be fitted
to both an unconstrained function and a constrained function and a
statistical test performed to determine if the unconstrained fitted function
differs significantly from constant returns to scale.
Estimates of the marginal productivities of six basic categories of
farm inputs were derived from a production function as specified in the
following equation:
(5) Y = aXib.X2b^X3^3X4b4X5b^X6bB
In the following definitions of the variables, ^ represents the oppor-
tunity cost on the capital tied up in the input from the time it was com-
^ A more complete theoretical development of the influence of technology
and resource immobility on income distribution can be found in R. W. Strohbehn,
"Income Distribution on Selected Types of Illinois Farms and Implications for
Tenure Adjustments," unpublished Ph.D. thesis, University of Illinois, 1965.
^G. Tintner, "Econometrics," pp. 89-91, John Wiley and Sons, New York,
1952.
1966] Resource Productivity and Income Distribution 7
mitted in the production process until a product was forthcoming.
Similarly, p represents the rate of interest used to convert an inventory
value into an annual service cost. Values of </> and p are shown in Appen-
dix Table 1 for the three periods in the analysis.
Y = Value of production. [(Total cash sales of products and services)
— (purchased feed and livestock) + (change in inventory values of
grain and livestock) + (value of farm products consumed) — (prop-
erty taxes) ].
Xi = Current value of land. A basic value of bare land is established
for each farm according to the soil-productivity rating of the land to
reflect market value. This value is adjusted each year according to
the index of land prices in Illinois, as reported by the USDA.
X2 = Total cost of labor. [Operator labor valued at the representative
wage rate for the area] + [(actual hired labor cost) + (family labor
valued at the representative wage rate for the area)] [1 + </>]. The
monthly wage rates used in each area and year are shown in Appendix
Table 2.
X3 = Land improvement cost. [(Building and fence repairs) + (build-
ing depreciation)] [!+</)] + [(depreciated investment in buildings
at the beginning of the year) (p)].
X4 = Machinery and equipment costs. [(The sum of annual expenses
for electricity and telephone, machinery repairs, machinery hire, and
gasoline and oil, including the farm share of automobile expenses) +
(machinery and the farm share of auto depreciation)] [1 + ^] +
[(depreciated inventory value of machinery and the farm share of
auto at the beginning of the year) (p)].
X5 = Crop expenses. [(The sum of annual expenses for fertilizer and
lime, seed and crop expenses, and on grain farms, miscellaneous oper-
ating expenses) (1 + <^)] + [(depreciated investment in soil fertility
at the beginning of the year) (p) ].
Xg = Livestock expenses. [(Annual livestock expenses, excluding pur-
chased livestock and feed, and on livestock farms, miscellaneous oper-
ating expenses) (1 + ^)] + [(investment in livestock, feed, and grain
at the beginning of the year) (p)].
All of the variables were expressed in current dollars. Input variables,
except land, represent annual costs including an opportunity cost of
income foregone by using the money in the farm business ; or in the case of
durable capital items, an annual service cost equivalent to an opportunity
cost of income foregone.
8 Bulletin No. 720 [August,
It may be argued that an opportunity cost should not be included as
an explicit cost of the input. However, this is a cost that must be covered
if the firm is to obtain the input for production. If the opportunity cost is
not included, then the input must yield a marginal value product that is
in excess of the dollar expenditure. In an accounting sense, this means
that a dollar on the debit side of the ledger is not worth as much as a
dollar on the credit side.
Selection of Empirical Data
To test the hypotheses stated above, a series of static analyses of farm
account data of four types of farms in three separate time periods was
used. Four different types of farms — grain, hog, beef and dairy — were
chosen to permit selecting farms with similar input-output relationships,
while at the same time permitting differences to be detected in the man-
ner in which different types of farms combine capital resources with land
and labor.
The different types of farms were selected from areas where the re-
spective types of farms prevailed, so that greater uniformity of farms
within each type would be achieved. These areas were the east-central
area for cash grain farms, the western livestock area for hog and beef
farms, and the general farming area in southern Illinois for dairy farms. ^
The counties from which the sample farms were selected are shown in
Figure 1. A uniform set of information about farm firms over a wide
area and an extended period of time was achieved by utilizing the indi-
vidual farm business records of farmers who cooperate with the Depart-
ment of Agricultural Economics and the Illinois Farm Bureau Farm
Management Service.
A comparative study of record-keeping farms and a random sample
of all farms revealed that record-keeping farms tended to be larger in
land size, located on more productive soils, and used capital more inten-
sively. The operators possessed superior management ability.^ How-
ever, when the random sample farms were grouped to yield a set of farms
that was similar to the record-keeping farms in terms of acreage and soil
quality, it was found that differences in capital intensity between the two
groups diminished and differences in the managerial measures disap-
peared. Record-keeping farms cannot be used to represent the entire
^ R. C. Ross and H. C. M. Case, "Types of Farming in Illinois." 111. Agr. Exp.
Sta. Bui. 601. April, 1956.
^ Allan G. Mueller, "Comparison of Farm Management Service Farms and a
Random Sample of Farms in Western Illinois," Jour. Farm Econ., 36:285-292.
May, 1954.
1966] " Resource Productivity and Income Distribution
[ j GENERAL FARMING AREA
Figure 1. — Locations of sample areas in Illinois.
LIVESTOCK AREA
GRAIN AREA
population of farms in a given area, but they are representative of the
population of farms that is similar in respect to acreage and soil
productivity.
In summarizing the farm account books, each farm is classified by
type according to the following definitions : ^
Grain farms. Farms on which the value of feed fed to livestock was
less than one-half of the feed and grain returns and the value of feed
fed to dairy or poultry was not more than one-sixth of the feed and
grain returns.
Hog or beef farms. Farms on which the value of feed fed to livestock
was more than one-half of feed and grain returns and either hog or
beef cattle enterprises received more than one-half of the value of
feed fed.
Dairy farms. Farms on which the value of feed fed to livestock was
more than one-half of feed and grain returns and the dairy enterprise
received more than one-third of the value of feed fed.
^ Illinois Farm Bureau Farm Management Service, "Farm Business Analysis
Report on Illinois Farms for 1959," Univ. 111., Dept. Agr. Econ. July, 1960.
10 Bulletin No. 720 [August,
Dairy-grain farms. Farms on which the value of feed fed to livestock
was less than one-half of the feed and grain returns and the value of
feed fed to dairy was more than one- sixth of the feed and grain
returns.
Dairy-hog farms. Farms that met the requirements for both dairy and
hog farms.
This classification by type of farm was accepted for this study with
the exception that combination dairy-grain or dairy-hog farms were in-
cluded as dairy farms in this study.
To determine trends over time in resource productivity and in the
pattern of distributive shares, farm account records were selected to
represent the decade from 1949 to 1959. The selection of years for use in
detecting changes over time presented a problem because of yield fluctua-
tions and price changes. For the sake of simplicity, data from three
periods corresponding to the Census of Agriculture taken in 1949, 1954,
and 1959 were selected. Data from three consecutive years were averaged
to obtain an observation for each individual farm to minimize the effect
of "lumpy" investments that appear in the annual farm accounts. Averag-
ing may also tend to even out some of the fortuitous consequences
occurring to the farm business and provide a more representative account
of each farm business.
Within the specified types of farms and designated periods, farms were
identified for possible inclusion in the analysis if they met the follow-
ing criteria: (1) the farm was classified as being the same type for the
three consecutive years; (2) the operator remained the same during
the three years; (3) the operator remained on the same farm during the
three years and fluctuations in acreage operated did not exceed the small-
est acreage operated by more than one- third; and (4) the farm did not
have high-labor enterprises such as truck crops.
If the total number of qualifying farms in 1948-1950 and 1953-1955
exceeded 150, a random sample was drawn to yield at least 150 farms.
Because the 1958-1960 data were already processed onto computer cards,
the entire groups of farms meeting the selection criteria were used in the
analysis for this period. Sample sizes were as follows:
1948-1950 1953-1955 1958-1960
Grain farms 149 151 194
Hog farms 151 150 162
Beef farms 64 126 99
Dairy farms 87 119
In the remainder of this report the mid-years of 1949, 1954, and 1959
will be used to refer to data from their respective periods.
1966] Resource Productivity and Income Distribution 11
The Analysis
The analysis of factor payments to land and operator labor in this
study contains some theoretical characteristics, even though actual farm
data were used. In the case of land, the estimated marginal value product
of land is compared with an imputed market rate of return to land as
reflected in the current market valuation of land. In the case of operator
labor, the estimated marginal factor share to operator labor is compared
with a "market" return that is computed as a residual return to operator
labor after all other factors have been paid according to their imputed
market rates.
Thus the imputed market returns to land and operator labor do not
represent what they actually received, but instead what they would have
received if the payment to land is based on a percent of its current value
and if other non-operator labor inputs receive a payment in accordance
with their full market cost.
This study was not designed to identify or measure the determinates of
farm land value. It is recognized that urban people and institutions, as
well as farmers, may seek to own farm land, and that for a given tract of
land at a given time, a number of factors enter into the determination of
its value. Considering farm land in total, however, its valuation for use as
an input in agricultural production must ultimately rest on its expected
contribution to farm output.
If a buyer acquires a tract of land and later discovers that the market
had underestimated an increase in the productivity of the land, the land-
owner would then be in a position to reap some capital gains. If the
opposite occurred, however, a capital loss might be experienced. A full
examination of the role of expected capital gains, demand for farm land
for urban uses, non-farm investors in farm land, and other non-pro-
ductivity influences on farm land value was beyond the scope of this study.
The focus of this study was to determine the relation between current
land value and its estimated productivity value.
Statistical Estimates
Only three groups of farms — hog farms in 1954, grain farms in 1959,
and beef farms in 1959 — exhibited increasing returns to scale that were
significant at the 0.05 level of probability. The hypothesis of constant
returns to scale was not rejected for the remaining eight groups of farms.
Because the groups of farms with significant increasing returns to
scale occurred in three diff"erent types of farms and in two time periods,
constant returns to scale were assumed for all groups of farms and for
estimates of the marginal value products from the constrained function
used in the distributive shares analysis. The major effect of this assump-
12
Bulletin No. 720
[August,
tion on the three groups of farms with increasing returns to scale was a
reduction in the estimated elasticity of production of the labor input.
Caution should be used in the interpretation of the respective labor pro-
ductivities and labor shares for these three groups of farms.
Tables 1 through 4 present estimates derived from the constrained
functions for the grain, hog, beef, and dairy farms, respectively. Each
table contains the geometric means of the output and factors of produc-
tion, the estimated elasticity of production for each factor, the correspond-
ing marginal value product of each factor, and the resulting marginal
factor share of the total product. Appendix Tables 3 through 6 present
corresponding results from the unconstrained functions.
Table 1. — Constrained Estimates of Factor Productivities and Factor Shares
on Illinois Grain Farms, 1949, 1954, and 1959"
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, bi
product
share (Xi) (mvpO
1949
N = 149
R2 = .9207
Y
$17,248
Xi
65,233
.4519**
$ .1195
$ 7,795
X2
2,954
.0531
.3100**
916
Xs
957
.0033
.0597*
57
X4
3,788
.2478*
1.1282
4,274
X6
751
.0998*
2.2912**
1,721
Xe
791
.1441**
3.1437**
2,485
Sum
1.0000
17,248
1954
N = 151
R2 = .8899
Y
S18,538
Xi
91,894
.4429**
$ .0893
$ 8,210
Xa
3,275
.1472**
.8330
2,729
Xs
1,273
-.0117
-.1701**
-217
X4
5,003
.0913
.3383**
1,693
Xs
2,608
.3016**
2.1440**
5,591
Xe
1,010
.2087
.5266
532
Sum
1.0000
18,538
1959
N = 194
R2 = .9026
Y
S 22,094
Xi
135,973
.2463**
S .0400
S 5,442
X2
3,740
.1549**
.9149
3,422
Xs
1,716
-.0175
-.2248**
-387
X4
6,242
.2434**
.8617
5,378
Xs
3,200
.2356**
1.6263**
5,205
Xe
1,137
.1373**
2.6686**
3,034
Sum
1.0000*
22,094
a The estimating equation was constrained to force the sum of the regression coefficients to
equal one.
* Null hypothesis rejected at the 0.05 level of probabihty. The null hypotheses are: (1)
bi = 0, where i = 1 to 6; (2) 2 bi = 1; and (3) mvpi = $1 where i = 2 to 6.
** Null hypothesis rejected at the 0.01 level of probability.
1966]
Resource Productivity and Income Distribution
13
Some general observations of the estimates shown in Tables 1 through
4 may be useful to provide a background for the examination of the
major hypotheses of the study. This discussion is not intended to be a
complete analysis of the adjustments required to achieve an optimal
allocation of resources on the farms. Its purpose is to call attention to
some of the basic underlying relationships of resource productivity that
influence the distributive shares analysis of the aggregate factors — real
estate, labor, and capital.
First, the estimated marginal value products of labor, land improve-
ments, and machinery inputs were less than their dollar cost on all types
of farms and in all periods, except for the machinery input on grain farms
in 1949. This indicates that too many units of these inputs were being
Table 2. Constrained Estimates of Factor Productivities and Factor Shares
on Illinois Hog Farms, 1949, 1954, and 1959^
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, bi
product
share (Xi) (mvpi)
1949
N = 151
R2 = .8337
Y
$16,515
Xi
41,362
.2459**
$ .0982
$ 4,061
X2
3,231
.0718
.3669**
1,186
Xs
1,364
.0068
.0820t
112
X4
3,451
.1682*
.8049
2,778
X5
392
.0384
1.6163
633
Xe
1,483
.4690**
5.2229**
7,745
Sum
1.0000
16,515
1954
N - 150
R2 = .8874
Y
$18,033
Xi
67,207
.4014**
$ .1077
$ 7,238
X2
3,556
.0432
.2192**
779
X3
1,912
-.05271
-.4966**
-948
X4
4,887
.1293*
.4772*
2,332
X5
1,542
.1300**
1.5208
2,344
Xe
2,129
.3487**
2.9532**
6,288
Sum
1.0000**
18,033
1959
N = 162
R2 = .8517
Y
$19,834
Xi
83,660
.2818**
$ .0668
$ 5,588
X2
3,777
.1207**
.6337
2,394
X3
2,272
.0395
.3443**
783
X4
5,784
.1501*
.5146*
2,975
X5
1,614
.1187**
1.4582
2,354
Xe
2,427
.2894**
2.3648**
5,740
Sum
1.0000
19,834
a The estimating equation was constrained to force the sum of the regression coefficients to
equal one.
* Null hypothesis rejected at the 0.05 level of probability. The null hypotheses are the same
as those listed under Table 1.
** Null hypothesis rejected at the 0.01 level of probability.
t Null hypothesis rejected at the 0.10 level of probability.
14
Bulletin No. 720
[August,
Table 3.
Constrained Estimates of Factor Productivities and Factor Shares
on Illinois Beef Farms, 1949, 1954, and 1959^
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, bi
product
share (Xi) (mvpi)
1949
N =64
R2 = .8376
Y
$23,825
Xi
57,467
.2596**
$ .1076
% 6,185
Xz
4,137
.0963
.5545
2,294
X3
2,000
.0794
.9457
1,892
X4
4,389
.1408
.7646
3,355
Xe
507
.0356
1.6712
848
Xe
2,283
.3883**
4.0522**
9,251
Sum
1.0000
23,825
1954
N = 126
R2 = .7557
Y
$18,072
Xi
79,154
.3290**
$ .0751
$ 5,946
X2
3,837
.0288
.1355*
520
X3
2,450
.0333
.2456*
602
X4
5,370
.2212*
.7444
3,997
X6
1,748
.0609
.6296
1,101
Xe
2,489
.3268**
2.3729*
5,906
Sum
1.0000
18,072
1959
N =99
R2 = .6785
Y
$ 24,458
Xi
113,706
.3670**
$ .0789
S 8,975
X2
4,251
.0202
.1161
494
Xs
2,872
.0483
.4109
1,181
X4
6,812
-.1098
-.3941t
-2,685
Xs
2,161
.2388**
2.7027t
5,841
Xe
3,500
.4355**
3.0434t
10,652
Sum
1.0000*
24,458
a The estimating equation was constrained to force the sum of the regression coefficients to
equal one.
* Null hypothesis rejected at the 0.05 level of probability. The null hypotheses are the same
as those listed under Table L
** Null hypothesis rejected at the 0.01 level of probability.
t Null hypothesis rejected at the 0.10 level of probability.
used in relation to the other inputs employed. A test of the hypothesis
that the marginal value products of the inputs were equal to $1.00 re-
vealed that the marginal value product could range from approxi-
mately 50 cents to $1.50 before they were significantly different from
$1.00.
A second general observation to be noted is the high marginal value
products estimated for the crop and livestock inputs on all types of farms
and in nearly all periods. A high marginal value product for crop inputs
may be the result of the difficulty of financing inputs that are nonasset-
creating, such as fertilizer purchases.^ This would be particularly true
^ G. B. Baker and G. D. Irwin, "Effects of Borrowing From Gommercial
Lenders on Farm Organization," 111. Agr. Exp. Sta. Bui. 671, pp. 21-22. 1961.
1966]
Resource Productivity and Income Distribution
15
if the financial difficulty contributes more heavily to an inadequate
fertilization program on farms with low total value of production. It
would tend to raise the estimated elasticity of production of the crop
input and, as a result, the marginal value product of the crop input
would also be raised.
With this brief discussion of the basic input-output relationships of
the selected groups of farms in this study, attention is now turned to the
major hypotheses of the study.
Interpretation of Results
An examination of the marginal value products of land in Tables 1
through 4 reveals a moderate decline in the rate of return on current
land value of about 3 percentage points among hog and beef farms from
1949 to 1959 and a decline of 1 percentage point among dairy farms
from 1954 to 1959. Among grain farms the decline in the rate of return
on land was more accentuated, dropping from 12 percent in 1949 to 4
percent in 1959. These trends can be clearly seen in Figure 2. A least-
squares trend line fitted to these data indicates that the rate of return on
current land value has declined 2.2 percentage points each five years
Table 4.
-Constrained Estimates of Factor Productivities and Factor Shares
on Illinois Dairy Farms, 1954, and 1959''
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, hi
product
share (Xi) (mvpi)
1954
N =87
R2 = .7630
Y
S 9,633
Xi
27,183
.2372**
$ .0841
$ 2,285
X2
3,095
.2206*
.6866
2,125
Xs
916
.0071
.0742
68
X4
3,604
.1160
.3100*
1,118
X5
1,368
.2374**
1.6718
2,287
Xe
861
.1817*
2.0334
1,750
Sum
1.0000
9,633
1959
N = 119
R2 = .8149
Y
$16,280
Xi
43,725
.I960**
$ .0730
$ 3,192
X2
3,955
.1289t
.5307
2,099
Xs
1,486
.0875*
.9586
1,424
X4
5,544
.2482**
.7289
4,041
Xs
1,589
.1260*
1.2911
2,051
Xe
1,463
.2133**
2.3738t
3,473
Sum
1.0000
16,280
^ The estimating equation was constrained to force the sum of the regression coefficients to
equal one.
* Null hypothesis rejected at the 0.05 level of probability. The null hypotheses are the same
as those listed under Table 1.
** Null hypothesis rejected at the 0.01 level of probability.
t Null hypothesis rejected at the 0.10 level of probability.
Bulletin No. 720
[August,
2%
HOG FARMS
/
DAIRY FARMS
RATE OF RETURN
FROM FARM LAND
1949 1954
Figure 2. — Trends in rates of return on current land value.
1959
during the decade. This decline in the marginal value product of land
during the decade indicates that a larger portion of the income among
all four types of farms was capitalized into land value at the end of the
decade than at the beginning.
Evidence to support or refute the hypothesis that the market value of
farm land exceeds its imputed value, based on the contribution of land to
the product of the firm, was obtained by comparing the estimated
marginal value product of land with an assumed market rate of return
that would be expected by landowners on the investment in land.
Because land is a residual claimant and receives a return according to
its ability to substitute for other inputs that carry a cost of production,
rising land values would be expected to reflect increases in the pro-
ductivity of land. If land values had risen according to the increase in
land productivity, the marginal value product of land would be constant
over time. Or, if there was a difference between the estimated pro-
ductivity of land and the market evaluation of land productivity in the
first period of the study, a change in the marginal value product toward
the expected market rate would be anticipated in the succeeding periods.^
The mortgage interest rate is frequently used as an indicator of a
^ Direct comparisons of changes in land productivity and in land value for
these groups of farms are presented in Roger W. Strohbehn, op. cit., pp. 86-90.
1966] Resource Productivity and Income Distribution 17
landowner's expected rate of return on the investment in land. This rate
is not completely valid as an indicator, because it underestimates the
"true" rate of return expected on land as a factor of production. The
mortgage rate can be viewed as the opportunity cost of money tied up in
land when it is valued at current market value. This opportunity cost is
less than the "true" expected return since it is determined under condi-
tions of relative certainty as evidenced by the conservative appraisal
procedures followed in ascertaining the loan value of the land, the down
payment required, and possession of title of the land by the lender as a
safeguard against the uncertainty associated with farm income and loan
repayment. The landowner also considers the mortgage rate as an under-
estimate of the "true" expected return, because crop yields and prices
are subject to uncertainty and some return is necessary to compensate
for accepting the monetary hazards of operating under such conditions.
If the landowner expects a management return on land, this would
also raise the expected return on land. In addition, if the landowner
expects the land to generate the saving necessary to acquire debt-free
ownership of the land, a sinking fund factor should be included in the
expected return on land for the equity buildup. The sinking fund allot-
ment can be viewed as an annual franchise or license payment that an
operator makes by choosing to own land as a means of assuring himself
an entrepreneurial position in agriculture each year. Since this "right to
farm" is attached directly to the land, the owner-operator can recover
his franchise payments by selling his land after his farming career has
ended.
Whether the landowner expects a return on land that covers a land
management return, a sinking fund allotment, and a return for accepting
the challenge of uncertainty, is open for debate. These additional ex-
pected returns were included in the analysis because to omit them
requires the assumptions of ( 1 ) perfect knowledge to nullify any manage-
ment function; (2) equity in land to be derived entirely from labor and
other nonland income; and (3) certainty that current yields and prices
will continue in the future. None of these assumptions appears to be in
harmony with the existing conditions and the traditional method of land
acquisition by farm operators.
The "true" expected rate of return on land was assumed to include
(1) the opportunity cost of money invested in land, valued at current
market prices, as indicated by the mortgage rate of interest; (2) a man-
agement return on land equivalent to the typical charge of a professional
farm manager, computed as a percentage of the marginal share to land —
7 percent on grain farms and 8 percent on livestock farms; (3) an equity
charge to permit the land to be repurchased during the operating career
18
Bulletin No. 720
[August J
of each generation, as indicated by the 40-year sinking fund rate; and
(4) a charge for uncertainty of 1 percent on the current value of land.
Comparisons of the marginal value products of land and the expected
market rate of return in Table 5 reveal that grain, hog, and dairy farms
in 1959 had marginal value products of land that were less than the ex-
pected rate of return. However, only on the grain farms was the marginal
value product significantly less than the expected market rate of return.
On the dairy farms in 1959 and on all types of farms in 1949 and 1954
the marginal value product of land was larger than the expected rate of
return, being significantly larger on grain farms in 1949 and hog farms in
1954. These comparisons indicate that the proportion of farm income
being capitalized into land value increased over time and that by 1959
the market had elevated land prices to a level that exceeded the pro-
ductivity value of land.
Table 5. — Comparisons Between Marginal Value Products of Land and Expected
Market Rates of Return on Selected Types of Illinois Farms, 1949, 1954, and 1959
rr J Marginal
Type and ^^f^^
P^^^°^ product^
GRAIN
1949 $ .1195
(.0123)
1954 0893
(.0106)
1959 0400
(.0059)
HOG
1949 0982
(.0207)
1954 1077
(.0141)
1959 0668
(.0114)
BEEF
1949 1076
(.0366)
1954 0751
(.0199)
1959 0789
(.0284)
DAIRY
1949 No data available
1954 0841
(.0276)
1959 0730
(.0228)
a Standard errors are in parentheses.
* Significant difference at the 0.05 level of probability.
** Significant difference at the 0.01 level of probability.
Expected
market rate
of return
t ratio
$.0727
3.805**
.0717
1.660
.0703
5.136**
.0722
1.256
.0740
2 . 390*
.0728
.526
.0730
.945
.0714
.186
.0738
.180
.0721
.435
.0733
.013
1966]
Resource Productivity and Income Distribution
19
Return to real estate
The treatment of land and land improvements as a single market unit
of real estate in a distributive shares analysis enables land, as a residual
claimant, to receive the gain or loss associated with the investment in land
Table 6. — Comparisons (in Dollars) Between the Expected Market Return and the Marginal Share
to Real Estate on Selected Types of Illinois Farms, 1949, 1954, and 1959
1949
Return Gumula-
to tive
real differ-
estate* ence^
1954
Return Cumula-
to tive
real differ-
estate** ence'^
1959
Return Gumula-
to tive
real differ-
estate'* ence''
GRAIN
Marginal share return $ 7,852 $ 7,993 S 5,055
(1,201) (1,427) (1,194)
Expected market return:
Mortgage interest 2,935 S4,917** 4,255 S3, 738** 6,662 S-1, 607
Land improvement expense . . 957 3,960** 1,273 2,465 1,716 -3,323**
Management return 550 3,410** 559 1,906 354 -3,677**
Sinking fund allotment 610 2,800* 836 1,070 1,156 -4,833**
Charge for uncertainty 652 2,148 919 151 1,360 -6,193**
HOG
Marginal share return 4,173 6,290 6,371
(1,497) (1,434) (1,518)
Expected market return:
Mortgage interest 1,861 2,312 3,112 3,178* 4,099 2,272
Land improvement expense . . 1,364 948 1,912 1,266 2,274 -2
Management return 334 614 504 706 509 -511
Sinking fund allotment 387 227 611 151 711 -1,222
Charge for uncertainty 414 -187 672 -521 837 -2,059
BEEF
Marginal share return 8,077 6,548 10,156
(3,650) (2,468) (5,268)
Expected market return:
Mortgage interest 2,586 5,491 3,665 2,883 5,571 4,585
Land improvement expense . . 2,000 3,491 2,450 433 2,872 1,713
Management return 646 2,845 523 -90 812 901
Sinking fund allotment 537 2,308 720 -810 967 -66
Charge for uncertainty 575 1,733 792 - 1 , 602 1,137 - 1 , 203
DAIRY
Marginal share return No data available 2,353 4,616
(1,309) (1,699)
Expected market return:
Mortgage interest 1 ,259 1 ,094 2,142 2,474
Land improvements 916 178 1 ,486 988
Management return 189 —11 370 618
Sinking fund allotment 247 -258 372 246
Charge for uncertainty 272 -530 437 - 191
» Standard error in parentheses.
^ Marginal share to real estate minus cumulative sum of expected return to real estate.
* Significant difference at the 0.05 level of probability.
** Significant difference at the 0.01 level of probability.
20 Bulletin No. 720 [August,
improvements. The factor share to real estate, either market or marginal,
is simply the sum of the land share plus the land improvement share.
If the estimated marginal shares to real estate are taken as the best
estimate of the actual productivity of real estate, and similarly, if the
hypothetical expected market return to real estate is assumed to accu-
rately reflect the landowners expected return, then these two estimates
may be compared for an additional test of the hypothesis relating to land
values. Such comparisons in Table 6 indicate that the marginal share
was less than the total expected return for all groups of farms in 1959;
hog, beef, and dairy farms in 1954; and hog farms in 1949. Furthermore,
the difference between the marginal share and the expected return be-
came less advantageous for the landowner between 1949 and 1959.
This again indicates that a growing portion of farm income was being
capitalized into land value during the decade and that the market value
of land was tending to diverge from its productivity value. For the eight
groups of farms on which the expected return exceeded the marginal
share, more farm income had been capitalized into land value than could
be justified on the basis of the contribution of real estate to the total
product of the farm.
Evidence from the sample data in support of the hypothesis that the
market value of farm land exceeds its imputed productivity value was
statistically significant only in the case of grain farms in 1959. However,
the analysis does indicate that an increasing proportion of farm income
was capitalized into land value during the decade from 1949 to 1959.
The analysis also indicates that the marginal share to real estate decreased
relative to the expected market rate of return during the decade to the
disadvantage of the landowner. Thus the whole analysis does lend
support, although not conclusively, to the hypothesis that the market
value of land has exceeded its productivity value.
Return to operator
Evidence to support or refute the hypothesis that farmers tend to
capitalize part of their labor and management return into land value was
obtained by comparing the proportion of the total value of production
accruing to the farm operator, as determined by a marginal share com-
putation, with a corresponding residual "market" share. If farmers had
capitalized part of their labor and management into land value, the
operator's marginal share would be greater than his residual "market"
share.
The marginal share accruing to the operator was comprised of a
1966] Resource Productivity AND Income Distribution 21
marginal return to the labor of the operator, plus a management or entre-
preneurial return on the nonreal estate capital inputs. This share is
shown algebraically as :
(6) Oms = (X2mvp2 — X2h) + (X4mvp4 + Xsmvps + Xemvpe
— X4 — X5 — Xe)
Definitions of the terms in this equation are:
Oms = Operator's marginal share;
X2 = geometric mean of the labor input;
X4 = geometric mean of the machinery and equipment input;
X5 = geometric mean of the crop input;
Xe = geometric mean of the livestock input;
h = fraction of nonoperator labor in the labor input; and
mvpi = marginal value product of the respective inputs.
The first term of the right-hand side of equation (6) represents the
marginal return (loss) to operator labor after hired and nonoperator
family labor had been paid at full market cost. The second term repre-
sents an entrepreneurial risk and management return (loss) to the op-
erator on the nonreal estate capital inputs. Computing the marginal
share to the operator by this method reflects a distribution of the value
of production of the farm among the inputs in such a way that nonreal
estate inputs were paid their market costs, including an opportunity cost,
while the real estate and operator inputs were paid according to their
marginal productivities. This distribution utilizes marginal productivity
with the modification that the assumption of perfect knowledge is dropped
and the operator accepts the entrepreneurial task of resource allocation
under the expectation of receiving a return for undertaking the risk and
uncertainty associated with it.
The residual "market" return to the operator for his labor and
managerial skills was computed by subtracting all real estate and nonreal
estate operating expenses, including nonoperator labor, from the total
value of production. The annual market cost of real estate was deter-
mined as the sum of the annual land improvement expense, plus the
mortgage interest payment computed on the total current land value.
The residual income to the operator must cover any expected equity
accumulation in land, plus a return for the uncertainty involved in the
farming operation.
The marginal share to the operator was low in the 1954 period in
relation to 1949 and 1959 for all types of farms except beef farms, which
had low marginal shares to the operator in both 1954 and 1959. This can
22
Bulletin No. 720
[August f
Table 7.
— Marginal and Residual Market Share Returns to Operator Inputs
on Selected Types of Illinois Farms, 1949, 1954, and 1959
Type and
period
Value of Percentage share to operator
production Marginal Residual market
GRAIN
1949 SI 7, 248
1954 18,538
1959 22,094
HOG
1949 16,515
1954 18,033
1959 19,834
BEEF
1949 23,825
1954 18,072
1959 24,458
DAIRY
1949 No data available
1954 9,633
1959 16,280
15.9
3.0
22.8
32.7
8.7
11.2
25.5
.2
-.3
1.7
7.8
38.8
16.3
7.7
38.4
15.8
11.2
40.2
2.6
6.7
3.5
13.9
be seen by studying figures in Table 7. The low marginal share to the
operators on hog farms in 1954 and beef farms in 1954 and 1959 was
largely caused by the method of computing the labor component of the
operator's share. Operator labor was required to bear the entire burden
of the low marginal value product of total labor. Hog farms in 1954 and
beef farms in 1954 and 1959 had negative operator labor earnings. (See
Appendix Table 7.) Grain and dairy farms in 1954 had low marginal
shares to the operator because of the negative return in the entrepreneurial
risk component of the operator's share (Appendix Table 7). Low yields
of corn and soybeans in 1954 may have been a contributing factor to the
low operator share in that period. In the remainder of the analysis,
attention will be directed to the first and last periods of the study.
Comparisons between the operator's marginal and residual market
shares in 1949 reveal that the market share on all types of farms was
substantially larger than the marginal share. Operators in this period
received a market share of approximately two-fifths of the value of pro-
duction — a quantity that was greater than their marginal contribution
to the farm business. This income transfer to the operators presented a
situation of relative prosperity for the farmers in this period, as contrasted
with the later periods. Between 1949 and 1959, resource adjustments
had taken place that increased the amount of nonreal estate capital and
acreage per farm, while land values had increased by 71 percent. These
changes resulted in a sharp decline in the operator's market share.
1966] Resource Productivity and Income Distribution 23
On grain farms in 1959, the residual market share to the operator was
only one-third as large as the marginal share. This is a clear indication
that part of the operator's labor and management earnings on these farms
had been capitalized into land value. On hog farms the evidence in
support of the hypothesis is not quite so strong. The marginal and re-
sidual market shares were identical in 1959. This means that the entire
marginal share to land had been capitalized into land value, forcing the
landowner-operator share to absorb any sinking fund allotment to acquire
land and leaving nothing to the landowner as a land management return
or a return to cover uncertainty of income to real estate inputs.
If these three items are considered as reasonable expected returns by
the landowner-operator, then it appears that the land market had capital-
ized part of the owner-operator's expected earnings into land value.
In the case of beef farms in 1959, the operator's negative marginal
share makes it difficult to support or refute the basic hypothesis. This
group of farms had significant increasing returns to scale in the un-
constrained model. The fairly high marginal value product to total labor
in the unconstrained model was sharply reduced by the assumption of
constant returns to scale in the constrained model. Hence, caution should
be used in evaluating operator earnings on beef farms in 1959. Perhaps
it will be sufficient to point out that the residual market share of 6.7
percent provided a return of only $1,633 as an indication of low operator
earnings on these beef farms.
Among the dairy farms there was only slight evidence to support the
basic hypothesis, since the operator's residual market share was larger
than the marginal share in 1959 — 13.9 percent and 7.8 percent, respec-
tively. If land is expected to generate its own savings, provide a return
for real estate management, and allow for uncertainty, then the difTer-
ence of 6.1 percent noted above was 1.2 percent below the necessary
amount to cover these items. This means that land was very close to
being appropriately priced on these dairy farms and that operators were
only about $200 short of receiving their marginal product.
It should be remembered that the farms used in this analysis repre-
sented farms of above-average size in land and capital use and the oper-
ators on these farms had above average management ability. If a random
sample had been drawn of all farms within a specified type, the results
of this distributive shares analysis would probably indicate a smaller
operator's residual market share relative to the marginal share than was
found in the analysis of data from the Farm Bureau Farm Management
Service records. This implies a larger income transfer from operators to
real estate would be expected for the entire population of farms within
each type than was observed in the sample groups of this analysis.
24 Bulletin No. 720 [August,
Capital accumulation for land purchase
One consequence of the steady decline in the agricuhural parity ratio
and the rising trend in land values from 1949 to 1959 is the increased
difficulty that confronts farmers as they try to accumulate savings from
their labor and management earnings for the purchase of land. This is
illustrated in the following example. Two tenure situations are presented
for identical farmers (operating with resources and productivities indi-
cated in the production function analysis) for grain, hog and beef farms.
Farmers in both situations are assumed to have started farming in 1949.
Farmers under alternative A bought their 1949 land on a 100-percent
loan and additional land in 1959 to bring their total acreage up to the
average for that period. Farmers under alternative B, however, rented
their land until 1959, at which time they purchased the total acreage per
farm for that period. As a down payment, they used a savings fund
equal to a 10-year annuity of the annual sinking fund allotment that
would have been required to amortize the 100-percent loan of alternative
A. In other words, under alternative A a farmer bought land when he
started farming and put his savings in land, whereas under alternative B
a farmer put an equivalent amount of savings in an annuity fund and
used it to purchase land 10 years later. The residual market income to
farmers under alternatives A and B for 1959 and their net worth in land
at the end of the 1959 production year are compared in Table 8.
The residual market income to the operators under alternative A for
grain, hog, and beef farms was $3,423, $3,314, and $3,195, respectively.
These are to be compared with corresponding residual market income to
operators under alternative B of $986, $1,769, and $1,046 for grain, hog,
and beef farms, respectively. Farmers operating under alternative A
would be able to meet their amortization payment with a modest sacrifice
from family living. However, farmers under alternative B would find it
difficult to maintain an adequate level of living while purchasing land at
1959 land values. In addition, capital gains that occurred during the
decade were realized only by farmers under alternative A. This served
to increase the net worth in land of alternative A farmers so that it was
approximately six times larger than the net worth of farmers under
alternative B.
Capital gains and farm income
In addition to the conventional "production" income discussed in the
preceding analysis, the contribution of nonconventional income from
capital gains to the welfare of the resource owners should also be recog-
1966] Resource Productivity and Income Distribution 25
nized. The importance of capital gains as a source of income has been
discussed in the literature with increasing frequency.^ Real capital gains
arise from an interaction of such forces as expectations about the future
flow of income from an asset, net credit position of resource owners,
changes in the purchasing power of money, and changes in the discount
rate that is used to convert future income into a present value.
To the extent that farm families own assets that have increased in
value (primarily real estate), they may be able to capture this capital
gain when they sell the asset and thus consider the increase in value as a
component of their income. Capital gains are unrealized income until
the asset is sold. However, if the farm families substitute the expected
annual capital gain on real estate for their savings, they may be able to
increase their current consumption by spending the amount that would
have been set aside in some form of savings.^ Because capital gains are
influenced by such elusive and transitory factors as buyers' confidence in
the real estate market and anticipation of an increase in the stream of
income to real estate, capital gains cannot be considered as a perfect
substitute for savings as a means of raising current disposable income.
The role of capital gains in the welfare of farm families is an impor-
tant and complex factor. The complexities of capital gains are not un-
related to the problem of determining the distributive shares of conven-
tional income, but they do represent a set of additional considerations.
The thorough analysis of these considerations is beyond the scope of this
study.
The inclusion of anticipated capital gains in an analysis of farm in-
come and resource valuation introduces speculative considerations that
are beyond the realm of marginal analysis. For the purposes of this study,
perhaps it will be sufficient to recognize that capital gains have occurred
during the decade under study to the benefit of the landowners. This had
the eff'ect of raising the annual rate of return on their investment in real
estate by an additional percentage ranging from 5.3 percent to 8.9 per-
cent, depending on the amount of equity the owners held in their real
^ D. E. Hathaway, "Agriculture and the Business Cycle," pp. 51-76, Policy
for Commercial Agriculture, Joint Economic Committee, 85th Cong., U.S. Govern-
ment Printing Office, Washington, D.C. 1957. E. W. Grove, "Farm Capital Gains
— A Supplement to Farm Income?" Agricultural Economics Research, pp. 37-42
12:2. April, 1960. D. M. Hoover, "The Measurement and Importance of Real
Capital Gains in the United States Agriculture, 1940 Through 1959," Jour, of
Farm Economics, 44:929-940. November, 1962. D. H. Boyne, Changes in the
Real Wealth Position of Farm Operators, 1940-1960, Mich. Agr. Exp. Sta. Tech.
Bui. 294. 1964.
' D. H. Boyne, op. cit., p. 30.
26 Bulletin No. 720 [August,
Table 8. — Allocation of 1959 Value of Production Under Two Alternatives
With Respect to Purchase or Rental of Land at the Beginning of the
Farming Career in 1949 on Selected Types of Illinois Farms
Grain Hog Beef
Value of production S22,094 S19,834 $24,458
Nonreal estate expense 12,005 11 ,254 14,381
Land improvement expense 1 ,716 2,274 2,872
Alternative A
Mortgage payment on 100% loan on 1949
land value 2,935 1,861 2,586
Mortgage payment on 100% loan on land added
in 1959 at 1959 value 1,197 634 756
Sinking fund allotment on 1949 land 610 387 537
Sinking fund allotment on land added in 1959 208 ' 110 131
Residual income to operator 3,423 3,314 3,195
Alternative B
Mortgage payment on loan of 1959 land value,
minus 10-year annuity of 1949 sinking fund
allotment 6,295 3,866 5,248
Sinking fund allotment on above loan 1 ,092 671 911
Residual income to operator 986 1 ,769 1 ,046
Ten-year annuity of sinking fund 7,496 4,755 6,599
Capital gain on 1949 land 46,315 29,367 40,802
Net worth in land under alternative A 54,629 34,619 48,069
Net worth in land under alternative B 8,588 5,426 7,510
estate.^ Estimates of capital gains that accrued to individuals who owned
land in 1949 were presented in Table 8 for grain, hog, and beef farms.
A long-term continuation in the rate of capital gains observed during the
period from 1949 to 1959 is unlikely, however, since it appears that the
market underestimated land productivity in 1949.
Real estate for agricultural uses derives its value primarily through its
contribution in the production of commodities demanded by society.
Capital gains on real estate in any given time period depend heavily on
the ability (or lack of ability) of the real estate market to estimate this
contribution.
Evidence in this study indicates that the market underestimated the
productivity value of real estate in 1949. By 1959 the market had ad-
justed itself to approximate the productivity value of real estate on dairy
farms in southern Illinois, but it overestimated the productivity value on
grain farms in east-central Illinois and on hog and beef farms in west-
central Illinois. Thus, the landowners represented in this study who
^ Real estate values in Illinois increased an average of 7.1 percent annually
during the decade under study, while the purchasing power of the dollar declined
by 1.8 percent annually (measured by the consumer price index). Thus, the
range in real capital gain extends from 5.3 percent for owners with 100 percent
equity to 8.9 percent for owners with zero equity in their real estate.
1966] Resource Productivity and Income Distribution 27
acquired real estate in 1949 obtained part of their capital gains at the
expense of the previous owner because of imperfections in the real estate
market in 1949. Owners of grain, hog, and beef farms obtained a portion
of their capital gain from the previous owner and a portion from the
future landowners, because present owners would extract a quantity of
money from the future owners for the anticipated future increases in real
estate productivity.
It should be pointed out that from a theoretical standpoint, tech-
nology that substitutes capital for land or that increases output for an
inelastic market will have the eflfect of reducing the total acres required
for agricultural production. Hence, if the market was free to establish
a new equilibrium position, capital losses would be expected from new
technology of this type.
Summary and Implications
An application of efficiency criteria to the problem of determining the
distributive shares, specifies that resources are to be paid according to
their marginal value products. If the firm is operating at a level of pro-
duction characterized by constant returns to scale, as tends to be the case
under perfect competition, a marginal share distribution among the re-
sources will just exhaust the total product of the firm. One test of the
effectiveness of a tenure system is its ability to enable each resource to
receive its marginal factor share of the total product.
The analysis of the functional distribution among the factors of pro-
duction has shown that the marginal share to operator labor was low on
each type of farm and in each time period. A partial explanation for this
is that the adoption of labor-saving technology renders part of the existing
labor redundant, resulting in a low marginal product to labor until re-
source adjustments can be made. Since operator labor is fixed to the firm,
the operator seeks adjustments that will make full utilization of his time
and equipment by spreading his labor over more acres. It is at this junc-
ture that the immobility feature of operator labor exerts pressure on the
tenure system as an institution to associate factor costs and returns.
Competition among farm operators for the limited supply of land may
encourage them to bid up the price of land (rental or purchase) in an
efifort to acquire the additional land needed for efficient use of machinery
and equipment in combination with the available labor. As the competi-
tion for land becomes more intense, the price of land may exceed the
value of land based on its marginal productivity contribution to the total
product of the farm. If a farmer has limited alternatives for employment
outside of agriculture or places a high premium on operating a farm, he
28 Bulletin No. 720 [August,
is likely to accept a low return to his own personal efforts and bid up the
price of land in an effort to acquire the necessary land that will assure
himself a position in farming. This is particularly so if the farmer is in
a high-equity position that enables him to achieve a reasonable level of
income for family living while purchasing additional land. Actions such
as this represent an income transfer from operator labor to land and
result in a dissociation of costs and returns.
Although the analysis in this study was not designed to determine the
reasons behind the rise in land values, the analysis does indicate that
the trends in land value and the trends in land productivity during the
decade from 1949 and 1959 have not been moving in harmony. To the
extent that the interaction of the immobility feature of operator labor and
the economic necessity of farm expansion has been a major force in the
land market, it does appear that operators on grain and hog farms in
Illinois had capitalized part of their labor and management earnings
into land value by 1959. On beef and dairy farms the marginal share to
the operator was low in relation to income of nonfarm workers, but the
land market had not succeeded in capitalizing part of this return into
land value.
The dissociation of costs and returns on the grain and hog farms may
be an indication that the struggle for owner-operatorship may be a can-
cerous development that could destroy the owner-operator tenure sys-
tem itself. If buyers of land at current high prices discover that they
cannot meet both the interest payment and the sinking fund components
of their amortization payments, land ownership will shift to lending agen-
cies. Under conventional lending arrangements, farm operators will have
a type of leasehold possession of the real estate through a contract of per-
petual debt, with a fixed commitment in place of a negotiable rental con-
tract. If such circumstances evolve in agriculture, the lack of equity
accumulation by the operator means that the operator would be unable
to share in any capital gains that accrue to land. However, the operator's
fixed commitment to the perpetual debt acts as a buffer to the lender
against possible capital losses that may occur as a result of lower product
prices and reduced farm earnings. Thus the operator would be denied
participation in capital gains, but would be required to forestall capital
losses to the lender at the expense of the farm family's level of living.
Evidence from this study indicates that achievement of the tradi-
tional goal of owner-operatorship of the real estate inputs of the farm
business may be jeopardized by the trend of rising land values and a lower
residual market share to the operator. Accumulating savings from the
1966] Resource Productivity and Income Distribution 29
operator's residual market share for the purchase of land in 1959 would
be very difficult if the general production and price relationships of 1959
continue in the future. An operator who began his farming career as a
tenant in 1949 and purchased land in 1959 would have a residual op-
erator labor income from the 1959 production of $986, $1,769, and
$1,046 on grain, hog, and beef farms, respectively.
The low marginal shares to the operators that were observed in this
study indicate that if the traditional tenure goal of owner-operated farms
is to continue, the expected return to land must cover the cost of land
acquisition. This implies that the discount rate used to calculate a present
value of land from the expected annual marginal contribution of land
should include a sinking fund rate. This would not violate the effi-
ciency condition of equating factor costs and returns for an effective ten-
ure system, but instead simply recognizes that under a tenure system of
owner-operated farms, land must provide a return that covers its purchase
price in any given year. The operator would thus be relieved of relying
on his low marginal return to his personal efforts as the source of savings
for the purchase of land.
Viewing the return to land and the consequent valuation of land from
this standpoint places land in the same category as other resources in that
the return to a resource is expected to cover its purchase price for periodic
replacement. The only difference is that in the case of land the owner
is acquiring an equity in a resource that has negligible depreciation over
time when properly managed and, therefore, provides a saving fund to
the owner-operator.
The difficulty of accumulating sufficient savings from the operator's
labor and management earnings during his operating career for the ac-
quisition of land he operates, indicates the need for a reevaluation of
public land tenure policies. One such review could be oriented toward
whether the goal of owner-operatorship is still relevant for a large seg-
ment of agriculture, and if so, what policy changes are needed to facilitate
the achievement of this goal under the present conditions of high per farm
capital requirements. On the other hand, if this goal has ceased to have
wide public support, the review could be focused on what tenure policy
changes are needed that are consistent with the goal of a wide distribution
of private entrepreneurship of farm businesses and equitable returns to
efficient producers. This implifes that other policies should be directed
toward the problems of inefficient producers with respect to resource
adjustments, retraining and mobility of operator labor, and income
supports.
30 Bulletin No. 720 [August,
Literature Cited
BakeRj C. B. and Irwin, G. D., EfTects of Borrowing From Commercial
Lenders on Farm Organization, 111. Agr. Exp. Sta. Bui. 671. 1961.
BoYNE, D. H., Changes in the Real Wealth Position of Farm Operators,
1940-1960, Mich. Agr. Exp. Sta. Tech. Bui. 294. 1964.
Brandow, G. E., Interrelations Among Demands for Farm Products and
Implications for Control of Market Supply, Pa. State Univ. Bui. 680.
1961.
Grove, E. W., "Farm Capital Gains — A Supplement to Farm Income?"
Agricultural Economics Research, 12:2. April, 1960.
Hathaway, D. E., "Agriculture and the Business Cycle," Policy for Com-
mercial Agriculture, Joint Economic Committee, 85th Congress, U.S.
Government Printing Office, Washington, D.C. 1957.
Hoover, D. M., "The Measurement and Importance of Real Capital
Gains in United States Agriculture, 1940 through 1959," Jour. Farm
Econ., 44:929-940. November, 1962.
Illinois Farm Bureau Farm Management Service, Farm Business
Analysis Report on Illinois Farms for 1959, Univ. 111. Dept. Agr. Econ.
July, 1960.
Mueller, Allan G., "Comparison of Farm Management Service Farms
and a Random Sample of Farms in Western Illinois," Jour. Farm
Econ., 36:285-292. May, 1954.
Ross^ R. C, and Case^ H. C. M., Types of Farming in Illinois, 111. Agr.
Exp. Sta. Bui. 601. April, 1956.
Strohbehn, R. W., Income Distribution on Selected Types of Illinois
Farms and Implications for Tenure Adjustments, unpublished Ph.D.
thesis, Univ. 111. 1965.
TiNTNER, G., Econometrics, John Wiley and Sons, New York. 1952.
APPENDIX
Appendix Table 1. — Interest Rates Used to Represent Opportunity Costs
of Capital Used by Farm Businesses, by Years
Year and opportunity cost rates
Input 1949 1954 1959
(f) p (j) p </) p
Hired and family labor S.029 $.031 $.034
Land improvements 029 $.045 .031 $.0463 .034 $.049
Machinery and equipment. . . .021 .045 .024 .0463 .027 .049
Crop inputs 033 .045 .036 .0463 .039 .049
Livestock inputs 029 .058 .031 .0620 .034 .068
1966]
Resource Productivity and Income Distribution
31
Appendix Table 2. — Monthly Wage Rates Used to Value Unpaid Labor,
by Areas and Years'"
y East-central and
^^^ western livestock areas
1948 $175
1949 175
1950 175
1953 175
1954 175
1955 185
1958 200
1959 215
1960 215
a Source: Illinois Agricultural Statistics, Annual Summary, 1951
General livestock area
$160
160
160
160
160
170
185
200
200
1956, and 1962.
Appendix Table 3. — Estimated Factor Productivities and Factor Shares on Illinois
Grain Farms, 1949, 1954, and 1959
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, bi
product
share (Xi) (mvpi)
1949
N = 149
R2 = .9207
Y
$17,248
Xi
65,233
.4513**
$ .1193
$ 7,784
X2
2,954
.0568
.3316*
980
X3
957
.0037
.0667*
64
X4
3,788
.2494**
1.1356
4,302
X5
751
.0993**
2.2806**
1,713
Xe
791
.1441**
3.1421**
2,485
Sum
1.0046
17,328
1954
N = 151
R2 = .8899
Y
$18,538
Xi
91,894
.4429**
$ .0893
$ 8,206
X2
3,275
.1467*
.8304
2,720
Xs
1,273
-.0117
-.1704**
-217
X4
5,003
.0909
.3368**
1,685
Xb
2,608
.3017**
2.1446**
5,593
Xe
1,010
.0288
.5286
534
Sum
.9993
18,521
1959
N = 194
R2 = .9053
Y
$ 22,094
Xi
135,973
.2444**
$ .0397
$ 5,398
X2
3,740
.2145**
1.2672
4,739
Xs
1,716
-.0114
-.1468**
-252
X4
6,242
.2723**
.9638
6,016
X6
3,200
.2317**
1.5997**
5,119
Xe
1,137
.1205**
2.3415**
2,662
Sum
1.0720*
23,682
* Null hypothesis rejected at the 0.05 level of probability. The null hypotheses are: (1)
6
0, where i = 1 to 6; (2) 2 bi = 1; and (3) mvpi = $1, where i = 2 to 6.
i-i
* Null hypothesis rejected at the 0.01 level of probability.
32
Bulletin No. 720
[August J
Appendix Table 4. — Estimated Factor Productivities and Factor Shares
on Illinois Hog Farms, 1949, 1954, and 1959
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, bi
product
share (Xi) (mvpi)
1949
N = 151
R2 = .8354
Y
$16,515
Xi
41,362
.2528**
$ .1009
$ 4,174
X2
3,231
.1174
.6001
1,939
X3
1,364
.0162
.1961t
267
X4
3,451
.1818**
.8700
3,002
X5
392
.0346
1.4577
571
Xe
1,483
.4557**
5.0748**
7,526
Sum
1.0585
17,479
1954
N = 150
R2 = .8937
Y
$18,033
Xi
67,207
.4174**
$ .1120
$ 7,527
X2
3,556
.1117*
.5664
2,014
X3
1,912
-.0404
-.3810**
-728
X4
4,887
.1780**
.6568
3,210
Xs
1,542
.1230**
1.4384
2,218
Xe
2,129
.3194**
2.7054**
5,760
Sum
1.1091**
20,001
1959
N = 162
R2 = .8517
Y
$19,834
Xi
83,660
.2816**
$ .0668
$ 5,588
X2
3,777
.1201*
.6307
2,382
X3
2,274
.0395
.3445**
783
X4
5,784
.1499*
.5140*
2,973
X5
1,614
.1187**
1.4587
2,354
Xe
2,427
.2894**
2.3650**
5,740
Sum
.9992
19,820
* Null hypothesis rejected at the 0.05 level of probability. The null hypotheses are the same
as in Appendix Table 3.
** Null hypothesis rejected at the 0.01 level of probability.
t Null hypothesis rejected at the 0.10 level of probability.
Appendix Table 5. — Estimated Factor Productivities and Factor Shares
on Illinois Beef Farms, 1949, 1954, and 1959
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, bi
product
share (Xi) (mvpi)
1949
N =64
R2 = .8395
Y
$23,825
Xi
57,467
.2723**
$ .1129
$ 6,488
X2
4,137
.1420
.8178
3,383
X3
2,000
.0716
.8529
1,706
X4
4,389
.1515t
.8224
3,610
X5
507
.0336
1.5789
801
Xe
2,283
.3894**
4.0637**
9,277
Sum
1.0604
25,264
1966]
Resource Productivity and Income Distribution
33
Appendix Table 5. — Continued
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, bi
product
share (Xi) (mvpi)
1954
N = 126
R2 = .7570
Y
$18,072
Xi
79,154
.3474**
$ .0793
$ 6,277
X2
3,837
.0432
.2035*
781
Xs
2,450
.0360
.2655*
650
X4
5,370
.2550*
.8582
4,609
X5
1,748
.0577
.5965
1,043
Xe
2,489
.3096**
2.2479t
5,595
Sum
1.0489
18,955
1959
N =99
R2 = .6951
Y
$ 24,458
Xi
113,706
.3834**
$ .0825
$ 9,377
X2
4,251
.1664
.9574
4,070
Xa
2,872
.0780
.6642
1,908
X4
6,812
.0456
.1637
1,115
X5
2,161
.2204**
2.4945t
5,391
Xe
3,500
.3451*
2.4116
8,440
Sum
1.2389*
30,301
* Null hypothesis rejected at the 0.05 level of probability. The null hypotheses are the same
in Appendix Table 3.
** Null hypothesis rejected at the 0.01 level of probability,
t Null hypothesis rejected at the 0.10 level of probability.
Appendix Table 6. — Estimated Factor Productivities and Factor Shares
on Illinois Dairy Farms, 1954, and 1959
Geometric
Elasticity of
Marginal value
Marginal factor
mean
production, bi
product
share (Xi) (mvpi)
1954
N =87
R2 = .7729
Y
$ 9,633
Xi
27,183
2382**
S .0844
$ 2,294
X2
3,095
.3143**
.9782
3,028
X3
916
-.0055
-.0578t
-53
X4
3,604
.1496
. 3999*
1,441
Xs
1,368
.2466**
1.7365
2,376
Xe
861
.1976*
2.2108
1,903
Sum
1.1408
10,989
1959
N = 119
R2 = .8182
Y
$16,280
Xi
43,725
.2054**
$ .0765
$ 3,345
X2
3,955
.1804*
.7426
2,937
X3
1,486
.0888*
.0729
1,446
X4
5,544
.2674**
.7852
4,353
X6
1,589
.1182*
1.2110
1,924
Xe
1,463
.2169**
2.4136t
3,531
Sum
1.0771
17,536
* Null hypothesis rejected at the 0.05 level of probability,
in Appendix Table 3.
** Null hypothesis rejected at the 0.01 level of probability,
t Null hypothesis rejected at the 0.10 level of probability.
The null hypotheses are the same
34
Bulletin No. 720
[August y
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Resource Productivity and Income Distribution
35
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