Giannini Foundation of Agricultural Economics

This study evaluates the effectiveness of promotions conducted by the Haas Avocado Board

Rice production in California is intensive in input usage. Weed resistance has led to growing chemical usage and has raised costs for many rice producers in California. In recent years, widespread adoption of genetically modified (GM) soybeans, corn, canola, and cotton has provided growers of those crops with new production alternatives that reduce chemical usage. But GM rice has not yet been approved for commercial production in California or elsewhere. One reason that GM rice production has been delayed is that this new technology is controversial. In California, environmental groups and organic rice farmers are opposed to any cultivation of GM rice in the state. We estimate the potential economic impacts of commercialization of GM rice in California. Our findings suggest that this new technology would most likely benefit the California rice industry and offer significant economic advantages to growers.

In the early 1990s, oxygenated gasoline was hailed as a partial solution to the nation’s air quality problems. Although the large-scale use of methyl tertiary butyl ether (MTBE) as a gasoline oxygenate successfully improved air quality, it adversely impacted water quality and dramatically exposed leaking underground storage tanks. However, removing MTBE from gasoline could impose significant societal costs—in terms of both gasoline production costs and prices and possible air and water quality impacts. The analysis conducted for this report is based on a comprehensive and internally consistent cost-benefit framework and includes several cost categories largely neglected in prior MTBE analyses, including: (1) the cost to taxpayers of increased ethanol consumption; (2) increases in the cost of oil imports; (3) the effects of changes in gasoline prices on gasoline consumption and thus on automobile emissions; and (4) the potential effect of MTBE substitutes on water quality.

This report provides a detailed statistical profile of California’s horticultural farm industries based on survey data collected from approximately one-third of all horticultural crop producers in the state in the spring of 2002. The survey was designed to elicit information on the current status of horticultural farm industries on their risk management practices and attitudes. The industries featured in this study accounted for more than $17 billion of gross farm revenue in 2002. The statistical information presented is the most comprehensive ever undertaken for this important segment of California agriculture. The main body of the report describes industries in seven sections: 1) farm size and regional profile; 2) crop diversification; 3) marketing; 4) yield, price, and profit fluctuations; 5) risk management; 6) crop insurance; and 7) financial characteristics.

We examine the determinants of the adoption of genetically modified (GM) corn and soybean varieties by Iowa producers using data collected from a survey of producers. The representative respondent increased or held constant his GM soybean acreage but decreased his GM corn acreage. Agreement with the statement that consumers will not accept some bioengineered foods was associated with a significant decline in the intended share of acreage devoted to GM corn but had no explanatory power for GM soybean planting intentions. Risk attitudes did not prove to be a significant explanatory factor, perhaps due to the existence of production risk and price risk, which may have offset each other in the acreage allocation decision. Other significant factors included gross farm income, the previous year’s acreage allocation, agreement with the statement that farmers will benefit from biotechnology, years of schooling (soybeans only), total corn acreage (corn only), and concern regarding European corn borer yield damage (corn only). An increase in gross farm income was associated with an increase in the share of GM acreage for both crops. The previous year’s GM acreage share for that crop was highly significant.

This report describes an economic study of the California avocado industry, including its economic history and markets, and presents an econometric model of supply, demand, and price. The objective of this study is to determine the effect of California avocado industry advertising and promotion expenditures on the demand and price for California avocados and to estimate the ratio of benefits to costs for marketing programs conducted by the California Avocado Commission. The econometric model used to evaluate the impact of industry advertising and promotion includes components for avocado supply, demand and equilibrium price. Following is a description of study results for each of the major components.

Avocado Supply: The two major determinants of annual avocado production, average yields and bearing acreage, are examined in some detail. Average yields, which are responsible for sharp year-to-year variations in total production, have become increasingly variable over time. While yields demonstrated a rather steady upward trend from 1926 through 1956, there was little, if any, trend evident after 1957. Possible explanations for termination of the upward trend in yields and increased variability include expansion of new acreage on land not ideally suited to avocado production because of climate, soil quality or topography, and reduced water use due to sharp increases in water costs in major production areas.

Avocado acreage changes annually as producers make decisions on whether to plant new trees or remove existing trees. These decisions are hypothesized to be based on expected profits over the bearing life of new trees or the remaining life of existing trees. Proxies for expectations based on recent prices, costs and total returns, which have performed well in other studies, were used to explain plantings, removals and annual adjustments in both bearing acreage and total acreage. Avocado acreage response equations found (1) that plantings increase with increases in recent average returns per acre adjusted for costs, (2) that favorable income tax provisions for development of groves led to increased plantings, and (3) that sharply increased water costs were correlated with reduced plantings from 1990-91 through 1994-95. Removals of avocado trees tended to respond most to the immediate past year’s costs and prices. The plantings and removal relationships were combined in an estimated equation for the annual change in bearing acreage which was used to represent annual acreage response for California avocados in the simulation analysis described below.

The Demand for Avocados: California avocado prices and quantities trended upward over the period considered (1962-95). However, in real terms, prices varied substantially around a slightly downward trend. At the same time, gross producer revenues trended upward in both nominal and real terms, indicating that growth in quantity more than offset the decline in real prices. Overall, there has been significant growth in the demand for avocados over time. Factors associated with this growth in demand are examined in some detail using (1) an annual analysis of demand for the period 1962 through 1995, and (2) a monthly analysis of demand for the nine marketing years 1986-87 through 1994-95

Annual Demand: An annual econometric model of the demand for California avocados, with annual average farm level real price per pound specified as the dependent variable, was specified and estimated. The preferred econometric model, which was selected on the basis of statistical tests and economic theory, shows that the quantity of avocados offered on the market is a very important explanatory factor, having a strong, negative impact on price. The estimated price flexibility of demand of -1.33 (at the average values for each of the variables) means that a one-percent increase in quantity supplied will cause a 1.33 percent decrease in price, and a .33 percent reduction in gross revenue, other factors constant. Demand is quite inelastic, as indicated by year-to-year changes in production and total crop revenues. Surprisingly, the quantity of Florida avocados sold was found to have a positive effect on California prices but, statistically, this effect was not significantly different from zero. Avocado imports were found to have a relatively large, and statistically significant, negative impact on California avocado demand and prices. Real per capita disposable income was found to have a large, and statistically significant, positive impact on avocado demand and prices, confirming that avocados are a normal good and that an increase in consumer income leads to a more-than-proportionate increase in demand.

The annual econometric model indicates that advertising and promotion had a positive impact on California avocado demand and prices, and the point estimate shows a price response of plausible magnitude (the estimated price flexibility is 0.13, indicating that a one percent increase in advertising and promotion expenditures leads to a 0.13 percent increase in price, holding quantity constant). The estimated effect of advertising and promotion, which is not statistically significant at the usual 95 percent level, is significant at the 86 percent level. This lack of precision for the advertising variable may be the result of data problems and other factors. These include mismatches between the California and Florida crop years that we were unable to correct (and probably resulted in the unexpected positive relationship between Florida sales and California prices), the changing year-to-year activities included in the advertising variable, and possible structural changes. A monthly analysis of demand for California avocados was undertaken as a partial solution to limitations evident in the annual analysis.

Monthly Demand: The model of monthly demand for California avocados was patterned after the annual demand model. Average f.o.b. level monthly real price per pound was specified as a function of pounds of avocados shipped from California and Florida, imports, consumer income, CAC marketing expenditures, brand advertising and promotion, prices of related goods, and monthly demand shifters. Initial testing resulted in deleting several variables from the analysis, including the prices of possible related products and brand advertising expenditures by California avocado packers. None was statistically significant (t-ratios were very small) in any of the formulations tested and it was concluded that these variables have had no statistical effect on the monthly demand for all California avocados. The use of monthly data permitted close matching of avocado sales from all sources, avoided potential problems of structural change, and provided the best available data on advertising and promotion expenditures.

Results of estimating the monthly demand for all California avocados were in line with expectations and were a definite improvement over the annual model. Each of the variables had the expected sign (Florida sales had a negative impact on California prices), most were statistically significant, and the magnitude of the estimates was reasonable. Advertising and promotion expenditures had a statistically significant positive effect on the price of (and demand for) California avocados. The monthly and annual price flexibilities of demand with respect to advertising and promotion were almost identical (0.137 for the monthly analysis vs. 0.130 for the annual analysis). Advertising and promotion also had estimated lagged impacts on California avocado prices and demand that extended five months after the month the expenditures were paid. The estimated price flexibility of demand of -1.54 is larger than the annual estimate of -1.33, but the monthly quantity variable includes both California and Florida sales. The demand for California avocados at average prices and quantities is inelastic at both the farm and f.o.b. levels, whether measured on an annual or monthly basis. This means that total industry revenues will be less for a large crop than for a small crop.

Estimated Benefit-Cost Ratios for Advertising: Measurement of benefits and costs for commodity advertising are not as simple and straight-forward as they first appear. Depending on assumptions, there are different measures of benefits, including average and marginal benefits measured in the short run (assuming fixed supply) or in the long run (after adjustment of acreage to price changes). For this study, fixed supply benefits were estimated both annually and monthly. The time horizon also affects the measurement of costs. In the short run, all costs of advertising and promotion are paid by avocado producers. However, in the long run, producer adjustments to the assessments used to fund advertising and promotion act as a tax, which producers are able to partially shift to buyers. Following are the range of benefit-cost ratios estimated in the study.

The annual fixed supply industry returns from CAC advertising and promotion expenditures ranged from a weighted average of $5.33 to $6.01 per dollar spent depending on the time period examined and the discount rate used (note that all returns are total returns before the deduction of advertising expenditures). A simple average of the annual fixed supply benefit-cost ratios is equal to 5.25. Short term returns for the most recent nine years (1986-87 through 1994-95 marketing years), based on the monthly analysis and discounted at 3 percent, yields a weighted average return of $6.35 per dollar spent on advertising and promotion. For the nine-year period of analysis, the monthly marginal and average benefit-cost ratios are equal to 8.92. The marginal benefit-cost ratios were greater than one for all but two months of the period, indicating that the CAC could have profitably increased advertising and promotion during all but two months of the nine-year period.

These returns are eroded over time, however, when the acreage response to higher returns is factored into the analysis. Producers make decisions in response to higher returns that result in expanded acreage, but there is a lag of several years before production increases. Because demand is inelastic, increased production decreases both price and total revenue and production response may partially or totally offset increased demand due to advertising. The annual simulation model was run with actual and zero advertising and promotion expenditures and the annual difference in total industry revenues was compared to advertising and promotion expenditures. CAC marketing program expenditures increased estimated net total industry revenues by $102.8 million over the period of analysis. In other words, estimated net industry total revenues after deduction of advertising and promotion expenditures would have been $102.8 million lower than actually occurred, and the industry would have been smaller, had the CAC not been conducting its advertising and promotion programs. When real costs and returns were discounted at 0 and 3 percent, the overall long-run discounted real returns from advertising and promotion were $1.78 and $1.71 per dollar spent, if producers paid the total costs of the program. After accounting for costs shifted to buyers, we estimated that California avocado producers enjoyed an annual average benefit-cost ratio of 2.84 for the 34-years of the analysis. The long-run weighted average benefit-cost ratios, when costs and returns are discounted at 0 and 3 percent, are 2.48 and 2.26, respectively.

On a month-to-month and year-to-year basis, the industry has realized excellent returns from generic advertising and promotion programs. Over time, however, the supply response resulting from increased returns can erode prices and net returns. As illustrated, avocados tend to exhibit cycles of production and prices; attractive returns from advertising can contribute to these cycles. This is the nature of the short-run versus the long-run returns to advertising when the industry does not control supply and there is ease of entry and exit. Nevertheless, generic avocado advertising and promotion has provided excellent producer returns in both the short run and the long run.

California is the world leader in prune production, accounting for about 99 percent of U.S. production and 70 percent of the world's supply. The industry, through the California Prune Board (CPB) and its various packers, especially Sunsweet Growers, the largest marketer of California prunes, has invested substantially in the promotion of prunes to consumers. This study analyzes the effectiveness of these expenditures in increasing consumer demand for prunes and, thereby, in raising industry revenues. The results from this project are useful for decision makers in the California prune industry as well as to researchers studying the effects of promotion on market demand. The analysis used to derive the results is also pertinent to other California commodity groups, in light of increased scrutiny surrounding generic promotion programs. The study was conducted under an agreement between the CPB and the University of California, and was carried out by a research team of faculty and graduate students in the Department of Agricultural and Resource Economics at the University of California, Davis.

The study involved econometric analyses of U.S. domestic demand for California prunes. Economic theory implies that, to be effective, expenditures on promotion must increase consumers' demand for the product being promoted. Other factors generally considered to influence demand, and which need to be incorporated into a demand study, include the price of prunes, the prices of close substitutes or complements, measures of consumers' purchasing power, and factors to account for any time trends or seasonality in demand.

Three data sets were assembled to study prune demand. The main data set consisted of 51 observations on retail prune consumption and prices in the United States, reported in monthly intervals for the period September 1992 to July 1996. Expenditures on promotion by the California Prune Board and by Sunsweet Growers were closely matched to the four-week observations on sales for this period. A second data set consisted of annual observations on domestic prune shipments and prices for the period 1949 to 1995. The measure of promotion in the annual model consisted of annual real expenditures by the CPB and Sunsweet on all types of domestic promotion. A third data set consisted of the results of a test market analysis of television advertising for prunes conducted in six U.S. cities.

Results from analysis of the monthly data indicate that prune promotion has increased the demand for prunes. Across several alternative model specifications examined and reported in part 3, prune promotion consistently had a statistically significant, positive impact on retail prune sales. For the various models estimated using ordinary least squares (OLS), the elasticity of sales with respect to promotion generally ranged from 0.17 to 0.22, while the promotion elasticity in the model estimated using 2SLS was 0.21. This means that a 10 percent increase in expenditures on promotion would have increased sales about 2 percent, holding price and other explanatory variables constant.

The models based on the annual data series did not perform as well. Promotion, measured in this case by annual real expenditures by the CPB and Sunsweet on all types of domestic promotion, generally did not have a statistically significant effect on demand. Such results were not believable, however, in light of diagnostic tests that we performed to evaluate our specification of the structure of these annual demand models. The tests led us to conclude that—either because of poor or missing data or an incorrect model form—the models were not specified correctly. Thus, we were unable to use the annual data in any meaningful way.

The television advertising test-market campaign was conducted for 12 weeks in Fall 1990, with three cities selected as test markets, and three used as controls. The advertisements featured generic advertising of dried prunes. Our analysis of the test-market data indicates that the television advertisements had a positive and statistically significant effect on prune demand both during the period of the advertising campaign and during the post-test period. The model we developed indicated that in-store displays, by themselves, had no impact on prune sales.

A simulation approach was used to translate the effects of promotion on prune demand into estimates of the resulting marginal benefits (the increase in industry revenues from an incremental increase in promotional expenditures) to prune growers. Because of our greater faith in the data underpinning the monthly analysis of demand, the superior statistical performance of models estimated using the monthly data, and the congruence of these model results with the results from the test-market analysis, we based our simulation analysis on results from models estimated from the monthly data. Because the statistical analysis was restricted to demand modeling, while the simulation analysis required a complete model of the industry, including supply response, it was necessary to construct a synthetic supply model and conduct simulations for a variety of alternative supply specifications.

The marginal benefit-cost ratio for promotion of California prunes was calculated. This ratio refers to the net revenues generated from incremental expenditure on promotion, and hinges importantly on the value of the price elasticity of supply, and on whether growers bear the entire burden of funding the expenditures or some of the burden is shifted to consumers in the form of higher prices. Returns to growers from allocating expenditures to promotion would be maximized by expanding expenditures until the marginal (last) dollar spent on promotion yields just a dollar back in revenues. The analysis suggests that the industry stopped short of this optimizing condition during the 1992-1996 period covered by the monthly data. The calculated marginal benefit of an additional dollar spent on promotion, given the amounts actually expended, ranged from $2.65 to almost $30.00, suggesting that additional promotion expenditures would have generated positive net revenues to producers. Only when producers are (implausibly) assumed to bear the entire cost of the promotion is it possible to derive average benefit-cost ratios less than 1:1, and to do so requires an elasticity of supply of 1.0 or more, which is only likely to be relevant for longer-run changes.

We conclude that promotion of California prunes conducted by the CPB has increased the demand for prunes and returns to producers of prunes. Over the four-year period analyzed in the monthly model, investments by prune growers in promotion yielded them marginal returns of at least $2.65 for every dollar spent. Moreover, marginal benefit-cost ratios in the range of 2.7:1 and higher indicate that the industry could have profitably invested even more in promotion during this period.