The Impact of BSE on the UK Economy
Head of Economics (International) Division, Ministry of Agriculture, Fisheries and Food, London.
This paper draws upon the results of a study commissioned from DTZ/PIEDA consultants by UK Agriculture Departments and Her Majesty’s Treasury. The views expressed are those of the author and do not necessarily reflect the views of DTZ/PIEDA, or the Ministry of Agriculture, Fisheries and Food.
BSE was first identified as a new disease of cattle in 1986. From July 1988 onwards the UK Government introduced a series of controls designed to protect consumers of bovine products against the risk that BSE may be transmissible to humans, to eradicate BSE in the UK cattle herd and to prevent the transmission of BSE to other animal species. Incidence of the disease peaked in 1992 when 36,700 cases were confirmed, a figure equivalent to 1 per cent of the GB cattle breeding herd. The economic cost of the disease was relatively small at this stage and was largely limited to the loss in value of infected carcases and the costs of disposal of specified risk material. By 1995 incidence of the disease in cattle had fallen to 14,300 cases and it and the economic cost was expected to continue to fall rapidly.
The situation was, however, transformed by the announcement of the possible link between BSE and new variant CJD on 20 March 1996. Domestic sales of beef products declined immediately by 40%, and in April 1996 household consumption was 26% below the level seen in the previous year. Export markets were completely lost. The price of beef cattle fell by over 25%. Many abattoirs had to temporarily close down or put their workers on short time. The crisis therefore severely effected an industry that was estimated to be worth £3.2bn a year (0.5% of UK GDP) and employed 130,000 workers (0.5% of total employment).
Measures were taken to cushion the industry from the full effects of the crisis and to help restore public confidence in beef products. The UK government banned all cattle over thirty months of age from entering the food chain and introduced a scheme through which these animals could be disposed. It also introduced a calf processing aid scheme to provide an outlet for dairy bull calves, which were usually exported. Other measures included payments to compensate and provide support for primary producers and for the rendering industry. The EU imposed a ban on UK beef exports and reopened beef intervention buying. The effect of these measures was to remove from the market a quantity of beef broadly equivalent to the reduction in domestic consumption plus exports. The total cost in additional public expenditure was approximately £1.5 billion in 1996/97.
The total economic loss to the nation resulting from BSE in the year following the crisis is estimated to be between £740 million and £980 million, equivalent to between 0.1% and 0.2% of UK national income (GDP). Between one half and two thirds of this cost is accounted for by the fall in the value added of meat production. This cost would have been greater had it not been for a partly offsetting increase in consumption and prices of substitute meats. The remainder of the national loss resulted from the cost of operating the various public schemes, compliance costs associated with new legislative requirements and costs associated with the adjustments of production to service new markets.
The impact on particular sectors and within sectors varied considerably, depending on the distribution of compensation payments, the degree of specialisation in cattle or beef related activities, and the ease of adjustment. In the first year, beef producers in aggregate were in the main largely protected from the crisis by one-off compensation payments, although there was a distribution of impacts within the sector. Slaughterers and renderers also benefited from the operation of the various schemes introduced in the wake of the crisis. Meat manufacturers and retailers received no compensation, but the larger businesses in particular proved fairly versatile in adjusting product mix to maintain turnover.
The UK domestic beef market appears to have recovered as far as it is going to. Consumption has recovered to its long-term trend position and is currently slightly above it, though this due to lower real beef prices. Real producer cattle prices fell by 41 per cent between mid March 1996 and the end of October 1998. Since then prices have recovered a little but are still 31 per cent below the mid-March 1996 level. However BSE accounts for only part of this fall, the rise in the value of the pound sterling against the ECU/Euro has also had an impact. The aid schemes for producers introduced by the Government to cushion them from the effects of BSE have now all, with the exception of the Over Thirty Month Scheme, run their course. The outlook for producers remains challenging. Some good news is provided by the announcement that exports will be allowed to be resumed from 1st August 1999. However, sales are expected to be slow and in the short term any benefit from the ending of the export ban seems more likely to come from increased UK consumer confidence in beef.
The cumulative budgetary cost of BSE since March 1996 is likely to reach £3.5 billion by the end of the present financial year.
Bovine Spongiform Encephalopathy (BSE) was first identified as a new disease in cattle in 1986. From July 1988 onwards the UK Government introduced a series of controls designed to protect consumers of bovine products against the risk that BSE may be transmissible to humans, to eradicate BSE in the UK cattle herd and to prevent the transmission of BSE to other animal species. Incidence of the disease peaked in 1992 when 36,700 cases were confirmed (Figure 1), a figure equivalent to 1 per cent of the GB cattle breeding herd. Incidence of the disease in cattle had declined to 14,300 confirmed cases in 1995, when on 20th March 1996 the Secretary of State for Health announced a possible link between BSE and a new variant of Creutzfeldt-Jakob disease (CJD) identified in younger people.
This paper considers the impact of BSE on the UK economy in the period following March 1996, particularly during the first year of the crisis. In doing so it draws heavily on a report prepared for the UK Government by DTZ Pieda Consulting in March 1998, entitled Economic Impact of BSE on the UK Economy. The paper outlines the economic importance and structure of the UK beef industry. It describes the initial impact of the crisis on demand and on the various components parts of the supply chain. It summarises the policy response of the UK Government and the European Union and goes on to describe how the economic impact can be assessed. It then gives the results of that assessment for the first year of the crisis, at both national and sectoral levels. The paper concludes with a description of more recent developments.
Importance of the UK Beef Industry
The UK beef industry, widely defined, consists of a complex and in some cases highly fragmented supply chain, with many interrelated sectors and sub-sectors. A stylised representation of the supply chain linkages is given in figure 2.
In the primary sector, around 60% of beef is produced as a by-product of dairy production (either from the fattening of dairy calves or from cull cows), with only 40% originating from specialist beef (suckler) herds. UK beef production totalled approximately 1 million tonnes in 1995, of which around 300 thousand tonnes was exported. Consumption was around 700 million tonnes from domestic sources, with a further 200 thousand tonnes imported. The industry is heavily supported under the European Union’s Common Agricultural Policy. The slaughtering sector pre-BSE was characterised by high levels of overcapacity and low margins. Further downstream, a small number of large multiple retailers dominate the retail sales of beef and beef products. The catering market (primarily restaurants and fast food outlets) accounts for around 20% of the final volume of consumption.
The beef industry, from farm gate to retail, is estimated to have contributed £3.2 billion to Gross Domestic Product (GDP) in 1995, equivalent to just over 0.5% of GDP. Farmers created £1.2 billion of the beef’s industry’s contribution to GDP, while the remaining £2 billion came from value added by the slaughtering, processing and retailing of beef.
In aggregate the industry is estimated to have supported around 130,000 jobs (around 0.5% of total UK employment) with the bulk employed in slaughtering and meat processing (see figure 3).
The immediate impact of the BSE crisis became manifest in two ways: a sharp contraction in domestic demand for beef and a complete loss of export markets.
The BSE crisis took place against a background of falling beef consumption not only domestically but also in the EU as a whole. In the UK beef consumption (measured as offtake, see notes for definition) had been declining at 2 –2½% per year for more than a decade.
Notes: a) offtake = home-fed production plus imports, plus intervention sales, less exports, less intervention purchases, less cattle excluded under the over thirty months scheme and less other stock changes.
This decline not only reflects a relative fall in the price of beef substitutes such as poultry and pork , but changes in social and economic factors such as smaller families, more women going out to work, greater consumption of prepackaged convenience foods and the trend towards eating more ‘healthy foods’.
Following the Secretary of State’s statement on the possible linkage between BSE and CJD, sales of beef products immediately declined by 40% and in April household consumption was 26% lower than in the previous year. The decline was not equal across all cuts of beef: beef products, such as beef burgers and mince, which were perceived to have the greatest risk of contamination saw greater falls in consumption compared to the better cuts of beef. Figure 5 shows that consumption of mince fell by the greatest amount, declining by 54% over the month, while consumption of lower quality steak contracted by 11% and high quality steaks by 8%. Part of this sharp contraction was quickly reversed and consumption of better cuts of beef rapidly recovered to 1995 levels, but nonetheless overall beef consumption remained well down on 1995 levels.
However, the fall in demand for beef products was offset to some degree by an increase in consumption of substitutes meats such as pork, poultry and lamb and also wider substitutes such as fish. This was a very important factor in mitigating the negative impact of BSE on the economy as a whole.
(ii) export markets
The UK had developed a significant export trade in beef and live cattle during the early 1990s. By 1995, exports of beef of 300,000 tonnes were worth almost £600 million. There was also a substantial trade in live calves from the British dairy herd to the rest of Europe, worth some £70 million. This trade was completely lost when the European Union imposed a ban on all UK exports worldwide.
The combined effect of the fall in demand for UK beef from UK consumers and overseas consumers, was a contraction in final demand for UK produced beef of 36% in real terms, over the 12 months following the March 1996 announcement.
The initial impact of these developments was felt throughout the UK beef supply chain. Beef producers were faced by the disappearance of the markets for cull cows and for surplus dairy calves and the price of beef cattle fell by over 25%. In some parts of the country cattle livestock markets closed for some weeks between March and April.
The same picture faced businesses further down the production chain. Many abattoirs had temporarily to close down or put their workers on short time and production of low quality beef products were suspended (as companies searched for alternative foreign supplies). It was estimated that 40,000 tonnes of beef in abattoirs and cutting plants and 25,000 tonnes held by export traders, manufacturers and retailers accumulated, together totalling around 6% of annual production and were left unsold.
Peripheral industries were also affected with haulage companies reporting a large downturn in business while the rendering industry, which had previously produced valuable raw materials essentially, became a waste disposal industry.
Following the 26 March announcement, the EU and other countries announced a ban on all British beef exports and derived products and the British government implemented a series of domestic measures. The key measures were:
In addition the EU purchased beef into public stocks (under the CAP intervention system) to help support the price of beef throughout the EU. During 1996/97 83,000 tonnes of UK beef were purchased representing 350,000 animals or around 8% of average UK production in the 1995 and 1994.
Further details of these measures are given at Annex 1.
The total cost of the compensation and other additional public expenditure related to the BSE crisis was around £1.5bn in 1996/97 of which 73% was received by farmers (see figure 6).
Assessing the Economic Impact
Conceptually, the impact of BSE on the UK economy as a whole, can be measured as the sum of three components: the fall in value added; the increase in the real costs of production of beef; and transitional costs of adjustment.
The fall in value added due to BSE comprises the contraction in output from beef and beef related products, less the increase in the output of substitute products. The net effect on national output from a crisis such as this depends on the ease of transferability between the sectors (from the sector facing a decline in demand to one that is facing increasing demand).
These costs can be split into several categories.
- compliance costs associated with new legislative requirements introduced for health reasons such as Specified Risk Material (SRM) controls.
- assurance costs associated with traceability schemes introduced in response to pressure from major retailers and catering chains.
- costs of production system changes, such as finishing cattle below 30 months of age and producing lighter cattle to meet intervention purchase needs.
- costs associated with the slaughter, disposal and storage of cattle under the OTMS, the CPAS, the selective cull and unsaleable beef stocks and intervention storage.
Transitional adjustment costs reflect the costs of switching from beef production to the production of substitutes. These costs tend to be greatest for farmers. Due to the length of the beef production cycle, supply adjustments can only take place over a period of time, therefore the immediate effect of the change in demand will be reflected in the price. Further down the production chain transferability of resources becomes easier. Slaughterers are able to adjust more quickly, but even here labour laid off will not necessarily find employment immediately, or will need some element of re-training. However, processing firms were found to be able to adjust relatively quickly and in the main maintain employment levels.
In principle, these impacts should be measured against the situation that would have obtain during the same period if BSE had not occurred. Determining this counterfactual position itself posed a number of problems, in particular the estimation of the level of consumption of beef and beef substitutes which would have occurred in the absence of BSE. In the case of beef substitutes, a range of possible estimates was employed.
Assessment of the Impact of BSE in the UK 1996/97
The study undertaken for the UK government by DTZ/Pieda attempted to measure these costs to the national economy arising from BSE for the year 1996/97. The study’s estimate of the impact on the overall economy is given in figure 7 below.
The BSE crisis was estimated to have reduced the final value of beef output by £1,454m (1995 prices) leading to an estimated loss of UK gross value added of £1,153m, equivalent to around 0.2% of GDP. Approximately two thirds of the loss was from the loss of export sales of beef and beef products, while the remainder was from the decline in domestic demand of beef and beef products. The loss of the final value of beef derivative products, such as tallow, is estimated to have cost an additional £90m.
The loss of beef output is also estimated to have been widely distributed throughout the beef supply chain. Around £800 million of the reduction in beef value added occurred at the primary production stage. The remaining £300 million was distributed largely in the slaughtering and processing sectors.
The effect of the crisis on value added was offset to a very substantial degree by increases in consumption and prices of substitute products. Value added in the production of pork, poultry and lamb is estimated to have risen by between £540 million and £750 million. In other words, broadly between one-half and two-thirds of the loss of beef output was offset by rises in output elsewhere within the meat sector. The net effect of BSE on value added in the economy may therefore have been £403 million to £613 million.
A further source of economic loss to the nation was the increase in real resource costs of production. These partly came about through the introduction of additional regulation and controls stemming from the BSE crisis. The estimates for these additional costs were based on survey work and indicated that the new regulations and controls were adding between 1% and 2% to the cost of producing beef (pre-processing). This suggests an additional cost and use of resources of around £25 to £50m.
In additional there were substantial resource costs related to slaughtering, disposal and the storage of OTMS cattle, the CPAS, the selective cull, the disposal of beef recalled and with intervention storage. This was estimated to be in the region of £220m for the year.
Finally there were costs of adjusting from the production of one product to another. This cost was largely limited to processing firms. The introduction of the OTMS and CPAS and the one off compensatory payments to farmers largely removed the need for short term economic adjustments in the farming, slaughtering and rendering industries.
The cost incurred by processing firms in changing product lines and re-training staff due to the BSE crisis is difficult to estimate, as there was likely to have been an element of firms bringing forward investment decisions. However survey evidence suggests that the adjustment costs within firms was in the order of 0.2% to 0.5% of turnover. This was estimated to be in the region of £5m to £7m.
The sum of all these effects and therefore the overall economic impact of the BSE crisis is estimated to have been between £740m and £980m (0.1% to 0.2% of GDP) in 1996/97. The economic loss at national level was substantially reduced as a result of increased consumption of substitute meats.
The economic cost of the crisis was therefore rather lower than the cost in additional public expenditure (£1.5 billion in that year). This is because additional public expenditure in large part represents a transfer from one agent to another within the economy and so does not directly represent a cost to the economy as a whole. However, additional taxation necessary to finance public expenditure has longer term negative effects on economic growth and productivity not taken into account in this analysis.
The economic loss from BSE had potentially severe consequences for employment. It is estimated that – in the absence of any offsetting measures - there was a potential loss of employment resulting from the reduction in value added in the beef sector of as much as 46,000 full time jobs, compared to total employment in the economy sustained by beef production of some 130,000 persons. This potential employment loss would have been partly offset by a potential increase in employment in the production of substitutes of between 21,500 and 30,000 jobs. In total, therefore, the crisis had the potential to reduce overall employment in the economy by between 16,000 and 25,000 jobs, equivalent to around 0.1% of total employment in the UK, or 4%-5% of all employment dependent on meats. In practice, there is very little evidence of employment losses on anything like this scale. Survey evidence taken at the end of the 12-month period suggests that net job losses were considerably less, totalling only around 1,000 full time equivalents. The reason for this is twofold:
Although the overall impacts of BSE on the national economy were rather smaller than might have been expected, there was a wide range of impacts on particular sectors of the economy. Conceptually, the main difference in the measurement of impacts at the sectoral, as opposed to national level, is the treatment of government assistance through public expenditure. The distribution of this assistance determined in large part the distribution of relative winners and losers throughout the economy.
The effect of introducing the OTMS and CPAS, coupled with intervention purchases, was to withdraw a volume of beef from the market roughly equivalent to the loss of domestic and overseas demand. Although prices were lower, the effect of these measures and the special one-off compensatory payments largely protected beef producers from the worst effects of BSE; it is estimated that beef farmers were 90% compensated for the BSE induced fall in revenue.
However, within the cattle sector there were winners and losers. Although not quantifiable, specialist beef finishers would have suffered from higher calf prices caused by the CPAS and lower prices for finished cattle, while suckler cow producers lost out from the flat OTMS compensation rate. However the winners were the dairy farmers who saw improved prices for their calves and cull cows. The OTMS scheme also provided the opportunity for them to replace older cows with younger more productive animals.
If one takes account also of the increases in income experienced by producers of pigs, poultry and sheep, the farming sector in aggregate saw an overall rise in revenues, including subsidy payments, as a result of BSE in 1996 compared to 1995.
Slaughterers were cushioned to a large extent from what would have been a major shock resulting from the BSE crisis, by the operation of the OTMS, which helped maintain throughput. Employment levels at the end of the 12 month period following the crisis were only 2% lower than previously (although there was considerable resort to short time working and temporary layoffs during this period). The crisis did however lead to restructuring within the industry caused by the loss of export markets and the decline in the number of animals slaughtered for human consumption (where there is room for additional value added activities). The restructuring led to the emergence of three types of abattoirs:
Meat Manufacturers and Processors
Beef products account for around 30% of output from this sector and survey evidence has suggested that the BSE crisis led to a large amount of substitution in the sector. Larger firms in particular were better able to switch to new products and recipe formulations using pork, lamb or poultry. There were initial lay-offs and redundancies in this sector, especially among firms specialising in beef products, but survey evidence has indicated that sales and employment levels at the end of the 12 months following the crisis had nearly returned to pre BSE levels.
However, there were costs of adjustment. Profitability in the 12 months following the BSE crisis was been adversely affected by three factors:
This industry is dominated by five firms and since the onset of the BSE crisis the markets for the two main products sold by renderers – tallow and meat and bone meal - has all but disappeared. However the ‘Interim Scheme’ introduced by the government designed to compensate renderers in 1996/97 for their loss of market and enable them to maintain their prices for animal waste products, allowed renderers to maintain employment and sales during that year.
In addition to these aggregate sectoral impacts, survey work indicated a very wide range of impacts across different firms within each sector. For example, within the meat manufacturing sector, twelve months after the onset of the crisis, some businesses had suffered falls in output and employment of 30%, while others had experienced rises of 20%. Generally, the determining factors were degree of specialisation in cattle or beef products and ability to adjust to service new markets. Size of firm was also found to be important; generally larger firms found it easier to adjust.
Where are we now?
Beef consumption appears now to have recovered to its long-term trend (figure 9), indeed consumption has been above trend in recent quarters, although this is a consequence of continued low prices. The proportion of beef consumed out of total meats has recovered in 1997 and remained stable in 1998, suggesting that beef is now holding its own against other meats.
Notes: a) offtake = home-fed production plus imports, plus intervention sales, less exports, less intervention purchases, less cattle excluded under the over thirty months scheme and less other stock changes.
The real retail price of beef remains below the levels seen in 1996 with the average real price in 1999 around 5% lower than the trough reached in 1996 (figure 10). However there are continued signs that consumer confidence is beginning to return as the spread between beef and its substitutes are slowly beginning to widen.
Real producer prices also tell a similar but harsher story and are around 10% (in 1987 prices) below the trough in prices in 1996.
The most important effect of the various subsidy and compensation schemes introduced by the government in the immediate aftermath of March 1996, was to offset what would have been a major financial shock in three sectors of the economy: beef farming; slaughtering and rendering. The DTZ/Pieda study considered that these subsidies largely prevented the need for these sectors to adjust to the new market circumstances during the first year of the crisis. With the principal exception of the OTMS, most of the schemes benefiting these sectors have now been phased out.
The slaughter industry has in many ways adapted, with only a few abattoirs reliant on the OTMS as a source of income. However margins in the industry are perceived to be slender, suggesting a continuing need for rationalisation. Although subsidies to the rendering industry have been phased out, the sector continues to benefit from the operation of the OTMS and will be exposed to any decline in the number of animals passing through the scheme.
Primary beef producers in the farming sector have benefited to a limited extent from the recovery in domestic demand, but incomes have nonetheless fallen dramatically in the last two years. This fall only partly reflects exposure to the lagged effects of BSE and the ending of the compensation schemes. One of the reasons for continued low prices has been the appreciation of sterling during 1997 and oversupply throughout the European Union. The outlook for specialist producers in particular appears challenging. The industry continues to be in structural surplus and in the short term, the ending of the CPAS scheme in July 1999 is likely to result in a further increase in cattle for slaughter in twelve to eighteen months time, further depressing prices. The announcement of the resumption of British beef exports from 1st August, provides some prospect for improvement in the longer term.
Despite the ending of many of the subsidy and compensation schemes introduced after March 1996, the cumulative cost of BSE to the taxpayer continues to rise. The latest data indicates that 3.5m cattle have passed through the OTMS, nearly 2m calves through the CPAS and 77,000 through the selective cull. It is estimated that BSE related schemes resulted in additional public expenditure of around £920m in 1997/98, and based on the numbers of animals going through the various schemes since then, it is likely that the cumulative budgetary cost will reach £3.5bn by the end of the year.
Annex 1 Principal policy measures introduced in response to BSE
Over Thirty Month Scheme (OTMS)
Calf Processing Aid Scheme (CPAS)
Special Payments to Farmers
a) Payments to the Slaughtering and cutting sectors
b) Payments to the rendering and beef by- products sectors
3. The government introduced phased support to this sector worth £118m in 1996/97 and £59m in 1997/98.
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