The costs of cooperation: the effects of section 199 on basis for farm cooperatives in the midwest

Abstract

The 2004 American Jobs Creation Act created Section 199, a tax provision for producers of domestic goods. During the ensuing decade, Section 199 became especially important for agricultural cooperatives, partly because of a series of favorable Internal Revenue Service private letter rulings for marketing cooperatives. I analyze the impacts of Section 199 on agricultural markets by assessing differential effects on the pricing behavior of grain marketing cooperatives and non-cooperatives in Nebraska and Kansas. I first develop a model for the agricultural cooperatives pricing behavior that incorporates a tax on the qualified patronage received by cooperative patrons. This model produces several testable predictions. First, Section 199 will lower the spot prices offered by cooperatives while increasing the spot prices offered non-cooperatives that compete with cooperatives for agricultural commodities. Second, the widening of prices between cooperatives and non-cooperatives will be mitigated by increased spatial competition. I empirically test the predictions of this model using a difference-in-difference empirical strategy and winter wheat basis data. The results indicate that the series of IRS letter rulings in 2008 widened the basis differential between cooperative and non-cooperative firms by almost 5 cents per bushel on average. Furthermore, these market distorting effects are greater for elevator locations that do not have a competing location within 10 miles of their location. While the benefits of Section 199 have been widely touted by cooperative lobbying groups, the results of this thesis show the importance of also considering the costs of policy interventions directed at specific agricultural firm types.