function is -∞. To make the model tractable, I truncate the distribution from below at -1,
thereby excluding roughly one percent of farms. The remaining farm types are assumed to
be distributed with a mean-zero log-normal distribution truncated from above by zero and
below by -1. The variable ln θ is measured with a precision of 0.001. For each program, the
numerical solution of the relevant necessary conditions characterizes the contract terms.
Figure 2 depicts the contract terms for the three programs. For all programs the
majority of producer types fall into a corner solution. For the first-best and Pigouvian
programs, the highest 88.6 percent of types do not participate, and the lowest 3.4 percent of
types enroll the maximum amount of land. For the second-best program more types fall into
both corner solutions with the corresponding figures of 89.8 and 4.2 percent respectively. The
distortion in the land allocation caused by the information asymmetry is clearly visible in
panel (a). By Eq. (24) total surplus payments decrease as the lowest non-participating type
decreases. Consequently, relative to the first best the second-best program shifts enrolled
acres away from higher types towards lower types.
Panel (b) shows that the cost difference caused by the information asymmetry is
large compared to that of using the sub-optimal Pigouvian program. As shown in panels
(b) and (c) the choice between the second best and Pigouvian pricing mechanisms also
has implications for income distribution within the agricultural sector. The second-best
mechanism reduces total surplus payments made to the sector, relative to a linear subsidy.
This reduction in surplus comes exclusively at the expense of the more profitable farms.
Relatively less profitable producers (those with a type lower than e-0.8) would actually
benefit from a policy switch from a Pigouvian to the second-best mechanism.
Assuming 58,000 farms (in 1997 there were approximately 116 million acres of crop-
land in the Heartland region), the total costs of the first-best, second-best, and Pigouvian
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