Effects of Removal of Fuel Subsidy on Wheat Price in Iran

Fuel is one of the important inputs used in the agricultural sector. It is supplied to farmers with a price much lower than its world price, and takes up a large share of subsidy payment in Iran. Recently, government has decided to eliminate the fuel subsidy. This was a motivation to study the effect of subsidy removal on unit cost of irrigated wheat is In Iran. To this end, first, Aggregate Measure of Support (AMS) was computed and the share of fuel in AMS was specified. Then, a restricted translog cost function was estimated, using data over period 1987-2006. Finally, the effect of elimination of subsidy on unit cost of irrigated wheat was computed using irrigation water and machinery cost elasticity derived from the estimated parameters of cost function. Results indicated that fuel constitutes the largest share of AMS so that in 2005, this share accounted for 83 percent of calculated AMS. Also, results revealed that overall elimination of fuel subsidy would result in an increase of 438.98 Rials, equivalent to 26 percent in price of wheat in Iran. This result suggests that decision on removing fuel subsidy must be taken with caution and gradually.