Russ Roberts

Munger on Subsidies and Externalities

EconTalk Episode with Mike Munger
Hosted by Russ Roberts
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Munger.jpg Mike Munger of Duke University talks with EconTalk host Russ Roberts about the economics of subsidies. What is the economic argument for subsidies? What is the history of the economic argument and what is its relevance today? Munger draws on his personal experience as a farmer to help listeners understand the pros and cons of using government-funded payments to encourage various activities deemed to be worth encouraging.

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0:36Intro. What is a subsidy and the ideal? Pigou: the state should get prices right. Externalities: the effect of things I do or produce do not fully capture the benefit; government should make up the difference. Negative externalities--pollution. Positive externalities: St. Louis Cardinals stadium. Munger farms south of Pittsboro, 35 acres of forest, practice baseball; grows pine trees; in 20 more years they will be ready to harvest. State has decided that there is not enough farming, so they subsidize it by not taxing it; and also paying half for fertilizer. About $6000 benefit last year. State thought it would use less fertilizer to burn off undergrowth; paid ¾ of that and sent fire trucks to set portions on fire. About $12,000. State of North Carolina--does it want impoverished farmers to live off the land? Or is it that farmers are politically important in that state and are self-interested. Bootleggers and Baptists podcast: government activity is partly desirable ends and partly self-interested. Hard-scrabble farmers, game v. scrapple. Munger is undeserving non-poor. Program was voluntary; Munger did have to buy the land.
9:15Cardinals stadium appeals partly to higher values. Sons root for the Cardinals, enjoyed benefits without having to contribute, by reading the paper and enjoying the existence of the Cardinals even if they never went to a game. Cardinals cannot capture the benefits. The standard argument thus is that it would be moral and just for the government to subsidize them with taxpayer money. True but there are people who don't like the Cardinals. Traffic congestion, large piece of land used only 81 days a year. Pretend there is a "we." If I'm thirsty and buy water I might get $20 worth of benefit even though I might only pay $1.50. Should supplier capture all of that consumer surplus? How much it costs to produce the benefit is party endogenous, determined by how much we pay for it. College teams. Coase, Regulation magazine, stadiums have no or negative net effect if you consider opportunity costs; but those who want the stadium always predict very large benefit. Calculations assume that there would be no use for the money otherwise, that it would be burned.
16:05Cultural passion and political passion. Sometimes a city will refuse, but hard to have ¾ of a baseball team. Can have some restaurants or movie theaters, but you either have a stadium or you don't. Having a stadium creates a set of interests. In the United States in the 1930s there were 6 million small farms; by the 2000 census, only 2% of the population resides on farms but we still have enormous subsidies. Quotas on sugar to keep it from coming in and we subsidize domestic production. Wool, soybeans. In Japan, the price of rice is 5 or 6 times the world price because of subsidies; though they will say it is better quality. Is U.S. rice that much worse? If their rice is so much better, question is why do they need a subsidy? Hand-raised in rice plots, heritage. Commentary criticizing dairy subsidies led to irate email. Great, but why do others have to pay for it? We pay twice: higher taxes and more for milk and cheese in the store. Sense of culture: nice to drive through bucolic farm areas. But France and Canada have strict rules limiting percentage of movies shown in theaters that are made in the U.S. Subsidy in the sense that in order for me to watch an American movie, I also have to have available a Canadian or French movie. Worried about globalization, that culture will come in and change the way we think about ourselves. Edith Piaf, Marion Cotillard film, vs. Jerry Lewis and Terminator. At the heart of it has to be the idea that some French people want to watch American films else there would be no point to the restriction, but they're really going to be happier because they'd lose the French films. They just don't realize it.
25:19Home Depot vs. Lowes; shop where prices are lower at Home Depot. Claim: you are degrading the quality of life by not shopping at a local hardware store. Do people regret shopping at Home Depot? Town square doesn't disappear; it just doesn't have a hardware store. May not be able to make much money, high priced land, ironically empty, so cities subsidize downtown businesses. If people wanted to go to Mom and Pop stores, they would go. Downtown Greensboro on Elm St. subsidized art galleries, pleasant to have art in the downtown, but what is the alternative use of the land? Charming now, resurgence. How should an economist evaluate that? It is nicer now, but what might it have been in alternative use? Farmers' market. Colorful, local. "We need a biotech industry in St. Louis" because Seattle has one and they are doing well. Mimicry is a fantasy. Possible for a central planner to arrive at a good solution but unlikely; don't have the information or the incentive. Research Triangle Park in the 1950s is looked at as a beacon of what planning can do. Other cities tried to duplicate it, but without the universities, infrastructure, etc. Just because A followed B doesn't mean A caused B (post hoc ergo propter hoc). Global transport; called the Global TransPark. Nobody there. Difficult to subsidize growth by building a facility and hoping that they will come. Which part of the city should we gentrify next? Can always make one neighborhood look nice by pouring a lot of money into it but want to make sure some other neighborhood doesn't slip and do badly. Point to the good job but don't look at neighborhoods that suffered. Urban planning, light rail system; we "need" $35 million and those tight-fisted people in Washington won't subsidize it.
36:06Subsidizing roads is really subsidizing location decisions. Doubled road size makes people relocate, gridlock builds up again. Huntsville, AL, space museum and space camp; highway is about 12 lanes wide. Plenty of room, and then even more, driving in an empty parking lot. Clearly a gift from a prominent senator in power at the Federal level, justifying it by claiming there would be traffic. The subsidy did benefit people who drive on it.
39:05Role of bees. Orange juice, fresh squeezed. Picked own oranges, Florida in summer time, hot. Need orange trees to be pollinated, pollen too heavy, bee keeper services. Bees also make honey. How does pricing in this market work? Prices fluctuate. If honey was scarce, bee keeper paid to pollinate the trees; if plentiful, had to pay the bee keeper. James Meade, canonical example of positive example: bee-keeping. Size of apiary for honey may not take into account the farmers' pollination benefits. Without government intervention will there be enough bees? Light houses. Government subsidies suggested. But the small scale leads to the question of why we don't just see private contracts. Steven N. S. Cheung, "Fable of the Bees: An Economic Investigation" (after Mandeville's book on moral behavior), found some fascinating private, voluntary customs. Custom of the orchard: two apple growers, both agree on keeping an equal number of hives (per acre) because otherwise everyone would try to free ride. Shunning by community for free-riding and not having the agreed-upon number of hives. Private solution, price predicted for competitive market result. Coase's work changed the way people looked at Pigovian taxes or subsidies. They were looked at as things we had to do. Meade thought he had the perfect example; but it turned out to be the perfect example of what Coase talked about--when transaction costs are small, private contracts will work it out. Externalities are reciprocal; the market--the voluntary emergent actions of private individuals--worked out a solution. Happened regardless of how the property rights were assigned because there was a particular amount of honey making and orange blossoms. If the transactions costs were too high, you could become an orange grower who kept bees, internalizing the externality costs. Market sprang up. It's not that there's no such thing as externalities. If there's this deadweight loss, this problem with externalities, it means someone can make money by solving it. Repeated problem like pollination provides incentive to work things out. Have to look for the institutional arrangements.
55:30Coase also pointed out in his paper, and thought it was the most important point: Where transactions costs are high, how you assign property rights and benefits is important because private citizens may not have been able to work it out themselves. Carbon tax, Mankiw podcast. Pollution is used to justify a tax on gasoline. What Coase reminds us is that there are alternatives. We can't all sit down in a room and agree, but the question is: is there a cheaper way to deal with pollution than imposing a tax? Transactions costs of solving these problems may often be high, but parts of the problems can be resolved locally. Credits for carbon use, tradeable credits. Reduces the transactions costs of negotiating, ameliorates some of the externality. It's the transactions costs at the heart of the Coase paper. Imposing taxes might be the cheapest way to cope with externalities, but there may be other ways. Revolving doors--people don't push fast enough, free ride by pretending to push; we need a government program to subsidize people pushing revolving doors. Hidden cost of subsidizing an activity is monitoring it. Attractive people don't go out often enough and should be subsidized to go out more. Subsidize Mike to stay in.

Comments and Sharing



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COMMENTS (30 to date)
LemmusLemmus writes:

Short suggestion: You might want to link to the podcast with Skip Sauer in which you also talk about stadium subsidies and positive externalities.

noahpoah writes:

It looks like the highway in Huntsville is 12 lanes (6 per side) near the space and rocket center: google maps is awesome.

Doug writes:

Question to Mike and/or Russ:

I was reading Thomas Sowell's columns and one question he posed was: If the government declares it a right for everyone to own a new car and grants everyone a subsidy of $5000 for its purchase, does anyone doubt the price of new cars will go up... by $5000!

So when Mike says that the state pays half of the cost for the fertilizer, I wonder if it's really "half the cost" or if the fertilizer sellers realize there is a subsidy and raises there prices and Mike is really paying about the same price as if there was no subsidy.

Also, the same logic might explain some (maybe most) of the rise of cost of higher education.

I don't claim to know for sure, but I'd like to hear other opinions.

Thanks for another great podcast!

Charlie writes:

"I was reading Thomas Sowell's columns and one question he posed was: If the government declares it a right for everyone to own a new car and grants everyone a subsidy of $5000 for its purchase, does anyone doubt the price of new cars will go up... by $5000!"

This doesn't seem right. The price should be equal to the marginal cost and not the consumers willingness to pay.

Martin Brock writes:

Charlie: I don't think it's as simple as Sowell suggests, but I expect the subsidy to raise the price of a popular model by increasing demand for it. With the subsidy, more people find this model affordable, so others must bid up the price to claim it. The subsidy doesn't increase the supply of this model, but it does shift the demand curve, so I expect the equilibrium price to rise.

Charlie writes:

Martin: In the very short term, the supply curve might be a bit inelastic. That is, it may be hard to build new cars in a hurry and create new supply, but I would think pretty quickly new cars could be churned out. And since a law passing usually takes time, the firm would probably even be able to prepare in advance.

I think the price may well go up though for several models, because many car producers have market power. But it would certainly not rise equally for all models and rising $5000 would be just a coincidence.

I don't know if Sowell really said this, but if he did, it seems like a pretty grave error.

Charlie writes:

It would have been nice to challenge lovers of liberty a bit more by also discussing subsidies we like, for instance, police and fire services and the court system/legal system.

Michael Munger writes:

Charlie, I may be missing something.

But in the U.S., for the most part, police and fire services, and the legal system, are publicly provided, not subsidized..

I suppose the same can be said about the sports stadiums. Those are built by the public, then leased to private teams at a favorable rate.

We do subsidize education. It might have been interesting to talk about that. Should education be (a) publicly provided, (b) privately provided but subsidized, or (c) privately provided?

Brad Hutchings writes:

Fire the highlights editor for missing Munger's elbow/Pigovian quip! EconTalk is wonderful anyway, but if you two did a collection of podcasts of introductory and even graduate level econ topics, they would be for Economics what Coffee Break Spanish is for language. The Mike Munger interviews are far and away the most entertaining, fun, and accessible of the EconTalk podcasts!

Charlie writes:

Mike, I always love your podcasts. You are a joy to listen to.

I'm not a fan of your quibble with my quibble, though, because there was a fair amount of talk about roads, airports, and light rail, which seem to be publicly provided along with stadiums. Is the government employing people to build roads very different from employing people to put out fires? Are roads subsidized then or publicly provided?

I mean, I take your point, but I think you guys were using subsidy loosely, and I just followed along.

Unit writes:

About opportunity cost, one may ask how else could the government have used that money. But maybe more importantly, how else could the people have used that money before giving it to the government in taxes.

Brian-NJ writes:

Thanx for the podcast, good stuff. I can only make comments about what the podcasts make me think, but understand I have limited knowledge of the topics, which is why I listen(for the educational gains)

I thought about the comments towards farm subsidies for Maine dairy farmers. While it does seem silly to prop up these farmers in their museum habitat since I can go to the local megalomart and by mass produced milk at a more efficient cost, I wonder if much of the motive of subsidy is for the survival of knowledge. There is something inherently unique in what a dairy farmer can do and these qualities have a value. The data can be represented in a book, but it will lack the aspect of human talent as applied to technique. Could it therefore be a responsible action by the state to fund the continuance of this knowledge because you me and everybody may benefit from its value if the situation ever arose that required such knowledge on a life or death basis? Then my mind goes a bit further as it usually does and I remember that humans have survived for thousands of years and will most likely continue, however, we have endured many of those years in "darkness" and simple technology, like that of the dairy farmer could ease the darkness. Then I think again of how any technology, antiquated or current would need to be subsidized to support that logic.

Therefore I have empathy for the folks that champion the subsidy they claim is imperative. If jazz was to linger on the fringes of extinction I would be first to cry the necessity of federal subsidies for the production of John Coltrane cd's, despite the fact that cd's are just as archaic. I suppose it ends with binary result(the end to subsidies) result A: is everything in its right place, and result B: we are as obsolete as the Assyrians.

Michael Munger writes:

Charlie:

I agree that my quibble is awfully jesuitical. You can tell because as I wrote it, I was backing off, admitting that in fact sports stadiums might perhaps be thought of as public goods, not externalities.

But, on thinking of it, how about this: Why aren't these Buchanan-esque "club" goods? Excludability is clearly possible. Sell memberships. Green Bay did something like this, to keep the Pack.

I am still skeptical of the claim that the positive externalities, when summed, exceed the costs.

Scott Anderson writes:

Mike and Russ,

Thank you again for the informative podcast. I will make a comment as a down payment on your subsidy of my economic education (I did buy Russ's books and have read a couple of Mike's presentations on why democracy may be over rated. I'll try to think of another way to compensate you for this subsidy :)). Hoepfully my comment will not be a negetive externality.

I was born in Green Bay and have strong ties there so can comment on the Packer Stadium. The stadium rennovation is being financed by the city of Green Bay with sales and use taxes as well as revenue bonds (1999 Wisconsin Act 167), so there is a strong subsidy for its development. The team also is publically owned but a non-profit entity and has issued additional shares of its stock to the public at about the time of the stadiums reconstruction. There was a strong demand to take part in the ownership of such an important element of the identity of Green Bay. I don't know for certain but I would guess that a great majority of Green Bay citizens are happy to see the stadium stay where it is but maybe not all so there may be a tyranny of the majority at work (a democratic flaw?:)).

The Green Bay stadium is located in “professional football stadium district” designated by Act 167 which brings up a question regarding zoning. Are zoning restrictions a form of subsidy in that they restrict some competing demand for certain real estate locations? I was in Budapest a few years ago and was amazed to see "gentlemen's clubs" located right next to historic landmarks.

I must say that all my adult life I have been grumpy about subsidies and government planning of private interests. Equally often I am faced with benefiting from that government participation in our private afairs and am torn between doing the rational thing given the current rules (which I usually do)and not participating as a protest and suffering the economic harm. An example would be to use light rail or university education. Any thoughts?

Thank you again!

Russ Roberts writes:

Charlie (and Mike M.)

I think Mike has misunderstood your point. I think your point is that we (meaning economists, generally) talk about "standard" kinds of subsidies--subsidies to pine tree farmers, charity and so on, but the public provision of roads, education, police etc. are essentially the same basic argument--we need government action to get to the "right" level of the good, a level that is greater than what would exist without government.

We (Mike and I) think some subsidies of the standard kind are foolish and are just a result of special interest politics. Farm subsidies would be one example. Some are foolish because of Coase's insights--sometimes it's better to do nothing because the private solution that will emerge might be cheaper or more effective. And presumably there are some subsidies that do a decent job of encouraging something that might be hard to encourage otherwise.

But what about those goods where it appears that the private level of provision is so low that many economists argue that a subsidy just isn't practical--it's necessary to have the government provide the good--national defense, police, fire.

My feeling is that some of these goods are best provided publicly rather than via private subsidy. Some of them would be better provided privately whether they are subsidized or not.

The point I would emphasize is that the standard argument for a subsidy or public provision is not a sufficient justification by itself. Some things that are claimed to merit a subsidy (food--life depends on it!) would be better left alone because the case is absurd. Some things that are publicly provided on the grounds that the private solution would be so inadequate might be better provided privately (either subsidized or simply left to flourish on their own) while there are other goods where the private provision argument is a lot harder to make (national defense.)

There is an argument, for example, that stadiums deserve a subsidy or even public provision. As much as I like sports, I think this argument is foolish and merely a pretext for transferring money from those who don't care about sports to those who do.

Finally, I would mention that some people assume that those of us who are classical liberals favoring limited government and a large sphere for voluntary action are not necessarily anarchists. I think there are things the government does fairly well though extremely imperfectly--courts, police and national defense, for example. I might add the roads. I understand that in all of these examples, the public solution is flawed (too many roads, police who look for ways to pad their budgets chasing drug dealers, an aggressive army that often goes beyond national defense, and courts that are used for destructive liability suits with uninformed juries). But I can see the flaws in the private voluntary solutions and they don't seem to be that different. So I'm pretty content with public provision of those things and think the classical liberal should spend time trying to curb the excesses rather than getting people to turn them over to the private sector.

The rest of our energy, probably the bulk of it, should be spent patiently explaining why we don't need government provision of education or farm subsidies or rail subsidies or postal subsidies or even pine tree subsidies.

Unit writes:

Maybe subsidies are a way for the government to advertise itself as the knight-in-shining-armor that it isn't. Pure signaling. It's got so much money that it's willing to give some away for free.

mauricio flores writes:

where is it possible to buy or donwload Mike Munger's presentations on democracy?could be interesting to read about his point of view (wether democracy is overrated or not)

Phil writes:

If Japanese rice is really that good, with a major comparative advantage (you can only grow Japanese rice in Japan), why aren't they exporting it all over the world and putting other rice farmers out of business? If it's really worth 6 times more than American rice, it should be a major source of profit without subsidy.

Jeff Henderson writes:

Another great podcast.

Just an anecdote:

I live in Canada. When my brother hosted a college radio show, he was informed that he was required by law to play at least one Canadian record for every two American records. He thought this was ridiculous, so he started a segment called "Canadian Content Cram." He would play the required Canadian Content and then just make fun of it.

The thought that measures like these actually help preserve "Canadian Culture" (whatever that is) is absurd. Consumers have preferences. If they prefer American music, they will listen to American music. If they are forced to listen to Canadian music, they will just choose the artist that sounds the most like American music.

shawn writes:

...the more I hear about public actions, whether they be 527 lane roads to nowhere or canadian music quotas, I understand more and more Arnold Kling's "drop the 'we'". Thanks for so consistently explaining that. Aside from the government official's obvious tendency to push that perspective, it's also an aspect of religion that gets screwed up, and leads people to get a bit too ready to allow their government to do the things they should be doing themselves. There's a strong moral argument behind the loss of 'we'...glad it's getting more clear to me.

Matt writes:

Very enjoyable podcast.
In Japan, the argument I have heard for protecting domestic rice production is to be prepared in case of war. The import protection means there are a lot more rice farms than there would be otherwise.

Karl Mamer writes:

Korea and rice is a similar. The market is highly protected and I was blown away how much a bag of the stuff cost in a Korean grocery store. And yeah, Koreans swore up and down there was no finer rice. I do find North American rice isn't quite as good, but certainly not worth paying 2 to 10 x more for.

I think Professor M. got the rational wrong. I've always understood Korea (and I suppose Japan) has protections for strategic reasons. It is the staple food product. Korea and Japan don't have a lot of land. Rice farms could be all turned into much more profitable golf courses. However, does a nation want to totally out source its staple food product? Do nations like Korea and Japan, in very volatile regions, really want to depend on China for rice? Or that shipping lines between the USA and Korea might remain open in the event of a conflict with China?

Of course, try to buy coffee or lemons in Korea. While I understand a nation might want to not lose the know how to its staple food, I could never figure out why coffee and lemons were double what you'd pay in North America. No farmer grows coffee in Korea. North America and Korea both have to import coffee. North America seems to be able to sell it for $3 a pound. Korea sells it for $7 a pound. And lemons. Geez. Same deal.

Also I don't think Canada has a movie ("can con") law for theaters. France does. And Korea does. Canada does have "can con" rules for radio and tv. So much of the broadcast day has to be devoted to Canadian acts and tv/movies. There's even odd rules for what is considered a Canadian song or movie. For example, American movies made in Canada (lots of 'em are) are not Canadian movies. Odder still, if Americans want to make movies in Canada there is a rule that the American production MUST cast at least one Canadian actor in supporting role. For example, the X Files was shot in Vancouver for a while and the Smoking Man was a Canadian actor. If you see Sandra Oh in an American TV show/movie you can bet it's made in Canada.

The worst is cable channel substitution. Basically if ABC and CBC are playing the same TV show (say Lost) then the cable companies need to black out ABC and inject the CBC feed over top the ABC feed. Canadian TV regulators are aghast that Canadians actually prefer to watch the AMERICAN broadcast.

Now I guess if you're living in Toronto, no problem but when you're living in a border town like Windsor (next to Detroit) you actually want the Detroit ads. What concerts are coming, what's on sale at the American stores we shop at, etc. No one gives a rats butt about what's going on in Toronto (400KM away).

And Super Bowl is a travesty. Canadians have to watch the substituted Canadian broadcast with its $10,000 a minute commercials. Geez.

Jeff Burrow writes:

Hi, Interesting podcast. Munger is always a good guest. I wanted to add to Karl Mamer's post. I have also not been able to find anything which indicates that, or what, the CANCON law is with respect to films in the theatre. However, examining the quality of film that comes from Hollywood (by way of subsidized production in Vancouver and Toronto) I might ask for it to be enacted.

I have seen some party platform material like that but nothing that I can find in terms of legislation.

Perhaps Mr Munger could share his source for that part of the podcast.

CANCON rules do exist for radio and TV. Though Canadian music, is so good right now there should be no need for it. I do not think I can make the same claim about Canadian TV though.

I'd be surprised if New Zealand, Ireland and Austria, other countries with similarly large, culturally dominating neighbours, don't have something similar.

Mike Munger writes:

Jeff Burrow: Nice catch! I was absolutely wrong, and you are right to call me on it.

I was referring to CANCON, and of course that does NOT apply to films. And, I didn't mean to single out Canada. Plenty of other countries have similar restrictions.

For those interested in CANCON

Devon Phillips writes:

This is the first podcast of Econ Talk I have heard. I must say that sometimes the dialogue sounded (unintentionally, I'm sure) a little snobish. I am sympathetic to the overall message I am picking up but it unfortunately feels like arguments are sometimes supported with wit and sarcasm rather than explanations and facts. I do not think the host or guest mean to sound this way so I thought I'd point it out. If your target audience is those who already completely understand what's being discussed and agree with your point of view already, then I am the odd one out.

Thomas A. Coss writes:

Subsidies and Sequelae

On a regular basis I am delighted by what is discussed here at EconTalk and how that connects to my experience every day in healthcare. Not to pull off this conversation but as I consistently hear and read about "health plans" in the political arena, I find myself turning to EconTalk, and to conversations like this very podcast for insight.

The example of widening freeways does transfer value to developers, what then of "broadening" access to healthcare?

Tom

Matt writes:

If you have a chance, I'd be curious if Russ or Mike could respond to the argument that says it is useful for national defense to protect rice production. To me this sounds like a plausible argument. (Certainly it sounds more plausible than the argument that it makes the rice taste better.) Isn't it true that if suddenly trade is cut off, then it is less of a disruption if there is more food produced domestically?

Evelyn writes:

The Custom of the Orchard reminded me of Stephen Lansing's work on rice growers in Bali. For a thousand years, rice farmers have cooperated in coordinating the timing of their plantings and the amount and timing of flow release from irrigation canals.

http://blog.longnow.org/2006/01/12/stephen-lansing-perfect-order-a-thousand-years-in-bali/
and
http://media.longnow.org/seminars/salt-0200602-lansing/salt-0200602-lansing.mp3

In Bali, religion was used to increase social and emotional intelligence, allowing a flexible network stability to evolve, which was beneficial in economic terms, for all involved.

David Zetland writes:

Russ, Mike,

Great podcast. I think that you missed a nuance on sugar "subsidies." Last I checked (3 years ago), the US gov't was NOT subsidizing sugar. It sets a low quota for imported sugar and then lets in ex-quota sugar with a much higher tariff. Because there is no direct "subsidy" for sugar growers (they get high prices for their product in a market with handicapped competition), the gov't claims that growers receive "no subsidy." Important nuance for the lobbyists.

Also note that the sugar program supports corn syrup and thus "helps" corn farmers. (That's why we have HFCS in so many products, and Canada exports many sweets -- disguised sugar -- to the US.)

Aaron writes:

I knew a Japanese student in university who said he would miss good Californian rice when we moved back to Japan.

Also, note that many Californian rice farmers are descended from Japanese immigrants, and probably grow rice originally from Japan, so shouldn't their product be close to the "real thing?"

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