Diversity is the sweetest cash crop

Above all, farmers must take responsibility for nurturing the rural environment. Beyond that, all is

What is farming for? Clearly, in the first instance, to produce food. In the past 50 years, farmers have been spectacularly successful at increasing food production. They have intensified the use of non-farm resources (pesticides, fertilisers, machinery, and so on) to produce much more from the same amount of land: three times the amount of wheat, barley and other grains, potatoes and sugar beet; more than double the milk yields. Over the same period, the number of farms has halved to 200,000, and the labour required to produce this food has fallen dramatically.

The dividend to the consumer, successive governments have reminded us, has been cheap food. But the price we pay for a food item does not tell the full story of the costs involved in its production. Unlike other economic sectors, agriculture is inherently "multifunctional". It does more than produce food, fibre and oil. It has a profound impact on many other aspects of local, national and global economies and ecosystems. These side effects can be negative or positive, but the negative effects are not reflected in the prices paid by producers or consumers. "Externalities" of this kind distort the market by encouraging activities that are costly to society, even if the private benefits are substantial.

A heavy lorry that damages a bridge or pollutes the atmosphere externalises some of its costs - and others pay for them. Similarly, the use of a pesticide imposes costs on others if it leaks away from fields and contaminates drinking water, or builds up as a dangerous residue in food. The real cost of industrialised farming is severe. Modern agriculture has caused significant pollution through the leaching of pesticides, nutrients, soil and pathogenic bacteria. It costs £250m a year to remove these from drinking water, which is paid for by water consumers, not the polluters. So the farming sector in effect receives a subsidy for its polluting behaviour. Modern farming has caused a severe loss of rural biodiversity through the removal of hedgerows, monocultural rotations and the use of pesticides and herbicides. We have the food, but no longer the skylarks, poppies or corncrakes. And industrialised farming has harmed human health through BSE, pathogens and the overuse of antibiotics.

Yet there is another side to the story. Agriculture produces more than just food. The positive side effects of farming offer a new way forward. More sustainable farming can benefit the public by offering things we can all enjoy and that contribute to the economy. Farming can produce attractive landscapes we want to visit. Day trippers and tourists to the countryside spend 551 million visitor-days and £14bn each year - more than four times the value of the formal subsidies the government gives to farmers.

Farming can also absorb carbon in the soil and trees, which helps to mitigate climatic change. It can help to hold water in wetland areas to aid flood control. It can nurture the farmland birds we all feel are part of our heritage. It contributes to rural jobs. Many of these may, in the future, become significant new sources of money for farmers.

An important environmental principle is that it is more efficient to use limited resources to protect, or even improve, things than to spend money cleaning up later. The savings from positive and proactive environmental action can be substantial - as New York state in the US has discovered through its support for sustainable agriculture in the Catskill-Delaware watershed complex - the source of New York City's drinking water. When the city was faced with having to spend between $5bn and $8bn on a filtration facility to meet new drinking-water standards, it opted to pay farmers to produce clean water as well as food. The total cost of the programme is less than the predicted annual operating costs of the plant. It is not only taxpayers who benefit, but also farmers, the environment and rural economies. The same ideas can be applied in Britain: create sustainable systems that produce many desirable goods - from skylarks to water meadows - and farmers begin to discover that they are engaged in a multipurpose and diverse business.

This is the future of farming: a multifunctional sector that builds natural and social assets in the countryside, while providing us with wholesome food sourced from farms we trust. The primary goal for agricultural and rural policy must be sustainability, which minimises the use of inputs that damage the environment or harm human health, and integrates food production processes with regenerative processes such as nutrient cycling, nitrogen fixation, soil regeneration and natural enemies of pests.

But given agriculture's apparently small contribution to the economy, as measured by GDP, can it play a positive role in rural development? The dominant pattern of rural development has been an attempt to attract external capital, technologies and institutions into rural areas to kickstart change. But this is expensive and risky. An alternative school of thought focuses on "endogenous" patterns of development: growth from within. The priority is to look first at what natural, social and human resources are available in rural areas and ask whether anything can be done differently to harness resources more productively without damaging these assets.

This more locally based approach forces us to look differently at the structure of rural economies. Every time someone buys something sourced from outside the local economy, money leaks out. Each time raw materials are exported, value is added elsewhere, not in the locality. When natural resources are depleted or polluted, the local capital base diminishes. But if policies and processes are designed to plug these economic "leaks", the renewable asset base can grow, while also increasing the flow of desirable goods and services.

There are five principles to plugging the leaks in rural economies. First, use local, renewable resources. Second, recycle financial resources by spending locally. Third, add value to primary produce before it is exported from the locality. Fourth, connect stakeholders to create trust and new links. And fifth, build human capital.

Beyond these main principles, there are wider policy issues with which the government will have to get to grips if it is to pursue a multifunctional, sustainable future for agriculture and rural economies. In particular, should farmers receive public support for the multiple public benefits they offer, above and beyond food - the "provider gets" principle? Should those who pollute be made to pay the cost? Here are some policy priorities:

Make sustainability the primary goal of agricultural and rural policy. Since the Rio Earth Summit of 1992, when governments across the globe signed up to the principles of sustainable development, few countries (Cuba and Switzerland and, if we are generous, Sweden and Austria) have established a national policy for sustainable agriculture. This is lamentable. No government would say it opposes sustainability but, to date, very few have created the necessary critical momentum for reform.

Tax the polluters. The market price for agricultural inputs and products does not reflect the full cost of farming. Environmental taxes or pollution payments help internalise some of these costs, encouraging individuals and businesses to use resources more efficiently. Green taxes offer the opportunity for a "double divid-end" by reducing environmental damage, particularly from diffuse sources of pollution, while promoting economic growth.

Switch all subsidies from production to the multifunctional side effects of farming. The flip side of penalising farmers through taxation is to encourage them to adopt non-polluting technologies and practices. This can be done by offering to subsidise directly sustainable technologies and removing perverse subsidies that encourage polluting activities. Farmers who produce and nurture public goods deserve public support.

Offer a new ecological deal for rural development. It is well established that organic farms create more jobs than conventional ones. It is also the case that farmers who add value and/or sell direct to consumers create more rural jobs. These small businesses can drive economic growth in rural areas, and should be rewarded with national insurance, tax and/or rate rebates and compensation. There are many pressures on the countryside, and government policies need to be integrated to ensure that progress in one sector, such as farming, is not nullified by inattention in another, such as housing policy.

Involve communities in regeneration. Rural economies benefit when their stakeholders get together to help create social capital. This may mean forming new community businesses and enterprises, or the emergence of social institutions such as farmers' groups, co-operatives and community councils. But the building of social capital does not occur spontaneously or by accident; it requires a process to be in place to bring different stakeholders and institutions together.

Establish a royal commission on sustainability in food production and farming. The Royal Commission on Environmental Pollution has a distinguished 30-year history of innovative thinking and analysis that has made important demands of successive governments. The time has come for a new royal commission to address sustainability in our food and farming systems.

It is not all bad news. Good things are happening in farming. Sustainable farms employ more people; farmers' markets and schemes that deliver fruit and vegetables to homes promote direct links between consumers and producers. There is a growing amount of responsible corporate practice in land stewardship, and progress on the careful protection of some of the jewels in our biodiversity crown. But to encourage these developments, a fundamental shift in farm and countryside policy is essential.

Jules Pretty is professor of environment and society at the University of Essex, author of The Living Land (1998) and Regenerating Agriculture (1995), and a government adviser