|CERES No. 072 (FAO Ceres, 1979, 50 p.)|
Food price policies in developing countries often have to deal with conflicting objectives of ensuring adequate food for their populations, especially in urban areas, at "reasonable" prices and ensuring producer prices that would be a sufficient incentive for increased food production." Due to political pressures and economic reasons for maintaining urban wages, most governments find it imperative to lower consumer prices in urban areas, when free market prices exceed "reasonable" consumer prices. Whether support prices are provided to producers, and the extent of that support, has depended partly on the extent to which the importance of economic incentives in raising food crop production is realized by policy makers, and partly on the extent of organized political pressure from farmers. When either or both of these factors prevail, the conflict between producer and consumer interests in the case of food crops has often been direct, particularly where the incentive producer price has needed to be higher, after allowing for marketing costs, than the reasonable consumer price. In the case of non-food crops, such as cotton or tobacco, the conflict has either been less direct, when these are exported, or less intense, when their production is used domestically, due to their lesser importance in the consumption basket. The diversity of objectives a government might have (various combinations of producer and consumer benefits and levels of export earnings) and the different circumstances in which the government might operate may lead to the utilization of a vast array of policy instruments, including rationing, support prices for producers, subsidized inputs and subsidized consumer prices. Because of government intervention, a number of different prices may prevail in a country, including the producer support price, the official consumer price and the market price; and generally the market price resulting after some government intervention would tend to be different from that which would prevail if there was a free market. The impact on producers and consumers depends on the relationship among these prices.
Analysing the benefits
Government intervention in food grain marketing either to support producer prices or to provide consumers with subsidized foods has two implications: financial costs are involved when the difference in prices at which governments purchase and sell food is less than the costs of marketing; administrative resources are required in the public sector to procure food for public distribution or to dispose of excess supplies arising out of support prices.
In this article the policies to intervene in marketing systems are examined conceptually, and the conditions that determine the impact of such interventions on consumer and producer benefits are analysed. These results are illustrated through examination of government policies in some Asian and African countries regarding marketing and pricing. The second part of the article discusses price policy in a situation where no imports are available, as in times of overall world food shortages or a balance-of-payments crisis such as those that occurred in 1973-74. A third section examines price policy for non-food crops and its implications for food grain availability. The last section analyses price policy for food grains when imports are available. This is the most important and interesting case in which analysis shows that in a situation of linear expenditure demand pattern, i.e., when the marginal propensity to consume is constant, imports, especially concessional, may not simply increase consumer welfare, but also, contrary to the general assumption, may be used to improve producer incentives.
Where imports are not available domestic supply and demand have to match, except for inventory variations. In the short run, total consumption is relatively fixed. Government price policy can, however, make food available to the poorer sections of the population at a price lower than the market price. In this case, government intervention on the consumption side is restricted only to redistribution between income classes. Since food for a part of the population is provided at less than the market price, a dual market system has to evolve, e.g., the target group could receive food stamps or rationed supplies while the rest paid the market price. The lower the subsidized consumer price and the larger the population covered by such a programme, the greater the imbalance between supply and demand, and the more extensive the non-price distribution mechanism would have to be. Therefore, the government would have to decide on the extent of the redistribution both in terms of the amount of the price subsidy to consumers as well as the size of the target population having access to the subsidized food.
The burden of the consumer subsidy is partly borne by consumers who now purchase some or all of their needs on the free market at a higher price or whose demand is greater than the amount provided under the government scheme. Whether farmers bear a cost depends on the manner in which the government gains control of supplies. If the official price is so low that the average price (which is a weighted average on sales to government and in the free market) received by farmers is less than what the overall free market price could be in the absence of government intervention, then the cost is borne by producers. But since one aspect of the redistribution could well be increased overall demand, as people with low incomes will now exert their demand on publicly distributed supplies, the weighted average price received by farmers could well be higher, even if the official purchase price is lower than the market price that would prevail without government intervention. To the extent that the difference between the official purchase price and the official consumer price is smaller than the cost of marketing, the cost is borne by the treasury and the burden falls on those paying the additional taxes.
While, in the short run, consumers with access to the subsidized food benefit, the longer run gains of such a programme are more difficult to identify. The average price received by the farmer affects the long-run food supply depending on the price responsiveness of domestic food production. Where alternative production possibilities are available, the supply responsiveness to price is likely to be high. Too great a burden borne by the farmer in the short run thus only reduces supplies in the longer run. This can also adversely affect fulfilment of the nutrition standards. Higher consumption standards in the long run require greater production and therefore appropriate prices. But the subsidy due to the differential between the high producer price necessary to evoke a larger supply and the low consumer price necessary to make food accessible to the poor places a burden on the government budget. If this is at the expense of higher investment, which would increase employment opportunities for the poor, and which in turn would raise their incomes and improve their effective demand for food, the tradeoff is between direct subsidization of current consumption versus the potential for greater consumption in the future because of more rapid growth. If, on the other hand, the resources in the hands of the government are likely to be squandered on non-productive uses, the investment in government distribution would achieve a more useful welfare objective in the short and possibly also in the long run.
Opting for self-sufficiency
In summary, the main questions where no imports are available are:
· determination of a producer and consumer price profile to ensure matching of demand and supply;
· the sufficiency of the market mechanism or the need to set up a complementary distribution mechanism, and the cost of such a mechanism;
· the trade-off in improved consumption through a consumer subsidy as against that from investment or non-productive use of these funds by governments.
The possibility for cultivating alter native crops has important implications for pricing of food crops. The availability of non-food crops increases the elasticity of supply of food grains and too low a price for them frequently leads to diversion of land into production of non-food crops.
Fragmented markets may, however, reduce the supply responsiveness of non-food crops. If regional markets are fragmented and do not ensure timely food supplies at reasonable prices, farmers are likely to opt for self-sufficiency in food-grain production.
Cropping patterns often reflect this phenomenon and thus, beyond a point, do not respond to more favourable export crop prices. This also implies, however, that when highly profitable opportunities exist in export crop production, higher food-grain prices, unless the increase is very substantial, might not lead to diversion of land from export crops to food crops beyond that needed for domestic consumption.
The experience of some East African countries illustrates the dilemma that policy makers face in achieving objectives of export earnings and domestic food self-sufficiency simultaneously at early stages of development. As much as 80 percent of the export earnings in some East African countries are derived from agricultural exports. Healthy balances of payments therefore require incentive prices for export crop production. On the other hand, substitution possibilities exist for food crop production, and maize, sorghum, millet and cassava prices have been raised two to three times subsequent to the food crisis of 1973-74 to ensure food self-sufficiency. This has resulted in diversion of resources away from export crops leading to decline in export volumes and earnings. The required price increase to achieve a supply response has been substantial, placing an immense burden on budgetary resources. Raising productivity of land and labour through technological research on food crops would increase responsiveness to price and increase effectiveness of price as a policy instrument. Prices of some food grains have been raised in East Africa to the point of generating surpluses, substantial budgetary commitments and the need for highly subsidized exports. On the other hand, prices of crops consumed predominantly in urban areas such as rice and wheat have been maintained at extremely low levels to the point that there is little incentive to grow them domestically, leading to substantial dependence on imports.
At the cost of stagnation
The situation of subsidized exports of some food crops and the growing import dependence in the case of others illustrate the need for attention to relative crop pricing, production and trade policy if the objective of domestic food self-sufficiency is to be achieved without sacrificing overall agricultural growth. This is especially the case if the food surpluses of some crops requiring subsidized exports are not to be generated at the cost of stagnation (or decline) in traditional export crops which are contributors to fiscal revenues.
The East African case also illustrates however that the promotion of rural self-sufficiency in food, rather than increasing market dependence to ensure more responsive supply of non-food crops, is not simply a measure to ensure welfare of rural consumers but also a way of economizing on scarce national resources. Poor infrastructure, sparse populations, long distances and high cost of fuel have substantially raised costs of transport to the point that it adds as much as 100 percent to the value of grain to be distributed in many rural areas of Africa. Promoting rural self-sufficiency minimizes the massive costs of public distribution of food in rural areas such as that undertaken during the drought of the early 1970s. However, such policies can only be effective if their likely influence on levels and composition of production and marketed surpluses can be judged correctly.
The availability of imports increases the options open to governments. Under a completely open system, the domestic market price would be the same as the international price and imports would fill the gap between domestic demand and supply. However, governments have viewed the availability of imports as providing them with an additional instrument for intervention. This opportunity arises when the import price is different from the open market price with no imports. In particular, if the import price is lower as in the case of concessionary imports under PL 480, or when domestic supply is far short of demand, thus raising prices, then free movement of imports would lower the price to domestic producers. Imports can be controlled or channelled, so that producer incentives are not adversely affected, provided either that domestic demand increases or that the level of imports varies to maintain a supply level sufficient to support the particular domestic price, considered necessary for producers.
While the benefit of imports to producers depends on how imports are handled, consumers always benefit in periods of imports through increased supplies, lower prices or both. How much consumers benefit would depend on the extent of freedom or restriction on movement of imports. Similarly, while some consumers may benefit from imports channelled directly to them even in a case of restricted imports, consumers as a group may lose in comparison with a situation of free imports. Whether consumers benefit or are adversely affected in the long run depends on the producer response to consequences of imports.
Malaysian pricing and import policies during 1955-56 to 1970-71 demonstrate the situation in which varying levels of imports have been used to maintain a given producer price of rice. The domestic consumer price has usually been higher than the import price of rice, although lower than the official producer price plus the cost of distribution. Import availability has been controlled so that the total amount supplied can be sold at a price which ensures adequate return to traders without excessive accumulation of stock held by the government. Obviously, this cannot be achieved on a year-to-year basis and the adjustment is made through variations of some inventories held by the government. The amounts bought by the government are channelled into the market at the appropriate time through private traders who have to sell imported and domestically procured rice in fixed proportions. The loss on selling the rice bought from government stores has been compensated by the gains made on imported rice. Thus, to maintain a producer price in the short run, the interests of consumers have been sacrificed through restricted imports and implicit duties. The production of rice has, however, increased in Malaysia partly due to an incentive producer price. The long-term effect of a support price for consumers may thus not be so harmful.
Factors of taste
In most countries, however, food imports have been channelled to
low-income consumers who would otherwise have a relatively small demand on the
open market. Imports raise supplies and reduce prices, thus affecting producers
adversely. However, when such imports are channelled toward low-income consumers
with subsidies, it would raise overall demand and thus reduce the adverse effect
on producers. The extent of overall market price decline caused by imports
depends on the amount channelled to low-income consumers, the subsidized
consumer price and the degree of substitutability between the food supplied
through the ration and that purchased on the open market. Substitutability, in
turn, depends on factors of taste and the marginal expenditure on food grains.
Larger rations lead to higher expenditure on rationed food, reducing cash
available for other expenditures. Assuming perfect substitutability, the higher
the marginal propensity to consume food, the greater the impact of reduced cash
expenditures on market demand for food. Thus, compared to the no-import
situation, producers lose and all consumers gain, with those consumers having
access to the subsidized food gaining the most.
Whether the government gains or loses depends on the relation of the price at which it purchases the imports to the subsidized consumer price.
In India, until the mid-1960s, the Government made a profit from sales of food it received under PL 480, and used the gains to augment budgetary funds for general expenditure. In recent years, the revenues from sales of imported food to consumers in India have been used to procure food from farmers at a price higher than would be possible at the subsidized consumer price if marketing costs are taken into account. Whether this benefits producers on the whole or not depends on the weighted average price they derive by selling to the government and in the market. The market price will be higher in this case than it would be if there were no domestic procurement and if the official producer prices were higher than the import price. Secondly, the greater the share of imports in total amounts distributed by the government and the greater the price charged to consumers, the greater can be the official producer price. Therefore, producers gain most when imports are a larger proportion of amounts distributed by governments and when the consumer price is relatively high compared to the import price.
Bangladesh illustrates the case of producers benefiting from the high price of imports and the low level of domestic procurement as well as consumers benefiting from the increased supply and lower price of food. Until 1974 - 75 internal procurement had been on an average less than 10 percent of the amount given through the public distribution. For every ton of rice imported on grant in 1975-76, the surplus generated by the Government was an estimated amount take 1 350 (US$33.33) compared to the loss of take 2 565 ($63.33) made on commercial imports, and loss of take 1 630 ($40.25) per ton on rice procured internally. Concessional imports thus facilitated a substantial subsidy on the small proportion of the grain procured domestically.
In Sri Lanka, the amount procured was much higher and generally accounted for about 40 percent in the period 1966-76, though there were variations around this level.
Although profits from imports of wheat and sugar helped to subsidize domestic rice producers, their eventual disappearance combined with the high proportion of domestic procurement placed a substantial burden on the government development expenditure, which was 50 percent during 1973-76 in Sri Lanka compared to about 20 percent in Bangladesh.
The case of Sri Lanka also illustrates the difficulties a country faces when it uses revenues from imported food and partially subsidizes domestic consumers and producers. When prices of imported food increase, this places a heavy burden on the budget if subsidies are maintained. Due to the rise in import food prices in the 1970s, the cost of the subsidies quadrupled in Sri Lanka between 1970/71 and 1975. There were frequent changes during the 1960s and 1970s in the consumer price and furthermore, in Sri Lanka, the amount distributed per consumer varied to keep total costs of the system constant. During the period 1950-70 when support prices were favourable to farmers, rice output increased at about 6 percent per annum. Because of the favourable procurement price compared to market price, domestic procurement had been administratively easier in Sri Lanka. In Bangladesh and India by contrast, the procurement price has been lower than the market price and procurement has been more difficult.
To sum up, this analysis suggests that when Engel's law applies to patterns of expenditures on food, availability of imports, especially concessional imports, can provide the government with an important instrument not only to increase consumer welfare, but also to improve producer incentives, particularly if the imports are directed to low-income consumers and such income is used to support producer prices through official procurement. The larger such imports and/or the larger the difference between the consumer price and the import price, the greater the scope for supporting producer prices, thereby raising food crop production in the long run.