Essential factors underlying agro-industry competitiveness in developing countries
One of the most fundamental issues a government must address in formulating policies in a global economy is to define its own role in fostering economic progress. The role of the state, at its most basic level, calls for the provision of laws that define property rights, enforce contracts and resolve disputes. In this
sense, without state action, markets could not exist. Governments can play an even larger role by investing in infrastructure that contributes to the efficient functioning of markets. In Figure 3, we identify a hierarchy of enabling needs that a government can consider in addressing its role in advancing economic progress. The nine enablers were derived from proceedings of two FAO regional workshops (Eastern Europe and Latin America) on ‘Comparative Appraisals of Enabling Environments’. The proposed hierarchy divides state actions into three levels of activities that characterize and assess enabling envi-ronments for agro-industrial enterprises. At the base of our pyramid, the state must provide essential enablers that will make possible the function of markets and enterprises. In this category we place items such as rule of law (e.g. con-tract enforcement, property rights), provision of infrastructure and a conducive trade policy. So-called important enablers are second-order activities that the state can and often does provide, such as finance, transportation and informa-tion. Finally, we define useful enablers as sufficient but not necessary condi-tions to include grades and standards, linking small farmers to formal markets and business development services. In the following section, we discuss each of the enablers starting at the bottom of the pyramid with essential enablers and moving up to important and useful enablers.
Essential enablers
Land tenure and property rights
Land is one of the most important assets for people throughout the world. It constitutes the most significant part of the assets base for the rural and urban poor – especially in developing countries where farming is the main source of livelihood. Secure land tenure and property rights are as central to peace and
Necessary conditions
Sufficient
conditions Useful enablers
Business linkages Business development services
Ease of doing business
Important enablers
Financial services Research and development
Standards and regulations
Essential enablers
Trade policy Infrastucture Land tenure and property rights
Figure 3. Hierarchy of enabling needs for agro-industry competitiveness.
stability as are rule of law, good government and economic development. From an economic standpoint, land is a ‘keystone factor’ of production for economic activities. Traditional economic theory assumes exclusive, transferable and enforceable property rights in land when considering it as a factor of produc-tion. Given these assumptions, resource endowments, preferences and tech-nology are sufficient pillars of the traditional economic theory to take into consideration. In developing countries, where these assumptions do not hold, omitting institutions, the fourth pillar, from the economic analyses could be misleading. In this case, institutional arrangements, in particular property rights, need to be specified.
Property rights are an essential class of institutional arrangement. Property as a social institution implies a system of relations between individuals. It involves rights, duties, powers, privileges, etc., of certain kinds. Thus, property rights define the use, control and transfer of assets, including land; which of them are lawfully viewed as exclusive; and who has these exclusive rights. Property rights also include enforcement mechanisms to resolve disputes and defend rights.
Quality of law enforcement is more important than mere existence of laws.
Property rights may also have both temporal and spatial dimensions. There are four basic categories of property rights in land: open access, communal prop-erty, private property and state property. Under open access, no exclusive rights are assigned, normally resulting in land degradation. In the case of communal property, exclusive rights are assigned to a group of individuals, whereas under state property the public sector is responsible for managing the land. Finally, under private property, an individual is assigned exclusive rights (Feder and Feeny, 1991).
Systems of ownership rights in land have effects on incentives to use land efficiently and to invest in land conservation and improvement. A robust land ownership system creates powerful incentives for value addition on land, espe-cially where land is scarce or contestable. Establishment and enforcement of these systems, however, are not cost-free. Legal procedures that define pro-perty rights and enforcement mechanisms may be very complex and require various types of documents and affidavits, which increase transaction costs.
These transaction costs may offset the benefits from enhanced property rights when land is abundant. As theory and empirical evidence suggest, however, when land becomes scarce or technological changes create new investment opportunities, the provision of ownership rights and enforcement mechanisms has the ability to enhance land productivity.
In developing countries, where land may be used as collateral, asymmetric information and uncertainty also play a central role in both formal and informal credit markets. Improving transparency and information on land ownership rights, in particular transfer rights, reduces uncertainty, risk aversion and the
‘moral hazard’ problems typically associated with rural credit markets.
Availability of land title and institutional mechanisms to resolve disputes affects the willingness of creditors to loan when land is used as collateral. Furthermore, existence of formal procedures for registering liens in land titles represents an important enforcement mechanism that provides additional incentives to credi-tors to make loans. A well-functioning land ownership system also facilitates
risk taking and innovation. This tends to be very important in rural areas, where people tend to be conservative and risk averse. Thus, systems of owner-ship rights that increase incentives for efficient use of land also stimulate a more efficient credit market (Feder and Feeny, 1991). As mentioned earlier, institutional arrangements to put in place systems of property rights are not cost-free. Transaction costs arising from these institutional arrangements may well offset their benefits and exclude the poor.
Infrastructure
Since the mid-1980s, evidence of the increasing concern and debate about the impact of infrastructure on economic development has surfaced in a large number of empirical studies. Infrastructure is defined to include the sectors of transportation, water and sanitation, electric power, communications and irri-gation. Those sectors represent a large portfolio of expenditures in most coun-tries, with a range from one-third to one-half of public investment, or 3–6% of GDP. Much of the formal research on the effects of infrastructure has exam-ined macroeconomic or industry-wide variables. Usually, they all find that infra-structure has a significant and positive effect on economic growth. More recent studies have approached this empirical question by using micro-level data, avoiding the problem with externalities.
The positive impacts from infrastructure are not derived from investments in physical facilities, but rather from the services generated. Four conditions are necessary to realize these impacts on economic development:
1. The basic macroeconomic climate should be conducive to an efficient allo-cation of resources.
2. Infrastructure projects can raise the returns to other resources only when a sufficient complement of other resources exists; infrastructure investments can-not create economic potential, only develop it.
3. Infrastructure activities that have the most significant and durable benefits in terms of production and consumption are those that provide the degree of reli-ability and quality of services desired by users.
4. Infrastructure is more likely to be economically efficient, and to have favour-able impacts on the environment, when it is subject to user charges.
The impact on international competitiveness is quite direct. Inadequate infrastruc-ture cripples the ability of countries and industries to engage in international trade.
Increased globalization has resulted not only from economic factors such as trade policy and the integration of financial markets, but also from major advances in communication, information technologies and transportation. Those infrastruc-ture investments are linked to productivity and to aggregate sales (Peters, 1992).
Trade policies
Trade policies play a critical role in determining industrial competitiveness through two main avenues: first, directly, through the impact on the cost of pro-duction and the price of commodities and products; and second, indirectly, through the impact on market access and on global market trends. The first of
these routes is, to some extent, within the control of national policy makers, who can strategically exploit policy instruments to direct creation of competitive advantages or to reinforce existing ones. The second is within the control of only those nations with enough global market power in specific industries, or, more commonly, is subject to the lobbying powers of those market players who con-trol the largest global market share. In either case, trade policies may facilitate increased firm-level productivity; they may also severely stunt industry growth.
Conventional assessments of the business environment address trade poli-cies to a limited extent, often focusing narrowly on the impact of tariffs and costs of trade on business profitability. In practice, however, trade control instruments may take numerous forms, ranging from direct taxes and quantity controls, to indirect instruments such as monetary policy and technical meas-ures. In the agribusiness sector, the debate is further complicated by the pres-ence of sector-specific characteristics with respect to market organization and trade patterns. We discuss here sector traits pertaining to market access, mar-ket power and preferential trade agreements. As the discussion shows, these unique characteristics of the agriculture sector call for specialized analysis meth-ods in business environment assessment.
Market access regulation, a major globalization challenge of this decade, has been shown to have, in specific cases, significant impacts on industry prof-its and growth. In the agriculture sector, non-economic (sometimes irrational) motivations for trade protection are fairly high, access of agricultural goods into major world markets is severely restricted by the presence of subsidies and world market prices are substantially distorted. In some cases, legitimate trade-monitoring measures (e.g. sanitary and phytosanitary standards) have been used to restrict entry. Market access has also been restricted through tariff escalation, an instrument employed to protect or develop one’s manufacturing industry using inexpensive raw material imports. Those forms of trade barriers in local or foreign markets are important in explaining international differences in competitiveness of specific subsectors.
Government intervention in agricultural commodity marketing has histori-cally been quite high, evidenced by the presence of state-owned commodity marketing boards and various forms of price controls (direct controls, subsidies and market supply restrictions). The agriculture sector is one of the few sectors in which producer associations are not only legal in most countries, but also prevalent and sometimes encouraged. Export boards with autonomous export authority also exist for specific products in both developed and developing economies. As a result, global and local agricultural markets are distorted by the presence of big players, with implications on business competitiveness.
However, this trend or ability is being dramatically curtailed.
The agriculture sector, apart from other natural resource sectors, is a large player in north–south preferential trade arrangements (PTAs). Notwithstanding the potential openness gains, these trade arrangements can also distort market incentives. In many cases, PTAs develop demand for specific commodities, hence foster competitiveness and industrial growth for those commodity sec-tors. Assessment of agribusiness climates, therefore, ought to highlight such trading arrangements.
Policies, tariffs and quotas for imported products
Trade and domestic support policies related to import of competing products are areas of contention between many countries, as seen in the World Trade Organization. Many WTO member states argue in favour of some reductions in trade restrictions and domestic support, but there is little consensus on the rate of reduction, commodities to be affected and special and differential treatment.
The distortions caused by these policies potentially hamper the ability of agribusi-nesses in emerging markets to be as productive and as profitable as possible.
Considering the years of policy analysis conducted by OECD and the World Bank, developed economies have had relatively high tariffs and domestic sup-port for agricultural products relative to developing economies. As the recent case of the USA versus Brazil suggests, at least in cotton markets, these poli-cies have put emerging economies like Brazil’s at a disadvantage in interna-tional markets.
A concern about global competition in light of agricultural policies is that the competition is not fair. Since some countries, especially developed coun-tries, are using trade and domestic policies to protect and/or promote their products, developing countries should do the same. The policies of developed countries may limit the opportunities of emerging economies. Retaliatory trade or domestic support policies, however, are not an ideal response to pol-icies of other countries. Given the budgets of many large, developed countries, the outcome of policy competition is that smaller developing countries will be unable to compete. Instead, the Brazilian example exemplifies an approach that developing countries should consider: if the policies of other countries are unfair, challenge them in the appropriate dispute settlement bodies. As recent events have shown, developing countries can use the WTO and other interna-tional bodies to their advantage to bring about change.
‘If you can’t beat them, join them’ is an adage that should not be followed as it relates to agricultural policy and trade. One way for developing countries to ‘join them’ is by using policies to promote domestic industries under the guise of promoting an infant industry. The old infant industry idea is simply that – old and, worse, debilitating. The infant industry argument suggests that countries could be competitive in a particular industry if only the countries were able to provide appropriate protection through trade and domestic support policies so that the infant can mature. The problem with the infant industry idea is that once policies are in place they are hard to remove. The infant rarely is considered to have grown old enough for protections to be removed. Like a child who is never allowed to mature by an overly protective parent, the infant industry struggles to become efficient and competitive in global markets because the protection of the government prevents maturation. Infant industry policies often promote and foster inefficiencies. If the infant industry produces an input for a domestic agribusiness, the inefficiencies, often seen as increased costs, will transfer to the agribusiness. For governments to create an enabling envi-ronment, they must create policies that promote efficiency through investment with technology transfers. Internal investments are longer-term goals, but in time they will generate great benefits. Competition will promote great efficien-cies, which will promote industries that thrive.
Important enablers
Norms, standards, regulations and services related to production
Among the greatest benefits and challenges of globalization is the meeting of different cultures. One expression of this meeting of cultures is the differences of opinions as they relate to norms, standards, regulations and services related to production, processing and distribution of agrifood products. Because of history, perception of national identity, religion, etc., citizens of different countries have different conceptions of food and its role in their lives. For example, Europeans who want traceability of food products back to the farm of origin have been deeply influenced by food scares. That interest is not dif-ferent from that of the US producer who produces genetically modified soy-beans and believes that, because science has generated this product and the US government has approved its use, GM soybeans are safe and beneficial.
Consumers and producers in other regions of the world do not necessarily share those perspectives. In particular, some nations’ approach to animal wel-fare and GM products are adamantly opposed by others. These generaliza-tions point to the varying views that consumers have of norms and standards.
Diversity of perspectives provides a complex environment for agro- enterprises. If all of the norms and standards were on a single continuum of relative restrictiveness, an agro-enterprise could simply produce at the higher standard and sell products to all at that higher standard. But standards and norms may not fall on a single continuum of restrictiveness. Consider an agri-food firm that distributes nationally and exports to two different countries. One country prescribes a maximum residue level that the firm’s product must sat-isfy. Another country demands that the agribusiness firm assure that the pro-duct is produced in a manner deemed equitable, as determined by the grocery store purchasing the product. Finally, on the domestic market, the agribusiness firm must achieve a high quality standard because local consumers are familiar with the product and are particular about its quality. The first problem is how to manage different standards for different customers. The achievement of one standard may be in conflict with the achievement of the others, at least in the short run. To sell the same product to all three markets may be costly, because a market may not be interested in the standards of the other markets. Above all, the cost of achieving all of the norms and standards of the three different markets may be prohibitive.
Countries change standards. Agro-enterprises must keep abreast of the various quality and hygiene standard changes. According to the WTO’s Sanitary and Phytosanitary Agreement, countries are obliged to notify exporters of changing standards that fall under the purview of that agreement via enquiry points. However, every norm and standard do not fall under the purview of the Sanitary and Phytosanitary Agreement. Additionally, firms face not only the standards of the countries that import the products, but also the standards imposed by importing firms, especially food retailers. In this complex web of standards, governments can create enabling environments to assist agricultural producers and other agrifood chain stakeholders, by providing any information
that can keep firms aware of changing standards. Governments can also pro-vide financial and technical assistance to meet the standards of importers; in addition to supporting research institutes and product marketing institutes.
Using the mechanisms of the WTO and other international organizations, gov-ernments can access resources to help firms meet new standards.
Research and development
Agricultural research has long been recognized as critical to increasing agricul-tural productivity and thereby reducing extreme poverty and hunger (Ruttan, 1975; Herdt, 2009). Equally important but less accredited is the role of agri-cultural research in establishing and maintaining the competitiveness of the agro-industrial sector. Numerous examples showcase how technology can reverse a competitive advantage bestowed by nature. For example, Israel’s agricultural exports (currently valued at approximately US$600 million annu-ally) continue to grow despite the country’s near-desert conditions. Technologies for most non-agricultural industries may be transferred between countries – usually from developed to developing countries – with minimal or no adjust-ments, thereby allowing for the much-acclaimed ‘technological leapfrog’ by developing countries. For agro-industries, however, culturally specific food consumption patterns, coupled with diverse agro-ecological conditions, may limit the scope of technology transfer. This specificity underscores the impor-tance of agricultural research in creating an enabling environment for agro-industries.
The structure and context of agricultural research have changed signifi-cantly over the last 2 decades. Table 2 shows the annual growth rate of global public agricultural research expenditures from 1976 to 1996. Three key trends are worth pointing out. First, the growth rate of agricultural research expenditures has declined globally in both developing and developed countries since the mid-1970s. Second, while developing countries’ growth rates were, on average, higher than those of developed countries, the Asia and Pacific region had the highest growth rates followed by the Middle East and North
Table 2. Annual growth rate (%) of global public agricultural research expenditures, 1976–1996. (From Pardey and Beintema, 2001.)
Region 1976–1981 1981–1986 1986–1991 1991–1996 1976–1996
Developing countries 7.0 3.9 3.9 3.6 4.5
Sub-Saharan Africa 1.7 1.4 0.5 −0.2 1.5
China 7.8 8.9 2.8 5.5 5.2
Asia and Pacific, excluding China
8.2 5.1 7.5 4.4 6.5
Latin America and the Caribbean
9.5 0.5 0.4 2.9 2.5
Middle East and North Africa 7.4 4.0 4.2 3.5 4.8
Developed countries 2.5 1.9 2.2 0.2 1.9
Total 4.5 2.9 3.0 2.0 3.2