In Kenya, as in many other countries, once tea is picked, it passes through a value chain before it is eventually exported (Farmer to transporter to tea processor then eventually transport to the port for export). In this process, value is created and costs also accumulate. In the end, farmers are uncertain about the value that reaches them in terms of price per kg of tea.
Is there a demotivating factor here that could make farmers be apathetic to risk management?
The main risks tea farmers in Kenya face include exchange rate risk-when Kenya shilling appreciates against the dollar, the farmer gets less revenue but imported inputs and energy are cheaper. However the net gains in appreciation is always against the farmer i.e. the middle man in the value chain always ensures he or she takes a bigger portion of any benefit. On the other hand when the shilling depreciates, the farmer gets a little higher revenue but the middle man is still key.
The other risk is the market where consumers in export markets have less disposable income so consumption goes down pushing prices per kg . In all these cases, the farmer knows little of these stories because the middleman (Marketers) is in charge. This long chain is actually demotivating as the farmer is not in charge and therefore does not get value for his sweat. This is also worsened by the fact that Kenya is still a primary producer and source of raw materials. So Kenyan farmers unlike their counterparts in Cape Town where grape farmers harvest grapes and make and sell wine as opposed to selling grapes in which case the returns are higher for finished products and not raw materials.
In the Kenyan farmer’s case, the apathy exists because of the value chain limitations and this could have led some farmers to uproot tea. However, farmers who have applied strategy have become smarter and are able to mitigate some of these risks. Selection and creation of middlemen within the control of farmers have been prevalent recently and exchange and market rate risks are being reduced albeit slowly by application of sound and independent professional advise.
Hi John,
The value chain approach, if correctly adopted, will reduce the Final Delivery Cost because it reduces "risk" and "uncertainty". As my friend Juehui Shi correctly points out, both of them affect "transaction costs".
The FDC is the summon of Production Costs and Transaction Costs. Transactions Costs in the case of Agrifood Value Chains are the Costs accrued to the Transaction Unit, or interface of two production units.
Risk arises from two sources in Agriculture: 1) Climate and 2) Market. You can buy insurance for them in some countries or you can adopt actions to mitigate them. Producing in different agro climatic regions is a manner to mitigate climatic risks for an individual firm. Using options and and future contracts, is a way to mitigate market risk.
Why the Agrifood Value Chain should reduce FDC? First, by engaging continuously in business transactions, people create trust and gather information about each other, avoiding opportunism. The more transactions you complete, the more trust you'll build and parties will be willing to cooperate, because "reciprocity" can be executed. When there's no commitment over time, people will tend to behave in an opportunistic manner.
Second, as you extend the period of doing business you avoid the hazard of breaching agreements and thus affecting "asset specificity". Quality and a trade mark are specific assets in a agrifood value chain. Asset specificity is a very important issue in agrifood chains, because food is a perishable good which has "negative externalities" as health and sanitary hazards. So, there is no way you could build an agrifood value chain base on quality and product differentiation if you don not take "safeguards" against hazards related to "asset specificity"
Third, by extending the period of doing business and doing more transactions, you "create social capital". Trust among members of the chain act like glue that keep agents together.
Fourth, as Williamson correctly points out, to reduce transaction costs you should explore "private ordering", instead of legal centralism. Private ordering includes "arbitration or mediation", instead of claiming before judicial state courts. Douglass North also historically refers that the first commercial judges were private judges that apply the "Ius Mercatorum", in private courts during the Middle Age.
Fifth, the agrifood value chain should be considered a "common property" good, and so be managed taking this into account. A fair and equitable distribution of income throughout the chain is recommended to achieve a sustainable chain. There are many mechanisms to achieve this. Contracts or agreements are some instruments you can use. There is a continuum of institutional instruments in between markets and vertical integration through individual property. Joint Ventures, cooperatives and strategic alliances are some examples.
Middle men in unstable economies are the agents that mitigate risk within some markets, because they have better information about buyers and sellers. But, Middle men increase transaction costs and don't create value for the consumer. So, if the agrifood value chain is successful in reducing risk, building trust, giving contract stability and working cooperatively, there will be no need of Middle Men, or their number within the chain will be reduced.
So, finally if the Agrifood Value Chain is correctly designed, risks will be reduced, and the scope of risk management reduced. I have no specific experience in the "tea value chain", but can mention the Beef Cattle Chain and dairy value chain, which are more complex and complicated because they involve more products, inputs and more agents.
I hope this helps.
Rgds,
PS: You can see a diagram of the Institutional Agrifod Value Chain in the presentation attached.
Richard, thanks for letting me know about this Question!
Thank you very much.......... Juehui, Alejandro, and Eric......
Perhaps value chain does not discourage small farmers. They are successfully part of FPOs
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