Fertilizer in Ethiopia

Transcription

1 INTERNATIONAL FOOD POLICY RESEARCH INSTITUTE Fertilizer in Ethiopia Policies, Value Chain, and Profitability Prepared by: The IFPRI Team: Nigusie Tefera, IFPRI Gezahegn Ayele, FINTRAC Gashaw T. Abate, University of Trento, Italy Shahidur Rashid, IFPRI (Lead) for The Ethiopian Agricultural Transformation Agency First submission 6/10/2012 This version October 24, 2012 This study is conducted by IFPRI under a research grant from the Bill and Melinda Gates Foundation for analytical assistance to the Ethiopian Agricultural Transformation Agency (ATA). The study team has benefited from discussions with many officials from the Ministry of Agriculture, Regional Bureaus of Agriculture, heads of cooperative unions, and community leaders in Amhara; Oromia; Southern Nations, Nationalities, and Peoples (SNNP); and Tigray regions. The authors assume the responsibility for remaining errors.

2 CONTENTS 1. INTRODUCTION DATA AND METHODOLOGY CHARACTERIZATION OF ETHIOPIA S FERTILIZER SUB-SECTOR Evolution of fertilizer markets and policies Fertilizer use DESCRIPTION OF CURRENT FERTILIZER VALUE CHAIN Key actors and decision making process Fertilizer cost build up ECONOMICS AND EFFICIENCY OF THE FERTILIZER VALUE CHAIN Overarching issues Efficiency of procurement system Costs and margins for various actors Bargaining power and margins for primary cooperatives The economics of carry-over stocks Affordability and packaging DEMAND ESTIMATION: CURRENT PRACTICE AND POTENTIAL IMPROVEMENTS Current method of demand estimation Demand estimation using an econometric method ADOPTION, YIELD RESPONSE, AND PROFITABILITY Adoption of fertilizer Yield response Fertilizer profitability ANALYSIS OF POLICY SCENARIOS Clarifying concepts: Affordability and policy logic? Policy scenarios to enhance profitability and affordability Benefit-Cost Analysis of enhancing affordability SUMMARY OF THE KEY FINDINGS Findings from the study of the fertilizer value chain Adoption and profitability of fertilizer Policy scenarios for increasing adoption and profitability RECOMMENDATIONS Short term policy actions Longer term policy actions REFERENCES P a g e

3 LIST OF TABLES TABLE 1: LIST OF COOPERATIVE UNIONS AND PRIMARY COOPERATIVES SAMPLED FOR THE STUDY... 6 TABLE 2: REGIONAL DISTRIBUTION OF FERTILIZER USE IN ETHIOPIA, TABLE 3: CROPPED AREA ( 000 HECTARES) AND PERCENT OF CROPPED AREA FERTILIZED, BY CROP AND REGION, TABLE 4: USE OF FERTILIZER, IMPROVED SEEDS, AND THEIR COMBINATIONS MEHER SEASON 2007/ TABLE 5: FERTILIZER COST BUILD UPS (IN USD PER MT) BY REGIONS, TABLE 6: COMPARISON OF FERTILIZER PRICES (APRIL, 2012) TABLE 7: AVERAGE DISTANCE TO LOCAL MARKET PLACE FROM FARMER S RESIDENCE (IN MINUTES) TABLE 8: AISE PROCUREMENT AND INTERNATIONAL PRICE OF FERTILIZER, TABLE 9: PRIMARY COOPERATIVES MARGINS UNDER VARIOUS SCENARIOS TABLE 10: BENEFIT-COST ANALYSIS OF CARRY-OVER FERTILIZER STOCKS, TABLE 11: CEREAL CROPLAND FERTILIZED BY SEASON, THOUSANDS OF HECTARES TABLE 12: ESTIMATED CARRYOVER STOCK (IN MT) REQUIRED FOR BELG PRODUCTION SEASON TABLE 13: ETHIOPIA FERTILIZER CONSUMPTION AND FORECASTS TABLE 14: DETERMINANTS OF JOINT DECISION OF FERTILIZER AND IMPROVED SEED ADOPTION TABLE 15: MAIZE YIELD RESPONSES (QT/HA) TO FERTILIZER APPLICATION, 2008 MEHER TABLE 16: ESTIMATES OF VALUE-COST RATIOS FOR FERTILIZER USE ON MAIZE AND TEFF IN ETHIOPIA TABLE 6: VCR FOR FERTILIZER USE ON MAJOR CEREALS, BY REGION, 2009/10 CROP YEAR TABLE 18. FERTILIZER PROFITABILITY UNDER VARIOUS POLICY OPTIONS, TABLE 19. COSTS PROVIDING A 15% SUBSIDY ON FERTILIZER TABLE 20: BENEFIT-COST OF 15 % SUBSIDY ON FERTILIZER LIST OF FIGURES FIGURE 1: SHARES OF FERTILIZER IMPORTS TO ETHIOPIA BY IMPORTER CATEGORY, FIGURE 2: PRODUCT AND CASH FLOW IN THE FERTILIZER PROCUREMENT AND DISTRIBUTION PROCESS IN ETHIOPIA FIGURE 3: TRENDS IN DOMESTIC FERTILIZER MARKETING COSTS IN ETHIOPIA (RETAIL PRICE DJIBOUTI PORT PRICE), 1997 TO FIGURE 4: FERTILIZER CARRY-OVER STOCK DETERIORATED DUE TO POOR STORAGE, TIGRAY FIGURE 5: DAP QUANTITY IMPORTED, CONSUMED AND RETAIL PRICES FIGURE 6: FORECAST OF TOTAL FERTILIZER CONSUMPTION P a g e

4 1. INTRODUCTION Enhancing agricultural productivity is one of the central challenges to achieving food security and poverty reduction in sub-saharan Africa. Given very low level of inorganic fertilizer use on the continent, an obvious policy choice in addressing this challenge is to increase its use to increase crop productivity. Ethiopia has been at the forefront of countries in Africa that have pursued such a strategy. This is reflected in both the economic growth and the poverty reduction strategies that the country has pursued over the past two decades. Historical data indicate that, to a large extent, these policy initiatives have paid off. Over the two decades following the introduction of fertilizer to smallholder farming in the country under the Freedom from Hunger program in the late 1960s, national annual fertilizer use grew from 3,500 tons to about 140 thousand tons by the early 1990s when the central planning regime collapsed. Thereafter, fertilizer use increased to about 200 thousand tons by in 1994, to 400 thousand tons in 2005, and to 550 thousand tons in It is expected that the total amount of fertilizer available for application in Ethiopia in the 2012/13 cropping year will exceed one million tons. Yet, only a fraction of the country s potential for enhanced agricultural productivity has been exploited. Only 30 to 40 percent of Ethiopian smallholder farmers use fertilizer, and those that do only apply on average 37 to 40 kg per hectare, significantly below recommended rates (MoA, 2012). Moreover, there have been high carry-over stocks of fertilizer nationally, in recent years, averaging 275 thousand tons annually between 2009 and While carry-over stocks have some beneficial effects in terms of enhanced availability and as a buffer against global fertilizer price hikes, the opportunity costs of holding excessively high volumes of fertilizer from one cropping season to the next is a manifestation of inefficiency in the fertilizer value chain. The overall objective for this study is to critically assess the Ethiopian fertilizer market with respect to the policies and institutions involved and the incentive structure for participants in the fertilizer value chain. The study relies on a review of policy documents, a rapid assessment of the fertilizer value change through focus group interviews with key participants, and analysis of both time-series and representative surveys of smallholder farming households. The paper is organized as follows. Section 2 provides a brief review of the data and methodologies used, which is followed in section 4 P a g e

5 3 by a brief description on the fertilizer sub-sector in Ethiopia. Section 4 and 5 present the current fertilizer value chain and the efficiency with which this value chain operates, respectively. Section 6 examines the system through which annual fertilizer demand is estimated and suggests how these estimates might be made more accurate. Section 7 examines the profitability of fertilizer use at smallholder farm level. Various policy scenarios to enhance fertilizer profitability / affordability are analyzed in section 8. Key findings are highlighted in section 9 and the paper concludes with the recommendations emerging from the study for improving the access of smallholder farmers in Ethiopia to inorganic fertilizer. 2. DATA AND METHODOLOGY This study uses three major types of data. First, it relies on secondary data from government entities that include the Central Statistical Agency (CSA), the Ministry of Agriculture (MoA), and the Agricultural Inputs Supply Enterprise (AISE). All analyses on fertilizer prices, margins related to imports, consumption by regions, and agronomic results from agricultural experiment stations are based on data from these sources. Secondly, information on farm-level behavior with regard to fertilizer use and crop choice come from the 2008 Ethiopia Agricultural Household and Marketing Survey (EAHMS), jointly conducted by the International Food Policy Research Institute (IFPRI) and the Ethiopia Development Research Institute (EDRI). A three-stage stratified random sample was used for this survey. In the first stage, woredas from four cereal growing regions were selected from a list of woredas ordered by the degree of cereal commercialization. In the second stage, peasants associations (PA) were randomly selected from each selected woreda. In the final stage of samling, 25 households were randomly selected from a list provided by the PA office of all households in the PA. Finally, a participatory rapid assessment (PRA) were carried out in April and May A wide range of stakeholders were interviewed during these PRAs, including staff of the Agricultural Input and Marketing Directorate of MoA, AISE, and representatives of the regional Bureaus of Agriculture and Rural Development in the four main cerealgrowing regions of Ethiopia Amhara; Oromia; Southern Nations, Nationalities, and Peoples (SNNP); and Tigray. 5 P a g e

6 Table 1: List of cooperative unions and primary cooperatives sampled for the study Name of the cooperatives Coop types Regions Unions /Primary Lume Adama Union Oromia Dibandiba Primary Oromia Ejerie Primary Oromia Erer Union Oromia Merkeb Union Amhara Merawi Primary Amhara Ambassamie Primary Amhara Gozame Union Amhara Wonq Primary Amhara Menchano Union SNNP GedebaMitoma Primary SNNP SidamaElto Union SNNP KerenaAkababi Primary SNNP Enderata Union Tigray Romanat Primary Tigray Debre Genet Primary Tigray Source EAMHS-2008 Interviews were also conducted with the leadership of regional cooperative federations, cooperatives unions, and primary cooperatives. Focus group discussions were held with member farmers of primary cooperatives. The primary cooperatives and cooperative unions consulted for the study are listed in Table 1. The selection of these cooperatives was done in consultation with the regional Bureau of Agriculture or Cooperative Development of the four regions. The selection of unions was purposive, taking into consideration a union s experience in fertilizer marketing, credit administration, and the range of services that the union offers its members. In selecting primary cooperatives, a major consideration was the contrast between remote and well-connected locations. Thus, under each union, we selected one primary cooperatives that was remote from the union headquarters and one that was situated close by. In general, the primary cooperatives located nearby the union were more advanced in the services that they offered their members and had large storage facilities of high quality. By contrast, the remote primary cooperatives were found at least 30 kilometers away from the cooperative union of which they were a member, provided more rudimentary services to their members, and had no or limited storage capacity (less than 5,000 quintals), with storage structure constructed of traditional building materials. Despite our attempts, we were able to interview only nine such primary cooperatives. 6 P a g e

7 3. CHARACTERIZATION OF ETHIOPIA S FERTILIZER SUB-SECTOR 3.1. Evolution of fertilizer markets and policies Fertilizer was first introduced to Ethiopia under the Freedom from Hunger program of the FAO in the late 1960s. Despite successful field demonstrations and several deliberate policy attempts to increase fertilizer use in the late 1970s and early 1980s, fertilizer application levels remained very low. At the national level, total imports of fertilizer increased from about 3,500 tons in the early 1970s to 34,000 tons in 1985/86. With the introduction of the Peasant Agricultural Development Program (PADEP) in 1986, increasing numbers of farmers started using fertilizer and total imports reached about 145,000 tons by the time the central planning regime of the Derg collapsed in Since 1992, there have been a number of policy shifts that have shaped and re-shaped fertilizer supply in the country. These policy shifts can be grouped into five phases: (i) complete government control ( ), (ii) partial liberalization, with private sector entry and elimination of subsidies ( ), (iii) competition among public, private, and regional holding companies ( ), (iv) exit of private companies ( ), and (v) since 2007, the exit of regional holding companies and the entry of farmers cooperatives as the distribution channel, with AISE as the sole fertilizer importer since From the earliest days of field-level fertilizer demonstration plots to the collapse of central planning in 1991, fertilizer markets in Ethiopia were controlled by the government through its parastatal input marketing agency, called Agricultural Inputs Supply Corporation (AISCO), which was re-named as Agricultural Inputs Supply Enterprise (AISE) in The AISCO had its own marketing network throughout the country, which included marketing centers and service cooperatives for distributing fertilizers to the farmers. As in many other African countries, AISCO controlled marketing was inefficient and expensive, involving government subsidies to cover its large administrative costs. Through the New Marketing System, introduced in 1992 as part of its overall market liberalization policies, the transitional government articulated its desire to end government monopolies. However, private sector entry into the fertilizer sub-sector in Ethiopia was slow in the early years of liberalization. Only one private company, Ethiopian Amalgamated Limited, actively participated in fertilizer imports and 7 P a g e

8 distribution until Subsequently, three additional companies entered the market and actively tried to develop their own fertilizer marketing channels. At around this time, regional government companies, mostly affiliated to the ruling party, began fertilizer business. The first such company to enter was Ambassel Trading PLC, owned by the Amhara regional government. Until 1995, Ambassel worked mainly as an agent of the AISE. However, it started importing fertilizer in 1996 on its own, while continuing to serve as the sole distributor and wholesaler of AISE in the Amhara region. Inspired by Ambassel Trading, other regional governments launched their own companies Dinsho in Oromia, Wondo in SNNP, and Guna in Tigray. By 1998, the holding companies of all four major grain-producing regions were importing and distributing fertilizers alongside AISE and four private fertilizer companies. However, this state of competition in fertilizer supply between government, private, and regional holding companies was short lived. The share of total fertilizer imported by private companies declined from 28 percent in 1996 to zero in 2002 (Figure 1). Available studies argue that the indirect support of regional governments to their holding companies made it difficult for the private sector to compete effectively for market share and to operate profitably (DSA 2006; Byerlee et al. 2007). One of the early studies of the fertilizer value chain in Ethiopia provides specific examples of how holding companies were supported by government policies (Demeke et al., 1998). In Amhara, Ambassel enjoyed a larger market share due to its policy privileges of being the sole agent of AISE and due to the fact that farmers receiving credit for fertilizer were not allowed to purchase from private companies. However, counter-arguments have been made against this position. The fertilizer market in Ethiopia is thin and, as such, the opportunity costs for private sector capital investing in the fertilizer market can be high. Consequently, the private sector might find it profitable to invest elsewhere in rapidly expanding Ethiopian economy (Rashid and Ayele, 2009). 8 P a g e

9 Percentage of Imports Figure 1: Shares of fertilizer imports to Ethiopia by importer category, % 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% Public Holdings Private Cooperativs Source: AISCO data While cooperatives have been involved in fertilizer distribution in Ethiopia for a long time, they became dominant from Starting in 2006, cooperative unions were provided with credit to import and distribute fertilizers. Their share in the fertilizer market grew rapidly, reaching 75 percent of total imports (about 300 thousand tons) in 2007/08 (Figure 1). However, the situation took a different turn in 2008 when Ethiopia was faced with soaring inflation and balance of payment problems. Government requested financial support from its development partners to import fertilizer, receiving USD 250 million from the World Bank and separate funding from the African Development Bank worth 100,000 tons of fertilizer. Government and the two international development banks agreed to coordinate all fertilizer imports through AISE. This policy decision resulted in the withdrawal of all holding companies from fertilizer marketing, except Wondo which imports through AISE (World Bank, 2009) Fertilizer use Only two types of fertilizer, urea (46:0:0 1 ) and Diammonium Phosphate (DAP 18:46:0), are used in Ethiopia. Both have shown steady growth in use by farmers over time. There are three distinct patterns of use of fertilizer in Ethiopia. First, the intensity 1 Nutrient composition of the fertilizer by weight %N : %P 2 O 5 : %K P a g e

10 and prevalence of farmers use of fertilizer varies across regions. Between 2005 and 2010, Oromia and Amhara accounted for 70 percent of total fertilizer consumption, with Oromia alone accounting for about 40 percent (Table 2). Of the other two major cereal growing regions, the shares of SNNP and Tigray were only 10 and 3 percent, respectively. Table 2: Regional distribution of fertilizer use in Ethiopia, Regions Weighted (...percent... ) average Amhara Tigray SNNPR Oromia Other regions Total fertilizer (000 mt) Source: Based on MoARD data Second, most fertilizer is used in cereal production, particularly maize, wheat, and teff. According to CSA estimates, about 90 percent of fertilizers are applied to these three major cereal crops. As shown in Table 3, in absolute term, more teff area appears to receive fertilizer than do the other cereal crops. For instance, in 2010/11 about 385 thousand hectare of land allocated to teff in Amhara region were fertilized (38.2 percent of 1.01 million ha), compared to only about 241 and 243 thousand hectares of maize and wheat, respectively. The other regions show the same patterns.. 10 P a g e

11 Table 3: Cropped area ( 000 hectares) and percent of cropped area fertilized, by crop and region, Regions Crops 2000/ / /11 Average Area Coverage Area Coverage Area Coverage Area Coverage Maize Amhara Wheat Teff , , Others 1, , , , Maize , Oromiya Wheat Teff , , , Others , , , Maize SNNP Wheat Teff Others Maize Other Wheat Teff Others Source: Authors calculation based on CSA data Finally, relative to the expansion in cultivated area, in most regions the proportions of land under fertilizer use has declined between 2000/01 and 2010/11. For example, in the case of maize in Oromia, almost 383,000 ha (44 percent of the total area in maize of 871,000 ha) were fertilized in 2000/01. However, in 2010/11, while the total area under maize had almost tripled to 1.11 million ha, only 22.5 percent (or about 243,000 ha) of this area received fertilizer. If Oromia farmers had maintained the same proportion of fertilized maize area in 2010/11 as they did in 2000/01, a further 250,000 ha of maize would have been fertilized across the region. Assuming that fertilizer application on maize generates an extra metric ton (mt) of grain, Oromia alone would have contributed an additional 250,000 tons of maize to the nation s food basket in 2010/11. The overall impact of this additional production on the national economy would have been even larger, as it would have contributed to increased economic activities through multiplier effects, e.g., value addition and employment generation in processing and marketing. Generally, returns to fertilizer are high only if applied in conjunction with improved seed varieties. From a productivity enhancement point of view, it is important to examine whether fertilizer application on cereals in Ethiopia is combined with 11 P a g e

12 improved seed use. Results from an assessement of this association using the 2008 Ethiopian Agricltural Marketing Household Survey (EAMHS) are presented in Table 4. Table 4: Use of fertilizer, improved seeds, and their combinations Meher season 2007/08 Teff Barley Wheat Maize Sorghum All cereals ( percent of households ) Fertilizer use All regions Tigray Amhara Oromia SNNP Improved seed use All regions Tigray Amhara Oromia SNNP Both fertilizer and improved seed All regions Tigray Amhara Oromia SNNP Source: Authors calculation using EAMHS, 2008 When it comes to use of improved seeds by Ethiopian farmers, the EAMHS estimates are not very encouraging. Except Amhara region and only in case of maize, the use of modern seed is very limited in Ethiopia. However, as Spielman et al. (2011) point out, these numbers somewhat mask the actual use of improved seed since the use of open-pollinated varieties (OPVs) and recycling of saved improved seeds by the farmers is not captured in these data. In an ideal farming condition, farmers should use fertilizer and improved seeds together in order to achieve the optimal returns. However, our estimates suggest that this is not the case in Ethiopia. Use of saved seeds and OPVs notwithstanding, only a small fraction of farmers use modern seed. A more encouraging statistic that can be derived from Table 4 is that for those few farmers who do use improved seed varieties, they generally also use fertilizer. At the national level, only 6.6 percent of farmers are estimated to have used these two inputs together. However, of the 7.4 percent of farmers who use improved seed, 89 percent of them combine the use of that seed with fertilizer. 12 P a g e

13 4. DESCRIPTION OF CURRENT FERTILIZER VALUE CHAIN 4.1. Key actors and decision making process The fertilizer value chain in Ethiopia involves numerous actors who perform three broad set of activities: (i) import planning, (ii) import execution, and (iii) marketing and distribution. Import planning begins with an assessment of fertilizer demand for the next agricultural year at local level. The woreda agricultural bureau collates data on expected local fertilizer demand that is provided by the agricultural extension workers who work at kebele level, the Development Agents (DAs). After aggregating the local data to generate woreda-level demand estimates, the woreda bureau sends the estimates to the zonal offices. The zonal offices then aggregate all of the data from the woredas in the zone and send these estimates to the Regional Bureau of Agriculture, who replicates the aggregation to estimate regional fertilizer demand for the coming year. In some regions, the demand assessment by the Regional Bureaus of Agriculture also considers the production targets set in the Growth and Transformation Programme (GTP) for 2010/11 to 2014/15. In addition, primary cooperatives also conduct assessment of fertilizer demand through their members. These estimates are arguably considered by the Regional Bureau in making final demand assessment. Finally, the Ministry of Agriculture aggregates the regional estimates to come up with the national demand for fertilizer expected in the coming agricultural year. Once national demand is estimated, the net import requirement is calculated by deducting the carry-over stocks from the previous year from the estimated demand for the coming year. Thereafter, the Ministry prepares tender documents and invites a consortium of institutions to review and approve the details of the request for tenders, including the foreign exchange requirements. This consortium includes the Ministry of Finance and Economic Development (MoFED), the National Bank of Ethiopia (NBE), the Commercial Bank of Ethiopia (CBE) and the Quality & Standards Authority of Ethiopia. These institutions will also be involved in the opening and evaluation of the tenders offered by fertilizer suppliers to provide the fertilizer required. Since 2008, the execution of the fertilizer importation process has been carried out exclusively by AISE. The logic for giving monopoly power to AISE is to take advantage of 13 P a g e

14 economies of scale importing in bulk gives the buyer more bargaining power to negotiate lower prices. In addition, importing in bulk arguably can reduce transaction costs and make value chain management more efficient. However, this was not the case in the past. Following market liberalization, private companies, regional holding companies (e.g., Ambassel, Guna, Wondo, and Dinsho) and cooperative unions used to import and distribute fertilizer alongside the AISE. Following the changes in 2008, the role of unions is now limited only to fertilizer distribution from central warehouses to primary cooperatives. This study found mixed views about giving monopoly power to the AISE. While the centralized procurement system has proved useful with respect to ensuring the allocation of foreign exchange and timely fertilizer procurement (World Bank, 2011), many cooperative leaders we visited thought that centralized importing through AISE has increased fertilizer costs for their members. In 2011, several regional cooperative unions requested the federal government to allow them to import fertilizer through the formation of regional federation of cooperative unions, with coordination from the Ministry of Agriculture. The ministry, however, decided that fertilizer importation should be undertaken by a single agent instead of three or more cooperative union federations. As a result, AISE again was designated as the sole importer of fertilizer on behalf of the cooperative unions Once imported fertilizer arrives at Djibouti port, AISE ships the consignment to their central warehouses and informs the cooperative unions to get their supplies. The cooperative unions determine where to store the fertilizer depending on their available storage capacity. The preferred delivery option is for AISE-contracted transporters to send the fertilizer directly from the Djibouti port to the warehouses of the cooperative unions. If the unions do not have storage capacity or are not ready to receive the shipments directly from the port, AISE stocks the fertilizer in its central warehouses until the cooperative unions can collect the stocks. In all regions, priority in fertilizer distribution is given to areas where the cropping seasons starts earlier and also to zones which will be difficult to reach once the rain have started. Once the fertilizer is in their warehouses, the cooperative unions distribute to the primary cooperatives, where farmers have direct access to the fertilizer to purchase or, in some cases, obtain on credit terms. In areas of the country where there are no 14 P a g e

15 cooperative unions, AISE takes responsibility to deliver directly to the primary cooperatives, acting as the wholesaler and distributor in place of the cooperative unions. The regional Bureaus of Agriculture play an important role in the marketing and distribution of fertilizers. This includes facilitating credit guarantees for the unions to obtain fertilizer stocks, providing transportation facilities if needed, and ensuring ontime delivery of fertilizer. The bureaus are also involved in the determination of prices and margins. To the AISE initial prices for fertilizer at their warehouses, the BoAs add margins for both the unions and the primary cooperatives. In addition to these margins, loading and unloading costs, warehouse rents, bank interest rates, and other administrative costs are also added to determine the price of fertilizer at the cooperative union stage of the value chain and the retail prices at which the fertilizer is sold at the primary cooperatives. The price determination in each region is made by the BoAs in consultation with the cooperative unions. In Tigray and SNNP, price determination is done twice in a year for the Meher and Belg seasons, respectively. The Meher season prices are set by taking into account the weighted average prices of carry-over stock, compensated for storage and other administrative costs, and the price of any new imports. The Belg season prices (September-April) are set using the Meher season price plus bank interest and administrative costs related to holding in storage the fertilizer stock from the Meher to the Belg season. 15 P a g e

16 Commercial Farms Regional Agricultural Bureaus Figure 2: Product and cash flow in the fertilizer procurement and distribution process in Ethiopia Product Flow International Suppliers (Djibouti Port) Cash Flow International Suppliers AISE Agricultural Inputs Supply Enterprise (AISE) Commercial Bank of Ethiopia (CBE) (Loans for cooperative unions) Coop Unions or Fedrations (Selected by AISE) CASH Cooperatives Unions Cooperative CASH Primary Cooperatives Primary Cooperatives Farmers CASH Supplied on cash or credit Farmers Source: Authors calculation based on ASIE The product and financial flows involved with fertilizer procurement and distribution in Ethiopia involves a number of actors (Figure 2). In order to obtain fertilizer through AISE, regional governments offer credit guarantees to cooperative unions in their region. The payments to AISE are processed in two installments: (i) during opening of Letter of Credit (LC) with the bank, and (ii) upon arrival of the fertilizer at the Djibouti port. The primary cooperatives receive fertilizer on credit from the unions and sell it on a cash basis to smallholder farmers in most areas of the country. However, in remote and food insecure areas of Amhara and SNNP, the fertilizer is 16 P a g e

17 provided to farmers by the primary cooperatives on the basis of a 50 percent down payment, with the balance of the cost to be paid at harvest. The financial transactions related to fertilizer distribution and marketing involve a flow of funds from the primary cooperative to the cooperative unions to the regional governments. This chain of financial transactions results in some degree of cash hoarding at various levels. Moreover, the process is characterized by a lack of transparency and risk of uncollected funds or financial losses Fertilizer cost build up Compared to developing countries in Asia, fertilizer is expensive in Africa. This is mainly because the costs of ocean freight in Asia is lower due to economies of scale. Besides, the domestic transport costs are much higher in Africa than in Asian countries. At the country level, a national government can do very little to influence the ocean freight, but it can directly influence domestic transportation costs through improvement in infrastructure, institutions, and policy environment. Figure 3: Trends in domestic fertilizer marketing costs in Ethiopia (retail price Djibouti port price), 1997 to 2008 Source: Authors calculation based on ASIE Domestic marketing costs for fertilizer, measured as the difference between the weighted retail price across several market centers in Ethiopia and the Djibouti port price, are presented in Figure 3. We see that, consistent with overall improvement in transportation infrastructure and policy reforms, such as the elimination of some 17 P a g e

18 transport-related taxes and road blocks, in recent years, Ethiopia has been successful in reducing domestic marketing costs for fertilizer. This trend is consistent with reductions in domestic grain marketing costs. Comparing three rounds of traders survey data from 1996, 2002, and 2008, Rashid and Negassa (2011) demonstrate that transactions costs per mt of grain (from purchase from farmer to sale to consumer) has declined from 210 Birr in 1996 to 90 Birr in 2008, a reduction in real terms of almost 60 percent. However, there is saddle trend in Figure 3 that is inconsistent with an overall trend in lowered transport costs. We see a gradual increase in the differential between landed cost of fertilizer at Djibouti and the retail price since Two possible explanations for this are an opening of fertilizer retail sales centers in more remote areas leading to higher average retail prices, and, secondly, the withdrawal of the private sector from fertilizer supply enabled the regional holding companies to make super-normal profits. However, we have no empirical evidence on either of these two hypotheses. Figure 3 provides an overview of changes in the aggregate transaction costs in fertilizer distribution and marketing in Ethiopia over time, but tells little about the various components of these costs. The study collected such information from all four cereal growing regions in the country as well as used secondary data from the World Bank and the Fertilizer Week publication. The results are presented in Table 5, showing 26 elements of costs in the value chain for both DAP and urea. A starting point for analyzing such a table of cost build up along the fertilizer value chain is to assess whether there may be room for improving value chain efficiency from import execution to farm gate. AISE utilizes a CFR (Cost & Freight) contract agreement, which sees a transfer of ownership of product when it is loaded on trucks at Djibouti port. However, when converted to Ethiopian Birr, CFR price becomes higher because a pre-fixed higher exchange rate is applied. For an illustration, consider the case of DAP. The CFR cost for DAP is US$701 per ton, which is equivalent to ETB 12,201 at the prevailing exchange rate of 17.4 ETB to one US dollar. However, AISE applied a pre-fixed exchange rate of 18 ETB to a dollar. Therefore, the actual price of DAP in local currency calculated for the cooperative unions was ETB12,262 per metric ton, implying that there was an implicit premium of US$24.2 per ton for DAP, which eventually farmers had to pay. This cost is equivalent to two percent of the retail price that farmers has to pay. Similarly, the difference for Urea was US$19.2 per metric tons (Table 5). 18 P a g e

19 Moreover, since the country imported 888 thousand mt of fertilizer for the 2012 cropping season, this exchange rate differential resulted in an increase of total cost of fertilizer, on average, by US$19.2 million (888,000mt x US$21.7/mt) 2. Table 5: Fertilizer cost build ups (in USD per MT) by regions, 2012 No. Cost element Tigray Amhara Oromia SNNP Dap Urea Dap Urea Dap Urea Dap Urea CFR ex Djibouti CFR local price due to pre-fixed exchange rates Margin due exchange rate differentials Insurance Clearing and transit Bank charge/ commission for LC Inspection and bagging (0.2 % on c. & f.) Re-bagging Overhead cost/profit margin for AISE Bank interest Spoilage Transport (Djibouti to Central Warehouse) AISE Price at Central warehouse Unloading & loading at central warehouse Warehouse rents Re-bagging Profit margins for Federation/union*** Profit margin for Unions Bank service charge Receipt printing Administrative cost Insurance Inventory Union Price Margin (subsidy due to carryover stock) (24.4) (31.5) (7.1) (24.0) 22 Transport cost from Central warehouse to cooperatives (per ton) Profit margin for primary cooperatives Primary cooperatives administrative cost Unloading at the primary cooperatives Bank interest (4.01% ) for 4 months IPP at primary cooperatives Farmers purchase at price Source: Authors compilation from the AISE, Cooperative Unions, and MoARD AISE has the responsibility to transport fertilizer from Djibouti to 33 central warehouses located strategically across Ethiopia. The cost build-up table, however, is based on the costs of transport to specific central warehouses that manage relatively larger volumes of fertilizer in shipping it on to delegated cooperative unions in the four regions for Amhara region, Adama/Nazret and Bahir Dar; for Oromia, Addis Ababa, 2 US$ 21.7/mt is margin due to exchange rate differentials i.e.the average of US$ 24.2/mt and US$19.2/mt for DAP and Urea, respectively. 19 P a g e

20 Adama/Nazret, Mojo, and Debre Zeit; for SNNP, Adama/Nazret and Shashemene; and for Tigray, Mekele. The AISE prices at those warehouses are based on the CFR initial prices; plus transport costs that vary according to distance from Djibouti; costs of insurance, clearing, and transit, bank commissions, inspection fees, bagging and re-bagging, and unloading at the Central warehouse; and the AISE overhead and operational costs. AISE have contracts with four major trucking companies to long haul fertilizer from Djibouti to its warehouses across Ethiopia. To avoid demurrage costs, the trucking companies are required to meet a fertilizer discharge rate off of the ships of 2000 tons per day. This means 50 to 65 trucks are required daily when a fertilizer shipment is being offloaded. Distances from Djibouti to the major central warehouses range from 574 km to 1180 km and involve transport costs of USD to USD per mt. The domestic freight cost in Ethiopia of about USD 0.06 per mt per kilometer, is relatively competitive and in line with freight costs in most African countries. However, the availability of trucks is insufficient and transport becomes an increasing problem as the volume of fertilizer import rises. Trucks most often unload at Adama/Nazret or nearby warehouses, but return to Djibouti empty. This is done to maintain on-time ship offloading and ensure that demurrage charges are not incurred. Generally, warehouses further up-country, such as Bahir Dar and Mekele, will receive their fertilizer from the Adama/Nazret warehouse. The fertilizer is offloaded there in order to keep the trucks working on moving the product off the ship, and only once the ship is empty are the trucks then used to move the fertilizer from Adama/Nazret up-country. This adds extra costs for unloading and reloading, as well as warehouse management. As discussed earlier, the regional Bureaus of Agriculture determine fertilizer prices for cooperative unions and primary cooperatives based on the ex-aise warehouse prices and whether or not a subsidy can be applied due to carry-over stocks in the region that were acquired at a lower cost. Additional costs added in moving the fertilizer from the AISE warehouse to the cooperative unions and on to the primary cooperatives include transport, the profit margins and administrative costs for cooperatives, bank interest, warehouse rent, and loading and unloading at cooperatives stores. Regions with sufficient carry-over stock are able to lower prices for end users. In Oromia, for instance, the price per mt of DAP was reduced by USD 24.4 and that of urea by USD 31.5, while in Amhara, the price of DAP was reduced by USD 7.1 and that of urea 20 P a g e

21 by USD For the 2012 cropping season, the average DAP retail prices to the farmers were about US$ 861 in Amhara, US$ 886, in Tigray, US$ 863 in Oromia; and US$ 876 in SNNP. For urea, the retail prices were about US$ 698 in Amhara, US$ 688 in Oromia, US$ 730 in Tigray and about US$ 720 in SNNP. These prices are only for products purchased at the start of the season that is, for farmers who make full cash payment at the primary cooperative. Farmers who obtain fertilizer on credit are charged bank interest, which is recouped at harvest time when the crop is sold to cooperatives or markets and the debt on the fertilizer purchase can be repaid. The retail prices are higher in SNNP region due to a larger portion of its stocks being acquired from an import shipment contract agreement made in September Table 6: Comparison of fertilizer prices (April, 2012) Countries DAP Urea Ethiopia price as % of its neighbors DAP Urea Ethiopia Kenya 1, Malawi -- 1, Rwanda 1, Tanzania Source: Constructed using IFDC database For DAP, the difference between the landed costs (CFR Djibouti) and the farm gate price is 22 percent for Amhara, 20 percent for Oromia and SNNP, and 19 percent for Tigray. This price spread is remarkably competitive given that much of the difference between the CFR price and the farm gate price is due to transportation cost (42-52 percent), bank fees (20-25 percent), and other costs (10-12 percent). For example, consider the case of DAP in Amhara. Here the difference between the farm gate price and the CFR price is USD 160 per mt, of which more than USD 140 is for transport and banking fees. The remainder, USD 20 or about 2 percent of the farm gate price goes to cooperatives to cover administrative, unloading, and loading costs, and margins. If the primary cooperatives are to operate according to a business model, this level of margin and operating costs is very low. A comparison of the breakdown of average fertilizer prices in neighboring countries sheds some light on this issue. The average retail prices in Ethiopia are 10 to 30 percent lower than the average national prices in the neighboring countries. Average DAP and urea prices in Ethiopia are about 15 percent lower than those of Kenya, more than 30 percent lower for urea than those of Malawi, P a g e

22 to 12 percent lower than those of Rwanda, and 23 percent lower for DAP and 29 percent lower for urea than comparable prices in Tanzania Table 6. What do these comparative numbers mean? There is no doubt that transportation costs in Ethiopia have come down over the past decade. However, additional reasons are needed to explain why, for example, Ethiopia prices are 15 percent lower than Kenya, a country that is better integrated than Ethiopia to the rest of the world through its sea port. Two other key reasons for the lower fertilizer retail prices in Ethiopia are the low margins for the primary cooperatives and the low bank interest rates (4 percent as opposed to 12 percent lending rates elsewhere). Without these factors, retail prices in Ethiopia would perhaps have been closer to those of Kenya. Yet, farmers in the focus group discussions underscored that most farmers could not afford fertilizer at prevailing prices. According to them, fertilizer prices have been increasing since 2009, but fertilizer credit is very limited and cash sales are openly promoted by cooperatives and agriculture officials. However, this perception varies across regions. In Oromia and Tigray, officially there is no fertilizer credit for farmers, but some institutions, including microfinance institutions, provide partial credit to assist farmers in purchasing fertilizer. For farmers in remote areas and food insecure zones in Amhara and SNNP regions, they were able to acquire fertilizer on the basis of a 50 percent down payment arrangement. Moreover, in some woredas, regional governments provided a 50 percent down payment arrangement when farmers could not afford to buy the quantity they desired on time. Such arrangements, however, result overall in delays in farmers purchasing fertilizer, including for those who could afford to do so. This is because of the uncertainty about whether such fertilizer purchase support schemes will be in place or not for farmers in an area. Consequently, farmers hope that a credit-based solution will be established by the region or cooperative unions, and delay purchasing their fertilizer until it is clear that no such solutions will be forthcoming. Such delays can affect productivity, as early planting is essential for maximizing the yield of some crops. Nonetheless, the results of our focus group interviews suggest that a majority of farmers are in favor of cash purchases if they can afford to do so. The Development Agents and other extension personnel who work closely with farmers express a different view, being of the opinion that the lack of credit has a serious effect on effective demand 22 P a g e

23 for fertilizer, especially for those farmers who cannot afford to pay in cash (DSA, 2010). Using data from a panel survey of 240 households, Matsumoto and Yamano (2010) showed that credit access increased inorganic fertilizer use by 35 kilogram per household, although the increased use of fertilizer had a limited impact on crops yield due to low use of high-yielding crop varieties. Moreover, using data from the 2008 IFPRI-EDRI household survey Tefera et al. (2012) found that access to credit had a positive and significant impact on the rate of fertilizer application for teff, wheat, and maize. Another commonly cited concern is that the geographic coverage of the primary cooperatives is limited and farmers often need to travel long distance to purchase fertilizer. While our focus group interviews were not nationally representative, our results suggest that this assertion in not true. The participants in our focus group discussion were asked to provide us with rough estimate of distance between their primary cooperatives and their residences. Understandably, a common answer was that the distance varies, but in most cases farmers live within the radius of 5 to 7 kilometers of the cooperative warehouses. This distance for most cooperatives is expected to reduce in the future as they plan to construct central distribution centers for 3 to 4 kebeles. Farmers also reported that they often use draught animals for transporting fertilizer from the primary cooperative to their farms, which costs on average about USD 5.7 to 8.6 per mt. This information from the focus group interviews is triangulated using the 2008 IFPRI-EDRI household survey data. The survey did not collect data on distance to the primary cooperative specifically, but asked for the travel time (in minutes) to the nearest local market from the farming household s residence. Since almost all local markets have cooperatives, this information can be used as a good proxy on physical access to primary cooperatives providing fertilizer. Table 7 presents the average distance to the nearest local market (in minutes). These market places are found within approximately 0 to 6 hours waking distance. Assuming that an able-bodied person can walk 5-6 km per hour, most of the primary cooperatives are found within an average distance of 4 to 6 kilometers. 23 P a g e

24 Table 7: Average distance to local market place from farmer s residence (in minutes) Region Mean Travel time (min) Estimated distance (km) Standard deviation Mean Standard deviation Amhara Oromia SNNP Tigray Source: 2008 IFPRI-EDRI household survey 5. ECONOMICS AND EFFICIENCY OF THE FERTILIZER VALUE CHAIN Four aspects of the fertilizer value chain in Ethiopia require special discussion. These are: (i) the efficiency of the procurement system, (ii) costs and margins, (iii) the bargaining power of the actors on price, (iv) the economics of carry-over stocks, and (v) packaging and affordability. Each of these issues is elaborated below Overarching issues 3 Two overarching issues were identified by a 2009 World Bank report that assessed the performance of a US$ 250 million project fund awarded to the GOE for fertilizer imports. The first of these is foreign exchange. The report argues that in countries that have administered foreign exchange, a dedicated foreign exchange facility for fertilizer imports is needed to ensure adequate and timely supply of fertilizers products. The report makes the claim that during the periods of foreign exchange shortages, allocation of foreign exchange for agricultural purposes receives lower priority and fertilizer import becomes a sacrificial goat. Foreign exchange for food and fuel imports as well as imports of raw materials for industrial sector receives higher priority. The availability of foreign exchange guaranteed by the project helped AISE in importing adequate and timely supply of fertilizers products during The other issue has to do with the import logistics. With the economy growing fast, there will be increasing demand for improved logistics for international trade. Exclusive reliance on the Djibouti port implies that executing large scale imports will pose serious challenges to the country. This was clearly demonstrated during the fertilizer imports 3 This subsection highlights the findings from a World Bank (2009) study 24 P a g e

25 with the World Bank financing in Under this grant, a tender was floated in September 2008 and the first shipment of 270,000 tons of fertilizer products arrived in January A second set of tenders were issued in November 2008 to import another 240,000 tons of fertilizer products. This created severe congestions at the Djibouti port. The WFP complained that fertilizer imports under the project caused congestion at the port and created delays for emergency food assistance distribution. However, a 2009 World Bank report suggest that unusually high import of 250,000 tons of wheat for price stabilization program plus import of other commodities (sugar, cement) added more to port congestion than fertilizer imports did (World Bank, 2009). In addition to congestion at the port, there were also problems with the availability of trucks to transport fertilizer from to port to the central warehouses. The government had to order extra trucks, including military trucks, to ensure timely delivery of fertilizer to the regional and central warehouses Efficiency of procurement system A comprehensive assessment of the efficiency of the fertilizer procurement system would require more data than was available during the study period. However, detailed data on AISE transactions for the cropping season provides some indications of efficiency. This can be done by assessing two important aspects of procurement, process efficiency and price competitiveness. The available evidence suggests that the AISE tendering and supplier selection process were quite efficient in The request for tenders attracted offers from a range of bidders, which in itself reflects the willingness of international fertilizer suppliers to work with the government of Ethiopia. If the process was not competitive and transparent, there would have been limited interest from bidders. The procurement process also has been efficient in outsourcing services for shipping, port management, bagging, and loading on trucks, as compared with other East African countries. 4 However, when it comes to enjoying economies of scale with bulk purchase, the AISE does not appear to have succeeded. In October 2011, AISE imported 350,000 tons of DAP at a CRF Djibouti price of USD 733 per mt. In the week this contract was finalized, the world price (FOB) was USD 631 per mt. The difference between the FOB and CRF 4 We are grateful to Paul McPeace for providing this information. The Study team did no triangulate these findigs 25 P a g e

26 Djibouti price of USD 102 per mt is the costs of shipping from the export port to Djibouti. For the remaining import contracts, this difference between the FOB and CRF Djibouti price ranged from USD 99 per mt for October 2011 urea imports to USD 131 per mt for February 2012 DAP imports (Table 8). According to the fertilizer publication, Fertilizer Weekly, the estimated global average difference between FOB and CRF prices is USD 95 per mt. Based on this estimate, we concluded that AISE did not enjoy economies of scale for bulk imports during the 2011/12 fertilizer procurement period. Table 8: AISE procurement and international price of fertilizer, Agreement months Quantity imported (MT)/ a World price (US$/MT)/ b AISE ex Djibouti price (US$/mt) Average ASIE ex Djibouti (US$/mt) Difference between AISE and World price DAP Oct , Feb , Urea Oct , Jan , Sources: Authors compilation /a: Ministry of Agriculture and Rural Development/Agricultural Input Supply Enterprise /b: World Bank commodity prices, year 2012; Given Fertilizer Week s estimates of the average costs of shipping fertilizer (USD 95/mt), Ethiopia may well have paid a premium for buying in bulk. The weighted average price for the DAP transactions (350,000 mt in Oct 2011 and 210,000 mt in Feb 2012) were USD 588 at world price (FOB) and USD 701 (CRF Djibouti), with the difference between the two being USD 113. This means that AISE paid USD 18 per mt more than the market price, which translates to about USD 10 million for the two DAP transactions. Clearly, there are a number of factors e.g., origination ports, timing of purchase, terms of payments, etc. than can influence the pricing and hence the difference between FOB and CFR prices. Nontheless, it is it is worth noting for enhancing procurement efficiency in future AISE transactions. Other evidence that bulk purchase did not generate a price advantage is the fact that AISE had to cancel the first tender sought to secure the annual requirement of 750,000 mt of DAP, floated in September 2011, due to high fertilizer prices on international markets. The initial tender size was reduced to 350,000 mt and the contract was signed in October 2011 for the first four shipments to be delivered in the first quarter of 2012 at prices in a range of USD 730 to USD 745/mt, which includes total cost for freight, bags, bagging and reloading to trucks at the Djibouti port. The balance of 26 P a g e

27 the DAP procurement required was retendered in late January at a price in the range of USD 645 to USD 650/mt Costs and margins for various actors As shown in Table 5, a primary cooperative is entitled to receive US$ 1.7 per ton of fertilizer as a profit margin and US$ 5.2 for administrative costs. As such, a primary cooperative dealing in 20 mt of fertilizer will realize total revenues of US$ 144 or about 2,506 Ethiopian Birr. The salary of security staff at the primary cooperative alone costs twice as much per per year. If there is theft, caking, or weight loss due to fertilizer stock management problems, a primary cooperative can easily fail to cover its costs in handling fertilizer and put its financial security at risk. This issue came up repeatedly in our interviews with primary cooperatives officials for this study. By way of contrast, national research organizations in Ethiopia generally charge about 12 percent for overhead costs on the research projects that they administer. Even though primary cooperatives are not involved in the procurement of fertilizer, they are responsible for safeguarding and distributing it to farmers. For providing these services, the total of their overhead costs and margins amount to less than one percent of the value of the fertilizer. According to the managers of the cooperative unions, this allocation is very low in terms of the costs that they face, sometimes inducing losses on the fertilizer operations of cooperatives and not allowing for the development of other activities by the cooperative unions and primary cooperatives. Moreover, the profit margin is seen to be very low when compared to profit margins received by agro-dealers in neighboring countries. In Kenya and Tanzania, agro-dealers receive 5 to 8 percent of the value of the fertilizer at the farm gate (Yen and Chen, 2010). For primary cooperatives to engage in fertilizer distribution as a viable aspect of their business, the low revenues that they received from supplying fertilizer to local farmers render this element of their business unsustainable. Moreover, primary cooperatives, as the principal outlets for the last mile distribution of fertilizer in Ethiopia, are largely staffed by relatively unskilled manpower; who have no training either on fertilizer storage or on fertilizer management. With adequate revenues from their fertilizer distribution activities, primary cooperatives could ensure that they have 27 P a g e

28 properly trained staff to manage the fertilizer stocks that they are provided and better promote fertilizer use among local farmers, thereby increasing fertilizer adoption rates. Furthermore, most of the storage facilities at the primary cooperatives are small in size and poor in quality. Increased revenue from their engagement in fertilizer supply could be used to improve these facilities Bargaining power and margins for primary cooperatives For the primary cooperatives to be financially sustainable, their operations need to provide them with returns that are compatible and consistent with their business objectives and allow them to achieve their own priorities. During field visits to primary cooperatives, their leaders repeatedly mentioned that, in many instances, they had to accept the amount of fertilizer supplied by their cooperative union or the regional Bureaus. They are not involved sufficiently in the determination of what amount of fertilizer is supplied to them for selling on to local farmers, in the price that farmers will have to pay for the fertilizer, or in the revenue that the primary cooperative will receive to cover the costs it incurs in handling, marketing, and distributing the fertilizer. Figure 4: Fertilizer carry-over stock deteriorated due to poor storage, Tigray 2012 Photo credit:: Gashaw T. Abate It was evident in one incidence during the study team s field trip. While interviewing primary cooperative officials in SNNP, a truck loaded with fertilizer came from the Bureau of Agriculture. However, the cooperative head declined to unload the fertilizer. When asked why, he informed us that last year the cooperative able to sell only 40 percent of their stock. As a result, the cooperative left with substantial carryover stocks, which costs the primary cooperative in interest charges, storage rent, and 28 P a g e

29 spoilage losses. Moreover, since they did not have enough storage, they had to rent an additional warehouse for the excess fertilizer. Similarly, in Tigray a primary cooperative head highlighted that, due to the deteriorated quality of the carry-over stock they received, member farmers often complained and in some case declined to buy fertilizer. This, in turn affects the relationships of the cooperative with its members. In most primary cooperatives, we were told that farmers do not want to buy carry-over stocks unless there is no other alternative. Carry-over stocks frequently deteriorate due to poor storage facilities at primary cooperative level. Figure 4 shows pictures taken from two different primary cooperative warehouses in Tigray. These are clear examples of the challenges that primary cooperatives face in dealing in fertilizer. In all cases, these examples demonstrate limited bargaining power of the primary cooperatives. Based on the study team s experiences, some of these problems can be fixed with the following simple measures: 1. Since the primary cooperatives are the ultimate distributors of fertilizer, and the coverage is now extensive, they should actively engage in the determination of demand. 2. Instead of being in the receiving end, primary cooperatives should send the request for fertilizer to the union and the Bureau of Agriculture, not the other way around. 3. Since cooperative unions operate large volume, they usually do not lose money from dealing in fertilizer. However, when it comes to primary cooperatives, they deal in smaller volume, with weak admin and physical capacity. Some simple analysis can demonstrate how the pre-determined margins can negatively affect the primary cooperatives operations (Table 9). According to available statistics, there are about 14,000 primary cooperatives. However, not all of these primary cooperatives deal with cereals / fertilizer, as many of them are coffee cooperatives or financial cooperatives (Idres). Assuming that a total 575 thousand tons of fertilizer is distributed, a typical cooperative should be dealing in about 50 metric tons of fertilizer. However, during our rapid assessment, we observed that many smaller primary cooperatives deal in about quintals (20-30 tons) of fertilizer. Therefore, we have considered a range of operations, with the minimum and maximum of 25 and 85 tons, respectively. 29 P a g e

30 Given margins are fixed, calculation of revenue is straightforward it s just the product of the size of operation and the margins (profit margins of $1.7/ton and admin margin $5.2 per ton). To calculate costs, we have assumed that each primary cooperative needs a year round security guard at a monthly salary of ETB 400 per month and a book keeper for three months at a monthly salary of ETB 1, Table 9 present results of various scenarios with different scale of operations, which suggests that fertilizer trade is unprofitable if a primary cooperative deals in less than 55 tons of fertilizer. It becomes barely profitable when the scale of operation reaches to 70 tons. This analysis raises some important questions. If the costs estimates are reasonable, some smaller primary cooperatives are clearly losing money being involved in fertilizer distribution. Why are they still dealing in fertilizer? Based on our field experience, they are doing it because of the lack of bargaining power. In some cases, they compensate by selling commodities and membership fees. Table 9: Primary cooperatives margins under various scenarios Scale of primary cooperatives' operation Amount of fertilizer (MT) Profit ($1.7/mt) Revenue (US$) Admin cost $5.2/mt) Total Revenu e Security guard (12 months) Costs (US$) Book keeping (three months) Total costs Per ton profit (loss) in US$ Low (11.51) Medium low (4.61) Average (1.47) Medium high High Assumptions: 1) warehouse security guard costs Birr400/month 2) Book keeper costs Birr 1100 for three months 3) Revenue calculations are based on government determined margins A critical question in this regard is how to objectively determine margins. Determining exact size of margin is beyond the scope of this study. However, a range of margins can be proposed using existing estimates from other studies. Using IFPRI-EDRI 2008 grain traders survey, Rashid and Negassa (2012) estimated that the net margin in cereal trade in Ethiopian was Birr 30.32/ton in 2008, which was equivalent to US$ 3.19 / ton at April 2008 exchange rate. 6 Using this estimate, one can generate range of margin 5 In practice, head of the cooperatives does the book keeping, but from an economic point of view the opportunity costs of him /her should be taken into account. 6 Since fertilizer is more expensive than cereal, one might margin should be higher in case of fertilizer. However, note that, unlike cereals trade where traders have to make the investments, primary cooperative do not have any up front investments 30 P a g e

31 relative to the scale of operations of the primary cooperatives. For example, for primary cooperative dealing in 25 tons of fertilizer, the margin should be increased by $14.70 ( ) per ton. By contrast, the margin for the cooperative that deals in 70 tons of fertilizer, the recommended margin should be increased by $2.86 ( ) / ton. Similarly, for cooperative dealing in 85 tons of fertilizer, the margin should be increased by $1.70 / ton. In sum, this exercise indicate that the increase in margin for the primary cooperative should range from $1.7 per ton for larger cooperatives to $14.70 for smaller cooperatives dealing in less than or equal to 25 tons of fertilizer The economics of carry-over stocks The economics of carry-over stock of fertilizer has become a subject of debate in recent years in Ethiopia. Some argue that carry-over stocks prove beneficial to the country because of price increases in the subsequent year. The World Bank (2010) reported that the benefit-cost ratio of carry-over stocks in 2009/10 ranged from 3.1 and 3.7 for teff, 0.64 and 3.76 for maize, and 1.2 and 4.5 for wheat, implying that carry-over stocks were significantly cost-effective. However, note that these calculations are based on restrictive assumptions linked to particular value-cost ratios (VCR) of fertilizer use, which in turn are related to market prices, willingness to pay, and weather shocks. Table 10: Benefit-cost analysis of carry-over fertilizer stocks, Year DAP Retail price Total value Administ rative costs Interest, market rates (12%) Potential physical losses (2%) Mt USD/mt USD millions Total costs of carryover Price gains following year Net benefits , , , , , , , , , Average 83, Source: Authors calculation based on AISE data The economics of carry-over stocks can be understood in a simpler manner.table 10 shows the costs and benefits of carry-over stocks of DAP from 2002 to The total cost of holding carry-over stock is calculated as follows. There are three main costs 31 P a g e

32 components: administrative costs, interest costs (opportunity cost of fund tied up in fertilizer stocks), and costs due to potential physical losses from moisture and caking. The administrative costs are obtained from official sources, the interest costs are calculated at lending rates obtained from the National Bank of Ethiopia, and the value of physical losses is estimated through the field survey. The potential gain (benefit) of carry-over stocks of fertilizer is calculated by multiplying the carry-over stock at time t by the magnitude of the fertilizer price rise or decrease in year t+1 (the following year). For instance, since the price in 2003 was USD 1.0/mt lower than in 2002, holding a stock of 130,700 tons in 2002 led to a loss of USD 130,700 (see Table 10 for other estimates). Some simple cost-benefit insights into fertilizer carry-over stocks can be deduced from Table 10. In five out of the ten years; carry-over stocks involved a net loss. However, from a risk management perspective, what is important is the net expected return from the carry-over stocks. From the last row of the table, we see that the average gain is about USD 1.0 million while the average costs are six times as much, suggesting that the country has lost roughly USD 50 million over the 10 year period. More importantly, these losses are deadweight losses in the sense that neither government nor farmers benefited from them. The resources used to manage the fertilizer carry-over stocks could have been put to alternative uses, including supporting education programs, safety nets programs, small scale industries, and other public programs. To put the magnitude of the resources that have gone to managing fertilizer carry-over stocks in perspective; more than 130,000 Productive Safety Net Program beneficiaries could have been supported with these resources for whole year. The above calculations do not ignore that there is a need for fertilizer stocks to be available for use in the Belg season in certain areas of the country. However, the positioning of these reserve stocks for Belg cultivation needs to be done in a systematic way, with an objective to minimize aggregate costs to society. Historical cropping data from 1995/96 to 2007/08, suggests that cropland to which fertilizer is applied during the Belg season accounts for between four and six percent of the total cereal land to which fertilizer is applied annually in Ethiopia. This implies that between four and six percent of total annual fertilizer imports in the country should be sufficient to address the fertilizer needs for the Belg season. 32 P a g e

33 Table 11: Cereal cropland fertilized by season, thousands of hectares Cereal cropland fertilized Meher Belg Total Share of cereal Cereal Share of cereal Cereal cropland that is cropland cropland that is cropland fertilized (%) fertilized fertilized (%) fertilized Share of cereal cropland that is fertilized (%) 1995/ / / / / / / / / / / / / Source: Authors compilation from CSA statistical bulletin With the numbers in Table 11, one can determine the size of stocks needed to address Belg season demand. A straight forward way to calculate such reserve would be to ensure that three to four percent of annual national fertilizer requirements are allocated as a Belg cereal fertilizer reserve. However, there are other uses of fertilizer during the Belg season, which include root crops, vegetables, oil seeds, and pulses. Historical data indicate that fertilizer use in those crops have been low but growing in recent years. Therefore, we have assumed the requirement to be 10 percent of annual national fertilizer requirements in deriving the estimates for Belg in Table 12. Table 12: Estimated carryover stock (in mt) required for Belg production season Year Total DAP Urea 1997/ / / / / / / / / / / / / / Average 22,276 15,089 7,186 Source: Authors compilation based MoARD data 33 P a g e

34 Accoding to the estimates in Table 12, the planned fertilizer stock for the Belg season does not need to exceed 30,000 tons, implying that the carry-over stocks in recent years have far exceeded the necessary reserve. At the time of conducting this analysis, we did not have access to data for Belg and Meher seasons for However, assuming that share of Belg season remains the same, our model predit that a carry-over stock of 35,000 mt (about 23,000 mt of DAP and 12,000 mt of urea) should have been sufficient for the 2012 Belg cropping season Affordability and packaging During the focus group interviews, many farmers reported that they have problems buying an entire 50 kg bag of fertilizer due to cash constraints. They often have to find another farmer to jointly buy a bag. While it often works out through social network and relationship, finding a partner for the purchase often adds extra costs for the farmers. An overwhelming majority of the focus group members suggested that producing 25 kg bags of urea, in particular. Availing urea in smaller packages will make the transactions easier for them as they need urea during planting as well as for split application top-dressing after germination. 7 This will not only improve affordability, but also avoid problems of adulteration by reducing the number of fertilizer bags that are opened for retail sale in smaller quantities. 7 Urea is easily spoiled once the bag is opened and exposed to air. 34 P a g e

35 6. DEMAND ESTIMATION: CURRENT PRACTICE AND POTENTIAL IMPROVEMENTS 6.1. Current method of demand estimation Earlier the annual fertilizer demand estimation process for Ethiopia was described. Import planning begins at the kebele level. These estimates are aggregated at woreda level; woreda level estimates are aggregated at zonal level; and the aggregations continue to come up with a national estimate. This is the estimate that the Ministry of Agriculture uses for fertilizer import planning. The process has the potential for mistakes being made both over estimation and under-estimation depending on the priorities of a region and the incentives related to fertilizer procurement and distribution for officials involved in the process. This is evident in the historical data. There are often large variations between demand and supply. Some regions (e.g., Oromia) gives significant weight to GTP target, which in turn puts more emphasis on the production of cereals and, hence, the use of fertilizer. 8 Consequently, the leftover stock from the Meher season in Oromia reached historical highs in recent years, equivalent to about 50 percent of imports. Larger than anticipated carry-over stocks could also in part be a result of disadoption of fertilizer by farmers because of higher prices or unfavorable weather conditions. Another reason for a mismatch between effective demand and supply is the fact that the demand assessments are carried-out around the month of September, at this time farmers are unlikely to know the price of fertilizer that they will face for the cropping season in the next year. These prices are set and declared by MoA upon the arrival of the new fertilizer imports to AISE central warehouses. Farmers can decline to buy what they initially expected to buy because of a higher increase than they anticipated in the price of fertilizer or adverse weather patterns. This was true in 2012, which, it was reported, led to some dis-adoption of fertilizer by farmers located in areas where fertilizer use is marginal from a profitability standpoint. Farmers also will change their initial fertilizer use plans due to the late arrival of the rainy season or the late delivery of fertilizer. 8 Most of the primary cooperatives we visited reported that they received more fertilizer than the actual demand that they had indicated in the fertilizer demand estimation process earlier in the year. 35 P a g e

36 6.2. Demand estimation using an econometric method 9 Within the current policy environment, one of the central challenges in Ethiopian fertilizer markets is accurately forecasting national fertilizer demand. The existing method relies heavily on policy conditionality (e.g., the GTP targets) and qualitative information gathered from local, kebele, woreda, zonal, and regional levels. From a purely economic perspective, demand for fertilizer should be determined by the profitability conditions of fertilizer use. In the absence of market failure, farmers would buy the level of fertilizer that maximizes their profits given the technology (conditional factor demand). However, the production environment within which smallholder farmers in Ethiopia operate is far from this ideal. Lack of risk management and credit institutions makes it difficult for smallholders to decide the optimal level of fertilizer that they should apply to their crops and, hence, what their effective demand for fertilizer should optimally be. However, there is some a priori information that one can use to estimate an econometric model for forecasting national fertilizer demand. There are many factors that influence a farmer s decision to purchase fertilizer, ranging from credit constraints to the risks factors associated with weather, input and output price levels, and whether fertilizer will be available by the time of planting. Several studies have attempted to assess the links between weather risks and price risks in Ethiopia. Using panel data from the Central Highlands, Alem et al. (2009) find that the intensity of fertilizer use is positively associated with higher rainfall. Another study, Gebregziabher and Holden (2011), show that fertilizer use is significantly influenced by rainfall variability in a given area. These studies provide clear evidence that climate are a significant determinant of fertilizer demand. The qualitative methods used by the demand estimation in the country do not account for this factor and increase the likelihood of demand-supply mismatch. Similarly, the literature on price risks, both for inputs and outputs, is large and conclusive. As we discuss later in the paper, profitability analysis critically depends on these input and output price risks. This implies that effective demand will be influenced by prevailing input and output prices both of which have been highly volatile in Ethiopia in recent years. 9 These results are preliminary, need to be cited as such, and used cautiously. The results of the method presented need to be triangulated and checked for consistency if the method is to be used effectively. 36 P a g e

37 Quantity in thousand Mt Price in thousand Birr/Mt Taking these factors into consideration, we attempted to estimate national demand for fertilizer using time-series data. The model is based on the idea that fertilizer consumption is a function of its own price, the price of the output crop to which it is applied, credit availability, and weather risks represented by rainfall. The data covers 16 years starting from Three of the key variables in this estimation model are presented in Figure 5. Even though there are case where prices and consumption went up, demand for fertilizer generally seems to be inversely related to its price. The later development could be due to high grain prices and credit availability and/or favourable weather conditions in those years. This is consistent with the econometric results on the determinants of fertilizer adoption. In common with most such studies globally, Tefera et al, (2012) found that fertilizer application rates decrease with increases in fertilizer prices, but increase with output prices. Figure 5: DAP quantity imported, consumed and retail prices QIMPdap QCONdap RETPdap Source: Ethiopian Custom Authority We now run a forecasting model to determine national fertilizer demand. Our method is based on a univariate double exponential smoothing (moving average). 10 Plots of the observed and forecasted data are shown in Figure 6 for total fertilizer demand and Figure 7 by fertilizer type, DAP and urea. Forecasts are reported for 2013 and 2014 only, as the stochastic nature of the data series do not permit reliably forecasting beyond those years. However, with updating of the observed data in the 10 We thank William Bowser and Solomon Lemma for assisting in developing this demand forecast model. 37 P a g e