Is there a place for Smallholder Producers in Supply-Chains?

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1 Is there a place for Smallholder Producers in Supply-Chains? ARD Workshop, sponsored by the Rural Infrastructure, Markets and Finance (RIMFI) Thematic Group; and Rural Policy Thematic Group World Bank, December 8, 2004 Context In recent years, much research has been carried out about trends in food markets. Yet, relatively limited attention has been given to their consequences for small-scale farmers in developing countries and to their implications for practitioners. As a result, recommendations for policy intervention have often been rather vague. The workshop provided the opportunity to review lessons learned from research and practice and to explore implications for development agencies. The main message of the workshop is that there are threats as well as new opportunities created by the changes taking place in supply chains and the rise of supermarkets. Whether small-scale farmers benefit from the process will depend on how these farmers are able to overcome the organizational and technical barriers to their participation. Dynamics of Agricultural Markets: The Trend Towards Integrated and Coordinated Supply Chains John Lamb of Abt Associates discussed trends in supply chains for food and agricultural products in developing countries, focusing on high-value crops destined for developed country markets. He explained that increasing demand for high-value fresh produce can produce new opportunities to improve the livelihoods of small-scale farmers. He distinguished supply chains from value chains. In agribusiness, supply chains support the processes and activities involved in the production of food and agricultural products while seeking to reduce costs and increase efficiency. Value chains, which rely on efficient and reliable supply chains, seek to maximize revenue and sustainability by improving the market form or function of agricultural products, thereby enhancing their market value. Lamb identified two major causes that help explain the current evolution of supply chains toward increasingly integrated and coordinated activities and processes: 1) the emergence of supermarkets and a new focus by the food industry on production processes that are based on a few often outsourced suppliers to reduce transaction costs while seeking to improve efficiency of logistics and distribution; 2) a growing demand from consumers, primarily in developed country markets, for quality products that meet stronger safety requirements than hitherto. For small-scale farmers in developing countries, the rapid changes that are taking place in supply chains present new opportunities but also problems. The standards (including food safety and quality requirements) and supply reliability demanded by supermarkets create challenges for small-scale farmers as they are often at a disadvantage due to a lack of resources and inputs, inefficient infrastructure and services. However, they are well placed to take part in the new markets that are being created, in part due to their strong historical agricultural tradition, naturally favorable agro-climatic conditions and low production and labor costs. Discussion opener: 1

2 Ron Kopicki, Lead Private Sector Development Specialist at the World Bank, remarked that a few major importers/ distributors have developed specific embedded assets by relying on exclusive marketing deals based on specific standards, and by planning and forecasting demand to a high degree of precision via electronic data exchange (e.g., Wal-Mart). For developing countries, this industry consolidation bears strong consequences as existing market failures prevent them from benefiting from the new opportunities being created. He identified three ways to improve the capacity of these countries to compete and meet the increasingly demanding requirements of consumers, agri-food manufacturers and distributors, and national standards or regulations: 1) By providing knowledge and information to suppliers and farmers in developing countries about the changes taking place in the market and the related technical and safety requirements that are emerging; 2) by investing in institutions that play a role in linking farmers with suppliers and that support market-based transactions; 3) and by encouraging the accumulation of hard and soft assets by small-scale farmers to let them benefit from the opportunities created by the high-quality and high-value markets. The Rapid Rise of Supermarkets in Developing Regions: Implications for Supply Chain Development Tom Reardon, Michigan State University, described three main waves of supermarket diffusion in developing countries. The first wave started in the early to mid-1990s in Latin American countries, where the market share of supermarkets grew from 10-20% of the national food retail sales to about 40-60% by The second wave started in the mid-to late 1990s in Central America (including Mexico), Southeast Asia, Southern-Central Europe and South Africa and saw an even faster growth, with the market share of supermarkets growing from 5-10% to 30-50% of the food retail share during the past decade.. The most recent wave started in the mid-late 1990s to early 2000s in China, Eastern Europe, Eastern Africa, and South Asia, and is currently under way. Since its start, the retail food share of supermarkets has grown from virtually nothing to 10-20%. Reardon pointed out that the rise of supermarkets in the food retail industry has occurred much more rapidly in the processed, dry and packaged foods. The take-over of fresh food retailing has been slower and has varied across countries, partly owing to differences in local purchasing and consumption habits. There is, however, a trend across regions toward the globalization and consolidation of the industry. For example, 2 out of each 10 pesos spent on food in Mexico is spent in Wal-Mart. The expansion of supermarkets is also leading to changes in the procurement system. He identified four pillars of change in supermarket procurement systems. The first is a trend toward centralizing procurement, from a fragmented per-store procurement system to distribution centers serving several stores. The second rests on supermarkets increasingly working with specialized wholesalers that can meet their specific needs, thereby transforming the traditional wholesale system. The third is a shift from spot markets to preferred suppliers with implicit contracts, which serve as incentives to suppliers to work with the buyer on a continuing basis. Finally, the fourth is the rapid implementation of quality and safety standards of food products by supermarkets and large-scale food manufacturers. These private standards work as instruments of coordination in the supply chain. Such standards can lower transaction 2

3 costs, ensure that consumers demands are met and reinforce the notion that products are superior in quality to that of competitors. Although the rise of supermarkets may raise returns for small-scale farmers by expanding market size, it also creates several challenges. To stay competitive, farmers must invest in logistics and quality improvements to meet the requirements of supermarkets procurement systems. Discussion opener: Steven Jaffee agreed that changes in the procurement systems of supermarkets have led to a convergence, in terms of players and product standards, between the domestic and export food markets. However, he argued that not all supermarkets are the same depending on whether these are local or international, having very different competitive strategies, procurement approaches and impact on smallholders. Moreover, the importance of retailers is relatively small for branded food products. In many countries food services have large and increasing market shares as well. He recommended that more research be done to assess how large-scale retailers will affect smallscale farmers in the future and what will be needed by small-scale farmers in terms of resources to compete and meet supermarkets requirements. Agribusiness and Farm Development: Lessons From Countries in Transition Jo Swinnen, Director, LICOS-Center for Transition Economics, University of Leuven (KUL), Belgium, and former World Bank staff, discussed the changes that are taking place in agri-food supply chains of formerly state-controlled economies. Supermarkets expansion in these countries did not happen until the mid-late 1990s when regulations restricting foreign direct investment (FDI) in retail ended, and informal or state-owned retail stores were replaced by foreign retail chains. Most recently, major investments have focused on the food retail sector. Transition economies have attracted large FDI in recent years: in 2004, the top six destinations of FDI by global retail chains were, in order of importance, Russia, India, China, Slovenia, Latvia, and Croatia. Quality requirements, which are often not met by small-scale farmers in transition economies due to inherent structural problems and traditionally low-quality product, are pushing food processors and retail chains to integrate vertically to secure a high-quality and reliable supply base. In addition, factor-market failures have led food processors and supermarkets to enter contracting arrangements with farmers, including assistance in human capital development, management, input quality control and credit provision. In many cases small-scale farmers are included in the arrangements, especially in places dominated by small-scale farmers. Finally, successful vertical contracting arrangements are important owing to the lack of public institutions supporting market-based transactions, such as enforcing property rights and contracts. Discussion opener: David Tschirley, Professor of International Development at Michigan State University, commented that the pace with which supermarkets expand would likely determine the extent to which small-scale farmers are impacted. Further shifts in consumption and demand patterns will depend on the rate with which these changes occur and the types of product modifications required. In Africa, where economic growth is slow and per capita income low, these developments will affect only limited numbers of small-scale farmers in the foreseeable future. In many cases, big retailers and logistics companies will have a role to play in engaging with small-scale farmers. 3

4 Exclusion of Small-scale Farmers from Coordinated Supply Chains: Market Failure, Policy Failure, or Just Economies of Scale Kees Van der Meer, Senior Rural Development Specialist at the World Bank, defined coordinated supply chains as durable arrangements between the various stakeholders involved in agribusiness transactions about what, how, and when to produce, including conditions on quality and safety, and price. Coordinated supply-chains offer many advantages, including better prices, safer and higher quality of supply, lower transaction costs, economies of scale, and access to higher-end markets. He explained how coordinated supply chains are rapidly spreading in more developed countries, and at a slower pace in developing countries, to fit the demands of changing tastes, logistics and safety requirements of food markets. Despite offering advantages such as access to land and lower labor costs, few small-scale farmers in developing countries are participating in coordinated supply chains. Their disadvantages are lack of information and organization, access to resources, and are faced with high transaction costs. Inclusion of small-scale farmers in coordinated supply chains will mainly depend on willingness of private entrepreneurs to work with them and will likely depend on perceived benefits, costs, and risks. Policy interventions to improve the integration of small-scale farmers into coordinated supply chains should focus on enhancing benefits and reducing costs and risks. Interventions could include the promotion of farmers organizations and sustained leadership by the private sector. Finally, laws and regulations that support market-based transactions must be enforced and logistics bottlenecks that lead to market failures, especially in markets for agro-chemicals, should be overcome. Discussant opener: John Bowman, of Development Alternatives, Inc., suggested that research be undertaken on how many small-scale farmers are participating or failing to participate in supply chains. He argued that the impact of supply-chains on small-scale-farmer livelihoods has two main implications for donor programs. First, while it is generally thought that small-scale farmers can be induced to join supply-chains to raise their income and livelihood levels, this is possible only if the market economy is working well. As a result, programs should focus on determining what incentives can be given to supermarkets and big food retailers to ensure that they engage with small-scale farmers and maximize their participation in supply chains. The role of NGOs in the process should be recognized as it can link small-scale farmers with resources and provide information on the impediments they face in entering and staying competitive in supply chains. Regoverning Markets: What Are the Options? Bill Vorley, Senior Research Associate, Sustainable and Rural Livelihoods Programme, at the International Institute for Environment and Development (IIED), UK, presented preliminary analysis of an empirical study done in 18 countries in 7 regions. The study aimed to help understand how small-scale farmers are adapting to the increasing concentration and changing practices in the processing and retail sectors of national and regional agri-food systems in emerging markets. A follow-up, two-year program is planned to undertake collaborative research and policy support for anticipatory policy development and planning of smallholder policy responses. There will be three components to this program: empirical research, development of innovation and good practice, and policy platforms. Preliminary findings from the study show that farmers and processors in national markets are increasingly affected by both falling prices from imported commodities and rising quality 4

5 standards set by international markets. The three key components (or legs ) of small-scale producer participation in modern coordinated supply chains (technical upgrading, collective action, and working capital) are very difficult to bring together in an initiative unless there is (a) a very receptive buyer or (b) source of credit and technical support (e.g., from an input supplier or NGO). Discussant opener: Kym Anderson, Lead Economist at the World Bank, concluded that as small-scale farmers are increasingly faced with international competition, domestic factors such as having adequate infrastructure to support supply chains and trade will play a critical role in determining their success. Foreign direct investment, including the participation of multinationals, plays a role in the transformation that is taking place. Macroeconomic factors such as cheaper labor or minimum wages in developing countries and trade liberalization also play a role. More research is needed, particularly econometric analysis, to distinguish between domestic and international factors and to determine trends. Implications for the Bank and donor organizations Marie-Hélène Collion, Lead Specialist at the World Bank, concluded that, although supermarket expansion is likely to happen, uncertainties remain about the speed with which the various changes will occur. These ongoing changes have implications for all sectors of the Bank and should be anticipated to help clients adapt to them. Whenever possible, farmers organizations should be consulted and contribute to the discussion with suppliers. Ashok Gulati, Director of the Markets, Trade and Institutions Division (MTID) at the International Food Policy Research Institute (IFPRI), argued that the World Bank should gather information about supermarkets and the scale of their expansion. However, he warned against focusing all research efforts solely on big organized retailers. A number of markets and logistics problems affect other segments of the distribution sector, which constitute the bulk of the impediments preventing the integration of small-scale farmers into the world economy. Focus should also be on technology and information, which are key drivers in helping farmers acquire the necessary production inputs (such as seeds and fertilizers), assets (such as land) and resources (such as water) to grow crops. Juergen Voegele, Sector Manager at the World Bank, argued that there should be a comprehensive strategy to ensure access by farmers to the necessary resources. The World Bank (perhaps increasingly through the IFC) should put particular emphasis on interacting and consulting with the private sector. Corporate social responsibility should also be addressed. Sam Dryden, private sector liaison for ARD at the World Bank, reflecting on his experience with agribusiness and the agricultural and biotechnology field, recommended looking further downstream and at all products, for both domestic and international markets. This is because lifestyle changes in developed countries are providing new opportunities year-round for smallholders to provide high-value products. He stressed the importance of supporting farmers who are good managers, as they have a critical role to play to ensure sustainability and change. Salient points during discussion In addition to the presentations and reactions by discussion openers, a number of points on the evolution of supermarkets, and their impact on small-scale farmers, were made by participants and presenters: 5

6 Retailers success lies in linking producers with consumers. Recognizing changing demand rather than focusing on supply has made an enormous difference in the way supply chains are now operated. Supermarkets requirements are the biggest impediment for small-scale farmers to compete and take advantage of the commercial opportunities being created, not international trade agreements or EU standards. The majority of small-scale farmers will not benefit from the opportunities created by modern retailing because their market shares are relatively small and large-scale producers are often more competitive. Small-scale farmers experience difficulty in delivering to supermarkets for several reasons, including: large volumes to be supplied, lack of consistency and sustained quality over time, high transaction costs that must be kept low and increasing safety requirements. These attributes require that farmers make important investments in physical, organizational, and human capital. Evidence on the problems faced by small-scale farmers who cannot make these investments is emerging in China, a number of ECA countries, Guatemala, Brazil, and Kenya. It is important to remember that the high-tech and increasingly efficient models described with the changes and transformations that are taking place in agro-food supply chain management are far from universally applicable in developing countries. There are many traditional processes that persist in transforming raw products to low-to-medium quality commodities. Small-scale farmers will need to organize themselves if they wish to benefit from the new markets being created. Lack of trust by farmers is a problem, preventing long-term commitment by farmers to suppliers and creating impediments to successful business exchange. In some cases, farmers do not trust associations and prefer to remain independent. Good practice examples on how to address these issues would be useful. Suggestions for action The scale and impact of the supermarket expansion is not clear, in terms of fresh vs. processed food products. Research should also focus on staples and dry foods. More information should be gathered to determine what are the incentives and constraints facing small-scale farmers seeking to enter coordinated supply chains. In addition to monitoring changes in the food retail industry, policies must be designed and implemented to assist farmers in responding to the changes taking place and to existing factor market failures. The World Bank will have the most valuable impact on reaping benefits from the rapid rise of coordinated supply chains and in mitigating their negative effects if it helps developing countries access through provision of efficient and sustainable infrastructure, particularly transport to ensure movement of an increased volume of goods, as well as enabling technology to add value to products (through modified packaging; increased importance of quality standards, etc.). The emergence of supply-chain restructuring for export markets creates paid employment, which can be much bigger in terms of poverty reduction than the gains or losses by smallscale farmers. Conclusions On the basis of the Workshop presentations and discussions, Kevin Cleaver, Director (ARD), commented that the workshop is a wake-up call to anticipating the consequences brought by changes in supply chains. He drew the following general conclusions and recommendations: 6

7 There is strong evidence that the rise of supermarkets, which is linked to globalization and the liberalization of economies, results in rapid changes in procurement and private sector management of marketing and logistics. The rapid changes that are taking place in supply-chains present benefit for both consumers (e.g., reduced price and higher quality) and farmers (who may benefit from increasing demand for high-value fresh produce). The speed and evolution of supermarkets within developing countries varies and depends on a number of factors such as the assistance to farmers in overcoming the organizational and technical barriers they face in participating in supply chains. The impact on small-scale farmers should be anticipated, keeping in mind that changes in the food retail industry would not be a panacea for improving the livelihoods of these farmers. Efforts should continue to solve the basic structural and institutional problems facing rural areas in helping developing countries. Identified trends and changes should be reflected in WB policies and strategy; project design and implementation should include stakeholders such as the private sector and farmers organizations. 7