Download the poverty trap - Land Divided Conference 2013

THE POVERTY TRAP:
BRIDGING DISECONOMIES IN
TRADITIONAL ECONOMIES
Herman Geyer
Centre for Regional and Urban Innovation
Stellenbosch University
PROBLEM STATEMENT
• Agrarian reform, consisting of the diversification of
land ownership, agricultural production and agricultural
incomes is a national political priority
• It is widely acknowledged that land reform
programmes have achieved limited results – spatial,
income and racial inequalities persist
• It is essential to maintain agricultural economic growth
and high production rates - public spillovers:
environmental amenities, job creation, food security
(food costs), low-cost manufacturing inputs, agriculture
exports, small town value chains (Harris-Todaro
model), diversified economy (Jacobean spillovers)
AGRARIAN REFORM DILEMMA
• Inequalities: Gini 0.88%, with commercial farmers
(6.1%) earning 97.2% of agricultural income and
subsistence farmers (93.9%) earning 2.8% of
agricultural income
• Marketing/distribution difficulties in a Monopsonic (many
producers, few sellers) retail market – small quantities of
non-standard goods from periphery difficult to sell
• Monopoly rents achieved by retailers at the loss of
both commercial and subsistence farmers
• Todaro paradox – rural poverty is transferred to urban
areas where the poor have even less resources ( less
land, less social capital higher living costs)
QUESTION: FIX THE INFORMAL
OR THE FORMAL SECTOR?
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Many of the proposals in the Carnegie conference dealt with
ways of fixing the informal sector to participate in the formal
sector
A further question is whether land reform programmes should be
continued given the lack of sustainable results
Western assumption that the informal sector is not highly efficient
and economically rational – they should be restructured to fit the
Western capitalist model
The paper’s proposition is that the informal sector is a direct
consequence of this structure of the formal economy – fix the
formal economy, fix the informal economy
The paper also argues that land reform programme’s have
additional economic benefits other than participation in the
commercial sector which validates land reform
However land reform initiatives can and be successful if
subsidisation mechanisms and pooled marketing is implemented
QUESTION: FIX THE INFORMAL
OR THE FORMAL SECTOR?
• The paper analyses the existence of poverty traps in a
neoclassical model - utility maximisation of the
representative agent resulting in a long-run equilibrium
• If theorises that the failure and land reform is not because
land reform itself is flawed but rather structural
inefficiencies in a neoliberal agricultural system
• Furthermore the paper argues that agrarian reform
resulting in subsistence agriculture in a traditional economy
has further public economic benefits which exceeds the
costs of land reform
• Agrarian reform fulfils the Kaldor-hicks criterion as an
efficient distribution of public resources
DUAL SECTOR MODEL - 1958
• Dual sector model the start of the
informal/second/shadow economy –
essential reading
• Development with unlimited supplies
of Labour –first black economist to
win the Nobel Prize
• Capitalist economy has unlimited
labour supply, but only limited labour
absorption until marginal productivity
of labour = legal wage
• Subsistence (informal) economy has
marginal productivity below the legal
wage, yet subsists because
households pool incomes, share
costs and substitute basic necessities
W. Arthur Lewis
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Informal economy is the product of the structural inability of the formal
economy to absorb labour
Neoliberal/neo-classical solution: cut wages and initiate structural adjustment
programmes
Keynesian solution: cut input costs through public goods and redistribution
goods
POVERTY TRAP IN A NEOLIBERAL
ECONOMY
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Theoretically, in a neo-classical/neoliberal economy the economic
growth of all enterprises in the economy will stabilise at a point
where the savings produced by factor productivity(profit) equals
factor depreciation and labour force changes (costs)
yE = kE / sAf(k) = (n+d)k / capital widening = capital deepening
POVERTY TRAP IN A NEOLIBERAL
ECONOMY
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The poverty trap is the situation where the informal producer struggles to produce income
beyond the cost of production because input costs rise faster than agricultural production
output (costs are larger than profits in small-scale agriculture)
Accordingly informal economy declines to the steady-state of lower production
Below yT/kT, sAf(k) < (n+d)k / capital widening < capital deepening
Yet above a certain capitalisation rate (yT/kT), producers are able to participate in the
formal economy because profits are larger than costs
WHY THE POVERTY TRAP?
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The poverty trap is a situation in which agriculture is practised
because incomes are insufficient to purchase food, yet the high
costs of inputs preclude regular income through commercial
agriculture
Commercial agriculture has extremely high risk due to high
variability in product prices
Capital goods include intangible goods such as human capital
and informational goods not supplied by banks
Standardisation in monopsonic retail incurs specialised skills
costs, resource costs and high risk
Credit has interest costs and transaction costs
Lumpy physical capital goods – land, vehicles, equipment,
utilities, fertiliser, seeds and stocks
Labour-intensive production = low productivity rates
Subsistence farmers prefer low input cost, low output, low-risk
agriculture as rational utility maximisers
Therefore land reform initiatives tend to subsistence agriculture –
it’s the most rational and economic option
EQUILIBRIUM IN THE INFORMAL
SECTOR – DUAL TECHNOLOGY MODEL
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In the informal sector, and informal equilibrium point is achieved in a new-classical
economy in which the product of household labour Af(w) = n(w) household consumption of
labour product
This economy produces at near constant rates of return and has iceberg costs because
output is non-pecuniary
Surpluses produced is not enough to participate in the formal economy or to constitute as
savings and thus is consumed directly. Final equilibrium is based on the carrying capacity
of the land
ECONOMIC VALUE OF TRADITIONAL
ECONOMIES
• Equity issues is an important rationale behind the
implementation of land reform however land reform also has to
conform to the economic rationale of diversified production and
agricultural incomes
• Traditional economies, being informal subsistence based
economies have important economic functions
• They provide higher living quality through a diverse location of
household income strategies and pooled resources
• They provide alternative welfare functions for the poor-elderly
and disabled
• They develop translocational socio-economic networks operating
through circular migration and remittances (NELM)
• They enable the development of transitional industries
BLACK AND COLOURED LOW INCOME
INFORMAL EMPLOYMENT GROWTH
FORMAL ECONOMIC EMPLOYMENT
NOT ECONOMICALLY ACTIVE POPULATION
GROSS VALUE ADDED PRODUCT GROWTH
EFFECT OF INPUT SUBSIDISATION
ON THE INFORMAL SECTOR
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If the level of input subsidisation is higher than the poverty trap
depreciation, it will result in increased absorption of subsistence
farmers into formal economy (sBf(k)) and increased surpluses
amongst farmers who choose to remain in the informal sector (Bf(w))
PROS AND CONS OF FREE MARKET
• Free-market economy: lower taxes, lower output (yA), higher food
and industrial input prices, lower living quality for poor, higher
prices of industrial goods, lower industrial production rates, lower
exports, increase urbanisation, lower rural growth, increased
urbanisation, decreased rural and industrial employment (kA)
PROS AND CONS OF POOLED MARKETING
• Pooled marketing: increased taxes (tB), higher output (yB),
lower food and industrial input prices, higher living quality for
poor, lower prices of industrial goods, increased industrial
production, increased exports, increased rural growth,
increased rural and industrial employment (kB)
AGRICULTURAL MARKETING SCHEMES
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Statutory control boards collectivising the marketing of agricultural
goods
One channel marketing, only board stores and distributes goods
Boards cooperatively and democratically administered by farmers
Boards carry admin duties: registration, taxation, research, auditing,
information, marketing, distribution, price fixing, administration,
professional services, all at nominal cost to the farmer
Boards instituted long-term price controls, stabilising and lowering food
prices/ production inputs, enabling collective bargaining by farmers,
and increasing agricultural output
Boards subsidised lumpy inputs, enabling a higher capital-labour ratio
and higher productivity
Non-price competition based on quality, variety and internal efficiency
Distribution costs are shared equally by producers, allowing farmers in
peripheral locations to compete with centrally located producers
AGRICULTURAL MARKETING SCHEMES
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Instead of stimulation packages, pooled marketing of produce and input
subsidisation – increase productivity rates throughout the agricultural
sector
Protects small farmers from price competition and prevents market
exploitation by the retail sector
Public spillovers: high employment rates, higher production volumes,
increased public health, food security, lower food prices for the poor,
lower production costs for industries, increased exports
Higher production resulted in stronger small-town value chains –
economic growth in peripheral areas
Practised in varying degrees in US and EU. Was successfully practised
in South Africa between 1937-1996
Is still successfully practised in sugarcane farming, the only agricultural
sector successfully meeting BEE targets
Was destroyed by neoliberal WTO policies, before it could be used to
uplift small-scale black farmers after uplifting white farmers for decades