The Role of Markets
Current and Historical Information
The Role of Current Information
Current Market Information and Spatial Arbitrage by Traders
Current Market Information and Farmers
Current Market Information and Small Traders
Historical Market Information and Temporal Arbitrage
Historical Market Information and Farmers
Historical Market Information and Policymakers
Using Current and Historical Market Information for Food Security
Chapter 1 briefly reviewed some of the arguments in favour of Market Information Services. It noted that an MIS can contribute to spatial arbitrage and open up the possibility of temporal arbitrage. Availability of information should encourage new entrants into the marketing system. Market information can assist farmers in negotiations with traders. In the longer term it should also provide farmers with the opportunity to plan and diversify their production in line with market demand and to schedule deliveries to the market at times when returns are most rewarding. Finally, market information can be a valuable input into Early Warning systems by highlighting food shortages which are reflected by higher prices and can also assist government planners in developing an understanding of the ways markets work. This Chapter[7] considers some of these justifications in more detail. It concludes that there are good arguments in favour of Market Information Services, which makes the existing weaknesses of state-run services, outlined in Chapter 3, all the more difficult to accept.
Correct decision-making and planning depend on reliable information on variable market conditions, which are expressed by changing prices. Advocates of free market economies consider price flexibility in a positive light in that it reflects both supply and demand and seasonality in production and provides producers with incentives to adapt their production to market requirements. However, one of the preconditions for a market economy is that correct information on market conditions must be available and, within reason, accessible to all.
Markets should provide the necessary facilities and services to producers and consumers to enable price formation to take place and exchange to be facilitated.
Markets should, in theory, supply food corresponding to consumer preferences. Simultaneously, prices that consumers are willing to pay for different commodities and grades should be transferred to producers in order to encourage production of that produce which is in demand. Price differences over time and between market locations should correspond to the marketing (transaction) costs incurred, notably those for storage and transport.
Prices are the result of the functioning of the market and are determined by supply and demand which, in turn, are influenced by costs of production, the costs of marketing and by consumer preferences, among other things. Prices act as signals for the allocation of productive resources in the agricultural sector. This is not, however, a straightforward process in many countries, where market conditions for agricultural commodities change as a result of seasonal production, where infrastructure (roads, telecommunications and the physical markets) is underdeveloped and where liberalised marketing systems are replacing state-controlled systems. These circumstances result in high risks and high marketing costs.
Information of use to those in the marketing system and to others is basically of two types. This chapter first considers the use and effect of information on prices which is as up-to-date as possible and which can facilitate bargaining and spatial arbitrage. This we refer to as “current” market information. Secondly, the chapter reviews the use of information which is compiled over time, often several years, and can be used for production planning, storage decisions, government planning and Early Warning. For the sake of simplicity this is referred to as “historical” information.
Access to timely information on prices and quantities plays a crucial role in reducing the risk of losing money on a market transaction. High risks lead to high marketing costs, as high margins are necessary to compensate for possible losses. In the extreme case, farmers with information can decide whether or not to harvest, so avoiding sending produce to market in times of glut only to discover that the price received does not cover harvest, packaging and transport costs.
Accurate and timely information should reduce the costs of food marketing. However, information cannot be perfect. Firstly, prices move too rapidly for available information to serve as more than a guide to likely returns. Secondly, the costs of improving information have to be offset by the additional benefits. Even when more precise information can be obtained, it might be too costly to obtain. This implies that those involved in marketing will always have to take decisions based on varying degrees of imperfect information.
All exchange relationships tend to have elements of market power on one side of the exchange or the other. In agricultural marketing transactions the party with more knowledge usually, but not always,[9] sets the initial price. The other party then decides whether to accept or reject the offered price. If only limited competition exists, there will be little pressure to set the offered price close to the actual costs. Competition, however, can increase the weaker party’s knowledge of market conditions and trigger an adjustment in the price, either by direct negotiation or by the patronising of alternative dealers. In such a framework of price formation, market knowledge implies market power. One of the main steps governments can take to improve the fairness of market price formation is thus to ensure that timely and accurate information about actual market conditions is available to all.
It is important that the farmer should be able to sell his or her produce at a convenient stage of the marketing channel. For example, some farmers have the option of selling at farm gate, of delivering to a local assembly market, of supplying a wholesale market direct or of selling directly to retailers or even to consumers. However, a maximum value added for the farmer is not always an optimal solution. This depends on the costs (e.g. transport, risk bearing and time) involved when the farmer decides to sell in a market segment closer to the final consumer. Availability of information on market conditions at different locations or different points in the marketing chain is necessary for choosing where to market.
Market performance is related to the functioning of arbitrage.[10] Spatial arbitrage should equalise supply and demand at different market places until price differences are reduced to the level of transport costs. The higher the level of transaction costs between markets, the smaller the probability that exchange will take place between them.[11] Links between markets thus become more likely as transaction costs decrease.
When risk or the cost of identifying market outlets is reduced because of the availability of market information, transaction costs will go down. Lower transaction costs thus influence quantities and prices in the market. For example, when transaction costs go down, supply to urban areas will increase and prices decrease. As a consequence, demand will increase. In rural areas, prices and quantities traded will also tend to increase. Urban consumers and rural producers will thus benefit from reduced transaction costs, while rural consumers will experience higher prices. Where there are producers closer to urban areas, these will obtain lower prices than hitherto.
The above considers the case when information promotes the flow of produce from rural to urban areas. Availability of market information will also encourage spatial arbitrage between two markets, especially in cases where information and transport costs are relatively low. If no trade exists between two markets, both will clear supply and demand at their respective equilibrium prices. When price differences between the two are larger than the transaction costs, trade relations will be developed if there are no controls to inhibit exchange. A new equilibrium price will be determined for the combined market for the two regions.[12] The level of transaction costs thus influences trade flows and prices in the markets. When transaction costs go down, as a consequence, for example, of the availability of price information, efficiency gains are achieved. The availability of correct price information will lower the traders’ cost of information gathering, as well as the risk of sudden unfavourable price changes. Consequently, they will have more opportunities to prevent unprofitable transfers and this should ultimately lead to a reduction in their gross margins.
Marketing margins are relatively high in developing countries. There can be many reasons for this. For example, marketing by a large number of small traders will, in theory, be economically less efficient than trading carried out by a limited number of large traders, although it may offer other, more social, benefits. However, lack of information is generally seen as being one of the main reasons, apart from transport costs, for high transaction costs. When no formal MIS exists, information has to be collected by the traders themselves. This is especially costly for small traders. In many cases, information is gathered through personal networks based on mutual trust and by personal visits to markets. Due to the time involved, the information received is often dated. Large traders, on the other hand, do have access to telecommunications and have a scale advantage in that they can spread the costs of information over much larger quantities of produce.
Farmers often have limited outlets for their produce and are often bound by traditional trading relationships, which may include an element of credit provision by the trader. Opportunities for most farmers to take advantage of spatial arbitrage possibilities are therefore restricted. Such opportunities are further hindered by the small quantities produced by most.
While there may be few spatial arbitrage opportunities for small farmers, it cannot be concluded that market information is of little value to them. Indeed, while the opportunities for arbitrage may provide much of the theoretical justification for the provision of market information, the reality is that traders often already have accurate and widespread information networks and the introduction of an official MIS may add little to arbitrage possibilities. However, the practical benefits to farmers are often much greater than the arbitrage possibilities for traders which can, theoretically, result from MIS.
At the simplest level, the availability of market information can enable farmers to check on the prices they receive, vis-à-vis the prevailing market prices. This is the case in Indonesia, where horticultural market prices are broadcast daily for all major production areas. If farmers receive prices lower than those broadcast they may, for example, conclude that they should seek out other traders in future, negotiate more forcefully or try to improve the quality and presentation of their produce. Broadcast prices are also used as a starting point in negotiations with traders the following day and the availability of the Indonesian MIS does enable farmers to negotiate from a position of relative strength.
Farmers in Indonesia have available an MIS which provides prices at close to the farm-gate level. Few other countries have either the concentration of horticultural farmers in a limited number of production pockets or the resources to contemplate such a service. Nevertheless, even a simple service offering regular price information for one or two terminal markets can be beneficial to farmers in several ways. Information reduces the costs of selling the produce by reducing risks. In the extreme case, farmers with information can decide whether or not to harvest.
Information on market conditions may change farmers’ marketing strategies. While, individually, farmers may be unable to take advantage of spatial arbitrage possibilities, collectively they may be able to organise transport to more distant and profitable markets. Group marketing by farmers is not, of course, without its problems and while offering some attractions has not been widely taken up in practice. Improved availability of information may, however, encourage more group marketing initiatives.
The early part of this chapter reviewed the theoretical impact of market information on spatial arbitrage. In practice there are likely to be few actual situations where the introduction of an MIS will open up completely new spatial arbitrage possibilities. While there may be cases where no trade presently exists between two points and such trade can be promoted by market information, the likelihood is that a Market Information Service will bring new entrants into existing trading areas rather than open up new markets. Thus, when the market is imperfect, market information may encourage market entry and make the market more competitive and more efficient. Current market information can be expected to be of greatest value to relatively small traders. Unlike larger traders, small traders lack the resources to monitor markets on a regular basis (see Box 1).
Storage costs, such as labour, maintenance, chemicals, depreciation of storage facilities and costs of invested capital, can be considerable. However, price changes over time depend not so much on storage costs as on how much of a product is stored for subsequent release onto the market and on seasonal production levels. The highest prices during a year do not necessarily correspond with the end of the lean season, as prices in other regions or countries also influence market conditions. Variable climatic conditions between regions and between neighbouring countries can complicate the picture by opening up opportunities for spatial arbitrage, thus making storage a risky activity. It is here that market information concerning spatial price differences, stock supply conditions and forecasts of the coming harvests, can play an important role. But even at the simplest level of market information, i.e. prices, knowledge of past price trends can enable traders to form an opinion about the likely viability of storage and its associated risks.
Market information can facilitate optimal decision-making based on market incentives. A lack of information will hamper the farmer in taking decisions concerning the crop and the quantity to produce and concerning the best time to produce to maximise returns. Information on price fluctuations will also give insights into the risks associated with producing different crops. Consequently, better information should lead to higher profitability although, for most small farmers, information services will have to be supplemented by extension services which are able to assist them to interpret price data. Lack of information is an entry barrier to both trade and production. Where farmers have had access to information they are able to move beyond subsistence production. Shifts in cropping patterns to higher value produce have also been noted, especially in vegetable production.[13]
Market information can be particularly valuable where countries are changing over from a state-controlled marketing system to one of private enterprise. Box 4 in Chapter 3 discusses the MIS in Zambia, which has played an important role in highlighting marketing possibilities for farmers who, until a few years ago, had a guaranteed outlet for their maize through the Government parastatal and cooperative movement. Under the liberalized marketing system, farmers not only now have to seek market outlets but also have to carry out storage for longer than in the past. In most rainfed production systems, the cropping calendar limits the cultivation and harvesting period to several months during a year. The question “when to produce” is thereby limited to a fixed period. However, this makes the question “when to sell” more important. Availability of information about seasonal price movements should, in time, facilitate decisions about when to sell the crop. The Zambian MIS also concluded that farmers required more than provincial price information if they were to be fully incorporated into the market. In the initial stages of liberalization they would also benefit from information about who was purchasing the crop, where, at what price and under what conditions (e.g. cash, credit, with or without bags). The MIS embarked on the development of provincial newsletters to provide this kind of information.
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Box 1, Costs of Information[14] In Benin there was until recently no Market Information Service, so farmers who wanted to sell their surpluses had to search for information about market conditions. It is easy to gather information on local markets as these are visited regularly to buy consumer goods. Information on conditions in markets further away was more difficult to obtain. These markets were visited less regularly by members of the household or other inhabitants of the village. The costs of a journey to visit these outlets and gather information constituted an entry barrier, as the quantities handled were often small (less than a few hundred kilograms). Small traders, quite numerous on the Benin maize market, faced
the same type of problem. Traders collected small quantities in the villages
(often less than 100 kilograms) and sold these at the nearby regional market
centre, the only market for which information was available. Even wholesalers
had a small area of intervention as quantities handled were limited (less than
1000 kg. per market day). They often operated in a network of a few market
places. Information on market conditions was collected by personal contacts in
the market place. Generally, traders visited the market in person and decided
whether it was profitable to buy or sell. Information costs consisted mainly of
transport costs (taxi) of the trader and the opportunity cost of labour.
Transport costs could be significant, especially when only small quantities were
traded daily. Moreover, in case of changed prices that precluded profitable
exchange, information costs became a loss that had to be recovered from future
transactions. For most traders, gathering information on alternative outlets was
costly, because of limited turnover and because of the risk of such a
loss. |
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Box 2, Spatial and Temporal Arbitrage Interaction[15] There are times when spatial and temporal arbitrage interact. An example comes from Benin where harvests depend to a large extent on the level of rainfall. In the south of the country, two maize harvests are possible (July-August and December-January), while in the north there is only one harvest (September-November). The fact that harvest periods do not coincide, while distances between markets are a maximum of 500 kilometers, makes interacting spatial and temporal arbitrage possible. However, rainfall is unreliable. It may arrive early or late,
and harvests may be mediocre or abundant. Generally, surpluses in the north are
transported to the south at the end of the lean season in April/June. When
harvests in the south are abundant and early (due to early rains), prices may
reach their highest levels in April as stocks are liquidated during a relatively
short period before the start of the new harvest. When harvests in the south are
mediocre and late, then prices can rise to very high levels up to July, and this
attracts surpluses from the north or even further away from Nigeria. After the
beginning of the harvest period, prices will decrease in the south, while prices
in the north will stay at a relatively high level since the harvest will start
later in this region. These conditions make storage risky and consequently the
value of correct information all the more important. |
Traders in developing countries are often accused by policymakers of exploitative behaviour because large differences between farm-gate and retail prices are observed. It is assumed that the unbalanced relationship between farmers and traders, or between traders and consumers, based on better market and price knowledge of traders, together with imperfect competition, results in abnormally high profits for traders. Often, it is very difficult to substantiate these accusations because of the lack of clear information. Reliable price information is absent and estimates about the costs and risks traders have to bear are difficult to obtain. Moreover, the risk premiums necessary to deal with price fluctuations are hardly taken into account by policymakers making the accusations. Market information offers the opportunity to judge the performance of markets for agricultural products and to determine micro-economic constraints, although additional information on, say, marketing costs will be necessary to form a reliable opinion regarding the efficiency of the market.[16]
All governments play a role in facilitating food security. Policies to improve availability of and accessibility to food have to take into account the functioning of markets. An efficient marketing system can often be used as an instrument of food security policies: supply of food can be augmented by the market when local supply is insufficient. An efficient marketing system will enhance food security: however, government facilitating services such as market information are likely to be necessary to improve the functioning of the system.
-Early Warning[17]
Two areas where market information is particularly important are the provision of early warning of food shortages and the management of food security reserves. In the former case, price trends can be used to confirm indications, which are available from other sources (e.g. rainfall and crop forecast data), of possible food shortages. Comparison of seasonal price movements in a particular year with previous years can often provide indications of the seriousness of food deficits. Where extensive price data collection is undertaken, this can be used to identify localised shortages, which may be missed by other methods. However, it should be realised that open-market prices are usually rather late indicators since they reflect current supply and demand. Additionally, open-market prices only reflect effective or commercial demand and tell nothing about families who lack resources to purchase food. One approach to early warning is to monitor prices of items other than the main food staple. For example, a likely response of farmers to an emerging food shortage is to sell livestock to raise cash to purchase staples. Thus a developing food security problem can often be indicated by declining livestock prices.
-Food Security Reserve Management[18]
Managers of food security reserves require detailed current price information and price forecasts, together with historical information on seasonal price patterns, in order to decide when to release stocks onto the market and when it may be opportune to carry out stock replenishment. While the need for such security reserves perhaps increases when grain markets have been liberalized, it is essential that their operation does not disrupt commercial market operations. Thus reserves need to be operated on the basis of clear rules governing the purchase and release of stocks. Detailed information on market prices is essential if these rules are to be applied and if arbitrage activities by the private trade are not to be disrupted.
