Agriculture is a branch of economics in which people earning their livelihoods are affected by many factors independent of or only slightly dependent on their own will (climate, soil fertility, greater transport expenses etc.). To compensate for natural inequality, considerable expenditure must therefore be made in certain areas (hard work, complicated and expensive equipment, fertilisers, crude oil products etc.). Another factor which adds to the financing requirements of agriculture is the time lag between the application of inputs and the realisation of the harvest. In industry and services, by contrast, the flows of inputs and outputs are more continuous. Once the operation is started, today's outputs and sales can pay for tomorrow's inputs. In this sense, the working capital requirements of agriculture are inherently higher than those of other sectors.
In addition to the requirements for working capital, investments must be made in land, buildings, machinery, fertilisers, animals and other supplies for the good of agricultural production.
On the other hand, agriculture is also a way of life and its loss would clearly have extremely serious consequences for the whole of society. Poorly developed financing structures for the sector may exacerbate the flow of migration from rural areas to towns. It is not realistic that all farmers will open hotels, that the popularity of farm tourism will suddenly increase or that there will be tens of golf courses in every county.
The chapter analyzes the financing requirements for agriculture, current and past policies in that regard, and ways in which those requirements may be better satisfied. Financing for agriculture is an essential means for not only increasing production but also for promoting rural life.
Agriculture and rural life can be financed by own (or internal) sources or external sources of funding. Own sources are considered to be owners' equity, which is made up of capital stock, shares or State capital, reserves, retained earnings and financial year profits. External sources are considered to be above all credit or loans, the vast majority of which comprise bank loans and obligations (financing by promissory notes, leasing).
Sources of financing may be divided according to the length of time for which the funding is used into long-term (over one year) and short-term (less than one year). Sources of long-term funding are owners' capital, the issue of promissory notes, long-term loans and donations (or unreimbursable aid). Sources of short-term funding are short-term loans (including the line of credit), leasing, factoring and consumer credit.
The monetary reform of June 1992 created the basis for radical economic changes and a policy of stabilisation. Since then, the cornerstones of Estonian economic policy have been:
A fixed nominal exchange rate for the Estonian kroon (EEK). Since the monetary reform, the exchange rate of the Estonian kroon has been fixed at the level of 1 DM = 8 EEK and has been guaranteed by implementing the currency board system.
Strict financial policy,the main objective of which is a balanced State budget and balanced local budgets.
Ending price controls and subsidisation,in essence by the end of 1992 (with the exception of prices controlled by the State on goods sold and services rendered by certain state enterprises).
Differentiation of wage policy in the private sector, State enterprises and the governmental sector.
Liberal conditions for foreign trade, i.e. no limitations on imports and exports.
In part as a result of these economic reforms, a process of profound reorganisation has occurred and is occurring in agriculture, bringing with it a reduction in production capacity and the work force which in turn affects rural life as a whole. As a consequence of this, there is a nationwide rural crisis which can be expressed in two problems: 1) there are higher risks and lower profitability associated with the agricultural production; 2) the sector lacks the possibility to guarantee loans covering its needs.
The main pieces of legislation that affect credit for the sector include: the Law of Principles of Property Reform (1991), the Bankruptcy Law (1992), the Property Law (1993), the Law on Taxation Regulations (1993), the Securities Market Law (1993), the Law on the State Support of Enterprises (1994, amendments 1995 and 1996), the Accounting Law (1994, amendments 1995), the Law on Credit Institutions (1994), and the Law on Commercial Collateral (1996).
The number of commercial banks in Estonia has decreased during the period 1992–1997 (April) from 42 to 12. In addition to these, a branch of the Finnish Merita Bank has a Bank of Estonia operating licence. Currently, it is mainly the Estonian Land Bank (Eesti Maapank) and the . Union Bank of Estonia (Eesti Ühispank), both of which developed out of the former Agrobank (Agropank), which deal with supplying credit to agriculture.
Prior to economic reform, banking services in Estonia were provided by the Estonian branch of the Soviet Union State Agricultural Bank (Agropank) which was subordinate to the Soviet Union Central Bank (Gospank). Agrobank specialised in providing credit to agriculture and the foodstuff industries connected to it. In 1990 its Estonian branch was changed into the Estonian Land Bank. Following the independence of Estonia, the Estonian Land Bank was divided into 14 independent commercial banks, of which three united to form the new Estonian Land Bank (1992), ten formed the Union Bank of Estonia (final formation occurred in May 1994) and one bank formed the Pôlva People's Bank (Pôlva Rahvapank). At the end of 1995, the latter merged with the Viru County Commercial Bank (Virumaa Kommertspank).
From 1992 onwards it has also been possible to form cooperative financing institutions savings and loan cooperatives (henceforth SLC - in Estonian LHÜ). There are currently two SLCs operating in Estonia: Loo LHÜ and Leie LHÜ. Another 15–20 potential SLCs are in the process of starting to apply for their licences.
The Parliamentary resolution “Fundamentals for the elaboration of laws concerning rural life and rural management”, of 23 February 1994, is still valid as an expression of State policy on rural life and rural management. The only financial policy named in the resolution is credit policy supporting rural management, which is said to be a means of creating stable agricultural production and forming optimal prices of foodstuffs. However, as of yet, the concept of rural life and rural management has not been defined in legislative acts. There is no legislative foundation for specifying which costs of agricultural and rural development are to be borne by the State. A clear credit policy is also lacking.
In the Law on the Organisation of the Agricultural Product Markets (passed on 25 September 1995) it is prescribed that State support shall be given:
to provide partial cover for credit taken for the production of agricultural products;
to organise the export of agricultural products.
The above-mentioned law also prescribes that the diversity of regional economic conditions be taken into consideration in the designation of State support. Such support is prescribed in the State budget as targeted and it is to be paid out according to a set criteria laid down by the Estonian Government.
Support for small and medium sized enterprises is regulated by the Law on the State Support of Enterprises (passed on 10 May 1994). According to this law, State support is taken to be any kind of loan, loan guarantee or capital support granted to an enterprise or entrepreneur in line with a defined criteria, and in accordance with any conditions laid down by the Estonian Government. On the basis of this law, the granting of support to enterprises is organised by such foundations as are to be set up on the basis of the Law on Foundations. The purpose and size of support has hitherto been a topic in the negotiations on the State budget and the final results are fixed every year in the State Budget Law.
From these examples of legislation in combination with the overall framework of economic policy, it can be seen that basic decisions still have not been taken on the kind of economic support to agriculture. There are contradictory tendencies in policies and legislation. This topic is treated more fully in Chapter 2 of this Strategy, but the lack of clear decisions in this area inhibits the development of a clear financial policy for the agricultural sector.
Agriculture and rural life have thus far mainly been financed by the Republic of Estonia and relatively little by private banks. The sources of finance of the Republic of Estonia are State budgetary resources, foreign loans accepted and guaranteed by the state, and foreign aid. The Government's offer of State landed property as loan guarantees can also be viewed provisionally as a form of financial support.
The Government's provision of financial resources to the sector has three distribution schemes:
via the Agriculture and Rural Life Credit Fund (loans);
by means of other institutions (subsidies, loans);
by means of the Federation of Estonian Farmers (Eestimaa Talupidajate Keskliit) subsidies.
In addition to these instruments, programmes are financed via the Ministry of Agriculture and the Regional Policy Loan Scheme is also in effect.
The combined data on all State credit for agriculture (flow concept) in the years 1993–1996 is presented in Appendix 1 and data on State support is presented in Appendix 7.
The amount and types of Government expenditure in agriculture are not established in any law. The total resources envisaged for these expenditures are established every year by the State Budget Law and are therefore dependent on agreements between the various political powers during the process of drawing up the budget. In 1996 and 1997, resources totalling 255.4 and 278 million EEK respectively were allocated (see Figure 1 and Appendix 7). The outlay on agriculture and rural life amounted to 3.9% of total state budgetary outlay in 1997.
Taking into consideration the fact that Estonia has decided it would like to join the European Union, it would henceforth be appropriate to take such rules as are in force there as the starting point when working out amounts and types of public expenditure in the sector.
Figure 1
State budgetary resources allocated to the support of agriculture and rural life in 1996 and 1997 (in million EEK)
The PMKF was created by the government of the Republic of Estonia on 19 July 1993. The objectives of the fund are:
to create new jobs in rural areas through the development of small enterprises and by preferential development in less developed areas;
to increase the efficiency and quality of agricultural production;
to support the formation of enterprises servicing agriculture and processing agricultural products in a way to make them correspond to market demand.
The loan resources of the fund consist mainly of appropriations from the State budget. The fund grants long and short-term loans via credit institutions, and a public competition was held in 1996 to find credit institutions to service the fund. In 1996 the fund was being serviced by six Estonian commercial banks and one leasing firm.
Minimum and maximum rates of interest for the loans issued are established by the credit procedures. The respective interest rates to banks and final borrowers on loans issued in 1993–1996 are presented in Appendix 2.
As of 31/12/1995, the resources of the fund totaled 346.6 million EEK, of which 299.5 million EEK were appropriated from the state budget. In total, 107.6 million EEK of the loan resources had been given as short-term loans and 227.9 million EEK as long-term loans. In 1995, new loans were issued to a total of 148.4 million EEK (Appendix 3). The average loan size in 1993 was 65,000 EEK, in 1994 it was 125,000 EEK and in 1995, 122,000 EEK.
The resources of the PMKF are used to fund:
agricultural production, including:
- the cultivation of grain, vegetable and technical cultures as well as their seeds;
- agricultural animal husbandry and the keeping of agricultural animals;
- poultry farming;
- horticulture;
- apiculture;
- fur farming;
Loans granted in 1995 are presented in Appendix 3, classified according to their sphere of activity and their purpose. Loans for the agricultural sphere constitute 79.6% of the total of loans issued and there has been a preference for financing animal husbandry (47.2% of loans given to agriculture). As for the purpose of the loans, short-term loans have been used to buy current inputs and long-term loans to buy and build plant, equipment and animals.
In 1995, 3175 applications were submitted to the fund for a total sum of 475.7 million EEK. Of those, 2752 applications were granted, for a total sum of 335.5 million EEK or 70.5% of the amount requested(Appendix 4). The regional distribution of the loan resources placed at to the disposal of banks is presented in Appendix 5. The largest resource allocations have been made to Lääne-Viru county (12.4% of the total resources), Harju county (9%), and Tartu county (8.9%). The largest administrator of the resources is the Union Bank of Estonia (55.8%).
Money has been appropriated to the PMKF every year (since its establishment in 1993) by means of the State Budget Law. The PMKF council uses its annual budget to confirm the division of the resources into loans, interest compensation and capital support. In the PMKF's 1997 budget, totals of 150 million EEK for loans, 20 million EEK for interest compensation and 20 million EEK for capital support were envisaged.
The Agriculture and Rural Life Credit Fund is currently being reorganised into a foundation.
The Small Enterprise Credit Fund was set up in 1993 but because of a shortage of financial resources only really began its economic activity in 1995. The objective of the fund is to lend to small and medium size enterprises (i.e. with up to 80 employees and with a net turnover not exceeding 15 million EEK) operating on private capital, and to guarantee loans issued to them. The main lending fields of the fund are as follows:
In 1995 the base interest rate of loans was 18%. The fund requires projects to be self-financed to the extent of 25%, i.e. the loan will not exceed 75% of the cost of the project. The maximum loan size is one million EEK, and the repayment period is up to 10 years.
This fund commenced operations in October 1993. The objective of the fund is to promote the expansion of Estonian exports. The need for export credit arises from the fact that there is a time lag between incurring the costs of exporting and receiving payment for the goods exported. Loans are generally given on a short term of up to one year. The maximum loan interest is 18%; in 1995 the loan interest rate was 15–18%. So far mainly projects associated with production (timber, peat, shipbuilding, textiles) have been financed, and the main export markets have been the Scandinavian countries and Germany.
The basis for the receipt of foreign aid funds has been an agreement or memorandum of cooperation signed by authorised individuals of a country and of the Republic of Estonia. Such an agreement or memorandum specifies the possibilities for utilising the resources of the fund. All foreign aid and foreign loan fund monies in the Ministry of Agriculture are held in special accounts at the Estonian Land Bank and are put at the disposal of the bank as credit resources. Relevant agreements have been concluded with the Estonian Land Bank about the use of such funds, according to which the funds themselves will partially or totally bear the cost of any loss from bad debts in their account. The accounting of the flow of foreign aid funds is presented in Appendix 6.
The American Foreign Aid Fund
The Government of the United States of America donates agricultural products (maize) to the Republic of Estonia. Resources gained from the sale of these agricultural products may not be used to cover any costs arising in the Ministry of Agriculture itself.
The German Foreign Aid Fund
The use of the fund's resources is regulated by an agreement signed by the Estonian Ministry of Agriculture and by the Food, Agriculture and Forestry Ministry of the Federal Republic of Germany. Resources are to be used in a manner identical to those from the American Foreign Aid Fund.
The Italian Foreign Aid Fund
Resources are used according to a memorandum of Cupertino. Every individual expense has to be approved by the Italian embassy (by the Ambassador or, in the event of his absence, by the Economic Adviser). The bank will not fulfil any payment instructions without a protocol from the foreign aid commission of the Ministry of Agriculture. The protocol must already have been ratified by the Italian Embassy. According to a newly signed memorandum of cooperation, the resources of Italian Foreign Aid Fund will be put at the disposal of the Agriculture and Rural Life Credit Fund.
The USA Crop Loan Fund
Crops were received as a loan with a lump sum of US$10 million from the Commodity Credit Corporation. This sum plus interest must be repaid within 30 years. In order to make this possible, the interest must circulate productively and is placed as a credit resource with the Estonian Land Bank. The agreement between the Commodity Credit Corporation and the Ministry of Finance was concluded on 28/05/1992.
The EU Fund (scheme) or Rural Enterprise Project
The fund is drawn from the 46.8 million EEK received from the sale of EU fodder grain aid. Support has been granted from the fund to small and medium size enterprises connected with agriculture and also for the development of enterprises involved in rural tourism, fisheries and timber processing. Capital support was also paid from these resources in 1993–1996. The granting of support follows guidelines of the Ministry of Agriculture, along with those of the technical assistance of the EU's PHARE programme.
The Rural Business Development Fund
This fund is financed from the sale of EU and USA crop aid. The fund has given support (in the range 100,000 -1 million EEK) to small rural enterprises, mainly in poultry farming and meat, fruit and timber processing, for the purchase of equipment and the acquisition of current inputs. The fund operates under the administration of the Regional Minister.
Foreign Loans
Of the foreign loans received by the Republic of Estonia, the following have been directed towards agriculture and rural management: AB Svensk Exportkredit (Swedish Export Credit Ltd) (lent to AS Lekto), European Union (Economic Community) loan (reconstruction of boilerhouses), World Bank loan (urgently needed goods: protein feed for animals, pesticides, veterinary medicines), Japanese Export-Import Bank loan (buying spare parts for agricultural machines as well as fertilisers and chemicals), European Bank of Reconstruction and Development loan (the part of the loan for energy). See Appendix 1.
Ten State programmes and development plans are being financed by the Estonian Government during the 1997 fiscal year. Accumulated data on their financing is presented in Appendix 7.
The objectives and means of these programmes and plans are as follows:
Stale programme for the cultivation of oil-bearing crops and the processing of vegetable oil.
The main objective of this programme is to guarantee a supply of domestically-produced high-quality vegetable oil and vegetable, oil products for the Estonian population in the near future, in the interest of improving the quality of food supplies and the health of the people. In order to achieve this, the area used for cultivating oil-bearing crops will have to be expanded to 30,00033,000 hectares by the year 2000, so as to obtain 10,000–15,000 tons of quality cooking oil and 25,000–30,000 tons of protein rich feed. It is envisaged that in 1997 the export of oil-bearing crop seeds and also their sale in the domestic market will provide agricultural producers with an income of 31–33 million EEK, of which the revenue from sales tax and income tax will provide the state with 2.7–2.9 million EEK, or three times more than the total state budgetary funds spent on implementing the programme.
Development plan for flax cultivation, its primary processing and the export of flax fibre.
The main objectives are to guarantee continuity in the cooperative infrastructure of flax cultivation, to import the seeds of competitive varieties of staple and crown flax, and to bring the
seed cultivation system into line with OECD requirements by 1 January 1999. In order to achieve these objectives, the area used for cultivating flax and the total output must be increased and the quality improved. The export of flax producís would help to improve the Estonian balance of trade deficit.
Agricultural engineering targeted programme.
The general objective of the programme is to reduce the production costs of agricultural producís, to improve their quality and to increase their competitiveness. The basis has been the assumption that, upon entering the European Union, Estonian agricultural producers will only be able to compete in the European market if the agricultural technology and machinery in use in Estonia is up to European standards. Even using Western components, Estonia is capable of producing machinery equivalent to that made in the West at up to three times less cost, meaning that the need for agricultural producers to invest in machinery can be reduced by 1.3–2 times.
State programme "The Creation of a System of Demonstration Enterprises in Agriculture ".
The objective of the programme is to create a network of agricultural demonstration enterprises as envisaged by European Union directives. It is presumed that information about similar business units will help to improve the results of the approximately 300 farms encompassed by the network and that this could lead to an additional 2.4 million EEK in income tax revenue for the State.
State programme "Milk".
The objective of the programme is to implement measures with which a milk and dairy product control system in accordance with European Union requirements can be guaranteed. The requirements which are being worked out, including standards for milk and dairy products, must satisfy conditions for healthy eating as well as the European Union requirements. As a result of the programme it is presumed that:
555,000 tons of milk and dairy products (the optimum consumption levels for the population) which meet European Union quality requirements will be produced and a basis for increased exports of dairy products will be created.
The conditions in terms of the control and standardisation of milk and dairy products for entering the European Union will be met.
Development plan for the grain industry.
This is a development plan compiled on the basis of the Grain Law (RT I 1994, 48, 789). lts main objective is to create the conditions for Estonian self-sufficiency in the main varieties of cereals and for animal husbandry to be supplied with principally domestic grain and pulses. It is considered important that industry be supplied with quality domestic raw materials. Research and development measures are also important (the development of seed centres and a grain quality laboratory which meets international requirements). As a result of the development programme, total grain production could increase to one million tons by the year 2000 (the actual figure in .1994 was 500,000 tons), provided economic incentives for farmers are adequate. This volume of grain production would enable income tax of 50 million EEK to be paid. Domestic needs are forecast to be 830,000 tons, meaning that if the grain is of good quality the remainder could be exported.
Development plan for the growing and processing of potatoes.
The objective is to create the conditions for the country to become self-sufficient in potatoes and potato products and, in so doing, to reduce the amount of imported potato products to the absolute minimum. Propagation work is being developed and an entire seed growing system created. The export of seed potatoes is being started and developed and the conditions are being created for designating quality according to current standards. It is forecast that the implementation of this development plan will bring in some 25 million EEK to the State as tax revenue annually.
State agricultural consulting programme.
The objective is to increase the knowledge and abilities of farmers and others who work on the land. The main directions of activity are the organisation of competitions in the field of advising, the partial covering of the outlay of those requiring advising services and the development of consulting institutions. It is hoped that every kroon spent on implementing the programme will provide an economic profit of 10 kroons, or a rate of return of 1,000%.
Applied microbiology programme.
The objective is to elaborate and produce effective domestic vaccines and medicines, as well as to bring quality control requirements in terms of the diagnosis of some diseases (calf tuberculin and leukaemia) into line with EU requirements.
The Regional Policy Loan Scheme (RPL) was started on the basis of the regional policy conception at the Interior Ministry in 1995. The scheme is to be the basis for the creation of a Regional Development Fund. In this way, the State lending system will be supplemented with a fund, the objective of which is to contribute primarily to the maintenance of existing jobs and the creation of new ones in such areas as have favourable conditions for enterprises but where development has slowed. The judicial basis for the RPL is decree no. 196 of the Government of the Republic of Estonia, of 13/04/1995.
The existence of net assets to the extent of 25% of the cost of the project is necessary for financing to be approved. Applicants have been helped to obtain loans from banks and investment funds by the granting of collateral. The fund has also been used to make up for any credit which is lacking from other sources. In 1995–96, 23 million EEK were appropriated from the State budget. However, resources from the other sources have been found in the amount of 31.15 million EEK as at 24/09/1996. So far not one bad loan has had to be written off. The RPL's investments, technical monitoring of loans and other servicing activities take place through its administrative company Maapankade Investeeringute AS.
One method of supporting agriculture which has been used in Estonia is interest rate subsidies on agricultural loans. Since 1991, the interest on long-term loans using State budgetary resources has been offset in such a way that the borrower only has to pay 7–9% depending on the region. This procedure has its basis in the joint Ministry of Finance, Ministry of Agriculture and Bank of Estonia guidelines "A percentage of bank loans as partial compensation to agricultural enterprises" (23–24 July 1991) and "The procedure for lending to agriculture" (23–29 April 1992).
Until the third quarter of 1994, interest subsidies were issued quarterly. Following that, they were paid subsequently as capital support (i.e., the amount for 1995 was paid in 1996). In 1996, 16 million EEK were paid out for this purpose via the PMKF. The Ministry of Agriculture has assessed the requirement for interest subsidies (in the form of capital support) next year to be 20 million EEK.
The World Bank has criticised interest subsidies as disruptive to the development of credit markets and the European Union believes them to be a method of support which distorts the price of goods. In the longer run, as inflation and the overall structure of interest rates are reduced, it should be possible to eliminate the policy of interest subsidies, especially if macroeconomic policies induce more favourable trends in real agricultural prices (Chapter 2).
There is a lack of adequate information about the lending in rural areas by credit institutions, and therefore the total volume of loans granted to agriculture and rural management is not known. The classification of bank loans according to type of economic activity has hitherto been lacking in the bank statistics of the Bank of Estonia. The International Monetary Fund has presented a kind of information. As a result of the cooperation between the Ministry of Agriculture and the Bank of Estonia, it is probable that from 1997 onwards information about agricultural loans will be available from commercial banks.
According to the Bank of Estonia, the situation as of 01/01/1996 was that loans granted directly to agriculture by banks amounted to 218.9 million EEK. This figure includes loans granted from the resources of the Agriculture and Rural Life Credit Fund. The highest loan interest rate was 36.75% and the lowest 12.97%
As of 28 February 1997, the loan resources of Estonian commercial banks totalled 15,890.8 million EEK. The largest share of this (15,015.8 million EEK or 94.5%) comprised demand deposits and fixed-term deposits (of which short-term deposits made up 10,733.4 million EEK or 71.5% of total deposits). Besides these, debts to non-resident credit institutions, promissory notes issued and governmental loan and foreign aid funds are also considered to be loan resources. Commercial banks issued loans to the extent of 12,749.7 million EEK, of which 25.3% were short-term loans and 74.7% were long-term loans. The average interest rates on demand deposits (EEK) and fixed-term deposits in February 1997 were 2.52% and 4.95% respectively. The average interest rates on short term loans (EEK) and long-term loans in February 1997 were 11.76% and 11.68% respectively.1 Obviously, financial intermediation costs are high in Estonian banking sector
1 Souce of information: Bank of Estonia, Review of Banking as of 28 February 1997).
There are mainly two Estonian commercial banks involved in lending to agriculture and rural life, the Union Bank of Estonia and the Estonian Land Bank.
The allocation over types of economic activity of the 1,194,715,000 EEK (as of 31/12/195) in the loan portfolio of the Union Bank of Estonia was as follows:
| Industry, construction | 469,837,000 EEK | 39.3% |
| Commerce | 236,250,000 EEK | 19.8% |
| Agriculture | 137,793,000 EEK | 11.5% |
| Service, transport | 91,550,000 EEK | 7.7% |
| Financial institutions and the State | 77,325,000 EEK | 6.5% |
| Private individuals | 56,825,000 EEK | 4.8% |
| Others | 125,135,000 EEK | 10.4% |
(Source: Union Bank of Estonia, Yearly Report 1995, p. 13.)
The allocation by types of economic activity of the 601,600,000 EEK (as of 31/03/1997) in the loan portfolio of the Estonian Land Bank was as follows:2
2 Source: Lending Department of the Estonian Bank.
| Agriculture | 185,100,000 EEK | 30.8% |
| Fisheries | 7,100,000 EEK | 1.2% |
| Commerce | 149,800,000 EEK | 24.9% |
| Industry | 94,300,000 EEK | 15.7% |
| Construction | 11,100,000 EEK | 1.9% |
| Real estate management | 66,800,000 EEK | 11.1% |
| Hotels, restaurants | 21,100,000 EEK | 3.5% |
| Transport | 13,100,000 EEK | 2.2% |
| Private individuals | 26,000,000 EEK | 4.3% |
| Other | 27,200,000 EEK | 4.5% |
Loans given to agricultural producers make up a relatively large proportion of the loan portfolio of this bank. According to employees in the loans department, approximately 50% of loans from private individuals may be added to this category. The majority of loans granted to agriculture are typically long-term and are financed by various funds. The balance of loans granted from fund resources as of 31/03/1997 was 209,700,000 EEK.
A special computer programme is being introduced in the Estonian Land Bank for the more detailed analysis of loans. It should henceforth be possible to acquire more complete information about loans granted to rural areas and about the purpose of the loans.
The concept of enterprises using equity for financing has been very limited in Estonia because of the general belief that investments in agriculture are not productive and that therefore the profitability of equity invested in agriculture is low. There is only a restricted flow of equity into agriculture.
Statistical data taken from the Estonian State Statistical Office's (ESA) bulletin "Financial indicators of enterprises" about three major rural sectors in 1993 and 1994 is presented in Appendix 8. They cover:
agriculture, hunting and other fields of activity servicing them;
forest management, storing of forest resources and other fields of activity servicing them;
fisheries.
Other sources of finance in Estonia are chiefly short and long-term loans from legal entities and individuals (including financial institutions). They have a considerably greater role in long-term liabilities. According to ESA information, as of 31/12/1993 and 31/12/1994, respectively, these loans and other such liabilities made up the following proportions of short-term liabilities:
Of long-term liabilities they made up the following proportions:
Other possible sources of financing are consumer credit and extensions of the payment deadlines to suppliers and intermediaries for the cost of goods or services. In a random statistical sample carried out by ESA, consumer credit was shown to make up the following proportions of short-term liabilities in 1993 and 1994, respectively:
The relative importance of consumer credit has fallen in the forestry sector but has risen in the fisheries sector during the time period studied. The relative importance of consumer credit in the agricultural and hunting sector has remained the same. Working capital in both the agricultural and hunting and the fisheries sectors is positive and generally sufficient. Working capital in the forestry sector at the end of 1994 was negative, which indicates that the acquisition of fixed assets has also been financed by short-term liabilities. Instances of delaying the deadline for repaying creditors may occur.
Through debt ratio analysis, it becomes clear that a process of evening-out occurred in the agricultural and hunting and the fisheries sector in 1994. Foreign capital made up 35% and 32% respectively of total financing in these sectors. The debt ratio of the forestry sector at the end of 1994 was 81%. The debt ratio calculated by ESA on the basis of the combined positions of enterprises was 46.3%. Compared to this figure, the level of foreign capital financing in the forestry sector is relatively high and therefore the level of equity financing low. In the other sectors considered, the situation is the opposite.
The main transactions to have been observed on the part of non-bank financial institutions are leasing transactions. According to the ESA, in 1995 leasing contracts in the sectors considered here were signed in the following values:
Agricultural and hunting sector - 14,381,000 EEK, of which 13.6% comprised transportation, 82.8% machinery and 3.6% other fixed assets.
Forest management -17,883,000 EEK, of which 49.8% comprised transportation and 50.2% machinery and equipment.
Fisheries - 2,108,000 EEK, which was used entirely for the acquisition of transportation.
The system of financing by factoring is only just beginning to be put into operation in Estonia. Larger agricultural enterprises have the possibility to sell their accounts receivable (unpaid accounts on the part of buyers) to a factoring firm and in that way receive around 30–60 days of short-term finance.
Investments in real capital assets fill two roles in society:
their size affects aggregate demand and, through this, production volume and employment in the short run;
investments are the main prerequisite for the expansion of production in the longer run.
The level of investments in the entire economy depends on savings rates and on the economic climate, which influences the share of savings channeled into productive investments.
The 1994 data about real investments, calculated in factor prices per 1,000 EEK of gross domestic product (GDP), the fields of activity with greater or lesser development possibilities can be seen:
| Developed sectors: | Real investments (EEK) / 1,000 EEK GDP | |
| Light industry | 181.15 | |
| Energy | 258.91 | |
| Transport | 269.00 | |
| Hotels, restaurants | 316.00 | |
| Lesser developed sectors: | ||
| Agriculture | 38.95 | |
| Education | 66.31 | |
The figures for real investments graphically show how little possibility there has been for development in agriculture and education in the last few years.
A total of 8.8 billion EEK was invested in fixed assets in Estonia in 1995 (see Appendix 9). Compared to 1994, investments in fixed assets increased by 3.191 billion EEK or more than half (57°/o) (see Appendix 10), although part of that increase was attributable to inflation.
Investments in agriculture and hunting increased by 57.8 million EEK or around twofold (98%), in forest management by 108.2 million EEK or around 2.5 times (151%), and in fisheries by 20.6 million EEK or more than half (55%). Investments in finance and insurance increased by 18% in 1995. This would appear to be connected to a stabilisation in the volumes of investments made by these areas compared to the rapid growth of a few years ago. The 18% reduction in investments in health and social security must be viewed from the position of the whole of society but it appears to indicate that these areas are being ignored. Investments made in fixed assets are characterised by their concentration in Harju county and especially in Tallinn.
The sources of finance for investments in 1994 were composed of equity (50%), bank credit (14%) and state and municipal budgets (11%). In agriculture, hunting and forest management 72.4% of the financing for investments in fixed assets came from equity while bank credit accounted for only 2%.
Experts have differing opinions as to the requirements for investments by agricultural producers. According to foreign experts, 1,300 million EEK is required in agriculture yearly until the year 2000. The Ministry of Agriculture has estimated that 700 million EEK is needed just to repair machinery and equipment so as to maintain the current production level. Taking into consideration the volume of equity and the ability to receive loans based on current production results, a feasible amount of investment would appear to be around 300 million EEK.
A realistic forecast of investments depends on the one hand on the recovery of the national economy and on the other hand on a concrete agricultural policy. For example, if relatively good economic growth (increase in GDP of 3–4% per year) is presumed until the year 2000, then agricultural production may suffer an average decrease of 2.5% until the year 2000 because of the current economic policy not supporting the growth of agriculture. The proportion of agriculture in GDP would drop from 8% to 6%. In such a situation it would be hard to ensure the servicing of loans made for investments.
A closer review of the full investment requirements needed to maintain agricultural production at its present level, allowing for no growth and therefore no export expansion, would suggest the following orders of magnitude:
Investments in human capital in agriculture of between 125–185 million EEK yearly. The best way to make all investments in agriculture more effective is to develop an integrated programme which contains the following elements:
funding for fixed capital formation.
Real investments in agriculture of about 900 million EEK a year. In allocating agricultural investments, it is very important to support the development of private ownership in the agrarian sector, by means of credit lines among other instruments. In particular, it is important to emphasise the founding of large specialised high-technology commercial farms and other enterprises in the most favourable areas for agriculture (Central Estonia, etc.). Only the most economic methods of production, which must be based in private ownership, will enable goods to compete in terms of both price and quality with equivalent products from Western Europe.
Before fixed capital investments are made, the preconditions for their effective utilisation must be met and definite investment priorities designated. In the interests of agricultural development, investments in the sector can be classified according to the following scheme.
Investments in human capital should be prioritised as they are required for the development of scientific, educational, consulting and information systems in rural areas, and such systems will have to correspond to the best European standards.
Investments in foreign trade should be made the second priority. It has been shown to be useful to maintain and expand agricultural production exported to eastern (Russian and Asian) markets cost because the western market requires very high quality foodstuffs and the modernisation of the processing industry will take-some time. Export support through investment and working capital should therefore be implemented for the duration of this period of transition (and as long as Russia prevents normal trading relations with high tariffs).
The third priority should be the industry processing the raw agricultural material. Because domestic loan resources are limited, additional private foreign capital should be encouraged to invest in this field. If this is not done and it is hoped that the industry can be maintained technically merely by equity in cooperatives, even though government supported, many of the cooperatives will be unable to develop due to a shortage of funds. Either they will be swallowed up by large concerns (firms) or these large concerns will take over the market, driving the processing cooperatives into bankruptcy.
The effectiveness of investments depends on:
When comparing the price trends of inputs and agricultural products it can be seen that the price of inputs has increased significantly faster than that of the products. In order for investment policy to be successful, it is essential that this trend be reversed. (See Chapter 2.)
Unfavourable relative prices in the sector not only weaken the returns to capital, but they reduce the value of collateral (land), thus making it difficult to secure loans in the first place.
Estonia's domestic financial resources do not cover its loan requirements. Therefore, until the national savings rate can be raised sufficiently, extensive foreign loans are required. By using such loans it would become possible to renew the sector's production technology immediately. This would improve the productivity of farms, but the ability to repay loans in the first years would become a problem, if macroeconomic policy does not become more favourable for the sector. This therefore presumes the existence of a possibility of, acquiring loans with extended repayment deadlines, which is somewhat doubtful.
The rules for the formation, operation and liquidation of savings and loans cooperatives have been established by the Bank of Estonia, although the proper basis for cooperative credit institutions ought to be a Law on Cooperative Credit Institutions. In the Law on Credit Institutions, cooperative banks have also been designated as a form of cooperative credit institutions but a specific legal basis for their formation, molded to their particular characteristics, is lacking.
The Bank of Estonia's requirements for savings and loan cooperatives (henceforth SLCs) are as follows, in summary form:
To establish an SLC it is necessary to follow the procedures prescribed in the Cooperative Law, taking into consideration the Bank of Estonia's special requirements.
An SLC must operate in the territory of one (occasionally two or three) local territorial administrative units (town, county) and any permanent residents or legal entities registered there may become members.
The total capital paid in should be no less than 200,000 EEK, which must be deposited in a credit institution operating in Estonia.
An SLC has the right to receive deposits only from Us members and to grant loan s only to its members with requirements for guarantees.
There are some special requirements for membership: Legal entities whose capital or votes belong to the State to an extent greater than 50% may not become members. The minimum capital contribution of a legal entity operating with the intention ofmaking a profit must be at least 5,000 EEK.
Independent transactions in foreign currency are prohibited.
Standards for the solvency and reliability of financial institutions must be fulfilled.
Reliability standards, which are to be fulfilled throughout an SLC's period of operation, are briefly summarised as follows:
Capital must be maintained at 200,000 EEK throughout the period of operation. If the capital is shown to be less than 150,000 EEK, then the transactions of the institution should be terminated immediately).
At least 8% of deposits should be placed as a liquid deposit in an Estonian commercial bank or in liquid securities issued by such a bank.
Starting from the second year of operation, the reserve fund must be equal to at least 20% of the value of net profit but the reserve may not be greater than 50% of the capital.
The maximum deadline for a loan is generally three years with the exception of State loan funds (rediscount funds) to be used for specified purposes.
A loan given to a single member (including covering obligations) may not be more than 10 times greater than his or her capital contribution and may not be more than 20% of the SLC's total capital.
To overcome some of the constraints that inhibit the SLCs from playing a more active role in rural finance, future features of their development could be as follows:
The SLCs currently operating do not have a common reserve fund for excess liquidity, but the formation of such a central fund would become very important when the activities of SLCs are expanded. The lowering of SLCs' risks and the better administration of liquidity would be guaranteed by a central reserve fund. At present, since each SLC is an independent institution, by definition its lending portfolio is rather specialised spatially and by type of economic activity, and specialisation of financial assets always increases risk.
SLCs need a different supervision system than credit institutions. If the job of supervising remains that of the Central Bank, it should elaborate a relevant system for it.
SLCs need a technical consultancy unit (currently an umbrella organisation is also being suggested) which could be part of the same institution of the central reserve fund. Training for SLC workers, techniques of appraisal of larger and more complicated business plans, the evaluation of loan guarantees and so on should all be arranged through such an organisation or unit.
In knowing and understanding local conditions, SLCs could also use non-fixed assets (e.g. newly sown crops, young livestock) as collateral. These are not accepted by commercial banks.
SLCs could play a much more dynamic role in agriculture if they were allowed to receive deposits from and make loans to non-members.
An important constraint on the development of SLCs is that, according to present rules, the PMKF may not channel funds through them. This policy very much weakens their development prospects.
Land Reform is progressing in Estonia but restitution claims have been submitted for only 26.2% of land. Of this, 15.3% is land without conflicting claims which is already being used by the former owners and their descendants, and 10.9% is land with conflicting claims. The remaining 73.8% of land still belongs to the State and has been let out generally on a short-term basis to producers (household plots, trading companies). The State policy on privatising such areas of land has not yet been formulated, and without more rapid progress in this area the sector's collateral base will remain quite weak. (See Chapter 3.)
In Estonia the procedure for establishing branches or subdivisions of foreign credit institutions and granting them an operating licence is prescribed in the Law on Credit Institutions (RT1 1995,4,36) as well as in resolution no. 2–2 of the Council of the Bank of Estonia, of 7 March 1995, and in its appendices of 7 March 1995 and 13 February 1996. Establishment occurs according to chapter 2 of the Law on Credit Institutions and operations are guided by the whole Law. Foreign credit institutions which could provide loans for agriculture have shown an interest in coming to Estonia. Currently, however, there is still only cooperation to the extent of Estonian bank workers being given advice and consulting on granting agricultural loans by, for example, Credit-Agricole, the second largest French bank.. While the current legal framework allows foreign banks to make application to set up operations here, the process of approval of such applications seems extraordinarily slow. ,
Questions about microcredit and so-called unofficial credit (from the neighbour or the local cooperative, etc.) have also begun to arise. These forms of credit do have some significance when viewed from the microeconomic standpoint. In macroeconomic terms, the procedures behind such forms of credit (contracts, debt collection) are regulated by the Government through the terms of the Debt Law, and the loan ban placed on limited partnerships and joint-stock companies is enforced by the Government through the terms of the Commercial Law. The proportion of credit which should be considered to be microcredit in Estonia is also unknown. The World Bank has carried out research into the problems and prospects of microcredit in countries such as Pakistan, Sri Lanka, Indonesia, Ecuador. Sudan and Mexico and related research on reducing the obstacles barring access to financial institutions for the poor and for women. No attempts to finance microenterprises have hitherto been made in Eastern Europe and before this happens separate research should be carried out. Microcredit and unofficial credit are widespread in developing countries but countries which are at the stage of development of Estonia may not require those types of credit. It is possible to obtain relatively small loans in rural areas from the loans and savings cooperatives, so one of the best options may be to strengthen the system of SLCs.
According to §159 and §281 of the Commercial Law, neither limited liability companies nor joint-stock companies are permitted to grant loans to or guarantee loans for their own partners or shareholders, partners or shareholders in the parent company, members of the Board or the Council, procurators, or any other individuals or bodies with similar economic interests to themselves.
The better availability of loanable funds would enable loans to be acquired through processing industry enterprises who themselves take out loans from the banks, purchase farm equipment or other machinery in bulk and sell it on to small producers on the basis of payment by instalments. There are at least two positive aspects to this:
no collateral is necessary
little cash is needed at any one time as accounts will be settled following the sale of the product.
The negative aspect of this kind of loan, or sale on the basis of payment by instalments, is that it ties the producer to one processing enterprise which can then present various conditions to which the producer must agree. Dairy industry enterprises have used this particular form of financing with their suppliers of raw milk.
In its survey of the agricultural and.forestry sectors in Estonia, the World Bank has presented the principles for lending to those sectors, which are as follows:
The financing of a sector must support the rapid development of a strong and liberal financial sector and comply with the principles of commercial banking in the establishment of interest rates and the deadlines for repayment.
The basis for a decision to finance must be the general operations of a farm, both from a turnover and general profitability point of view. Financial resources should not be expended on the attempted recovery of such agricultural sub-sectors as are not capable of survival or where it would be more appropriate to use venture capital.
The financing should support relations "similar to lending" between groups of market intermediaries and producers. These have to be encouraged as they usually play an important role in the financing of the activity of producers.
Interest rates should not be lower than the market rates so as not to distort any decisions made within the framework of economic restructuring.
The main factors creating the need for loans for rural management are:
The requirement for reinvestment or new investments in more effective technology and machinery.
The requirement for supplementary working capital.
The requirement to even out seasonal fluctuations in cash flows.
The requirement to finance the restructuring of farm assets and management.
The requirement to develop the infrastructure of rural areas.
On the other hand, lending to agriculture and rural life is considered especially risky for the following reasons:
Agricultural production is by its very nature seasonal and this affects the timing of cash flows.
Agriculture is open to risks caused by the weather.
Additional risk is caused by the fluctuating nature of many agricultural prices.
The agricultural production cycle is usually longer than that in other businesses.
The purchase expenditure on land as the main production resource is paid back only over a very long time period. (For example, 40 years is the not an unusual payback period.)
In addition to perceived and real risk, other factors impeding lending to agriculture and rural life are:
Political attitudes which frequently are negative toward agriculture and rural life.
Real agricultural prices, and therefore its profitability, have declined substantially in recent years.
Limited abilities of lenders and borrowers to assess business plans and the real economic situation of agriculture.
Procedures for valuation of collateral are not very reliable.
The progress of Land Reform is slow, and therefore most of the sector's land is not usable as collateral.
The fact that some agricultural enterprises are organised as cooperatives, rather than as shareholding companies, weakens their ability to offer collateral to financial institutions, and thus reduces the interest of the latter in lending to agriculture.
There has been insufficient training of farmers in business accounting and financial planning.
As the Republic of Estonia has set course for a united Europe, the terms of the European Union Foundation Agreement must be taken into consideration in formulating policies for financial and economic support for agriculture. Agricultural products (i.e., farming, animal husbandry and fisheries products as well as other products directly associated with their direct processing) are dealt with in the agricultural section of this agreement, and common objectives within agricultural policy are defined as follows:
To increase agricultural production by encouraging technical progress, guaranteeing the rational development of agricultural production and utilising production factors, especially labour, to the best possible effect.
To ensure in this way a proper standard of living for that part of the population involved in agriculture, particularly by increasing the individual earnings of people employed in agriculture.
To stabilise markets.
To guarantee that food supplies reach the consumer in sufficient quantities and at a reasonable price.
During the process of working out and implementing agricultural policy, the particular characteristics of agricultural activity are taken into consideration. These are influenced by the economic and social structure of agriculture and by structural and natural differences between various areas.
Support to agriculture is an integral part of the economic policy of the EU. The European Council may particularly award support:
For the protection of enterprises disadvantaged because of structural or natural conditions.
Within the framework of economic development programmes.
Within the framework of the Common Agricultural Policy, the following measures are provided:
Effective coordination of efforts in the fields of occupational training, scientific research and the distribution of agricultural knowledge; this may include the joint financing of projects or institutions.
Common measures to encourage consumption of a given product.
State aid or any form of aid granted by a member nation through its own resources is condemned in the European Union because it distorts or threatens to distort competition by favouring certain enterprises or the production of certain goods.
Rural areas are currently home to a quarter of Europe's inhabitants and comprise around 80% of its territory. A principle of European policy is that the standard of living of country folk must not be allowed to fall below that of townsfolk, and therefore the development in rural areas of infrastructure, communications, services, education, health care and possibilities for spending free time are being promoted. A ten-point declaration "Future Prospects for European Rural Life" was passed at the conference on the development of European rural life (on 9 November 1996 in Cork, Ireland). It deals primarily with the principles for assisting rural life, which are as follows:
The continuous development of rural life must be a priority of the European Union.
All areas of the European Union, both prosperous and less well-developed, require assistance for rural life.
Assistance should be directed towards a diversity of forms of rural enterprise and towards the development of infrastructure, services, education and health care.
The principle should be that of economical development and environmental protection: actions may be local but their global effect must be considered. The activity of the current generation should not harm future generations.
Local people should have a voice in the planning of rural life assistance.
Assistance schemes should be simplified.
The development programme of each area should be planned as a whole.
Private capital should also be encouraged to join in financing. Differences in the financing of small and medium sized enterprises should be reduced and the participation of the banks increased.
The role of local authorities and organisations in administration and management should be increased.
The financing of scientific work and research programmes should be publicly accountable.
It would be very important to adhere to these guidelines and regulations in Estonia. On a related issue, the European Union has taken steps towards reducing price support or towards the ending of their payments. Direct support to the producer should begin, to replace price support.
According to the Finnish scientist Jouko Siren, assistance granted to agriculture on the part of the Republic of Finland will reduce during the period of transition 1995–2000, leading to weakening profitability and a requirement for special assistance in the near future. Strategies for the development of agricultural structures and rural life are currently being elaborated in Finland.
In addition to these guiding principles, this Strategy has adopted the following objectives to guide the development of the rural financial sector:
Through strengthened institutional capacities and appropriate financial policies, the capacity for mobilising financial resources should be improved in rural areas.
Financial institutions serving rural areas should be as solid and viable for the long run as possible.
The collateral base of agriculture and other rural sectors should be strengthened and lending policies should accept more flexible forms of collateral (such as crop liens).
Achieving the above objectives should facilitate achievement of the additional objective of increasing the flow of private financial capital to rural sectors.
These developments should permit and eventual phasing out of subsidised interest rates in agricultural lending, an objective which in itself will make agricultural markets more attractive for financial capital and will reduce costs to the Government budget
Greater competition among financial institutions should be attained, including from strengthened savings and loan cooperatives and foreign banks.
Structural funds have been established in the European Union to achieve objectives set out in relevant agreements. These funds are used in accordance with the following principles:
The European Union structural funds are utilised according to target area:
| Target Area | 1: | The development and structural adaptation of areas which have fallen behind economically, financed by the ERDF, ESF and EAGGF |
| Target Area | 2: | Support for regions with declining industry, for border areas and for parts of regions, financed by the ERDF and ESF. |
| Target Area | 3: | Industrial problems, financed by the ESF. |
| Target Area | 4: | Workers' adjustment problems due to changes in the production process, financed by the ESF. |
| Target Area | 5: | The development of rural life |
| 5a: | The adaptation of agricultural and fisheries structures to being in line with the Common Agricultural Policy, financed by the EAGGF. | |
| 5b: | The development and structural adaptation of rural regions, financed by the ERDF and ESF. | |
| Target Area | 6: | Support for sparsely populated areas with unfavourable conditions. |
The target areas most closely connected with agriculture and rural life are 1, 5a and 5b. Target areas 1, 2 and 5b are of a regional nature, i.e., the measures are limited to certain definite areas. Target areas 3, 4 and 5a encompass the whole European Union and are the so-called general target areas.
a) Target Area 1
Target Area 1 supports economic adaptation in regions in which, according to NUTS (the Nomenclature of Territorial Units for Statistics) level II (basically the level of groups of counties or of larger regions), GDP per head is lower than 75% of the EU average. On the basis of one of the principles of the European Commission - concentration - around 70% of the resources of these structural funds will have been concentrated on Target Area 1 by 1999.
Within the framework of the Target Area 1 programme, the following activities are carried out:
b) Target Area 5a
Target Area 5a is directed towards the adaptation of European Union agricultural and fisheries structures into the Common Agricultural Policy (CAP). The idea is also referred to as horizontal structural measures, and it involves improving conditions for the production, processing, marketing and selling of agricultural and forestry products. It is directed towards all producers who want to acclimatise themselves to the changes which have occurred in the market connected with the reform of the CAP.
Help for the producer is directed towards:
Supporting income received from agriculture and supporting young farmers who are just starting out.
Improving farm life and the ability of farms to be competitive by rationalising production without increasing production volumes, i.e. reducing production costs, increasing quality, saving energy, protecting the environment and improving working conditions and the conditions in which animals are kept.
Supporting non-traditional activities (tourism, handicrafts, forestry etc.).
Maintaining the population in areas with unfavourable conditions for living and production (mountains etc.).
Help for the processor and for marketing is directed towards:
Organising the marketing of products.
Rationalising and modernising processing and marketing without increasing their capacities.
Improving product quality and optimising the marketing network.
This target area is crucial for Estonia and it should be dealt with more seriously in our policy planning.
c) Target Area 5b
This area is concerned with the development of rural regions and structural adaptation, along with the creation of new non-agricultural jobs. Support is granted to regions with weak socioeconomic development. Each region must fulfil 2 of 3 criteria:
Labour market dominated by agriculture.
Low agricultural income.
Low population density or considerable reduction in population.
This target area is used in Denmark to support the islands and areas which depend almost entirely on fisheries and agriculture. Help is directed towards developing alternative sources of income (activities), such as tourism and enterprise, and human resources. In Germany, areas which suffer from unfavourable conditions, coastal areas which depend on fisheries and agricultural areas which suffered the most from the reform of the CAP are supported.
This target area is also crucial for Estonia and should also be fully incorporated into our policies.
Under EU rules, State budgetary support to agriculture (or subsidies) may be directed towards the producer, the processing enterprise or the final consumer. All of these have both positive and negative aspects (see Appendix 11).
These Structural Funds are
The European Regional Development Fund (ERDF). On the basis of Article 130c of the Maastricht Agreement, the ERDF operates in certain defined regions by supporting Target Areas 1 and 2 and by participating in the activities of Target Area 5b. . Support consists of investing in production, in constructing or modernising the infrastructure of the region in question, in supporting the internal development potential of the regions, or in supporting small and medium-sized enterprises and the education and health sectors. The ERDF also has to support the drawing up of regional development plans and Target Area 1 research at EU level, particularly in border areas.
The European Social Fund (ESF). On the basis of Article 123 of the Maastricht Agreement, the ESF above all supports Target Areas 3 and 4 but also participates in the activities of 1, 2 and 5b. The fund develops the labour market in the fight against unemployment, supports the creation of equal conditions in the labour market, supports the creation of new jobs as well as the development of the education and complementary education system, and develops the knowledge, capabilities and professional qualifications of the workforce. The ESF also finances- relevant research and pilot schemes encompassing the whole EU.
The European Agricultural Guidance and Guarantee Fund (EAGGF). On the basis of Article 39 of the Maastricht Agreement, the EAGGF supports reforms connected with the Common Agricultural Policy. It attempts to strengthen and ' regionalise the structure of agriculture and forestry, eliminate unfavourable conditions for production, develop additional activities, create a sufficiently good standard of living on farms, and protect the environment and landscape. The fund also supports the realisation of research and pilot schemes for the adaptation of agricultural structures.
The Guarantee Section: this could figuratively be called the EU market control and agricultural production support fund. It finances:
direct support and premiums for producers (premiums for leaving land fallow, gratuities for early retirement and so on could also be partially financed from here).
The Guidance Section: agriculture and rural life, as well as their structural development, are financed from this fund through Target Areas 1, 5a and 5b:
The Financial Instrument of Fisheries Guidance (FIFG). The FIFG was formed to support structural reconstruction and reorganisation concerned with fisheries.
According to decree no. 3508/92 of the Council of the European Union passed on 27 November 1992, regarding the principles of the administration of agriculture and rural life, the reliability of information and supervision over the targeted use of funds must be guaranteed. In order to fulfil these requirements, a register of producers and a control mechanism must be created. There is currently no such common agricultural register in Estonia. Finnish TIKE specialists have carried out research into the Estonian agricultural situation within the framework of the EU PHARE aid programme and have made suggestions for its development in line with EU demands.
The size of and criteria for support granted from EU structural funds will certainly have changed by the time Estonia joins the European Union. However, the implementation mechanism will remain the same. This fact must be born in mind by Estonia as it elaborates its support measures. A selection of state measures designed to support rural policy and based on the requirements of the EU and WTO agricultural agreement has been compiled by Mr. A. Laansalu and is presented in Appendix 2.
A governmental commission was formed by provision no. 15-k of the Estonian Government on 14 January 1997. It was led by the Minister of Economy and its task was to elaborate and evaluate prospective recommendations for the furtherance of agriculture and rural life. The commission recommended to the Government that agricultural support be based on similar support measures in use in European Union countries. The main measures proposed were:
It was stressed that it is possible to elaborate legal acts in Estonia which are based on EU directive documents and which prescribe the criteria for granting support, and that it will be possible to begin granting support in stages from the beginning of 1998. More specifically, the proposed means of support were as follows:
1.1. To continue the allocation of State budgetary resources through the Agriculture and Rural Life Credit Fund to grant low interest loans to agricultural producers and rural entrepreneurs.
1.2. To put the loan guarantee fund into operation.
1.3. To put capital support into operation.
In the recommendations it was suggested that, with an approximate volume of investments of 700 million EEK, the sum total of investment support beginning in 1998 should be around 150 million EEK. It was noted that it is necessary to begin immediately the compilation of a relevant bill to regulate the bases and procedure for granting such support.
2.1. Support for grain. Forecast future area in Estonia used for growing grain could be some 300,000 ha and support could be 500 EEK/ha. This makes a total of 150 million EEK of support.
Possible versions suggested were:
2.1.1. to grant support if the yield exceeds 30 hundredweight/ha. Area 100,000 ha, support 1000 EEK/ha, total 100 million EEK
2.1.2. to grant support if the yield exceeds the Estonian average. Area 150,000 ha, support 750 EEK/ha, total 112.5 million EEK.
2.2. Stimulating the uniform development of agriculture.
2.2.1. to grant support to the entire area of arable land (excluding hay fields and permanent grasslands), and to make the size of the support dependent on the taxable value of the land. In the case of this version, it would not be necessary to grant support for the utilisation of land in areas with unfavourable natural conditions. The annual sum total of support should be approximately 120 million EEK.
The necessary register for the granting of cultivated land support has hitherto been lacking. In 1998 it will be possible to use data presented by applicants for engine fuel excise compensation in which the 1997 figures for the total area of land used for cultivation will be shown.
The support should stimulate intensive production by supporting dairy producers who have a herd of at least 10 cows and where the cow's annual milk production is at least 4000 kg of basic milk, or 260 kg of milk fat and protein. The proposed size of the support is 1000 EEK per cow per year. The total number of cows which fulfil this production criterion is currently 60,000–70,000, making the total of support required 70 million EEK annually. Support is granted on the basis of data from the Breeding Centre. All the prerequisites for paying support are in existence as a register for keeping records of the herds under efficiency control has been created.
The commission noted that it is necessary to continue making targeted investments from state budgetary resources:
The commission also suggested that a land capital law be passed in order to increase the pace of land reform. It is intended that a land capital institution will be created as a State foundation which will deal with questions on the leasing of land, arranging mortgages for the sale of land, and other aspects of the privatisation of land. Resources acquired from land capital activities will be used to finance land reform and rural infrastructure. The commission estimates that some 25 million EEK would be necessary for the initial land capital. See Chapter 3 of this strategy for further discussion of this issue.
State-supported financing for agriculture is a deeply ingrained tradition in Estonia. From a long-term, market-oriented viewpoint, it may be agreed that eventually private financial institutions should be responsible for meeting all the credit needs of agriculture. On the other hand, in the short and medium term, agriculture is in an economic and financial trap. Since the change of economic system, agriculture has found itself requiring large amounts of investment to modernise its production technologies, along with extensive investment in human capital, especially in the areas of business management and marketing. Yet the cost-price squeeze induced by falling real agricultural prices, in part attributable to the orientations of the present macroeconomic policy (Chapter 2), has depressed both the value of agriculture's principal asset, land, and the profit expectations in the sector. Therefore agriculture is in a weak position to qualify for loans precisely at the time when it most needs to borrow in order to invest in new equipment and technologies.
In addition, most commercial banks in Estonia have little experience in evaluating agricultural projects and little interest in lending their own funds to the sector, especially in light of the less risky financial opportunities offered in urban estate and the urban services sector. Hence most agricultural producers find themselves dependent on Government-supported sources of finance in order to become more efficient and emerge from the economic and financial trap.
The problem is exacerbated by the fact that completion of the land reform will require a very large amount of mortgage financing for purchases of land, and such financing is simply not available at present in the required volumes.
How to resolve this contradictory situation is the main challenge in developing strategic orientations and policies for the rural financial sector. First of all, it is clear that this dilemma cannot be resolved quickly, and that present approaches for financing the sector will have to be continued for at least several more years, although they should undergo an evolution during that time. Second, an eventual solution will have to contain most or all of the following main elements:
Modifications in macroeconomic policy so that real agricultural prices begin to recover some of the ground lost since 1992 and hence the profitability of the sector increases.
An acceleration of land reform so that producers, both enterprises and individual farmers, enjoy greater security of land tenure and therefore have a larger base of assets that may serve as collateral as well as greater incentives to invest in their operations.
Encouragement of reforms in the banking sector itself that will lead to more competition both for deposits (financial resource mobilisation) and loans. Those reforms could include improvements in the process of approval of applications of foreign banks to operate in Estonia and legislative changes that would support creation of a strong network of rural savings and loan cooperatives (SLCs).
Development of indirect means of State support to agricultural lending, in particular an agricultural loan guarantee fund.
Gradually increasing the required share of banks' own resources in loans supported through the rediscount lines.
In the programmes of State-supported lending rediscount lines), a reduction of the emphasis on short-term loans' for current input costs (working capital), accompanied by a stronger emphasis on long-term loans for fixed capital investments. The reasons for this are three-fold:
Fixed investments are the key to greater production efficiency in the future.
The rate of return to short-term agricultural loans usually is much higher than the rate of return to long-term loans. Hence the former generally can pay unsubsidised (commercial) interest rates and still yield a profit to the borrower. This effect occurs because, once the farm is in place, additional working capital allows its capacity to be used more fully, and so relatively large increases in output can be brought about by relatively small amounts of financing. In contrast, investments in land and buildings, essential as they are, usually have low real rates of return.
Long-term fixed investments represent the need that is least adequately satisfied by private capital markets at present.
It is recognised that subisidised interest rates are not economically healthy measures in the longer run. Their negative effects include a tendency to divert capital resources away from the most productive uses and toward less productive ones, temptations to disguise the real purpose of the loan in order to qualify for the subsidy, a weakening of the banks' commitment to adequate portfolio management since the loans are taken out of their own resources, and a tendency to discourage private capital from filling the sector's investment needs. In addition, subsidies for lending must be phased out prior to accession to the EU, because they are viewed as creating unfair competition among member States.
Nevertheless, for the reasons cited above, the present lending policy cannot be changed abruptly. But a six-point programme along the lines mentioned above could place the rural financial sector on healthier foundations in several years' time and could allow the phasing out of the credit subsidies.
The activity of SLCs (in Estonian LHU) is directed at rural areas and the following factors restricting their development have become apparent, some of which have been mentioned already:
A network of commercial banks is already in existence in rural areas, so enabling inhabitants to carry out their most vital transactions. The proportion of transactions not involving cash is small in rural areas because cash is a widespread method of payment. Branches of banks often offer almost all retail banking services including foreign currency transactions.
SLCs cannot accept savings from the general public. If they were to be allowed to do so in the future, then application of more stringent reliability standards would be required and justified.
The size of a member's loan is restricted by the amount of the member's shareholding in the cooperative, independently of other guarantees that could be offered.
The minimum required shareholding is 200,000 EEK is a rather large sum for most rural dwellers.
There is a need for more training of individuals in key positions in the SLCs, for example the managing directors" and chief accountants.
In order to increase the interest of country people in the founding and operating of SLCs, the concepts behind SLCs should be made better known using the example of those already in operation. Either the classical founding method or the so-called American way may be used for founding. Classically, SLCs are established along the lines of the Cooperative Law. Regarding the so-called American way, in 1917 the United States of America established the system of Farm Credit Services, within the framework of a programme for the development of the national economy. In addition to that, all opening capital was lent for thirty years. Because of the current situation of national agricultural policy, the possibility of the American way is not being actively considered. However, the founding of SLCs may be given an impetus in rural areas where smaller branches of banks are closed because they are not considered to be profitable. If heed is paid to current farmers' initiatives,'then it will be possible to develop plans of activity for the support and development of the SLC system. According to Ksenia Lukkanen, director of Leie LHU, the lack of an umbrella organisation for the SLCs can already be felt. Such an organisation would help to organise training, to elaborate example regulations and bills, computer programmes and other such things which are costly-and time-consuming for one cooperative to undertake alone. The formation of a reserve fund could also be planned through the umbrella organisation.
As a first step in creating a system of SLCs, it would be necessary to review the procedures as established by the Bank of Estonia for the founding, operating and liquidating of SLCs, and to add to them the suggestions made by the SLC initiatory committee (U. Silberg, L. Raag, T. Blank) in summer-autumn 1997. The second step would be for Parliament to draft a Law on Cooperative Credit Institutions which itself must be in accordance with the Law on Credit Institutions. Two versions could be considered for this purpose:
Merge such a draft with the main provisions of the proposed Bill on the Lending and Financing of Agriculture and Rural Life.
Elaborate a separate Law on Cooperative Credit Institutions. An initiative group (U. Silberg, O. Liblikmann, L. Raag) compiled a first draft of such a bill at the end of 1996.
Whichever version is adopted, it is important to ensure that the legislation contains the following components before it is finalised:
Creation of a network of SLCs
A system of SLCs should be created that has central institutions, among which the following would be integral parts:
A central reserve fund for excess liquidity.
An advisory and promotion group to educate the rural public on the role of SLCs and to train their officers.
A separate supervision mechanism, under the aegis of the Central Bank, with procedures that are appropriate for small SLCs and therefore different from those of commercial banks.
Individual SLCs that are members of the system should be required to maintain specified reserves, as a risk cover, in the central reserve fund. They also could deposit seasonal excess liquidity there, and earn interest on both the liquid funds and the required reserves. This fund would help to minimise the risk of failure of SLCs by being able to make short-term loans to its member institutions, under strict rules for upgrading their portfolios when necessary. In extreme cases of SLCs in serious financial difficulties, the reserve fund would be empowered to force a merger with a stronger SLC, or to close down an SLC, in the interest of safeguarding the financial health of the entire system. The State should provide an initial reserve for the central fund, to help the system start operations. Foreign donors would possibly be interested in making financial contributions for that purpose.
At the same time, the training and promotion group would be attached to the reserve fund and from the beginning would work to ensure that SLCs use appropriate loan evaluation procedures and appropriate guidelines for portfolio management, in order to reduce the chances of financial failure among the member institutions. The training should emphasise techniques of evaluating farms' business plans, as such plans should be one of the bases for loan approval.
It is important that the supervising entity be completely separate from the promotion entity. The supervision should be carried out under the aegis of the Central Bank, although not necessarily by a Department of the Central Bank, and its rules and procedures should differ from those applied to commercial banks. The supervising entity, logically, also would be empowered to close down SLCs if they failed to follow the guidelines for reliability applicable to them. Ensuring the viability of such institutions is of the highest priority. Agriculture and rural households will not gain if the financial institutions which serve them turn out to be fragile.
Participation in the PMKF Programme
The legislation adopted should allow the PMKF and any other governmental financial institution to channel its rediscount funds to agriculture through SLCs as well as through commercial banks.
Restrictions on Deposits and Lending
The restriction that SLCs cannot take deposits from non-members, nor lend to non-members, should be removed. In its place there should be a carefully specified set of rules for lending decisions and portfolio management.
Collateral Requirements
SLCs should be permitted to use non-fixed assets (newly-sown crops, young livestock) as collateral for loans.
Risk Minimisation through Portfolio Diversification and Interest Rates
Although a principal aim of rural SLCs is to mobilise financial resources in rural areas and channel such resources into agricultural development, it must be recognised clearly that agriculture is inherently more risky than some other kinds of economic activity. Therefore, it is important that the asset portfolios of SLCs not be completely specialised in agricultural loans. A maximum share of each SLCs portfolio for agriculture should be specified, probably in the range of 60%. Even with such a limit, the SLCs would be lending proportionately much more to agriculture than banks do. The remaining loans could go to forestry, fisheries, rural commerce, processing industries, consumer loans, house improvement loans and other purposes. Another principal instrument for reducing risk is a variable policy on interest rates. For new borrowers, rates should be higher, until they acquire an established record of repaying loans on time. Similarly, the possibility should be allowed that both deposit and lending rates (for working capital loans) could be higher than in commercial banks, in order to attract financial resources and to cover the risk of agricultural loans.
The objective of the Rural Life Loan Guarantee Foundation (formerly the Guarantee Fund) is to reduce the risk of agricultural loans and to compensate for the lack of real estate collateral. The implementation of this mechanism was also recommended by experts from the World Bank (World Bank report 01/09/1995). The primary document is the foundation document for a guarantee fund signed on 30/08/1995, using finances from European Crop Aid. On the basis of this, a guarantee fund with a sum total of 60 million EEK was created in the Ministry of Agriculture. The Guarantee Fund covers partial risk, i.e. the borrower must have collateral for at least 20–25% of the value of the loan.
The Ministry of Agriculture elaborated the statutes of the Guarantee Fund in 1996 and, during the course of the work, it was decided to rename it the Rural Life Loan Guarantee Foundation (Maaelu Laenude Tagamise Sihtasutus). A relevant foundation was formed by resolution of the Estonian government, its statutes were ratified and money was allocated. The next important step in this area will be to initiate the activities of the foundation and to find potential partners from amongst the credit institutions, and steps are underway for that purpose.
Capital support is support for an increase in agricultural effectiveness through investments. Following the principles set out in section VI.A above, capital support will continue to be a basic part of the Government's financial policy for agriculture, at least for several more years. In addition, World Bank experts recommended that this kind of support be used in the Republic of Estonia.
The principles behind providing capital support would be as follows:
Capital support is awarded if it helps a business project to be operated better; support will not be given simply to save a farm from bankruptcy.
Support is dependent on the borrower's own initiative, i.e. those who have been prepared to take the risk of taking a loan, and putting their own effort and resources into the project, will be more likely to receive support.
During the duration of this programme, loan repayment capabilities can be improved by offering reduced interest rates (for loans for capital investments only).
Under regional development principles, also used in the EU's Structural Fund, the regional location of the loan project will be taken into consideration when reducing interest rates.
Initial support could be given to young families just making a start in fanning.
Payments will be made on capital support once a year, in view of the cycle of agricultural production and income.
It is intended that capital support will be paid from the State budget via the Agriculture and Rural Life Credit Fund. The budgeted amounts of capital should take into account State programmes for rural development and direct support to producers.
As noted previously, the governmental commission formed by provision no. 15-k of the Estonian government on 14 January 1997, in order to elaborate and evaluate prospective recommendations for the furtherance of agriculture and rural life, has recommended a programme of direct support to producers, similar to the McSharry plan of the EU. In total, the commission assessed the financial needs for the improvement of agriculture and rural life to be approximately as follows:
| Support for grain per hectare | 75–150 million EEK/year |
| Support for dairy cows meeting efficiency criteria | 70 million EEK/year |
| Increasing investment support | no estimate |
| Food quality, safety and food control | 10 million EEK |
| Soil liming | 0 million EEK/year |
| Additional financing for regional targeted programmes | 30 million EEK/year |
| Annual total | 195–270 million EEK |
If implemented, the proposed customs duty on pork would bring in approx. 26 million EEK annually to the State budget. The remainingl total to be financed annually from the State budget therefore stands at 169–244 million EEK. In addition, there is the planned 25 million EEK initial endowment for the Land Capital Fund, and a possible initial endowment for the central reserve fund of the system of savings and loan cooperatives.
As discussed in Chapter 2, an important variant of the programme of direct support payments to farmers would be the creation of financial instruments which allow the famers to capitalise their direct payments, thereby being in a position to apply this support to the purchase of machiney or other investments. The supported individual or enterprise would receive a long-term (10–15 year) promissory note (or bond) from the State, the face value of which would be scaled to the farmer's hectareage or number of dairy cows. Interest on these bonds would be paid at a relatively high (market) rate of interest (e.g. as high as 14%). There are two possibilities:
The farmer retains the bond and receives the annual interest payments as the direct support envisaged in the programme.
The farmer sells the bond in financial markets, at a price which reflects its present value. The resulting income from this sale is then invested in productive assets on the farm.
There must be an active financial market (financial intermediaries, individuals, also foreigners) for the second possibility to be utilised. Before this variant could be implemented, it would be necessary to analyse the capacity of Estonian financial markets, to ensure that the price of the bonds sold would not fall significantly. In this regard, it could be important to allow the option of foreigners purchasing the bonds.
If the proposals of Chapter 3 for accelerating the land reform are adopted, then it will be necessary to establish a financial institution which will extend mortgages for land purchases. Since it is State lands that are being purchased, the institution would not have to pay the price of the land to the State, but rather it would manage the mortgages and collect the payments, which then would be remitted to the proposed Land Capital-Fund. There are two principal options for this purpose:
The State could enter into contracts with banks for purposes of administering the mortgages. Such contracts would make provision for instances of default, and allow defaulting farmers the proposed option of selling the remainder of their mortgages to other parties. Banks would receive fees based on the amount of monies collected from the mortgages. The same model could be used for managing the proposed long-term transferrable land leases.
A building society could be established for these purposes.
A building society is a financing institution which grants mortgages or loans guaranteed by real estate, administers mortgages and sells them to other investors. A building society is not a credit institution in the classical sense of the term, i.e. no deposits are taken. Loan resources are either promissory notes (with a duration of 180–270 days, used by larger and more reliable building societies) or short-term loans from commercial banks (line of credit). The building society's income is received from deed and service costs, profit from the onward sale of loans and the difference between the earnings from the mortgage and the rate of interest. Securities backed by a mortgage are often also sold to investors, who themselves are often State-financed funds. In this case, income received from sale of mortgages, less the fees of the building society, would be passed on to the Land Capital Fund.
The State Audit Office monitors the maintenance and the economic utilisation of State property on the basis of the State Audit Office Law. The State Audit Office operates as an independent governmental body implementing economic monitoring. The monitoring of State subsidies in terms of their targeting and results is also part of its responsibilities.
If governmental resources continue to be used for the support and financing of agriculture and rural life, then the fact that these resources are taxpayers' money must be taken into account. The taxpayer must maintain the ability to review the situation and therefore a budget implementation report should also be made publicly available, as well as the budget itself. It is currently only possible to monitor the implementation of the State budget through State Statistical Office bulletins and monthly reports, but even there only the most general information is presented. More detailed information on the results of the governmental programmes should be included.
In 1995, the Ministry of Agriculture and the Institute of Estonian Agrarian Economics developed an Agricultural Statistics Bill with an applications section, but it still needs to be supplemented and brought into line with EUROSTAT requirements. Experts have estimated that State expenditure on agricultural statistics should be around 1.5 million EEK in order to fulfil these functions.
