Donald F. Larson

Can Financial Markets be Tapped to Help Poor People Cope with Weather Risks

Poor households in rural areas are particularly vulnerable to risks that reduce incomes and increase expenditures. Most past research has focused on risk-coping strategies for the rural poor, specially on micro-level and household actions. These are risks that can been shared within a community or extended family. These strategies are effective for independent risks, but ineffective for covariate or systemic risks. The authors focus on private and public mechanisms for managing covariate risk for natural disasters. When many households within the same community face risks that create losses for all, traditional coping mechanisms are likely to fail. Such covariate risks are not uncommon in many developing countries, especially where farming remains a major source of income. The authors focus on risks related to weather events (such as excess rain, droughts, freezes, and high winds) that have a severe impact on rural incomes. Weather insurance could cover the covariate risk for a community of poor households through formal and informal risk-sharing arrangements among households that are purchasing these weather contracts. Given recent Mexican innovations targeted at helping the poor cope with catastrophe weather events, the authors use Mexico as a case study. In Mexico, poor households are exposed to systemic risks, such as droughts and floods, that affect the economic livelihood of their region. Catastrophic insurance is useful for small farmers, although commercially oriented small farmers may wish to obtain coverage for less catastrophic events. Weather insurance could meet this need. It pays out according to the frequency and intensity of specific weather events. Because weather insurance depends on the occurrences and objective measure of intensity of a specific event, it does not require individual farm inspection that can be very costly for small farm. The authors argue that a key issue of delivering insurance to small farmers is the existence of producer organizations. In Mexico, the farmer mutual insurance funds provide a good example. These funds provide insurance to their members by pulling together resources to pay for future indemnities and reinsures itself from major systemic risks that could hurt simultaneously all their members.

On the Intersectoral Migration of Agricultural Labor

Labor is the single most important factor in determining national income. As economies grow, agricultural labor declines as a share of total labor and converges to a level of 2 or 3 percent. Off-farm migration facilitates the development of nonagriculture, but historically the process spans decades. The authors argue that the pace of the process is a fundamental outcome of a dynamic equilibrium based on expectations of lifetime earnings and the cost of migration. The authors present an empirical model of the determinants of intersectoral migration. One fundamental determinant is income differences across sectors. As such, migration should stop when income differences reach a certain level. The authors provide a method of measuring the level at which intersectoral migration will cease. While there are credible reasons for a permanent difference to exist between sectoral incomes, the authors find no empirical evidence of a permanent wedge.

Commodity Risk Management and Development

In 1995, 57 countries depended on three commodities for more than half their exports, reports UNCTAD. And commodities, fuels, grains, and oilseeds are important imports for several countries. The notorious volatility of commodity prices is a major source of instability and uncertainty in commodity-dependent countries, affecting governments, producers (farmers), traders, processors, and financial institutions. Further, commodity price instability has a negative impact on economic growth, income distribution, and poverty alleviation. Early attempts to deal with commodity price volatility relied on buffer stocks, buffer funds, government intervention in commodity markets, and international commodity agreements to stabilize prices. These were largely unsuccessful--sometimes spectacularly so. Buffer funds went bankrupt, commodity agreements were suspended, buffer stocks proved ineffective, and government intervention was both costly and ineffective. As the poor performance of such stabilization schemes became more evident, academics and policymakers began distinguishing between programs that tried to alter price distribution (domestically or internationally) and programs that used market-based approaches for dealing with market uncertainty. This change in approach coincided with a significant rise in the use of market-based commodity risk management instruments--aided by the liberalization of markets, the lowering of trade and capital control barriers, and the globalization of commodity markets. by the mid-1990s, several governments, state companies, and private sector participants began using commodity derivatives markets to hedge their commodity price risks. Participation in those markets is growing, but important barriers to access remain including counterparty risk, problems small groups (such as farmers) have aggregating risks, basis risks (no correlation of local and international prices), no local reference prices, low liquidity, no derivatives markets for certain products, and low levels of know-how. International institutions, local governments, and the private sector could facilitate developing countries access to derivatives markets and the use of risk management tools to solve public sector problems.

Dealing with Commodity Price Uncertainty

Liberalization in commodity markets has brought profound changes in the way price risks are allocated and managed in commodity subsectors. Price risks are increasingly allocated to private traders and farmers rather than absorbed by the government. The success of market reform depends on the ability of the emerging private sector to make full use of the available range of modern commodity marketing, price risk management and financing instruments. Because farmers do not generally have access to these instruments, intermediaries must be developed. Larger private traders and banks are in the best position to become these intermediaries. Preconditions needed for accessing modern commodity marketing, price risk management, and financing instruments are: a) creating an appropriate legal, regulatory, and institutional framework; b) reducing government intervention; c) providing training and raising awareness; and d) improving creditworthiness and reducing performance risk. The use of commodity derivative instruments to hedge commodity price risk is not new. The private sectors in many Asian and Latin American countries have been using commodity futures and options for some time. More recently, commodity derivative instruments are being used increasingly in several African countries and many economies in transition. And several developing and transition economies have sought to establish commodity derivative exchanges.

Risk premiums on inventory assets: the case of crude oil and natural gas

This study tested for the presence of risk premiums on crude oil and natural gas. The econometric analysis followed from a stochastic model in which the equilibrium value of inventories depends on a convenience yield and an option value related to price uncertainty. The empirical findings provide rather strong support for the presence of risk premiums and also evidence for the existence of convenience yields. The risk premiums rose sharply with greater price volatility and help to explain why prices for immediate sales often exceed prices for future delivery.

Rethinking Within and Between Regressions: The Case of Agricultural Production Functions

The canonical form of regressions estimated with panel data consists of within-unit-time, between-unit and between-time regressions. These components represent different outcomes of the underlying economic processes. This is demonstrated in the paper by presenting results for the cross-country agricultural production function where the choice of inputs is convoluted with the choice of techniques. The results shed new light on resource productivity in agriculture and its relationship with the implemented technology.

Agricultural markets and risks - management of the latter, not the former

The authors review the historical relationship between the work of applied economists, and policymakers, and the institutions that came to characterize the commodity, and risk markets of the 1980s. These institutions were a response to the harmful consequences of commodity market volatility, and declining terms of trade. But the chosen policies, and instruments relied on market interventions, to directly affect prices, or the distribution of prices in domestic, and international markets. For practical, and more fundamental reasons, this approach failed. The authors next discuss how a growing body of work, contributed to a change in thinking that moved policy away from stabilization goals, toward policies that emphasized the management of risks. They distinguish between the macroeconomic effects of volatile commodity markets, and the consequences for businesses, and households. The authors argue that both sets of problems remain important development issues, but that appropriate policy instruments are largely separate. Nonetheless, because governments, households, and firms must all respond to a wide range of sources of risk, they emphasize the role for an integrated policy by government. Increasingly, alternative approaches have come to rely on market-based instruments. Such approaches accept the market view of relative prices as immutable, but address directly the negative consequences of volatility. As traditional risk markets (such as futures and insurance markets) expand, and new parametric markets emerge, the practicality of applying market-based instruments to traditional risk, and development problems increases. The authors show the change in approaches to risk, and the reliance on old, and new market instruments, with new, and sometimes experimental programs, with special emphasis on programs at the World Bank.

Uncertainty and the convenience yield in crude oil price backwardations

Abstract This study examines why firms hold stocks of crude oil, particularly during price backwardations when spot prices exceed prices for forward delivery. Using a stochastic control model, this paper shows that the equilibrium value of inventories contains: the conventional Hotelling principle; the convenience yield from the classical theory of storage; and an option value related to price uncertainty. Our empirical results suggest that a convenience yield and risk premium are important elements of crude oil price backwardations.

Do farmers choose to be inefficient? evidence from Bicol, Philippines

Farming households that differ in their ability, or willingness to take on risks are likely to make different decisions when allocating resources, and effort among income-producing activities, with consequences for productivity. The authors measure voluntary, and involuntary departures from efficiency for rice-producing households in Bicol, Philippines. They take advantage of a panel of household observations from 1978, 1983, and 1994. The unusually long-time span of the panel provides ample opportunities for the surveyed households to learn, and apply successful available technologies. The authors find evidence that diversification, and technology choices do effect outcomes among farmers, although these effects are not dominant. Accumulated wealth, past decisions to invest in education, favorable market conditions, and propitious weather are also important determinants of efficiency outcomes among Bicol rice farmers.

An African Green Revolution

Contents: 1. An Overview Keijiro Otsuka, Donald F. Larson, and Peter B. R. Hazell Part I: Climate and the Transferability of Asian Green Revolution to Sub-Saharan Africa 2. Lessons from the Asian Green Revolution in Rice Jonna P. Estudillo and Keijiro Otsuka 3. The Possibility of a Rice Green Revolution in Large-Scale Irrigation Schemes in Sub-Saharan Africa Yuko Nakano, Ibrahim Bamba, Aliou Diagne, Keijiro Otsuka, and Kei Kajisa 4. The Declining Impacts of Climate on Crop Yields during the Green Revolution in India, 1972-2002 Takuji Tsusaka and Keijiro Otsuka 5. The Impact of Technological Changes on Crop Yields in Sub-Saharan Africa, 1967 to 2004 Takuji Tsusaka and Keijiro Otsuka Part II: Prospects for Upland Rice and Maize Green Revolution in Sub-Saharan Africa 6. Causes and Consequences of NERICA Adoption in Uganda Yoko Kijima and Keijiro Otsuka 7. Impact of NERICA Adoption on Rice Yield: Evidence from West Africa Aliou Diagne, Soul-Kifouly Gnonna Midingoyi, and Florent Kinkingninhoun 8. Maize Revolutions in Sub-Saharan Africa Melinda Smale, Derek Byerlee, and Thom Jayne 9. Maize, Soil Fertility, Fertilizer, and the Green Revolution in East Africa Tomoya Matsumoto and Takashi Yamano Part III: The Role of Fertilizer Markets and Fertilizer Application 10. Chemical Fertilizer, Organic Fertilizer, and Cereal Yields in India Kei Kajisa and N. Venkatesa Palanichamy 11. The Demand for Fertilizer when Markets are Incomplete: Evidence from Ethiopia Daniel Zerfu and Donald F. Larson 12. Technology Adoption in Agriculture: Evidence from Experimental Intervention in Maize Production in Uganda Tomoya Matsumoto, Takashi Yamano, and Dick Sserunkuuma Part IV: Conclusion 13. Towards a Green Revolution in Sub-Saharan Africa Keijiro Otsuka and Donald F. Larson