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Economic Development

by: Elody Bogisich DDS

Economic Development ECG 540

Elody Bogisich DDS
GPA 3.78


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This 18 page Class Notes was uploaded by Elody Bogisich DDS on Thursday October 15, 2015. The Class Notes belongs to ECG 540 at North Carolina State University taught by Staff in Fall. Since its upload, it has received 10 views. For similar materials see /class/223874/ecg-540-north-carolina-state-university in Economcs at North Carolina State University.


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Date Created: 10/15/15
LDC AGRICULTURE BASICS I TRENDS IN LDC FOOD PRODUCTION IN THE 19803 A Total Cereals Availabiligg 39 I 335 per year 26 I 235 per year 2 Q Q 7 13 I 125 per year Distribution of production uneven In 75 countries per capita food production fell during the 1980s including 0 34 of all African countries 0 23 of all Latin American countries 0 12 of all Asian countries PinstrupAndersen In next 2030 years food production must grow to accommodate 100 million more people per year Demand for Food QDINfPY 2D Ngp13 773 2 Q5 Note We re ignoring the distribution of food prodcons here Yield Gains vs Area Gains AY gt Q121f 21 is constrained by availability ofland In most parts of the world good ag land is already under cultivation Negative correlation covariance exists between 21 and I lt3 expansion occurs onto marginal lands 1 is achieved by gt Technological change eg improved varieties gt Increased use ofinputs fertilizers water pesticidesherbicides that limit crop losses Trends in Yield Growth Yields grew tremendously in past 30 years beginning with the Green Revolution gt Rice yields doubled 1961 1993 gt Wheat yields tripled 1961 1993 But fhas slowed or stopped in some areas in the past decade in some cases due to the negative correlation between If and 21 Sustainability of continued yield increases due to seed fertilizer based technological change called into question eg rice wheat system Prabhu s work on declining expen39mental rice yields Biotech revolution on the horizon D Trends in Area Growth 0 Area increase has played only a small part in total food production increases since 1980 0 Exception Africa no green revolution there for the most part E Price Trends 0 Prices have been falling since 1976 Price Q1 Q2 Q3 Q4 Quantity 0 If demand shifts out more slowly than supply then equilibrium price 13 will fall 0 Developed country food production enters picture here tool gt Trade in cereals means that tech changes and other forces pushing out DC food supply will mean lower prices for LDC importers PinstrupAnders en s Laundg List Economic Ag growth to ease distrib problems esp in Africa Reduce population growth rural to urban migration Resources to int l ag research infrastructure credit Liberalization reduce distortions Manage environmental degradation Sustainability II CHARACTERIZING LDC AG PEASANT HOUSEHOLDS Most LDC households live in rural settings 61 of LDC labor force 73 in least developed countries Most of these households depend partly or Wholly on agriculture for A subsistence and income Transition state Between pure subsistence agriculture and commercialized agriculture ie semisubsistence Dominated by farming Households produce part of their food needs and supply part of the labor for agricultural activities gt Owns m land although tenure arrangm ts may be complex gt Uses own labor at least in part gt Consumes some of own output gt Capital used both for prod and cons eg oxen Markets Varying degrees of completeness tend to be thinner in harsh or isolated areas Output infrastructure issues price policies Labor varied arrangements PHL exchange sharecropping Other Physical Inputs infrastructure issues price policies Credit inter temporal mkts poorly formed often linked Land varying complex tenurial exchange relationships Insurance not usually present gt risk assumes greater role in determining aggregate supply other behavior than in DC s D Income Sources Marketed surpluses of food Cash crops eg cotton cocoa coffee tea Off farm Labor both ag and non ag 0 Remittances E Varied Land Tenure Arrangements 0 Owner operator 0 Sharecropp er 0 Cash Rents 0 Landless 0 Smallholder vs large landlord holder Land tenure gt investment in productivity enhanceing activities 0 eg soil erosion protection 0 eg slash and burn Where property rights are usufruct III PROFIT MAXIMIZATION AND EFFICIENCY 0 Note difference between allocative and technical ef ciency Output OW P quotpm a b Slope a Puumut a technically inef cient allocatively inef cient b technically inef cient allocatively ef cient c technically ef cient allocatively inef cient d technically ef cient allocatively ef cient o Unconstrained profit maximization requires both types of efficiency 0 Profit Maximization may be constrained by gt Risk amp Uncertainty gt Tradeoffs with other arguments of the Utility function especially labor leisure tradeoffs gt Unequal power relationships due to constraints imposed by cultural and other features of agrarian society gt Distortions or market failures that prohibit achieving technical ef ciency Policy Implications If pure unconstrained profit maximization characterizes the agricultural economy then the only way to signi cantly alter output is to shift out the production possibilities frontier eg via technological change Beliefin allocative efficiency of farmers is the philosophical underpinning ofprice policy gt Farmers respond optimally to price incentives gt changing price incentives will change output miX But What about the distortions involved in altering market price signals If profit maximization is constrained then you can operate on those constraints If allocative efficiency holds but technical efficiency doesn t then extensionfarmer education may be the least cost method of increasing output p roductivity Likewise if allocative efficiency is prevented by certain market failures then work on those eg market information or market integration HOUSEHOLD BEHAVIOR UNDER RISK amp UNCERTAINTY 0 Uncertainty and the risks associated with it have important effects on rural LDC households 0 Risk generally shifts supply in reduces welfare relative to what it would be in the absence of risk 0 Price risk and output risk are intimately related at the market level TYPES SOURCES OF UNCERTAINTY 0 Natural hazards yield output uncertainty 0 Market uctuations price uncertainty Due to communications time lags in ag mkt imperfections 0 Access to land social uncertainty 0 State actions eg wars SOME HYPOTHESIZED IMPACTS OF UNCERTAINTY ELLIS 1 Sub optimal economic decisions relative to certainty 2 Slower adoption 3 Mixed cropping and other farming practices 4 Greater impact on the poor 5 Reduced by mkt integration due to better info ow communication 6 Increased by mkt integration due to greater dependence on mkt MODELING BEHAVIOR UNDER UNCERTAINTY N0 UNCERTAINTY MAX U OR MAX TC RISK NEUTRALITY MAX En RISK AVERSION MAX EU7t 1 COST OF RISK 0 Under certainty or risk neutrality welfare function is 11 0 Under risk aversion there are two general approaches 1 Safety first 2 Expected utility A Safegg First linimize the probability that income will fall below some minimum disaster level eg Min ETC st Prob Y lt YMN lt F Telser or eg lin Prob Y lt YMN Safety first Probability Distribution 2 Distribution 1 0 Applies more to places where there is a real serious disaster at Y lt YMN like starvation o More likely in isolated areas where markets are poorly developed esp credit markets B Expected Utiligg Models Y 6 with prob 5 Assume U I UY Where Y Y 6 with prob 5 gtEU VZUY6 12UY 6 gt Handout 9 Effect of an Increase in Risk Note that risk neutrality means that UY is a straight line passing from the origin through X For that case EUY UY Note that UY gt EU gt UY EU I welfare cost of risk in utility terms gt Y 37 p the amount ofincome that the producer would give up to exchange random income for sure income Note both Y and Y are non random Y is certainty equivalent income The sure income that would give the producer the same utility as random income gt U07 2 EUY C Magnitude of the Risk Premium 9 depends on two things 1 How curved the utility function is 0 U U measures curvature 0 As U U rises p uses 0 Risk neutrality U O gt U U O gt 37 gt p O 2 How variable income is 0 That is the size of5 in the graph 0 More generally income risk I fvarY D ArrowPratt Measures of the Size of the Risk Premium 9 A I U U Absolute Risk Aversion 6U39 17 R I YU U I Constant Risk Aversion elasticity of U Wrt Y After lots ofmath p 12 A X var Y Y zlszCVY2 E Interesting Points about the Cost of Risk 9 1 3 b Unirrigated South India CV Z 5 32 average I 17 Risky Income is usually only part of Total Income The closer to subsistence ag HH s are the more important risk is especially if other income sources are relatively riskless p falls as risk aversion falls Transferring risk from more to less risk averse agents decreases the overall cost of risk This argument underlies attempts to understand risksharing or riskshifting arrangements like share tenancy Empirical Evidence CV of Ag Income Filipino Rice Prod Technique Rainfed Roumasset Traditional 20 Modern 50 Relative Risk Aversion Binswanger R ranged from 03 to 17 Constant relative risk aversion a good approximation EU appears to t data better than Safety First Irrigated 25 33 42 II SUPPLY UNDER UNCERTAINTY RISK NEUTRAL FARMERS LetY 2 TE 2 pq wx 0 Both p and q are random because at the time planting decisions are made X is chosen p and q are unknown 0 Producer s problem Max ETC 2 EpEq covpq wx mcovpq wx KEY POINT ETC lt 7 under certainty because covpq lt O esp in isolated markets If producer ignores the covariance between output and price he would overestimate the returns to his effort x But knowing covpq he chooses x accordingly A covpq Define the action certainty equivalent price p p q 0 This is the price which if it prevailed on the market and there were no risk would yield exactly the same output supply a 77 response as the random price p NOTE 3 lt I Objective function Max ETC 2 Sq wx Optimizing condition w By comparison the no uncertainty optimizing condition is given by 0 Since 3 lt13 production under uncertainty must occur earlier on the production schedule Where a 18 greater X gt Supply output is lower under uncertainty Output Q sla e w A P A slaew P A Q0 Q1 Input X X14 X0 III SUPPLY UNDER UNCERTAINTY RISK AVERSE FARMERS Risk averse farmers maximize the expected utility of 1t Max EUTE EU q covpq wx EUI3 W50 2 EU WX assumes revenue and cost are additive Solution under uncertainty w I EU39yf3 X 5q Solution under certamgg w pg 0 f3lt gt ceteris paribis q and X will tend to be smaller under uncertainty as in risk neutral case However if EU Y is very large then EU39yf gt E a very high degree of risk aversion EU large may dominate the smaller size of the certainty equivalent price f KEY QUESTION Is EU 3902 gtlt f9 GREATER THAN OR LESS THAN 1 Stiglitz amp Newberry Intuition Individuals who are very risk averse increase their effort when risk is increased because they are worried about worst cases and hence work hard to avoid them Individuals who are less risk averse focus on the lower effective returns to farming lt gt iisk makes farming less attractive and hence lessens effort IV HOUSEHOLD RESPONSE TO RISK Remember the households produce AND consume Xhile low price is bad for producers it s good for consumers gt some sort of compensation takes place Implications NHlt 9 Net selling households produce more than pure producers under risk because consumption offers some insurance against pnce risk Net buying households produce more for the opposite reason production helps buffer potentially high cost of food when price rises Fafchamps These two things imply a predisposition toward food crops over cash crops SUMMARY IMPLICATIONS OF RISK FOR AG HOUSEHOLDS Risk reduces output Risk alters mix of production activities food crops over cash crops mixed cropping over mono cropping Risk alters the rate of technology adoption less risk averse adopt more rapidly Reducing the covariance between price and quantity can increase market supply This can be facilitated by making markets more integrated fertile ground for policy intervention


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