Changing Income Inequality During Structural Transformation: The Role of Agricultural Prices
Abstract and Keywords
This chapter examines the mutual, two-way dependence of structural transformation and food security. It begins with a discussion of analytical perspectives and policy approaches since 1950, focusing on agricultural development and food price stability as the underlying foundations to both structural transformation and food security. It then considers structural transformation in historical perspective, the link between agricultural productivity and structural transformation, and policy challenges that arise along the path of structural transformation. In particular, it analyses the growing gap between labour productivity in rural and urban areas as rapid industrialization takes place, giving rise to widening rural–urban income gaps. The chapter also explains how Asian countries differ from their non-Asian counterparts in the pattern of agricultural employment change with respect to per capita incomes before assessing a market-oriented approach to economic growth and structural transformation, and a stabilization approach to policy initiatives that prevent sharp price increases in staple foods.
Keywords: structural transformation, food security, agricultural development, food price stability, agricultural productivity, labour productivity, rural–urban income gap, agricultural employment, per capita income, economic growth
A sustainable structural transformation depends, causally, on a society’s widespread confidence in its food security. In return, however, sustaining this confidence in food security at a societal level requires, causally, a successful structural transformation. This mutual, two-way dependence of structural transformation and food security has bedevilled the development profession for decades. The profession has often ignored the critical role of agricultural development and food price stability as the underlying foundations to both structural transformation and food security. Without a clear understanding of how these four topics are linked, food policy analysis, advising, design, and implementation have usually been piecemeal and incomplete. The purpose of this short chapter is to clarify the issues, even if they can only be resolved in highly specific, country settings. I start with a focus on the historical evolution of thinking about these topics, as the foundation for how to think about them going forward. A suggested research agenda is at the end.
6.1 Analytical Perspectives and Policy Approaches since 1950
Ever since colonies of Western powers began to achieve independence after World War II, the development profession has tried to understand the process of structural transformation and how it affects (and is affected by) the role of agriculture in the (p. 128) economic growth of poor countries. The interest stems from two distinct features of agricultural sectors in the early stages of development: (1) the sector tends to be the largest employer, producer of economic output, and earner of foreign exchange, and so gains in productivity among agricultural households are critical to broader gains in welfare and reduced poverty; and (2) typically a country’s agricultural sector is the main food producer. Both rural and urban food security depend heavily on the ability of farmers to produce significant surpluses, and on the marketing system to get this food to non-farm consumers. These two dimensions are linked, of course, and understanding the nature and dynamics of linkages among agricultural performance and broader stimulus to economic growth, reduced poverty, and enhanced food security is a continuing challenge.
6.1.1 Structural Transformation, Agricultural Development and Food Security
The economics profession has thought a lot about these issues for a long time (Ricardo and Malthus debated them at length). Many Nobel Laureates in Economic Science have made notable contributions. In historical order, the list would include Gunnar Myrdal, Simon Kuznets, Arthur Lewis, T. W. Schultz, Robert Fogel, Douglas North, Amartya Sen, A. Michael Spence, Joseph Stiglitz, Eleanor Ostrom, and Angus Deaton. The third edition of the influential volume edited by Carl Eicher and John Staatz, International Agricultural Development (1998), contains contributions from North, Stiglitz, Sen, and Schultz. An earlier volume by Eicher and Witt (1964) had contributions from North, Kuznets, Schultz, Lewis, Griliches, and Hirschman. Clearly, this is an important topic.1
Classic volumes on the theme from the 1960s and 1970s include Eicher and Witt on Agriculture and Economic Development (1964); Schultz on Transforming Traditional Agriculture (1964); Mosher on Getting Agriculture Moving (1966); Southworth and Johnston on Agricultural Development and Economic Growth (1967); Wharton on Subsistence Agriculture and Economic Development (1969); Hayami and Ruttan on Agricultural Development: An International Perspective (1971 and 1985); and Reynolds on Agriculture in Development Theory (1975). The 1960s and 1970s saw a flurry of interest in the field, with mainstream economists keenly interested in the linkages among structural transformation, agricultural development, and food security. The food crisis of 1972–74 sharpened this interest, but it had roots deep in work from the 1950s of W. Arthur Lewis and others.
(p. 129) Drawing out the lessons from this massive body of work since the 1950s is a real challenge, even if the scope is ‘narrowed’ to Asia. The region is far too heterogeneous to find many lessons for agricultural development that are applicable everywhere. Agriculture is very site-specific. That said, just a dozen countries in Asia contain nearly half the world’s population, so lessons from a few countries are relevant to many people. Nearly two-thirds of the world’s poor depend on rice as a staple foodstuff and the world’s rice economy is centred in Asia. Global food security is impossible without reasonably stable rice prices that are affordable by the poor. An Asian focus, with rice at the centre of the discussion, makes very good sense for this topic.
It also makes sense to organize the discussion temporally in order to develop an intellectual history of how thinking about the topic has changed during the 1950s, and how, in turn, that thinking influenced policy approaches and development outcomes. This is, of course, a rolling circle of events and outcomes shaping analytical insights and development thought, which then influence strategic approaches and budget priorities, which determine investment plans and incentives for the entire agricultural system. Inevitably, it is a complicated story. But, as my recent book argues, ‘markets have done the heavy lifting’ (Timmer 2015a). Understanding the behaviour of food markets over time provides a simplifying framework for the chapter. Thus a unifying theme is how signals of changing scarcity of food, reflected (at least partially) in market prices, have influenced the intellectual and policy agendas. The historical discussion is organized by decades.
6.1.2 A Quick Review of the Literature: 1950 to the Present
A review of the history of thought about drivers of structural transformation, agricultural development, and food security, needs to include the interplay of market events, analytical perspectives as represented in the professional literature, and impact on development strategies and policies. The most thoughtful analysis of these issues is in two chapters in Hayami and Ruttan (1985) on ‘Agriculture in Economic Development Theories’ and ‘Theories of Agricultural Development’, and in the introductory chapter by Staatz and Eicher (1998) on ‘Agricultural Development Ideas in Historical Perspective’.
In the 1950s, the focus was on frameworks for development, especially the ‘surplus labour’ model of W. Arthur Lewis (1954) and the analysis of technical change as a driver of agricultural productivity that was stressed by Zvi Griliches (1957) in his work on hybrid corn in the USA.
The decade of the 1960s was highly productive for development economics and understanding the role of agriculture in economic growth. The key publications included Johnston and Mellor (1961) on ‘the role of agriculture in economic development’ in the American Economic Review; T. W. Schultz (1964) on Transforming Traditional Agriculture; Eicher and Witt (1964) on Agriculture and Economic Development; Mellor (1966) on The Economics of Agricultural Development; Mosher (1966) (p. 130) on Getting Agriculture Moving; and Southworth and Johnston (1967) on Agricultural Development and Economic Growth.
The 1970s saw a renewed concern for income distribution and how to generate an economic growth process that reached the poor, especially in response to the world food crisis from 1972 to 1974. The key publications include Hayami and Ruttan (first edition in 1971) on Agricultural Development: An International Perspective; Johnston and Kilby (1975) on Agriculture and Structural Transformation: Economic Strategies in Late-Developing Countries; Reynolds (1975) on Agriculture in Development Theory; Lipton (1977) on Why Poor People Stay Poor: Urban Bias in Developing Countries; and Binswanger and Ruttan (1978) on Induced Innovation.
The 1980s saw a number of important publications that grew out of the tumultuous record of the 1970s. To start, two important contributions from future Nobel Prize winners in economics redefined the basic analytics of food security: Sen (1981) on Poverty and Famines and Newbery and Stiglitz (1981) on The Theory of Commodity Price Stabilization: A Study in the Economics of Risk. An integrated analytical approach to food security was presented in Timmer, Falcon, and Pearson (1983) in Food Policy Analysis, and the first edition of Eicher and Staatz (1984) on Agricultural Development in the Third World appeared shortly after. In 1988, Timmer published ‘The Agricultural Transformation’ in the first volume of The Handbook of Development Economics, an article that has remained relevant to academic debates for a quarter of a century.
By the 1990s, the full impact of the collapse of commodity prices in the 1980s was being felt by the economic development profession, which largely lost interest in the agricultural sector. An important empirical study of biases in agricultural price policy was published by Kreuger, Schiff, and Valdez (1991), The Political Economy of Agricultural Pricing Policy, and this too remained influential for decades. By 1995, it was possible for Timmer to ask ‘Getting Agriculture Moving: Do Markets Provide the Right Signals?’ At the time, the answer was ‘no’.
Market signals started to change during the 2000s, and the profession took notice. The Timmer (2002) chapter ‘Agriculture and Economic Growth’ in the Handbook of Agricultural Economics synthesized the many reasons agriculture played an important role in economic growth, poverty reduction, and food security, no matter what short-run price signals said. Fogel (2004) in an extension of his Nobel Prize address, explained The Escape from Hunger and Premature Death, 1700–2100. The rapidly changing food marketing sector was also coming on the policy agenda, with an article by Reardon, Timmer, Barrett, and Berdegue (2003) on ‘The Supermarket Revolution in Developing Countries’ leading the profession into this field. The rural non-farm economy finally received the serious attention it deserved in Haggblade, Hazell, and Reardon (2007), Transforming the Rural Non-Farm Economy: Opportunities and Threats in the Developing World. As an ‘official’ signal that agriculture was back on the agenda, the World Bank (2007) published the World Development Report, 2008: Agriculture for Development. The report was actually drafted before the world food crisis in 2007–08 but it served to mobilize professional and policy thinking about how to proceed in the face of the crisis.
(p. 131) The early part of the 2010s (and we are only two-thirds of the way through it) saw many efforts to understand why the food crisis in the late 2000s occurred and what to do about it going forward. By 2014 attention was focused on the post-2015 Sustainable Development Goals and what role agricultural development should play in achieving them. Early in the decade, a publication by Timmer (2010) on ‘Reflections on Food Crises Past’ in Food Policy raised the issue of regularly recurring food crises and the cyclical nature of policy responses to them. Stanford University’s Center for Food Security and Environment hosted a series of lectures on global food policy that resulted in Frontiers in Food Policy: Perspectives on sub-Saharan Africa (edited by Falcon and Naylor 2014), which also contains very useful annotated summaries of the most influential literature in the fields of the lectures.2 Early in 2015, Timmer’s Food Security and Scarcity: Why Ending Hunger is so Hard (2015a) was published, pulling together more than four decades of analysis of structural transformation, agricultural development, and food security.
Where to next? The way forward must deal with accumulated historical issues, analytical challenges and policy approaches. Coping with climate change will be high on analytical and policy agendas. The ‘double burden’ of hunger and obesity seriously complicates food policy approaches aimed primarily at the link between poverty and undernutrition. Volatility in food prices is already a major concern and may worsen, although experience in Asia since 2008 with quiet coordination of government import and export policies for rice suggests a way forward. Sustainability of modern agriculture, the role of genetically modified organisms (GMOs) in the food chain, the market power of large-scale supermarkets and their concentrated supply chains, and increasing demand for ‘local’ foods are all likely to be on the agenda.
6.2 Structural Transformation as the Organizing Framework
Understanding structural transformation is mainly an exercise in economic history, but learning how to manage the process involves understanding the political economy of policy making. The food system is at the core of this process in both the long run and short run. In the long run, the food system is a key element of the structural transformation, which historically has been the only sustainable pathway out of poverty. In the short run, the food system is the arena in which many of the poor make their living, and also face the risks of volatile food prices.
A structural transformation that is successful in ending hunger requires that each society finds the right mix of market forces and government interventions to drive a process of economic growth that reaches the poor and ensures that food supplies are (p. 132) readily, and reliably, available and accessible to even the poorest households. Finding this ‘right mix’ has been a major challenge, and serious efforts to provide food security to a society seem to have stimulated important ‘learning’ by governments on how to manage not just the essentials of rural markets, but also the broader dimensions of economic growth.
Solving the ‘food problem’ is thus a key step—and a powerful catalyst—to solving the problem of poverty and finding the path to higher incomes. No country has been able to sustain rapid economic growth until its citizens and investors were confident that food was reliably available in the main urban markets. Rural poverty has always been a later concern. However, rural productivity and economic growth provide the ingredients to broad-based food security. The two are intimately linked, and identifying the many factors that must come together to generate a successful structural transformation aids an understanding of why.
Two other transformations occur simultaneously with the structural transformation—sorting out which are cause and which are effect is mostly a fool’s game; they happen together. The agricultural transformation takes place within the sector at the same time the sector itself is changing its relationship to the rest of the economy—structural transformation (Timmer 1988). And the dietary transformation follows surprisingly robust ‘laws’ as societies become richer and more urbanized. Engel’s law describes the declining share of food in the budget of all families as they become richer. Bennett’s law describes the reduced role of starchy staples (cereals and root crops) and the increased diversity of calorie and protein sources in the diets of richer families (Bennett 1954).
The persistence across countries and time of these common patterns of dietary change, and the agricultural transformations that make them possible, suggest very-deep seated global forces at work, no doubt some of them wired by evolution into humans’ brains. At the same time, there is widespread variance at the local level around these common pathways, so there is ample scope for unique behaviour and patterns as well. Here is the role for policy analysis at the country level.
6.2.1 Structural Transformation in Historical Perspective
All successful developing countries undergo a structural transformation, which involves four main features: 3
a falling share of agriculture in economic output and employment;
a rising share of urban economic activity in industry and modern services;
(p. 133) migration of rural workers to urban settings; and
a demographic transition in birth and death rates that always leads to a spurt in population growth before a new equilibrium is reached.
The structural transformation involves declining shares of agriculture in GDP and employment, almost always accompanied by serious problems closing the gap in labour productivity between agriculture and non-agriculture. The basic cause and effect of the structural transformation is rising productivity of agricultural labour. The four basic dimensions of structural transformation are seen by all developing economies experiencing rising living standards; diversity appears in the various approaches governments have tried in order to cope with the political pressures generated along that pathway. Finding efficient policy mechanisms that will keep the poor from falling off the pathway altogether—managing the structural transformation—has occupied the development profession for decades. There are three key lessons.
First, the structural transformation has been the main pathway out of poverty for all societies, and it depends on rising productivity in both the agricultural and non-agricultural sectors (and the two are connected). The stress on productivity growth in both sectors is important, as agricultural labour can be pushed off farms into even lower productivity informal service sector jobs, a perverse form of structural transformation that has generated large pockets of urban poverty, especially in sub-Saharan Africa and India.4 It is no accident that these are the two regions of the world where food insecurity remains severe.
Second, in the early stages, the process of structural transformation widens the gap between labour productivity in the agricultural and non-agricultural sectors. This widening gap puts enormous pressure on rural societies to adjust and modernize. These pressures are then translated into visible and significant policy responses that alter agricultural prices. The agricultural surpluses generated in rich countries because of artificially high prices then cause artificially low prices in world markets and a consequent undervaluation of agriculture in poor countries (Timmer 1995). This undervaluation of agriculture since the mid-1980s, and its attendant reduction in agricultural investments, is a significant factor explaining the world food crisis in 2007–08 and continuing high food prices into the mid-2010s.
Third, despite the decline in relative importance of the agricultural sector, leading to the ‘world without agriculture’ in rich societies, the process of economic growth and structural transformation requires major investments in the agricultural sector itself (Timmer 2009a). This seeming paradox has complicated (and obfuscated) planning in developing countries as well as donor agencies seeking to speed economic growth and connect the poor to it. Because of active policy concerns about providing food security to their citizens, countries in East and Southeast Asia largely escaped much of this paradox, but sub-Saharan Africa has not.
(p. 134) For poverty-reducing initiatives to be sustainable over long periods of time, the indispensable necessity is a growing economy that successfully integrates factor markets in the rural sector with those in urban sectors, and stimulates higher productivity in both. That is, the long-run success of poverty reduction, and with it, improvements in food security, hinge directly on a successful structural transformation. The historical record is very clear on this path. Figure 6.1 shows the historical path of structural transformation from 1880 to 2010 for Japan and Indonesia. The similarity in paths is quite striking.
Managing the ingredients of rapid transformation and coping with its distributional consequences have turned out to be a major challenge for policy makers. ‘Getting agriculture moving’ in poor countries is a complicated, long-run process that requires close, but changing, relationships between the public and private sectors. Donor agencies are not good at this. More problematic, the process of agricultural development requires good economic governance in the countries themselves if it is to work rapidly and efficiently. Aid donors cannot hope to contribute good governance themselves—and may well impede it (Pritchett 2013).
The strong historical tendency toward a widening of income differences between rural and urban economies during the initial stages of the structural transformation is now extending much further into the development process. Consequently, with little prospect of quickly reaching the turning point, where farm and non-farm productivity and incomes begin to converge, many poor countries are turning to agricultural protection and farm subsidies sooner rather than later in their development process. The tendency of these actions to hurt the poor is then compounded, because there are so many more food-deficit, rural poor in these early stages.
(p. 135) 6.2.2 Agricultural Productivity and Structural Transformation
No country has been able to sustain a rapid transition out of poverty without raising productivity in its agricultural sector (if it had one to start—Singapore and Hong Kong are exceptions). The process involves a successful structural transformation where agriculture, through higher productivity, provides food, labour, and even savings to the process of urbanization and industrialization. A dynamic agriculture raises labour productivity in the rural economy, pulls up wages, and gradually eliminates the worst dimensions of absolute poverty. Somewhat paradoxically, the process also leads to a decline in the relative importance of agriculture to the overall economy, as the industrial and service sectors grow even more rapidly, partly through stimulus from a modernizing agriculture and migration of rural workers to urban jobs.
All societies want to raise the productivity of their economies. That is the only way to achieve higher standards of living and sustain reductions in poverty. The mechanisms for doing this are well known in principle if difficult to implement in practice. They include the utilization of improved technologies, investment in higher educational and skill levels for the labour force, lower transactions costs to connect and integrate economic activities, and more efficient allocation of resources. The process of actually implementing these mechanisms over time is the process of economic development. When successful, and sustained for decades, it leads to the structural transformation of the economy.
The structural transformation complicates the division of the economy into sectors—rural versus urban, agricultural versus industry and services—for the purpose of understanding how to raise productivity levels. In the long run, the way to raise rural productivity is to raise urban productivity, or as Chairman Mao famously but crudely put it, ‘the only way out for agriculture is industry’. Unless the non-agricultural economy is growing, there is little long-run hope for agriculture. At the same time, the historical record is very clear on the important role that agriculture itself plays in stimulating growth in the non-agricultural economy (Timmer 2002, 2005a, 2005b, 2008, 2016).
In the early stages of the structural transformation in all countries there is a substantial gap between the share of the labour force employed in agriculture and the share of gross domestic product (GDP) generated by that work force. Figure 6.1 shows that this gap narrows with higher incomes. This convergence is also part of the structural transformation, reflecting better integrated labour and financial markets.
However, in many countries this structural gap actually widens during periods of rapid growth, a tendency seen in even the earliest developers. When overall GDP is growing rapidly, the share of agriculture in GDP falls much faster than the share of agricultural labour in the overall labour force. The ‘turning point’ in the gap generated by these differential processes, after which labour productivity in the two sectors begins to converge, has also been moving to the right over time.5
(p. 136) This lag inevitably presents political problems as farm incomes visibly fall behind incomes being earned in the rest of the economy. The long-run answer, of course, is faster integration of farm labour into the non-farm economy (including the rural, non-farm economy), but the historical record shows that such integration takes a long time. It was not fully achieved in the USA until the 1980s (Gardner 2002), and evidence shows the productivity gap is increasingly difficult to bridge through economic growth alone (Timmer 2009a).
This lag in real earnings from agriculture is the fundamental cause of the deep political tensions generated by the structural transformation, and it is getting worse. Historically, the completely uniform response to these political tensions has been to protect the agricultural sector from international competition and ultimately to provide direct income subsidies to farmers (Lindert 1991; Anderson et al. 2013). Neither policy response tends to help the poor, even those remaining in rural areas. We now understand that the political economy of this process is driven by the structural transformation itself.
6.3 Tensions along the Transformation Path
Policy challenges can arise almost anywhere along the path of even the most successful structural transformation and many of them will be quite specific to the time and place where a problem occurs. In this sense, each country must find its own path, and solve its own problems along the way. Still, comparative economic history is rich with examples of common problems during the structural transformation and one is presented here: the widening gap between labour productivity in rural and urban areas as rapid industrialization takes place. How to measure and manage the growing gap in labour productivity between sectors occupies much of A World without Agriculture (Timmer 2009a) and my WIDER Lecture (Timmer 2015b), but important new evidence has been developed since the empirical work in those monographs, with hopeful implications for successfully managing a structural transformation.
6.3.1 Mind the Gap
In the early stages of the structural transformation in all countries there is a substantial gap between the share of the labour force employed in agriculture and the share of GDP generated by that workforce. As can be seen in Figure 6.1, this gap narrows with (p. 137) higher incomes. This convergence is also part of the structural transformation, reflecting better integrated labour and financial markets. The role of better technology and higher productivity on farms as a way to raise incomes in agriculture is controversial. Most of the evidence suggests that gains in farm productivity have been quickly lost (to farmers) in lower prices and that income convergence between agriculture and non-agriculture is driven primarily by the labour market (Johnson 1997; Gardner 2002).
Moreover, in many countries this structural gap actually widens during periods of rapid growth, as was evident in even the earliest developers, the now-rich OECD countries. When overall GDP is growing rapidly, the share of agriculture in GDP falls much faster than the share of agricultural labour in the overall labour force. The turning point in the gap generated by these differential processes, after which labour productivity in the two sectors begins to converge, has also been moving ‘to the right’ over time, requiring progressively higher per capita incomes before the convergence process begins.
Most empirical analysis of the structural transformation has focused on two variables—agriculture’s share in employment and in GDP. The ‘gap’ between the two has often been recognized, yet it has received little systematic analysis.6 In fact, the gap is an important element in understanding the political economy of structural transformation. For our purposes here, the gap is defined as the difference between the share of agriculture in GDP and its share in employment. This definition consciously causes the GAP variable to be negative in sign for virtually all observations, a visual advantage in Figure 6.1, which shows the gap approaching zero from below.
One advantage of using the difference in shares rather than their relative values is that the gap variable then translates easily into a ‘sectoral Gini coefficient’ that indicates the inequality of incomes (labour productivity) between the two sectors.7 The negative of the GAP variable is equal to the Gini coefficient for agricultural GDP per worker compared with non-agricultural GDP per worker. On average, this ‘sectoral Gini coefficient’ accounts for 20–30 per cent of the variation in the overall Gini coefficient for most countries.
Mitigating the rural–urban divide has turned out to be the key to maintaining political stability and rapid economic growth. This paradoxical connection stems from a failure of market-driven economic models based on free trade to cope with the powerful consequences of growing income inequalities. As incomes become more skewed, so too do the expectations, cultural values, and political orientation of those left behind. In China and India the increase in this gap since the early 1990s has generated serious political pressures. Rural America elected Donald Trump as president of the USA. Most rural households in the country are highly alienated from what is happening in more dynamic, liberal areas. This has turned out to be a poisonous political brew.8
(p. 138) 6.3.2 Widening Rural–Urban Income Gaps
A worrisome aspect of the rural–urban income gap is that it tends to get larger during the early stages of economic growth. The turning point in the relationship is calculated from a regression explaining the size of the GAP variable as a function of the logarithm of per capita income and per capita income squared. The fact that labour productivity in the non-agricultural sector actually increases more rapidly than in the agricultural sector until this turning point is reached, thus exacerbating rural–urban income differences, has much to do with the political difficulties poor countries face during a rapid structural transformation.
The turning point comes at a lower per capita income level when the domestic agricultural terms of trade variable is included in the statistical analysis. Individual countries use agricultural price policy as one way to manage the structural transformation by influencing their domestic terms of trade. This policy instrument helps the growth process to integrate agricultural labour into the rest of the economy, at least in terms of relative productivity. On the other hand, political efforts to influence the domestic terms of trade often run into powerful counter pressures from global commodity markets, and thus require large subsidies or trade barriers to make them effective. One possible advantage of higher food prices in world markets since 2007 might be less pressure on policy makers to protect their agricultural sectors from the forces of rapid structural transformation, a point discussed below.
6.3.3 Changes over Time
One overarching question about the structural transformation is whether it has been a uniform process over time, or whether the very nature of economic growth, and its capacity for integrating ‘surplus’ agricultural workers into the non-agricultural sector, has been changing over the course of history. There are two ways to address the issue. The first is to examine the short-run record of growth using a sample of countries, with data from 1965 to 2000. The second approach is to examine the long-run record of the early developers to see how their patterns of structural transformation might differ from the modern record.
184.108.40.206 The Short Run
There are a number of ways to slice the modern record (the 1965–2000 period) of structural transformation into smaller segments. There are systematic patterns over time in turning points. The clearest pattern occurs for the turning points in the gap relationship when the regression includes the terms of trade variable. These turning points are as follows:
(p. 139) Unmistakeably, the turning point for the gap in labour productivity between the agricultural and non-agricultural sectors has been steadily rising since the mid-1960s. Such results are strongly suggestive of a failure of modern economic growth processes to integrate the agricultural sector of poor countries into the rest of their economy despite relatively successful aggregate growth records (Ravallion et al. 2007).
A widening sectoral income gap—as differences in labour productivity between urban and rural areas become larger—spells political trouble. It is no wonder that policy makers feel compelled to address the problem, and the most visible way is to provide more income to agricultural producers. The long-run way to do this is to raise their labour productivity and encourage agricultural labour to migrate to urban jobs, but the short-run approach—inevitable in most political environments—is to use trade policy to affect domestic agricultural prices (Olson 1965; Lindert 1991). In low-income economies, agricultural protection is a child of growing income inequality between the sectors during the structural transformation.
220.127.116.11 Long-run Patterns from 1820 to 1985
Concerns about the distributional impact of globalization are not new. The world economy experienced an earlier round of globalization from 1870 to World War I, and there may be lessons from the currently developed countries that participated in that process. Their economies were experiencing rapid economic growth (by the standards of the time) and facing challenges from the growing integration of labour and capital markets across countries (Williamson 2002). Thanks to recent work by economic historians, it is possible to examine the nature of these challenges empirically. The results are striking.
First, the patterns from the early developers are remarkably similar to those for the sample of countries from 1965 to 2000. Although the small sample size (nine countries with just four observations for all but the UK) means the coefficients are measured with considerable error, they are still significant by most standards, with the same pattern of signs and magnitudes as for the full sample of contemporary economies (for details, see Timmer and Akkus 2008).
Second, the tendency for the gap share variable to widen in the early stages of development seems equally strong in the early developers. But the turning point had been reached early in their development. The UK passed its turning point before 1800, the continental European countries reached it by the mid-1900s, and Japan followed early in the twentieth century. These growth patterns suggest that the early experience for these advanced countries was much more similar to the international growth patterns of the 1960s and 1970s than to those of the past several decades.
Indeed, virtually the entire growth experience of modern developed countries has been spent on the convergent path of sectoral labour productivity. This is in sharp contrast to currently developing countries, which are mostly at income levels per capita where sectoral labour productivity is diverging.
(p. 140) 6.4 Asian Patterns are Different
Asian countries have a very different pattern of agricultural employment change with respect to per capita incomes than non-Asian countries. This difference seems to be accounted for by policy measures designed to manage the tensions that arise during rapid structural transformation. Asian economies tend to employ disproportionately more farm workers in the early stages of development. Indeed, statistical analysis shows that Asian countries were able to use the agricultural terms of trade as a policy instrument for keeping labour employed in agriculture, a pattern not seen in other developing countries. Average economic growth in the Asian sample was faster than in other countries, and the rapid decline in the share of GDP from agriculture reflects this rapid growth. Asian countries relied heavily on the agricultural terms of trade as a policy tool to mitigate the consequences of rapid growth: a widening gap in labour productivity between the agricultural and non-agricultural sectors.
Thus Asian countries provided more price incentives to their agricultural sectors over this time period as a way to prevent the movement of labour out of agriculture being ‘too fast’. Certainly the pattern of movements in the agricultural terms of trade for the two sets of countries is strikingly different, with Asian countries seeing a long-run decline at half the pace of the non-Asian countries (see Figure 6.2).
The net effect of these forces on the gap between labour productivity in the two sectors is that the turning point in the GAP relationship (after which labour productivity in agriculture begins to converge with labour productivity in non-agriculture) is (p. 141) sharply lower in the Asian sample. The turning point for the Asian countries is just US$1,600, whereas it is over US$11,000 for the non-Asian countries—over six times higher. This difference underscores two distinctive features of the Asian economies—their more rapid growth and the greater role of agricultural productivity in that growth (Timmer 2005b).
The reasons for these differences have been the source of considerable debate. An explanation that resonates with the empirical results reported here is that Asian countries were more concerned about providing ‘macro’ food security in urban markets and ‘micro’ food security to rural households because of large and dense populations engaged in farming on very limited agricultural resources. Political stability, and with it the foundation for modern economic growth, grew out of an approach to the provision of food security that connected poor households to improved opportunities (Timmer 2004, 2005a).
The key to this story has been management of the domestic agricultural terms of trade. Did the world food crisis change things? Many Asian countries used domestic price policy to keep the agricultural terms of trade more favourable for their farmers, and thus kept political tensions from rapid structural transformation under control. Domestic policy interventions were necessary because global food prices had been steadily declining since the early 1980s (see Figure 6.3). Openness to those declining food prices, although very beneficial to the poor, was a real challenge to domestic farmers. The lack of successful agricultural transformation in many countries might thus be linked to the low profitability of agriculture, at least in world markets. Have things changed?
(p. 142) Figure 6.3 shows that there was a significant ‘regime change’ in global food markets in the mid-2000s. For the first time since the early 1970s, average agricultural terms of trade were rising instead of falling. Openness to these higher food prices could be harmful to poor consumers, especially in the short run. But much more widespread agricultural dynamism also seems to have resulted in those countries that had lagged for decades. It is far too early to tell if the tide really has turned, and faster productivity growth in agriculture—made possible by sharply higher incentives—gets transmitted into successful structural transformations in sub-Saharan Africa and South Asia.
The drop in commodity prices in late 2014 and early 2015 might signal the end of this boom. But the evidence from the increase in global agricultural terms of trade is promising in one respect: the gap in labour productivity between agricultural and non-agricultural labour is no longer so difficult to close. Using the new data set that generated the results in Figure 6.3, it is possible to calculate the turning point when the gap begins to close. That turning point had been moving rapidly to higher incomes in the earlier data set, which ended in 2000. The new data set starts only in 1980 but now extends to 2010. Having the extra decade, with its reversal in the downward trend in agricultural terms of trade, reveals a startling result. The new turning points are as follows:
As before, the turning point was moving to sharply higher income levels in the 1980s and 1990s. But in the first decade of the twenty-first century, not only did that trend stop, the level of the turning point returned to income levels easily within reach of transition economies. The ‘villain’ in the story of increased difficulty in integrating agricultural and non-agricultural sectors in developing countries was not globalization or even bad domestic policies (although they may have been players as well). The real driver was the rapid fall in global food and agricultural prices and the difficulties created for domestic policy makers as they tried to manage a smooth structural transformation. Without incentives to raise agricultural productivity, the sector stagnated. In turn, without the stimulus from a dynamic agricultural sector and rising labour productivity, the rest of the economy stagnated as well. A new window of opportunity opened with the world food crisis in 2007–08. It remains to be seen whether the window remains open and whether the opportunity is broadly seized.
6.5 A Macro Food Policy Perspective
Folk wisdom holds that ‘an ounce of prevention is worth a pound of cure’—prevention is sixteen times better than coping. Preventing food crises requires two separate, but integrated, approaches—a market-oriented approach to economic growth and structural transformation, and a stabilization approach to policy initiatives that prevent (p. 143) sharp price spikes for staple foods. Both approaches require a behavioural perspective, and neither can work without the other.
The pathway of structural transformation is long and hard. It is easy to get side-tracked or to miss the path altogether. The endpoint—an agricultural sector that is a small share of a large economy—is easily confused with a development strategy that squeezes agriculture from the start. Such a strategy has always been a catastrophe. Because of the unreliability of market prices in the short run as signals for long-run investments, both governments and private firms, easily miss the importance of investing in higher agricultural productivity, better food safety standards or social responsibility (Timmer 1989, 1995, 2009b, 2012).
Changing income distribution is an important part of the problem. Even if the structural transformation goes smoothly, most rural households find growth in their incomes lagging behind growth in urban incomes. Changing relative incomes in rural and urban areas drive political dynamics, and the nearly universal tendency to increase agricultural protection during a successful structural transformation is easily understandable from the viewpoint of behavioural economics, thus explaining much of the ‘empirical’ political economy of food prices.9
Successful structural transformations have always been primarily a market-driven process. Markets process billions of pieces of information on a daily basis to generate price signals to all participants—no other form of institutional organization has evolved that is capable of the necessary information processing required for individuals and firms to make efficient allocation and investment decisions, and thus to raise long-run productivity. Without reasonably efficient markets, we are all doomed to poverty.
The dilemma, of course, is that markets sometimes (or often, depending on political perspective and analytical training) fail at tasks that society regards as important, such as poverty reduction, nutritional well-being, or food price stability, even employment generation. We now understand that these failures are not just for technical reasons—externalities, spillovers, monopoly power, or asymmetric information, for example—but also have deep behavioural roots, based in loss aversion, widespread norms of fairness, and the regularity of ‘other-regarding preferences’. Fixing them is not easy unless these root causes are incorporated into the policy analysis, design and interventions (an example is in Thaler and Benartzi 2004). That said, a number of behavioural regularities are well documented, and building them into policy design simply requires paying attention. Norms of ‘fairness’ for example, are easy to build into food subsidy schemes—even when they conflict with economists’ sense of efficiency. The Raskin program of rice distribution to the poor in Indonesia, for example, has struggled with the ‘losses’ to rice distributed by village leaders on the basis of a ‘fairness’ mechanism (p. 144) rather than a ‘poverty’ mechanism. Knowing that such an approach was inevitable from the start would have significantly improved the performance of this programme.
Beyond market failures, there are several problems with the process of structural transformation in the short- and medium-term. A health and nutrition transition seems to accompany structural transformation, but with lags and significant sectoral differences. Not all of the transitional impact is positive: significant increases in obesity, and accompanying chronic diseases, are linked to both the higher incomes and larger urban populations that come with successful structural transformation, as evidence from China and India is making apparent (Webb and Block 2012).
Technical change, which is stimulated by high food prices, has paradoxically been the long-run mechanism for generating low food prices and better nutrition for the poor. There is considerable debate over the impact of cheap food, a processing-oriented commercial food sector, and urban lifestyles, on the rising tide of obesity. But again, the temporal disconnect between the poor losing access to food in the short run because of high prices, and a positive long-run technological response, requires public understanding and intervention, in the nutrition arena as well as in preventing food crises.
By necessity, the poor live in the short run, but must place their hope for an escape from poverty in long-run forces that are mediated by efficient markets. The time inconsistent behaviour of most individuals and policy makers means this dilemma is very difficult to resolve. The growing importance of targeted social safety nets, including direct food deliveries to the poor in both normal times and during economic and food crises, may be pointing the way to a political resolution.
Appendix 1 Core literature on food price instability
Theodore W. Schultz, 1945. Agriculture in an Unstable Economy, New York: McGraw-Hill.
Although concern over unstable agricultural prices and incomes is centuries old—the English Corn Laws date to 1688 and were concerned with both—the first modern treatment of the causes and consequences of instability in agriculture dates to this volume by T. W. Schultz. He was emphatic in attributing much of the causation of unstable agricultural prices to macroeconomic instability rather than the peculiarities of individual crop supply and demand, a position that put Schultz at odds with much of the agricultural economics profession at the time. In his later volume, The Economic Organization of Agriculture, published in 1953, Schultz carried his perspective to its logical conclusion: ‘The instability of farm prices is an important economic problem. It is, however, exceedingly difficult to organize the economy so that farm prices will be on the one hand both flexible and free and on the other hand relatively stable.’ Schultz resisted efforts to stabilize individual commodity prices from then on.
David M. G. Newbery and Joseph E. Stiglitz, 1981. The Theory of Commodity Price Stabilization: A Study in the Economics of Risk, Oxford: Clarendon Press.
This volume had a sharp impact on the development community when it appeared three decades ago. One of the first major efforts to put development economics on a firm micro (p. 145) foundation, it treated commodity price instability as a problem for households and firms, which needed to cope with the risk of price fluctuations. A dynamic optimization model that incorporated risk into household decision making was expanded to prove that international commodity agreements (ICAs) to stabilize prices on world markets could not work—eventually they would run out of funds to buy at low prices or commodities to inject into markets at high prices. The profession has taken to heart the key conclusion from this analysis: it is impossible in theory and in practice to stabilize commodity prices. Of course, this holds only globally, not for individual countries, and all the costs and benefits are micro-based. No costs to the macro economy stemming from unstable commodity prices, or benefits from stabilizing them, are dealt with in the analysis.
C. Peter Timmer, 1989. ‘Food Price Policy: The Rationale for Government Intervention’, Food Policy, 14(1), pp. 17–27.
At one level this paper is an attempt to confront the conclusions from Newbery and Stiglitz (1981) with the reality of successful food price stabilization efforts in a number of countries in Asia. The rationale for these stabilization programmes is developed at length, with considerable attention to the macro dimensions of food price instability, which rely heavily on signal extraction problems for investors. Without food stability at the macro level in major urban markets—proxied in Asia by stable rice prices—countries have a very hard time lengthening investors’ time horizons to fit the needs of modern economic growth. Stable food prices speed up that growth.
Jeffrey C. Williams and Brian D. Wright, 1991. Storage and Commodity Markets, Cambridge: Cambridge University Press.
This volume builds on a half-century of work on the supply of storage as the basic analytical framework for understanding inter-temporal price formation. A unique feature of commodity storage—it cannot be negative—is used to build a dynamic model of commodity prices. The model is very successful in reproducing the common features of commodity prices, especially their tendency to be low and stable for long periods of time, and then subject to sharp upward shocks. This volume remains the basic reference on how storage affects price formation.
C. Peter Timmer, 1995. ‘Getting Agriculture Moving: Do Markets Provide the Right Signals?’ Food Policy, 20(5): 455–72.
This paper appeared in a special issue of Food Policy that honoured Art Mosher and his insights on how to ‘get agriculture moving’. One of the key questions in the agricultural development literature is the role of price incentives to stimulate adoption of new technology. The basic argument in this paper is that prices on world markets for the key food staples—rice, wheat, and maize—often do not reflect either their long-run scarcity value with respect to investments in agricultural development, or their potential to create added value in the form of rural incomes, and thus faster poverty reduction. Donors should not use short-run prices in world markets to judge the impact of their investments in agricultural research and infrastructure, but should look at long-run trends and the feedback from current investment decisions to future food abundance and scarcity.
C. Peter Timmer, 2000. ‘The Macro Dimensions of Food Security: Economic Growth, Equitable Distribution, and Food Price Stability’, Food Policy, 25(4): 283–95.
This paper demonstrates the interactions among the rate of economic growth, of who participates in that growth, and the level of food prices, as they affect the numbers of people counted as ‘food insecure’. The basic methodology follows from earlier work by Reutlinger and Selowsky (1976), but introduces food price instability as an important causal factor changing the level of food security. An important conclusion is that stable food prices make the achievement of ‘macro’ food security much easier, and ‘pro-poor’ growth makes ‘micro’ food security feasible. In combination, a rapid escape from poverty and hunger is possible.
World Bank, 2005. Managing Food Price Risks and Instability in an Environment of Market Liberalization, Agriculture and Rural Development Department Report No. 32727-GLB, Washington, DC.
Many of the papers in this volume also appeared in a special issue of Food Policy edited by Derek Byerlee, Thom S. Jayne, and Robert J. Myers that appeared in May 2006. The volume was the result of a free-ranging conference arranged by the World Bank, but this summary reflects a clear neo-classical approach that allows unrestricted price formation with follow-up activities to protect food consumption of the poor if prices suddenly spike. Producers are urged to use modern financial derivatives to hedge their risks from price volatility, whereas poor consumers will need to rely on government-sponsored safety nets when food prices spike. This ‘Washington Consensus’ view of how to deal with food price instability has been challenged by the food crises in 2008 and 2011.
Shahidur Rashid, Ashok Gulati, and Ralph Cummings, Jr., eds, 2008. From Parastatals to Private Trade: Lessons from Asian Agriculture, Baltimore, MD: Johns Hopkins University Press for the International Food Policy Research Institute.
This volume makes the case that food price stabilization implemented via parastatals was necessary and effective for Asian countries to introduce Green Revolution technologies to small holders in the context of poor marketing infrastructure. However, as infrastructure and private marketing capacity have developed rapidly, and food parastatals have been subject to gross mismanagement and corruption, the time has come to turn most of food marketing in Asia over to the private trade. The editors/authors are especially knowledgeable about India.
Philip C. Abbott, Christopher Hurt, and Wallace E. Tyner, 2008. What’s Driving Food Prices? (also supplements in 2009 and 2011), Farm Foundation Issue Report (FFIR), Oak Brook, IL.
This was among the first scholarly efforts to understand what was driving the food price crisis in 2008 and has been the standard since. The update for 2011 argues that the drivers are somewhat different than in 2008, when exchange rate movements received a great deal of attention. In 2011, the authors place most of the blame on US and EU bio-fuels policies and on the Chinese decision to build substantial stocks of soybeans even as the world price was rising. They are increasingly nervous that demand growth for food will outstrip growth in production, with continuing high and unstable prices.
C. Peter Timmer, 2010. ‘Reflections on Food Crises Past’, Food Policy, 35(1): 1–11.
Similarities and differences between the rice price crisis in 1972/73 and the one in 2007/08 are analysed, especially from the perspective that long-run cycles in funding for agricultural research and infrastructure are the basic cause of periodic food crises. The changes in political economy of responses to spikes in rice prices between the two episodes are dramatic, and are determined largely by how well insulated domestic consumers were from world markets. Case studies of Indonesia, India, and Thailand also show a significant difference in policy response in the face of democratic pressures, which were present only in India in 1972/73, but were a force in all three countries in 2007/08.
(p. 147) David Dawe, ed., 2010. The Rice Crisis: Markets, Policies and Food Security, London and Washington, DC: Earthscan.
This volume grew out of a FAO-sponsored conference early in 2009 to examine what went wrong with the world rice market. It pulls together a number of country studies as well as several analyses of how the world rice market functioned in 2007/08. The Dawe and Slayton chapter in particular analyses the role of Japan and its WTO stocks of rice in pricking the speculative bubble in world prices that had formed as a result of panicked buying by the Philippines and widespread hoarding at all levels of the rice system—hoarding that was caused by the expectation of higher prices themselves. The need for more open trade policies, and larger rice reserves as a way to build confidence in such trade, is stressed in the conclusion.
Christopher L. Gilbert and C. Wyn Morgan, 2010. ‘Food Price Volatility’, Philosophical Transactions of the Royal Society, 365: 2023–34.
This commissioned review of the literature on food price volatility provides a very careful and sober assessment of recent claims that price volatility is increasing (the evidence is not in, but volatility in the 1970s was as great as now). Gilbert has done much of the high-quality analysis of commodity price trends and variations over the past two decades, and this article summarizes his findings very effectively. Evidence is provided that financial speculation did increase volatility of food prices in 2001, but not as much as in energy and mineral markets. The paper makes a clear case for why the world rice market is quite different from the markets for wheat, maize, and soybeans.
Rosamond L. Naylor and Walter P. Falcon, 2010. ‘Food Security in an Era of Economic Volatility’, Population and Development Review, 36(4): 693–723.
This paper summarizes results from a major research programme at Stanford on food security and the environment. It clarifies the debate over how to measure food price volatility and how those measures have changed over time, for the key food staples (and petroleum). The impact of food price volatility on the rural poor is examined in depth, perhaps for the first time. Concerns are raised about the restrictions on trade, and especially the widening of FOB-CIF price bands for important food importing countries, that seem to represent a structural shift after 2008.
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(1) In many ways, the topic is also a personal odyssey. I was an undergraduate studying economics at Harvard from 1959 to 1963, just as development economics was taking shape (and Harvard was very much in the forefront, with Professor Ed Mason founding the Harvard Development Advisory Service (DAS) in 1962). In graduate school at Harvard from 1966 to 1968, I attended a seminar on agricultural development led by Wally Falcon, one of the early leaders in the field (and Wally was my PhD thesis advisor, along with Zvi Griliches and Chris Sims—another Nobel Laureate).
(3) The heading of this subsection is the sub-title of my American Enterprise Institute (AEI) monograph A World without Agriculture (Timmer 2009a), from which much of this section is drawn. Detailed analysis of the gap between labour productivity in the agricultural and non-agricultural sectors was first presented there.
(5) This is not a temporal statement, but one driven by movements in real incomes per capita. If incomes per capita fall over extended periods, as they have in Brazil or Nigeria, for example, the pathway ‘back’ is not likely to track the pathway ‘forward’ because of substantial stickiness in structural patterns of labour allocation.
(8) See an especially thoughtful op-ed article by Robert Leonard, ‘Why Rural America Voted for Trump,’ The New York Times, 5 January 2017, p. A23.
(9) See Lindert (1991) for a summary of the empirical regularities in agricultural policy that cannot be explained by standard neo-classical economics. These include a bias against both imports and exports, an urban bias in poor countries when farmers are a majority of the population, and a rural bias when urban consumers are a majority of the population.