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Inequity in International Agricultural Trade: The Marginalization of Developing Countries and Their Small Farmers

March 1, 2005

By Frederic Mousseau and Anuradha Mittal

State of Agricultural Commodity Markets (SOCO) is a new report from the United Nations Food and Agriculture Organization (FAO) that analyzes global trends in agricultural production and trade and documents the inequity and unfairness of the global trade system in terms of its impact on the poorest nations and their small farmers.

The study’s findings, based on the examination of 40 years of international trade in agricultural products, expose that the developing countries, and above all the Least Developed Countries (LDCs), do not benefit from integration into the international trade system. The study shows how economic integration has actually contributed to the economic and social decline of the LDCs.

The Developing Countries are Loosing Ground in International Trade

FAO estimates that 2.5 billion people in the developing world depend on agriculture for their livelihoods. Many of them rely on the sale of agricultural commodities or employment in producing and processing food commodities for export. However, a fundamental handicap that the developing countries face is their high dependence on a small number of commodities for their foreign exchange earnings. More than 50 developing countries, including a majority of the LDCs, depend on exports of three or fewer agricultural commodities – typically tropical products – for between 20 and 90 percent of their foreign exchange earnings.

This dependence costs the developing countries and their farmers dearly, for they are facing three negative patterns: the long-term decline of agricultural prices, high price volatility, and the degradation of terms of trade.

Long-Term Decline of Real Prices of Agricultural Commodities

Real prices of agricultural products have decreased by 2% per year in the past four decades. According to the FAO, “global supplies have grown more rapidly than demand” and the long-term decline is caused by increased productivity and oversupply fuelled by intense global competition and subsidies to producers in developed countries. This decline has directly resulted in a fall of income for many developing countries and their farmers.

High Volatility of Agricultural Prices

Prices of many agricultural commodities are highly volatile, especially for raw materials and tropical beverages -- key commodities for export earnings in developing countries. Both supply and demand, especially for perennials, respond slowly to price changes. When prices are high, farmers can increase their planting, but they cannot compress the time it takes for crops to ripen for harvest, which can take years in the case of perennial crops such as coffee or cocoa.

Whereas producers in developing countries may not earn the benefits of high prices, low prices always result in decreased incomes for farmers and drops in export earnings at the country level. The situation is different in the developed countries: Farmers’ incomes are protected against these drops through compensation of prices by the State while exports are sustained through subsidies.

The report cites a recent IMF/World Bank publication that shows that sharp drops in the prices of key export commodities has been the main reason why the ratio of debt to exports had worsened dangerously in 15 heavily indebted poor countries.

Evolution of Terms of Trade: Transfer of Income from Developing to Developed Countries

Whereas prices of the principal agricultural commodities exported are highly volatile and have decreased in the long run, prices of manufactured goods, mainly imported from developed countries, have been stable. As a result, the average prices of agricultural products sold by LDCs fell by almost 70% relative to the price of manufactured goods purchased from developed countries.

Also statistical data compiled by FAO shows developing countries have turned from net exporters to large importers of food from developed countries: a food trade surplus of USD 1 billion in the 1970s was transformed into a deficit of USD 11 billions in 2001. Over this period, the share of gross food import bills in GDP more than doubled for developing countries. This shift has been due to several factors. In particular, developing countries have increasingly specialized in the production of a few commodities, often non-food products such as coffee or cocoa, while the subsidized exports from developed countries make imported food cheaper than local products in developing countries, which undermines local agriculture. Also, the overall decline in support to agriculture in developing countries has worsened the situation.

The disastrous deterioration of the terms of trade (ratio of prices of exported goods to the price of imports) for the LDC countries has resulted in “a consequent transfer of income from developing to developed countries.” The LDCs are the most affected by this pattern because they rely significantly on their export income to finance their food imports. This trend threatens their food security and economical sustainability, and has increased their debt burden.

Developed Countries Against Development

LDCs and developing countries in general are not just marginalized because of their poor competitiveness, their inadequate policy choices, or their lack of comparative advantage in a competing world. FAO demonstrates that the developing countries are losing ground in international trade as a result of developed countries’ policies. It notes: “tariffs, subsidies and other trade-distorting policies in developed countries have to a large extent eroded the market share and revenues of exports by developing countries.” Structural Adjustment Programs, encouraged by developed countries, have also weakened developing countries, allowing large agri-business corporations from developed countries to take control over agricultural production and trade.

Subsidies in Developed Countries Reduce Producers’ Income in Developing Countries

In recent years, the OECD countries have provided a total of US$200 billion per year in support to the farmers in their countries -- including both export subsidies and domestic support. These policies have significantly depressed prices in world markets.

A direct consequence is the erosion of incomes and market share of producers in non-subsidizing developing countries and the drain of foreign exchange reserves of many countries that depend heavily on commodity exports. In recent years, developed countries have been under some pressure to reduce their export subsidies, but FAO observes that the reduction of their official export subsidies has coincided with increased domestic support to their farmers, which results in another form of export subsidy.

Subsidies drive prices down, well below the cost of production. FAO notes for instance that European sugar is exported at prices that are 75 percent below the cost of production. While such subsidies maintain farmers’ incomes in developed countries, developing countries are unable to subsidize their farmers, who cannot compete against cheap subsidized foods.

Tariffs Against Trade and Development for Developing Countries

According to FAO, the average tariff for agricultural products in developed countries is 60 percent, compared with an average 5 percent for industrial goods. These tariffs on imports by developed countries are unfair to developing countries, which are highly dependent on the export of agricultural commodities.

Furthermore, exports from developing to developed countries face tariff escalation: higher tariffs are levied on goods exported at more advanced stages of processing. Tariff on fully processed foods in many cases are more than double the tariffs on basic food commodities. FAO views this as one reason for the limited involvement of developing countries in exporting processed products: Tariff escalation discourages investment in agricultural processing in developing countries.

Diversification into more highly valued export products would reduce developing countries’ dependence on primary export commodities, which are faced with decreasing and volatile prices and produce less and less income for the countries and their farmers. According to FAO, “reducing tariff escalation has been identified as one of the most important market access issues in the current WTO negotiations on agriculture.”

Structural Adjustment Programs Have Undermined Agriculture in Developing Countries

Structural Adjustment Programs implemented in most developing countries have resulted in the opening of local markets and removal of States’ intervention in national production and trade systems. In the past, producers were protected against the volatility of prices by State-run institutions such as marketing boards for key agricultural products. These institutions would stabilize prices and support farmers’ incomes. FAO recalls that farmers often relied on the boards for credit, fertilizer and other inputs, and for access to extension and training programs. Developed countries and international financial institutions have strongly promoted and often forced structural adjustments on the developing countries, including the abolition of support systems.

More generally, whereas developed countries have maintained high levels of agricultural subsidies in their countries, structural adjustments have shrunk public expenditures in agriculture in developing countries. Public support for agriculture in those countries decreased on average by 30 percent during the 1990s. With reduced public expenditures, developing countries are less and less able to support their producers and to adapt their agriculture through production support, training and necessary investments. FAO recognizes that “the abolition of marketing boards has left an institutional vacuum and that in many countries, both yields and quality of commodities have fallen since the abolition.”

This institutional vacuum has been exploited by the trans-national corporations who have increased control over production and trade in developing countries. These corporations, mainly based in developed countries, prioritize profitable export crops and large-scale farming, at the expense of small-scale farmers and national food security in developing countries.

The Mirage of Development Through Trade

It has often been suggested that in the long run developing countries would gain from the reduction of tariffs in developed countries as well as from reducing barriers to agricultural trade among themselves.

The report however cautions that despite the rapid growth, since the mid-1980s, of agricultural trade among developing countries -- generally under the umbrella of Regional Trade Agreements such as North American Free Trade Agreement (NAFTA) – developing countries have not seen the gains materialize. It also shows that increased concentration is not likely to support the livelihood of small producers and farm workers.

Regional Trade Agreements Produce Losers as well as Winners

Through the example of NAFTA and its impact on the Mexican maize sector, FAO demonstrates how Regional Trade Agreements can be detrimental to developing countries and their small-scale farmers, particularly when they include countries at starkly different levels of economic development.

The NAFTA agreement significantly influenced the structure of Mexican agricultural production and trade. On one hand, large-scale producers, often linked to United States agribusiness interests, have expanded production of fruits and vegetables, resulting in a considerable increase in exports to the United States. Net exports of tomatoes, for example, have almost doubled from their pre-NAFTA levels. But on the other hand, replacing of import licensing by tariff quotas and Mexico’s decision not to impose transitional out-of-quota tariffs allowed under NAFTA, has permitted maize imports from the United States, mainly for feed use, to more than triple. Maize production on Mexico’s large-scale, irrigated farms has declined, suggesting that more prosperous farmers have shifted to other crops. However, it appears that the brunt of the price deterioration has been borne by the 3 million small-scale maize farmers producing on non-irrigated hillside fields, who do not have the flexibility to shift into other crops.

FAO notes that some developing countries have become successful exporters of non-traditional products, but observes that “for the most part, it has been large-scale commercial farmers in countries with more developed infrastructures who have benefited whereas small producers and the LDCs have been less able to mobilize the investment and training required to shift to new crops and meet the high quality standards and strict delivery deadlines of supermarkets.”

I. Concentration in Agricultural Production and Trade Marginalizes Small Producers

At the international level, a few vertically integrated companies have gained increasing control over agricultural trade. Agricultural commodity chains are increasingly dominated by trans-national companies integrating trading, processing, and distribution. According to the FAO, 40 percent of world coffee is traded by just four companies and 45 percent is processed by just three coffee roasting firms.

The report explains that in agriculture-exporting developing countries, “particularly following the elimination of marketing boards, large companies with warehousing and shipping facilities have been able to exploit their financial and logistical advantages. Many now buy produce directly from farmers, specifying their requirements and prices. Intensified competition favors those farmers and traders with access to cheaper finance and good logistics. Larger enterprises have advantages in both respects.”

The example given for horticulture in Kenya speaks for itself. In the 1980s, smallholders produced 70 percent of exported fruits and vegetables. By the end of the 1990s, 40 percent was grown on farms owned or leased directly by importers in the developed countries and another 42 percent was produced on large commercial farms. Smallholders’ share of this lucrative business had dwindled to just 18 percent. Among exporters, seven large companies controlled more than 75 percent of the market.

FAO shows that a similar trend can be observed at the retail level. Supermarkets have grown rapidly in both developed and developing countries. In Latin America, for example, supermarkets increased their share of food retailing from less than 20 percent in 1990 to 60 percent in 2000. The report notes: “worldwide, the top 30 supermarket chains now control almost one-third of grocery sales. At the national level, the five biggest retailers control between 30 and 96 percent of food retailing in the EU and the United States.”

This concentration grants supermarkets a dominant position in the market and significant leverage over production, distribution and trade, including through direct involvement with developing country suppliers. This position allows them to obtain low prices and also to select a limited number of suppliers who have the resources to meet their quality requirements and delivery schedules.

II. Farmers’ Share Meager in Final Product Prices

FAO observes that growers’ prices represent a small fraction of the retail price for finished products, ranging from as low as an estimated 4 percent for raw cotton to 28 percent for cocoa. The report notes; “Even with bananas, which require almost no processing, international trading companies, distributors and retailers claim 88 percent of the retail price; less than 12 percent goes to the producing countries and barely 2 percent to the plantation workers.”

In sum, several factors tend to decrease farmers’ incomes, even more in developing countries:

  1. Long term decline and the volatility of prices of agricultural products.
  2. Reduction of States’ intervention in support to prices and farmers.
  3. Intensifying competition, which results in cost reduction strategies that include low salaries and benefits for workers.
  4. The increasingly dominant position of international trading companies and supermarkets in their relation with the producers.
  5. Decreasing income and growing vulnerability to shocks and to external competition makes small-scale farmers in developing countries and especially in LDCs the losers in the global economy.

Defining the Remedy

Oversupply of Agricultural Commodities the Central Issue

FAO’s analysis identifies oversupply as a central factor affecting developing countries: production and productivity in agriculture have grown faster than demand. Average yields for the major agricultural export commodities increased by almost one-third over the past two decades. With the developed countries highly subsidizing their farmers, the developing countries are those who carry the burden of oversupply and low agricultural prices, even though they produce at lower costs.

These facts clearly challenge the popular myth of shortage of food production as a primary cause of world hunger. The world does not need to produce more, but actually less, in order to better remunerate agricultural producers. Most of the 842 million undernourished people in the developing world today are from farming families in developing countries. Reducing global poverty, therefore, must involve increased support for local agriculture.

FAO recommends a number of policy responses that would address oversupply by prioritizing the reduction of production in developed countries through the removal of ‘market distortions’ – i.e., tariffs, subsidies, and producers’ support. “In markets free of tariffs, subsidies and other distortions, the first producers to exit should be those with the highest production costs.”

FAO also lists a range of measures geared towards strengthening the position of developing countries, and especially the LDCs, in the production and global trade of agricultural commodities. These measures include diversification of production into higher value crops, processing of commodities into value-added forms, developing demand-side solutions such as promotion campaigns for certain products, and niches such as organic products or fair trade.

Trying to Square the Circle

FAO’s analysis clearly identifies the unfairness and inequity of the international trade system that favors developed countries, their farmers, and their large corporations at the expense of developing countries and their small producers. It also recognizes that the past two decades have witnessed this pattern being perpetuated and aggravated through the implementation of structural adjustment programs and market liberalization.

In addition to recommending measures addressing oversupply, FAO recommends interventions geared towards supporting and protecting farmers in developing countries. It suggests, for instance, programs to help farmers against shocks and price volatility, increased flows of resources to agriculture and rural development, and increased investments to improve productivity and competitiveness of domestic food production.

Unfortunately, apart from denouncing market distortions by developed countries, the report does not fundamentally question the policies that have been driving agriculture down in the developing countries and undermining the livelihoods of their farmers. The measures recommended are meant to make developing countries and their farmers more competitive in an open global economy. Despite quoting evidence of failed trade agreements, FAO does not really question market liberalization and in fact, its report actually recommends more liberalization when advocating for removal of tariffs in developing countries in order to boost trade among them.

One might consider these recommendations realistic because they take as given and irreversible the ongoing trend of market liberalization. Yet, the recommendations are not consistent with the findings of the report: Developed countries, their large corporations, and the international financial institutions that they control are not working in favor of the development of the poorest countries.

FAO also recommends increased financial support and investment in the agricultural sector of developing countries but, with an apparent naivety, ignores the key question of who is going to pay for that support and investment.

It is very unlikely that developed countries will pay up in the absence of major political shifts within those countries. They have yet to fulfill their commitment to spend 0.7 percent of their GDP in development. The United Nations estimates that this figure would need to be doubled to start reducing poverty effectively in developing countries. As a matter of fact, the debt repayment from developing to developed countries greatly exceeds what the former receive as development assistance.

FAO calls for increased flows of resources towards agriculture, but seems to forget that FAO itself, created to support the development of agriculture, has been marginalized over the past few decades because its goals did not correspond with the goals of ‘donors’ countries. Figures speak for themselves: The total operational budget of the FAO in 2003 was USD 386 million. The budget for the World Food Programme – the UN food aid agency whose main resources are in kind food aid from the US used to support the domestic agribusiness and to open markets for the US products – was 10 times more – USD 3.275 billion.

The most prosperous developing countries might still be able to develop autonomous agricultural policies, supportive of their producers and their national food security. However, the situation is very likely to be different for the LDCs – the poorest nations, already very marginalized, that are unable to protect their producers under the rules of free market, with scarce resources available to spend on agriculture. Given the dominant position of large corporations from developed countries in the production and trade of agricultural products, future evolution of agriculture and trade in LDCs will be driven by these companies, with little benefit for small farmers and their domestic economy.

Also, given the intense competition in the global market, further opening up of economies in developing countries may very likely result in some wealthier developing countries taking advantage of the LDCs, which will lose even more ground and be driven deeper into economical and social decline.

In conclusion, throughout its analysis of the international trade system, the FAO report presents a comprehensive diagnosis of the disturbing situation of agriculture in developing countries and especially in the LDCs. The trends described in the report constitute a more serious threat to the livelihoods of millions in these countries than do droughts and other crises. As a matter of fact, it has now been recognized that several recent so called food crises or famines in developing countries, such as Southern African countries, were to a large extent triggered by market liberalization and structural adjustment programs implemented in these countries.

Although very explicit in its diagnosis, FAO fails to provide the right remedy to an ongoing disaster. For the FAO, trade and market liberalization seem to be the only chances that the poorest nations have to get out of poverty. Yet, after the publication of such a report, it is obvious that the only way forward for the developing countries is the adoption of the policy of food sovereignty, including the right to protect their production and markets against an inequitable system. This development model would seek well-being and food security for all people and farmers in developing countries, rather than the profits of business interests in developed countries.