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MODULE 3. Price Incentives and Disincentives SESSION 2. Methodology for analysis

MODULE 3. Price Incentives and Disincentives SESSION 2. Methodology for analysis. Module objectives:. Presentation of the theoretical and empirical background of price incentive/disincentive analysis Show the data needs for PID calculation Demonstrate the rational using some examples

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MODULE 3. Price Incentives and Disincentives SESSION 2. Methodology for analysis

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  1. MODULE 3. Price Incentives and DisincentivesSESSION 2. Methodology for analysis

  2. Module objectives: • Presentation of the theoretical and empirical background of price incentive/disincentive analysis • Show the data needs for PID calculation • Demonstrate the rational using some examples • Receiving feedback from the participants.

  3. Theoretical basis of price analysis (I) • Farmers are affected by a myriad of agricultural and non-agricultural policies • The total effect can be quantified using one or several simple indicators which are comparable across time and between countries. • One of these indicators measures the support (or discouragement) that farmers face through the price they receive for their products • Due to the law of one price, the difference between domestic market prices and international benchmark price is assumed to be the result of trade and market support policy interventions

  4. Graphic representation of a market price differential (imported good) P S D Domestic Price Transfer from consumers to farmers Other transfer from consumers Market Price Differential (DP > WP) World Price + Transaction costs World Price Q Domestic Demand at domestic prices Domestic Supply at domestic prices Domestic Supply at world prices

  5. Theoretical basis of price analysis (II) • The previous analysis assumes that all markets in the country are free from interventions and takes observed data • Price differentials can be further examined as some of the observed data (i.e. costs, prices) can be considered “excessive” and thus shadow prices can be used. • These “excessive” costs can be the result of poor infrastructure, high processing costs, post-harvest losses or non-competitive market structures. • This allows to revisit the incentive structure and see how that would be without those interventions. • MAFAP considers both analysis and computes indicators, depending on data availability, using both sets of prices

  6. Graphic representation of a market price differential with additional analysis (imported good) P S D Domestic Price Transfer from consumers to farmers Other transfer from consumers Observed Price Differential (DP > WP) World Price + TC + Excessive cost Price wedge (TC > Efficient TC) Transfer from consumers to Other agents World Price + Transaction costs World Price Domestic Supply at domestic prices Domestic Supply at world prices Q Domestic Demand at domestic prices

  7. Theoretical basis of price analysis (&III) • The comparisons using observed prices show how market prices in the country compare to international benchmark prices • The differences will be the static wedge equivalent of policies on farmers (or any other point in the value chain) assuming efficient markets • The efficient market assumption might be too strong for an African context and observed incentives or disincentives could be significantly different if markets were efficient • Using data on shadow prices (i.e. efficient prices) allows us to see then impact of ALL policies on farmers and consider how they would be if they were modified • MAFAP focuses on policies affecting exchange rate and access costs

  8. DATA Theoretical basis in practice CALCULATED PRICES

  9. Which indicators we will calculate (traded goods) • Price wedges • Differences between OBSERVED domestic and CALCUALTED reference prices • Can be calculated at different points along the value chain • Ratios • Wedge divided by reference price (in %)

  10. OBSERVED PRICE WEDGE Effect of trade and price support policy PRICE WEDGE Effects of overall policy and markets

  11. Imported products: the reference price P(int$) SBF ACfg ROPwh ACwh D Pb(int$) S Q Q Tanzaniawh World Markets

  12. Imported products: the reference price P(int$) SBF S ACfg Tariff ACfgsh ROPwh ACwh RPPfg ROPfg Pb(int$) D S Q Q Q Q Tanzaniawh Tanzaniafg World Markets

  13. Imported product: the local market SBF S Pdwh ACfg Pdfg D Q Q Tanzaniawh Tanzaniafg

  14. Imported product: the whole picture P(int$) SBF S Pdwh ACfgsh ROPwh Pdfg ACfg ACwh RPPfg ROPfg Pb(int$) D S Q Q Q Tanzaniawh Tanzaniafg World Markets

  15. Imported product: the whole picture P(int$) SBF S Pdwh Observed price wedge ACfgsh ROPwh Pdfg ACfg Price wedge ACwh RPPfg D ROPfg Pb(int$) S Q Q Q Tanzaniawh Tanzaniafg World Markets

  16. SUMMARY & RECALL (import substitute) DATA CALCULATED Exchange rate Benchmark price Border Price Observed Quality and/or quantity adjustment factor Shadow Price wedge at wholesale level Reference parity price at wholesale vs Domestic price at wholesale Access cost to wholesale Border Price +A Quality and/or quantity adjustment factor B Price wedge at farm level Reference parity price at farm gate Domestic price at farm gate Access cost to farm gate vs Reference price at wholesale A

  17. DATA NEEDS INDICATORS ANALYSIS

  18. Data needs and issues for PID calculation Observed prices • WORLD PRICE • DOMESTIC PRICE • TRANSACTION COSTS Shadow prices • Alternative transaction costs • Externalities • Alternative exchange rates • Alternative benchmark price

  19. Observed prices DATA NEEDS: Observed prices (I) • World Price: benchmark price • Serves as a benchmark as what farmers would get as a reward for their use of production factors. • Should reflect the equilibrium price in international markets for the commodity under study. • If the product is exported by the country under consideration it should be the FOB price received by exporters • If the product is imported by the country under consideration it should be the CIF price paid by importers • Exchange rate to transform benchmark price into a border price • Border price is the benchmark price in local currency • Border price = benchmark price times exchange rate

  20. Assuming entrance via Dar es Salaam • Is it realistic to assume imports coming via Dar for all Products? • NEED: Identify data sources for CIF prices • NEED: Identify data sources for FOB prices Exchange rate (TZSH/USD) Border Price (TZSH/Ton) CIF Price (USD/Ton)

  21. Observed prices DATA ISSUES: Observed prices (I) • World Price: benchmark price • Non-traded: alternative approaches • Is a product really not traded? • Calculating wedges and indicators: • Consider a substitute product as a reference price (i.e. cassava and maize) accounting for potential quantity and quality differences • Assuming a zero wedge • Calculate cost to price ratio for product and compare to potential substitute • Undertake a value chain analysis

  22. Observed prices DATA ISSUES: Observed prices (I) • World Price: benchmark price • Non-tradables: alternative approaches • Different entry points for imports • Spatial differentiation [weighted averages / multiple estimates] • Different prices during the year [seasonal variability] • Temporal differentiation [weighted averages / multiple estimates]

  23. Observed prices DATA NEEDS: Observed prices (II) • Domestic Price • Reflects the price received by farmers in the country • Ideally should be a farm gate price • Obtained from national statistics, agricultural census or national panel surveys

  24. Observed prices Maize Production in Tanzania Exchange rate (TZSH/USD) Border Price (TZSH/Ton) CIF Price (USD/Ton) Producer Price (TZSH/Ton)

  25. Observed prices DATA ISSUES: Observed prices (II) • Domestic price • Lack of Farm Gate Price: • Use wholesale price as close to production area as possible corrected for access costs to the wholesale market Wholesale Price (FCFA/Ton) Access costs farm gate – wholesale (FCFA/Ton) Minus Farm Gate Price (FCFA/Ton) Calculated Farm Gate Price (FCFA/Ton)

  26. Observed prices DATA ISSUES: Observed prices (II) • Domestic price • Lack of Farm Gate Price: • Use wholesale price as close to production area as possible corrected for access costs to the wholesale market • If no access cost data is available undertake calculation at wholesale level

  27. Observed prices DATA ISSUES: Observed prices (II) • Domestic price • Lack of Farm Gate Price • Multiple producing areas: • Specific calculation for different areas • For aggregation use a weighted average according to production shares

  28. Observed prices DATA ISSUES: Observed prices (II) • Domestic price • Lack of Farm Gate Price • Multiple producing areas • Seasonal variability of prices: • weighted average of prices by marketed volume • time specific calculation of indicators • Selection of the most relevant marketing period

  29. Observed prices DATA NEEDS: Observed prices (&III) • Transaction costs: access costs • Border price and farm gate price are not directly comparable as the commodity is in a different position along the value chain. • Transaction costs are named as “access costs” in MAFAP terminology and cover all costs that are involved with taking the product from one point in the value chain to another. • They are added or subtracted to the border price depending on the type of trade status of the product and where the competition between domestic and international products take place

  30. Observed prices • Transaction costs Import substitute Assuming point of competition in Dar Access costs (TZSH/Ton) Point of competition Access costs (TZSH/Ton) Exchange rate (TZSH/USD) Border Price (TZSH/Ton) CIF Price (USD/Ton) Reference observed Price (TZSH/Ton) Producer Price (TZSH/Ton)

  31. Observed prices • Transaction costs Exported Good Assuming point of export in Dar Access costs (TZSH/Ton) Point of competition Access costs (TZSH/Ton) Exchange rate (TZSH/USD) Border Price (TZSH/Ton) FOB Price (USD/Ton) Reference observed Price (TZSH/Ton) Producer Price (TZSH/Ton)

  32. Observed prices DATA ISSUES: Observed prices (&III) • Transaction Costs • Transaction costs: access costs • Data sources: • Bottom-up: existing value chain analysis • Add transport costs, storage costs, handling costs and margins • Top-down: using domestic prices along the value chain • CIF Price – Wholesale price = access cost import port to point of competition • Wholesale price – farm gate price = access cost point of competition to farm gate

  33. Observed prices SUMMARY DATA NEEDS: Observed prices • Once data is inserted the excel spreadsheet calculates three year averages for the different options

  34. Data needs and issues for PID calculation Observed prices • WORLD PRICE • DOMESTIC PRICE • TRANSACTION COSTS Shadow prices • Alternative transaction costs • Externalities • Alternative exchange rates • Alternative benchmark price

  35. Shadow prices But are markets efficient? • The former analysis builds on OECD experience assuming markets are functioning more or less efficiently. This might not be the case in many African countries. • Results based on observed data is not consistent with theoretical measures of opportunity cost nor does it show the impacts of all policies. • For this, the analyst has to have evidence that some of the data used might not be reflecting a functioning market either due to explicit policies or uneven market power distribution along the value chain and then: • Identify the alternative data source for the concept where an issue exists • Collect the data from these sources for the selected concepts for the same years that the observed data has been obtained

  36. Shadow prices DATA NEEDS: Shadow prices (I) • Alternative benchmark price • WHEN? Benchmark price is not valid as an indicator of the price farmers would get in competitive international markets • WHY? Market power by importers of exporters of the commodity for the country leads to higher (lower) prices for imports (exports) • HOW? • Imports: obtain FOB price for main source of imports and add standard insurance and freight costs • Exports: compare to FOB prices for other countries and check for differences • Other ideas?

  37. Shadow prices DATA NEEDS: Shadow prices (II) • Alternative exchange rate • WHEN? there is an explicit exchange rate policy in the country that means that the exchange rate is not the result of a currency free market. There is a higher (lower) price for foreign currency in secondary markets • WHY? Some countries want to have an over or under-valued currency for political reasons (i.e. control monetary flows, promote exports, etc.) • HOW? • Check for exchange rate in the secondary market • Use this alternative exchange rate for calculations

  38. Shadow prices DATA NEEDS: Shadow prices (III) • Alternative access costs • WHEN? Observed access costs are considered too high as compared to other countries in the region, transport time increases post-harvest losses, transport market is not efficient, non-transport costs are substantial. It can happen at any stage in the value chain (port to wholesale, wholesale to farmgate) and for any concept of access cost (transport, handling, storage, processing) • WHY? Lack of infrastructure, lack of competition, lack of rule of law. • HOW? • Check literature for analysis of transport costs in the country • Obtain data from ad-hoc studies or compare with costs in neighboring countries.

  39. Observed prices • Transaction costs Import substitute Assuming point of competition in Dar Access costs (TZSH/Ton) Point of competition Access costs (TZSH/Ton) Exchange rate (TZSH/USD) Border Price (TZSH/Ton) CIF Price (USD/Ton) Reference Parity Price (TZSH/Ton) Producer Price (TZSH/Ton)

  40. Observed prices • Transaction costs Exported Good Assuming point of export in Dar Access costs (TZSH/Ton) Point of competition Access costs (TZSH/Ton) Exchange rate (TZSH/USD) Border Price (TZSH/Ton) FOB Price (USD/Ton) Reference ParityPrice (TZSH/Ton) Producer Price (TZSH/Ton)

  41. Shadow prices DATA NEEDS: Shadow prices(&IV) • Externalities • WHEN? The production technology of the commodity is directly related to a negative or positive effect outside the farm (i.e. increased water pollution, enhanced biodiversity). • WHY? Equivalent to a quality difference between the domestic and the reference product. • HOW? • Identify if there are any major externalities associated with the production of the commodity in the country which are not present in the areas which set the benchmark price. • Obtain from the literature a monetary estimate of the externality.

  42. Shadow prices SUMMARY DATA NEEDS: Shadow prices • As for observed data, once data is inserted the excel spreadsheet calculates three year averages

  43. OTHER ISSUES • Assuring that same is compared to same • Quality: if domestic commodity is not directly comparable to internationally traded good there needs to be a quality adjustment for the calculation of the reference price (i.e. if local quality is lower the reference price needs to be reduced). • When: there is a different price in the market for local and imported commodity. • Quantity & Processing: if good purchased to the farmer and good traded internationally is not exactly the same (i.e. sugar cane – sugar) there needs to be a quantity adjustment for the calculation of the reference price (i.e. two units of sugar cane per unit of sugar) plus access costs need to consider processing margins: • When: farm gate price and reference price do not refer to the same product

  44. OTHER ISSUES • Introducing commodity specific public expenditure • MAFAP also will study the public expenditure in agriculture • Some of the public expenditure will be commodity specific • This expenditure can be added to the monetary measure of incentives or disincentives provided by prices • Avoiding the impact of inflation • Different inflation rates in world and domestic markets influence calculations • For ratios this is not an issue as this effect is cancelled out • However for wedges and overall price support the difference between nominal and real terms does affect results • Annual results are reported as three year averages in nominal terms, comparisons across time are done in real terms or using relative indicators

  45. Shadow prices SUMMARY DATA NEEDS • The Excel sheet is now ready for computing the indicators • If observed prices are considered efficient or there is no alternative data source data does not need to be inputted

  46. INDICATORS ANALYSIS

  47. Reference observed and parity prices • With the inputted data we can calculate 3 main prices: • Border price: Benchmark price in local currency [Pb(int$) * ER] • Reference price at point of competition: border price plus or minus access costs to point of competition • IMPORT:Pb(loc$) + Acwh • EXPORT: Pb(loc$) - Acwh • Reference price at farm gate: reference price at point of competition plus or minus access costs to farm gate • IMPORT & EXPORT:RPwh– Acfg • Depending whether observed or shadow data is used these prices are labeled OBSERVED or PARITY. • If no data is available for shadow concepts Excel sheet uses observed data

  48. Indicators (I) • Wedges are the difference between the observed prices and the reference (observed or parity) prices • If observed data is used the are called observed wedges while if shadow data is used the are just called wedge • At wholesale level (point of competition): Pdwh- RPwh • At farm gate: Pdfg– RPfg • The ratios between the wedge and the reference price are: • If using observed data: OBSERVED RATE OF PROTECTION • If using shadow data: NOMINAL RATE OF PROTECTION • Nominal Rate of Assistance: price wedge plus budget and other transfers.

  49. Indicators (II) • The difference between the “observed wedges” and the “wedges” can be split into the different components for which shadow data is inputted: • These decomposition considers the difference between observed and shadow access costs, benchmark price and exchange rate • Access cost wedge to point of competition (impacts of market structure between wholesale markets and point of export or import) • Imported good: observed access costs minus shadow access costs • Exported good: - (observed access costs minus shadow access costs) • Access cost wedge to farm gate (impacts of market structure between wholesale markets and farm gate) • - (Observed access costs minus shadow access costs )

  50. Indicators (III) • Exchange rate and benchmark price have a combined effect thus the direct difference does not allow an additive decomposition of the difference in wedges. • International markets wedge: covers the impact of distorted benchmark price isolated from the potential impacts of exchange rate policy • Exchange policy wedge: covers the impact of exchange rate policy isolated from the potential impacts of distorted benchmark price • Externality wedge: the value inputted for externalities with changed sign

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