Agrarian Crisis in India: Is Corporate Farming a Solution?

The continuing crisis in Indian agriculture and the resulting distress driving some farmers to the extreme step of taking their own lives tugs the conscious of many. In their anguish they proffer many solutions. One such solution to consolidate the holdings and allow the corporate to own or lease in the land to take advantage of the scale by using better technology and linkages to market.

However, the corporate in India may join the “bleeding heart” politician and shed copious tears about the plight of the farmers but would not venture into corporate farming to alleviate their misery. Corporate entities would like to deal with the farmers either through current market mechanism or by way of contract farming as it confers them several advantages. The objective of any firm while procuring the raw materials is to get them in right quality and quantity and on time with least cost. So long as this objective is met through existing market mechanism there is no reason for the firm to look for alternative means of sourcing the raw materials. If the requirement of the firm is idiosyncratic in nature and there is market failure, that is the market is not able to supply the required material in time with least cost on a sustainable basis then the firm may try to have better control over supply. Still the firm would prefer contract farming over integrating backward into production to ensure adequate supply.

Independent family farms offer enormous advantage to the firms compared to corporate farming. Failure of crop due to vagaries of the monsoon, pest and diseases etc are inherent to agricultural operation. Under family farming these production risks remain with the farmers. Under corporate farming these risks would have to be borne by the firm. Variation in quality of output is normal in agriculture and could be minimized to some extent but cannot be eliminated. Under the family farming the firm pays only for the quantity of quality products supplied. That is, it pays for the products which meet quality parameters and rejects the rest whereas in corporate farming the cost has to be incurred for the entire produce by the firm.

Agriculture production is seasonal in nature. Farmers in many parts of the country produce two or more crops in a year in the given piece of land. By following crop rotation they try to optimize their land and other resources. However, under corporate farming especially for short term crops the land and other resources may be idle for better part of the year after a crop cycle adding to overheads thus adversely impacting the cost of production of the crop.

In the family farm, the farmer and his family are residual claimants to the income from the crops, that is, they get whatever is left after paying for the factors of production. However, in corporate farming they become part of factors of production and are entitled for wages and other benefits adding to the cost of production.

The crisis of the agrarian sector warrants much more serious analysis. A detailed mapping of the resources of each block in the country would give more insights into the problem and throw up probable solutions.  In some blocks farmers might be encouraged to take off farm activities and make farming part time in other places the potential for animal husbandry may have to be exploited and in yet another producers companies or cooperatives must be encouraged not to only to have better bargaining power but also to reap scale economics in procuring inputs and marketing outputs. Unless such an attempt is made the Procrustean idea of corporate farming for the agrarian crisis may make interesting reading nothing else. 

Contract Farming and Asset Specificity

Policy-makers in India see contract farming as an important avenue to bring the producing farmers and the processors together. The system helps to eliminate the chain of middle-men and brings the producers and processors face-to-face. For the processing firm, it is an important step in supply-chain management. Spot market purchases are fraught with uncertainties with regard to quality, quantity and price. The search and information costs for the right quality and quantity are high under open market purchases, whereas contract farming takes care of all these uncertainties and ensures a steady supply of quality raw material at stable prices. The advantages to the farmers are in terms of assured market, access to technology, supply of inputs and extension services.

In India, contract farming is confined to certain crops in select pockets. However, there is enormous scope for contract farming. The increasing income has created quality and health consciousness among consumers who demand food products of certain specifications; as the economy grows, the number of such discerning consumers is set to increase. The importance to food safety and the stress on traceability that is identifying the source in case of any contamination requires greater control in procurement.   

Contract farming allows firms to have such controls. Despite these advantages, farming under contract has many constraints. Though contract farming is basically a way of allocating risk between the firm and its farmers, the distribution of risk depends largely on such factors as bargaining power, availability of alternatives and access to information. The advantage ex post that is, after the investment has been made to one party leads to reneging on contract and exploiting the other party who ends up with the disadvantage after the investment. Several studies on different industries have found that when an investment is specific to a transaction or contract with little possibility of alternative uses, the firm that made the investment is at a disadvantage as its contracting partner might exploit the situation.

When, say, the vendor and the firm are locked in asset-specific investments with no room for either party to use the resource alternatively, the contract is fairly smooth. Especially in short-term crops such as vegetables, farmers tend to divert the produce to the open market rather than supply to the processing firm when the prices are high. The cost calculations of the firm go haywire, as they are forced to arrange supply of raw materials from alternative sources with attendant uncertainties such as not meeting the requirements to maintain safety.

Similarly, in long-duration crops such as plantation crops, the firms often fail to honour the contract as they know that farmers have no alternative but to sell the products to them at lower prices. The latter often succumb to the firms diktats.

The amendments to APMC act devote lot of attention to contract farming. It mandates registration of contract with the concerned APMC and any dispute will be referred to the committee which will arbitrate within 30 days. Even though many states have adopted the provision with some variation it is hardly in practice. In many states this provision is not known to the APMC officials even if they know they have no power to compel the contracting company to register the contracts with them.

Legal action on the defaulting partner though is possible is impractical. For example, if the company proceeds against few defaulters who diverted the crop the rest of the farmers in the area may desert the company feeling that is what would happen to them in the future. Similarly, when the company behaves opportunistically the small farmer is hardly in a position to file any case against it.

It was found in crops like gherkin the contract relationship is functioning without much friction the reason being both the company and the farmer are locked in an asset specific relationship. Gherkin has no local market hence farmers necessarily had to supply to contracting companies similarly the company has to meet their export obligations and cannot afford to spoil the relationship with the farmers as it may require time and effort to train new set of farmers in the cultivation practices.

In other situations such as when there is advantage to one party because of asset specific investment of the other party the solution to these problems must be found within the framework of the contract. The firm can avoid to a great extent the opportunistic behaviour of the farmers by adopting an innovative pricing policy. Instead of fixed prices, the firm may adopt flexible prices which are linked to the market price so that the farmer is always assured of a price above the market price.  It may introduce bonus schemes to encourage farmers to supply certain quantities, reward the loyal farmers, and so on. There are also suggestions to make the farmers shareholders which will ensure continuous supply of raw materials as their welfare in linked to the health of the firm

In short, farmers must be convinced that the firm is interested in a long-term relationship with them. Contract farming is viewed as an important tool to increase private corporate involvement in agro-processing, and help augment rural employment and income. However, to ensure the smooth functioning of the contract, innovative features need to be built in.