ETHIOPIAN DEVELOPMENT RESEARCH INSTITUTE

Price Response of Rural Households in Ethiopia: Case of three weredas

Feiruz YimerIFPRI ESSP-II

Ethiopian Economic Association ConferenceJuly 20, 2013Addis Ababa

1

Outline

• Introduction• Theory• Model Specification• Descriptive• Estimation• Result

3

Introduction-In Ethiopia, policies are being designed, and mostly are targeted on farm households

-Singh et al., 1986 pointed out the problem of predicting resultant effect of the pursued policies-Possible source of these problem:•Household heterogeneity both in endowments and preferences (Kuiper and Ruben, 2005). •Duality behavior of households (Singh et al., 1986).

That is, households operate in semi-commercialized farms where they produce mainly for consumption and sell the remaining produce in the markets.

-Unfortunately, markets are mostly imperfect and even some are non-existent.

Intro… Cont.

Objective: empirically investigates the households’ price response considering the dual behavior of households.

Data: Ethiopian rural household survey conducted by Ethiopian Economic Policy Research Institute and Ethiopian Economic Association in collaboration with the World Bank in 2006/07.• Sample size -217 households • From three wereda :77 from Bako, 70 from Tiyo/Eteya and

70 from Yetmen.

Theory• Agricultural household model (Singh et. al. ,1986)• Unitary household model- joint decision making for

maximization (Maitra and Ray, 2003). • The unitary household model is of two types:

Separable (recursive) household model Non-separable (non-recursive) household model

• Separable household model- Markets clear Production decision is independent of consumption decision

(Vance and Geoghegan 2004; Strauss 1986)

• Non-separable household model- Market failure Production decision is not independent of consumption

decision.

Theory…Cont.• Assumption of existence of perfect markets badly

misstates the impact of policy (Lofgren and Robinson, 1999).– Because the shadow price will be treated wrongly as

constant (Singh et al. 1986)

• Market imperfection widen the price band of selling and buying prices

• Due to underdevelopment of markets in developing countries, the non-separable model will be the convenient way of modeling rural households (Vance and Geoghegan, 2004).

Model Specification

• Non-separable household model is adoptedAssumptions• The household is:

is taken as a single decision making unit.produce food crops.heavily rely on family labor and may use other

traditional group work programs in the production process.

do participate in markets whichever available but the labor market is assumed to be thin.

buy manufactured goods from market.

Model Spec….Cont.

EXPXPCXPCP

CXT

rxG

LLvvaaamm

LLL

////)(

0

0),(

*

subject to )(Max cU

By solving derivative equations of the above function using lagrangian operator will give the optimal values predicted by the following eqn.:

),( rPX ii ),( YPC ii

LLmmaa CPCPCPY *

Model Spec…Cont.

• Two effect of change in exogenous prices (De Janvry et. al. ,1991 and Strauss,1986)

j

L

LPjj dP

dP

P

A

P

A

P

A

L

*

**

conttant

vamj ,, where

LamiCA ,,

LvaiX ,,

*

j

j

P

P

is the internal adjustment of the

household in response to the change in exogenous price.

Empirical Specification• Symmetric normalized quadratic profit function (SNQ)• Advantage of SNQ (Jensen et.al.,2004 and Diewert and

Wales, 1987 ) Flexibility operational even when profit is negative convexity can be imposed globally

gj

jninijgigj

jninijLvaiLvai

jninijLvaiLvai

ininn RRwPPPPwPrP 2

1

2

1),(

,,,,,,

1

,,

Cont.• Almost Ideal Demand System(AIDS).• Advantages (Deaton and Muellbauer,1980)

Able to test homogeneity and symmetry Satisfies axioms of choice

LamiP

YBPw nijnijii ,, whereloglog

Lami

jninijLami

inLamji PPPP

,,,,,,0 loglog

2

1loglog

index. priceconsumer translogis log and where PY

CPw

n

ininin

DescriptiveTable: Average yield level in kg/ha Tiyo/Eteya Yetmen BakoWhite Teff 880 1109.41 345.08Black/Mixed Teff 1218.18 908.06 293Barley 1657.22 1053.53 Wheat 2207.53 776.84 Maize 1445.63 1292.47Sorghum 1835.71 728.29Horsebeans 1438.89 Potatoes 7966.92 Peas 1670.42 Vetch 1196.44 Nigger Seed 589.12 226.67Pepper 330.36

Table: Average land size in ha by crop type

 Tiyo/Eteya Yetmen Bako

White Teff 0.19 1.61 0.67Black/Mixed Teff 0.22 0.4 0.73Barley 0.32 Wheat 1.37 0.43 Maize 0.25 0.27 1.32Sorghum 0.23 0.63Horse beans 0.29 Potatoes 0.28 Peas 0.26 Vetch 0.32 Nigger Seed 0.23 0.62Pepper 0.64

Cont.

Estimation• Labor market is assumed to be thin• The linkage of the production and consumption decision is

through the endogenous price (De Janvery et. Al., 1999)o First step- the profit function is re-constructed assuming

that labor has a constant returns to scale and the price of labor is endogenous to the household. To determine shadow price of labor

o Second step- shadow price of labor is obtained from the fitted values of the profit.

o Third step- the SNQ profit function is re-estimated taking labor as a variable input with the shadow price of labor.

Estimation…Cont.• There arises the problem of endogenity; mainly due

to the introduction of the shadow price of labor- in the estimable equation. Possible instruments:

- age of the household head - number of dependentso Forth step- AIDS is estimated using iterative least

square method for its ability to correct coefficient of covariance matrix (Bundell and Robin, 1999) The inclusion of shadow price of labor introduced the

problem of endogeniety where number of dependents and age of the household head are used as instruments. 2SLS estimation procedure is used

Results

Table: Price Elasticities on Production Side

  pOutput pInput pLabor

qOutput1.087945

5-

0.2848921-

0.8030535

qInput0.716538

1-

0.2738893-

0.4426488

qLabor1.007162

7 -0.220727-

0.7864356

Result… Cont.

Table: Price Elasticities on Consumption side

  pAgric pLabor pMfd

Marshallian(Uncompensated)Price Elasticities

Agri.cons -0.672458 -0.5882585 0.008148415

Leis.cons -0.0557232 -0.8650533 -0.02798117

Mfd.cons 0.02670037 -0.7358634 -0.47466048

Hicksian(Compensated)Price Elasticities

Agri.cons -0.5015687 0.4412368 0.06033183

Leis.cons 0.07371695 -0.0852621 0.01154515

Mfd.cons 0.1882108 0.2371302 -0.42534104

Result… Cont.

Table: The non-separable household model elasticities

pAgri pVar pMfd

-0.89 -1.09 0.32

-0.36 -0.09 0.176

-0.88 0.41 0.32

2.69 -0.96 -0.57

-2.6 -1.17 -0.16

1.39 -0.55 0.02

2.46 -0.8 -0.4*LP

aX

VX

LX

LC

mC

aC

Concluding Remark

• The elasticities reveal that households respond inversely in production level for price change of agricultural goods.

• Moreover, such change in the price agricultural is expected to deepen the use of modern fertilizers.

• upward movement of fertilizer price reduces production of agricultural goods and also use of inputs

• Caveats -household behavior towards risk -the implication of credit market failure on households

response

Thank You!