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Reflections for Eastern Europe. Avishay Braverman and. J. Luis Guasch ... countries of Eastern Europe and the USSR, but offers no magic ...... Alan S. Harding.

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Policy,Research, and ExternalAffairs

WORKING PAPERS AgriculturalPolicies Agricultureand RuralDevelopment Department The WorldBank November1990 WPS538



in Developing Countries Reflections for Eastern Europe

AvishayBraverman and J. Luis Guasch

The experience of developing countries is relevant for the countries of Eastern Europe and the USSR, but offers no magic fornulas. The scope of change is greater than that attempted in structural adjustmentprograms, and so are the opportunities for success and failure.

The Policy, Research, and Ex;emal Affairs Complex distributesPRE Working Papers to dissemninatethe fimdingsof workin progress and to encourage the exchange of ideas among Bank staff and all others interested in development issues. These papers carry the names of the authors, refect only their views. and should be used and cited accordingly. The findings, interpretations, and conclusiona are the authors' own. They should not be attributed to the World Bank, iu Board of Direts. its management, or any of its mernber coritres.

Plc,Research, and ExternalAffairs

Agricultural Policies

WPS 538 This paper - a product of the Agricultural Policies Division, Agriculture and Rural Development Departmentis part of a larger effort in PRE under the Bank's program objective for private sector development and public sector management, with special cmphasis on Eastern Europe. This paper was presented at the August 1990 annual meeting of the American Agricultural Economics Association in Vancouver, Canada. It will be published in the American Journal ofAgricultural Economics. Copies are available free from the World Bank, 1818H Street NW, Washington, DC 20433. Please contact Cicely Spooner, room N8-037, extension 30464 (22 pages). The countries of Eastern Europe may be able to In Eastern Europe and the USSR, the political benefit from the lessons learned from structural and administrative problems of introducing a new tax adjustment in developing countries although bhetwo system are formidable, but do not justify substituting reform experiences differ in major ways. For one commodity taxes for a more modem fiscal system. thing, markets were suppressed more in the formerly The difficulties with the changeover to a new tax socialist countries than in the developing countries. system are transitional, rather than endemic, and Distortions in the agricultural sector were more delay in introducing more appropriate taxes will ,unassive,and the urban bias was Iess - because largesimply build new distortions into the reformed scale subsidies allowed producer prices and earnings economies. to rise even though labor productivity was low. * The needs of vulnerable groups must be moniFour issues must be addressed to get the prices tored and addressed. In developing countries, policy nearly right: reforms in agriculture often imply raising food prices * A credible correction of the exchange rate must to provide better incentives to producers. Eliminating be achieved. The intent of devaluating the exchange food subsidies reduces urban income in relation to rate is to increase the price of tradables relative to rural income, because food prices must go up. And nontradables. Devaluation will achieve its original price reform can hurt vulnerable parts of the populapurpose only if there is political commitment tion. The challenge during the adjustment process is manifested through fiscal discipline - to change the to see that large sums of money targeted to help the rural-urban distribution of income. If the govemment poor are appropriately distributed to the needy. offsets devaluation by spending that increases the In this important look at what the reforming in-ome of the urban sector, the result will be costcountries of Eastem Europe can (and cannot) learn push inflation. from the developing countries, Braverian and * Relative prices must be adjusted within the Guasch discuss these and other issues involved in agricultural sector. The response to a uniform price reforming prices; credit, financial institutions, and shift and to changes in relative prices will be modest marketing boards; property rights, land tenure, and unless the instruments of bureaucratic intervention are privatization; research, extension, and technology; removed. In the former socialist countries, price and efforts to remediate environmental degradation. reform and institutional change are linked: removing A central dilemma in the reform of the Eastem bureaucratic constraints on agents' decisions is European economies is the tension between commitessential to price reforn. ment and flexibility. Economic agents must believe * The transmission mechanism that links domestic that the govemment will play by the new rules and to international prices and consumer to producer will force others to do so too. Yet the rules must prices must be changed. Strengthening the momenoccasionally change or be adjusted as circumstances tum of the negotiations on trade liberalization is change. Modem economic theory is of little help in important to the long-term success of reform in the art of merging flexibility with credibility. WestEastem Europe. But removing relatively cheap em technical assistance and international financial subsidized imports will make it harder in the short run help can be effecti-e only if professionals of the East for these economies to meet the needs of their most and West work together, as this is a process of joint vulnerable consumers. learning, not a pure transfer of knowledge. The PREWorkingPaperSCriesdisseminatesthe findingsof workunderway in the Bank'sPolicy,Research,and Extemal AffairsComplex.Anobjectiveoftheseriesis togetthesefindingsoutquickly,evenifpresentationsarelessthanfullypolished.

i The findings, interpretations, and conclusions in these papers do not necessarily represent official Bank policy. Produced by the PRE Dissemination Center

Agricultural Reform in Developing Countries: Reflections for Eastern Europe by Avishay Bravernan and J. Luis Guasch

Table of Contents Introduction


Getting the Prices Nearly Right


Achieving A Credible Devaluation The Importance of Relative Price Changes Producer Prices. Consumer Prices, and International Prices Protecting the Vulnerable Institutions Credit, Financial Institutions, and Marketing Boards Property Rights. Land Tenure, and Privatization Research, Extension. and Technology The Environment

4 4 6 8 10 10 12 17 19






A. Braverman is Division Chief, Agr.cultural Policies Division at the World Bank and President-Elect of Ben Gurion University of the Negev, Israel. J. L. Guasch is a Professor of Economics at the University of California, San Diego and Research Fellow at the World Bank. They are very grateful to Gershon Feder and Lorraine Mitchell for their helpful comments and, in particular, to Karen Brooks for her insightful suggestions. This paper was an invited presentation at the August 1990 Annual Meeting of the American Agricultural Economics Association in Vancouver, Canada. It is forthcoming in the American Journal of Agricultural Economics.

AGRICtLTURAL REFOIRIN DEVELOPING COUiNTRES Reflectilonsfor Eastem Europe Avishay Bravermanand J. Luls Guasch

NTRODUCTION Eastern Europeancountries and the USSRare embarkingon a breathtaking political and economic transition.

They are venturing Into uncharted economic territory encumbered by

institutional riglditles, property rights dilemmas,high external debt, nonconvertibe currencies, and inadequate safety nets, all of whichpose severe problemsfor traditional macroeconomicand price reforms. The move toward a market economyhas shocked the stagnant and deceptively stable sociailst system, bringing unemploymentand Inflation. The people of these countries, however, are not the only ones who are moving into uncharted territory -- so also are economistsusually designated"Western",I.e., those working In the tradition of economictheory that developedunconstrained by strict Marxist dogma. Modern economictheory offers little insight Into the dynamicsand Institutlon-building necessary to move from a centrally-plannedto a market economy.Our Arrow-Debrelaparadigmeven in Its most modifled version, aliows analysis of smallchanges In a market economy. It assumesthe existence of welldefined property rlghts, financial and marketing Institutions and contingent markets. In their absence, our ability to predict the knpact of major reforms, such as freeing the price system Is lknited. The reform of formerly centrally planned economies Involves freeing the price system, developinga competitive onvironment,and privatizing manyof the state-owned or controlled assets and services, while sinmutaneouslygenerating the social, economicand legal Infrastructure that

-2 undergirds a market economy. T hese processes require varying time dimensionsIn an atmosphere of political uncertalnty. Any ex ante analysis of the transitlon In Eastern Europe and the USSR should therefore be approachedwith the utmost humillty,and with the knowledgethat we have many lessons yet to learn as we expandour theory to comprehendthis phenotiienon. The experienceof developedand developingcountrles offers somelessons relevant to the transitlon.

In this paper we focus only on lessons relevant to the agricultural sector.


agricultural or rural sector In developingcountries Is Important. In manycountries It Is still the main enginefor growth and a major contributor to foreign exchange. Therural sector engages between 50 percent and 80 percent of labor In most developing countries and contributes more than a quarter of GDP.Mostof the poor In developingcountries still reside In rural areas. Agriculture has traditionally been subject to discriminatorypractices, through exchangerate, price, and tax policies knowntogether as the urban bias. Manydevelopingcountries have attempted to remedythe problemscaused by the urban bias plus the budget deficit, balanceof paymentsproblems,and massiveexternal debt by embarkingon the so-called process of structural adjustment. In response, Internatlonal financial Institutions, the structural adjustmentioan In particular TheWorldBank,havegenerated a new lendingmechanism, conditioned on various policy reforms. Weprefer to view these loans In a broader context, since structural adjustment should be seen as a process of ongoing policy reform. The areas of reform Includemonetaryand fiscal policies, exchangerate and domesticprice reforms, Institutional reform (especially In areas of credit, marketing boards and land and property rights), and policies to Improvetechnoiogy transfer and adaptatlon. In addition, special attention has been given to

-3programs to protect the poor, with an InsuffI,lent degree of success. Adequate Investment In physicaland humanInfrastructure, Includinghealth,education, and nutritlon, Is critical to supplement structural adjustmentprograms,andthese Investmentshavea highpayoff, particulariy for the poor. The process of reform In developingcountries differs from that In Eastern Furope and the since the physicalInfrastructure, humancapital, and cultural context that comprlsethe Initlal USSR, conditlons differ. The differences limit the degree to which the LDCexperlenco 9nOralizes tho Eastern Europe and the USSR. The suppression cf markets In the former socialist countries Is greater than In the LDCs. The distortions withinthe agricultural sector are moremassive,and more difficult to measurewithout meaningfulprices and exchangerates. Theurban blas In aggregate has been less In the post-Stalinist perlod than Is the case In LDCs,because subsidization on a large scaie through the state budget and the banking systemhas allowedproducer prices and earnings to rise even though labor productivity Is low. Theurban bias In several countrles, most notably the USSR,has Increased In the transitlonal period as controlled producer prices have fallen behind IncreasesIn the generalprice level. The bias Is still less than In manyLDCshowever, and the large subsidies of recent years affect rural people's evaluatlon of the gains and losses that the transition will bring. The Implicationsof these differences In Initial conditlons for the two types of policy reform: structural adjustment In developingcountries and transitlon to post collectivist market oriented agriculture will be discussed below. RIGHT NEARLY THEPRICES GETTING Four Issues usually must be addressed In an effort to get the prices nearly right: I) a credible corretion of the exchangerate must be achieved;11)relative prices within the agricultwual

-4sector must to adjusted; 111) the transmissionmechanismthat links domesticto International prices and consumer to producer prices must be changed; Iv) the needs of vulnerable groups must be monitoredand addressed. AchlovingA Credible Devaluatlon TheIntent of devalulngthe exchangerate le to Ir,creasetL.erelative price of tradables with respect to nontradables. Giventie prevalenceof urban blas, this tends to

wcrease agricuRural

producer prices at the expenseof Incomesof urban residents. Oneclear les-on on devaluationthat has been learned Is that devaluation will only achieve Its original purpose if there Is political commitment, manifested through fiscal discip!lie, to change the rural-urban Incomedistribution. If the government offsets the devaluation by expenditure that Increases the Incomeof the urban rsctor, particularly the governmentsector, the results will be t:ie nullification of the devaluation, and generation of cost-push Inflation (see Bravermanand Kanbur [1987] for an exampleIn an African context). The kIportance of RelativePrice Changes A uniformprice shift, such as that whichtakes place In devaluatlon,Is Inportant, particuarly whenurban bias Is great. In both developingcountries and the former socialist countries, however, change In relative agricultural prices can be more Important, since the distortions In these prices are quite hlgh. Moreover, when the aggregate supply elasticity of output and employmentIn the agricultural sector Is low, the response to a uniform shift In prices, as Is achleved through devaluatlonalone,maybring modestwelfare gains. Thegreater Impacton the budget deficit, forolgn exchange,and on the distributlon of Incomederives from response to adjustment In relative prices

-5of key commoditles.In addition, since the aggregate response has very highownand cross effects, the costs of Inappropriate relative prices within agriculture are high, and the welfare gains correspondingly great. In assessing price reform which Involves tradooffs, we empiricallyuse estknatedelasticitles, and the newly-reformedcentrally-plannedeccnomlespresent a real dilemma. We do not have price series that are meaningfulfor the ganeration of these elasticities. Weare forced, as Is the case In analysis of many data-poor developing countries, to resort to guesstknatosand Judgment. exchangerates have historically been grossly In the case of Eastern Europe and the USSR, overvalued, but their knpact on resource use has been muted by bureaucratic restrictions and hidden Interventions. DevaluationIs essential, but the response to a uniform price shift and to changesIn relative pricos willbe modestunlessthe Instrumentsof bureaucratic Intervention are also removed. Muchof the gain from price reform (both devaluation and

ges In relative prices within

the agricultural sector) will comefrom removalof distortions In regional comparativeadvantage achieved through price bonuses and assignmentof quotas. In the former socialist countries, the removalof direct bureaucratic constraints on agents' decisions Is an Integral part of successful price reform; price reform and Institutlonal change are linked. In LDCsthe potential direct kmpact of remedlatlonof price distortions Is greater, although there, too, institutional changes promoting competitive behavior, such as the removalof monopolisticmarketing and procurementboards, are essential.

-6Producer Prices, ConsumerPrices, and Internatlonal Prices The usual prescription for price reform has been to move domestic prices toward International prices.

Many people questlon this remedy, sinco world prices are distorted.

International prices for agricultural commoditlesare low In part due to the subsidization of agricultural producers In the EEC,the UnitedStates, and Japan. Theseprice subsidiesstand In the way of shifting comparativeadvantage In agriculture toward the developingcountries. Moreover, current price support policies In all countries provide Incometransfers skewedtoward large more commercialfarms, and they encourageInefficient use of Inputs, such as fertilizers, thus contributing to enviroiinental dogradatlon. East Europeanand Soviet producers also suffer from these policiesof developedcountries. A breakthrough In the GATTnegotiatlons through reductlon of subsidlesand quotas will knprove the lot of thelr agricultural sectors. Therefore strengthening the momentumof the negotiations on trade liberalization Is very Important to the long run success of the reform process In Eastern Europe. The removalof relatively cheap subsidizedimports, however, will oxacerbate in the short run the difficultles of economles In transitlon In meeting the needs of their most vulnerable consumers. Whateverthe outcomeof trade negotiations, smallcountries haveto taka Internationalprices as determined by world markets, and policy reform should direct domestlc prices towards International prices. This does not Imply,though, a dogmaof Immediateequalization of domestic prices with International prices. Rather we advocate assessmentof tradeoffs Involved In price reform In terms of governmentrevenue, foreign exchange,andthe real Incomesof different groups.

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The reality of LDCsoften impliesa llmitedset of Instruments for ralsing revenue and Influencing Incomedistribution, and therefore price reform must on occas*n address conflicting objectives. More specifically, domesticprices maydiverge from International prices for several reasons: First, when a country exerts market power over international prices, the need to use marginal revenue translates Into the need for an optimaltariff [tax]. This special case appiles to very few countries and a few prkmarycommoditiesand often the degree of market power of individual countries Is overstated. This argumentis Irrelevant to the smallcountries of Eastern Europe, but mayhave somerelevance to Soviet wheat Imports,or eventual exports. Second, the presence of significant price volatility might force the government to deviate from the full transmission of International prices to the domestic economy. Maintainingstable prices has Importancefor the macroeconomyby reducing the Impetusfor cost-push Inflation and swings In governmentrevenue and forelgn exchange. Moreover,price stubIlizatlon can protect the very poor from transitory consequencesand protectioi movementsIn real incomebelowsubsistence level. Themacroeconomic of the very poor are probably more Importantthan someof the microeconomicconsideratlons which have received most of the attention of research .;-i the economicsof price stabilization up to now (Newberyand Stlglitz [1981], Kanbur[1984], Braverman,Kanbur,et al [1990]). Thethird justification for price intervention Involves subsidies of Industrial countries. A developing country facing a reduction In world prices due to subsidlesor other factors maybe reluctant to pass these prices on to farmers If the reductions are deemedtemporary. Themotive Is to avold the adjustmentcosts of movingout of an activity with expectatlons of returning to It later. Supporting prices during periods of transitory declinemaybe justifled to malntainproduction and empioymentIn agriculture,


but only If there Is a strong consensus that the declineIs transitory and the adjustmentcosts are high enough. Although price stabilizatlon programshave often been costly and Inefficient due to their misuse,the concept cannot be brushed complately aside. There Is a need to look for an approprlate mechanismfor Income!nsurance and/or price stabilization devised In more effective ways. Given the absence of risK Insurance markets together with producers' and consumers' InexperlenceIn managingrisk, the costs of variability maybe higher In the transition. Therefore this Issue should be reopened. Fourth, political and administrativeproblemsmaymakeIncometax and other broadbasedtaxes knpractical, particularly In somepoor developingcountries. The government thus has difficulty raising revenues to flnance essentla3publicexpenditures,e.g., for Infrastructure and poverty alleviatlon. In Eastern Europe and the USSRthe political and admWstrative problems assoclated with Introductlon of a new tax system are formidable,but do not Justify the substitution of commoditytaxes for a moremodernfiscal system. The difficulties with the change-over to a new tax system are transitional, rather than endemic,and delay In the Introduction of more appropriate taxation will simplybuild new distortions Into the reformed economies. Protecting the Vulnerable In developing countries, policy reforms In agriculture often Implyralsing food prices to provide better Incentives to producers. Eliminatingfooc ,bsidles reduces urban IncomeIn relation to rural Income,because food prices go up. Thesechanges require political willbecause the urban sector Is muchmore polltically sens!tive and influential than the rural sector.

They r&lse the

distrlbutlonal Issue of how price reform adversely affects vulnerablesegmentsof the population. In Eastern Europe, the sameproblemscan occur, as the recent severe Increases In food prices In

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Polandhave demonstrated. Several Important differences between Eastern EUape and developing countries should be noted, however. In the former, basic nutritlonal needs have been met In general, and expectations and standards of living are higher than In manydevelopingcountries. The changes In Eastern Europe, however, are of tremendous magnitude; economies that have kncwn, little unemployment will experlencea great deal of Joblessness. Manyreal wageearners are experiencing declines In thelr real Incomedue to Increasingprices. The decline of real wages Is exaggerated, since during the perlcd of low prices manyconsumersexperiencedquantity rationing and resorted to black or free market purchasesat higher prices. Safety nets such as social security have yet to be created. Agricultural employmentIs proportionately less than In most LDCs,and changingthe rural-urban terms of trade maythus adversely affect a large numberof people In urban areas. Despite the differencos In their circumstances, the experience of poorer segments of society In developingcountries Is relevant to that of EasterrnEurope. In LDCshigher food prices hurt the urban poor, landless farmers, and smallfarmers wlth a negative marketedsurplus, at least In the short run. To protect these vulnerablegroups during the adjustment,targeted programsare desirable and have been knplemented. The track record for such programs In developingcountries durlng the last 20 years has not been very good, however. They should be advocated only when the appropriate political will and administrative capacity exists In order to avoid corruptlon and mismanagament of resources. Otherwise,It Is still advisableto resort to subsidizationof commodities that the poor slgnificantly consumemuchmore than do the rich (that Is, inferlor goods). The financing and Inplomentatlonof large safety nets during the adjustmentprocess of the Eastern bloc will require large amounts of capital transfer from the Western world, Including International


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organizatlons. The challengewill be to design, monitor and Implementthese programsto guarantee that large sums of money will be appropriately distributed to the needy population during the transition. INSTITUTIONS Credible price reform can achieve the desired price response only If supplementedby Institutional reform to provide for well-defined property rights, easy access to capital Inputs, financial institutlons that distrlbute credit effectively, and competitivemarketing boards that allow producers rather than Institutlons to retain rents. There Is also a need for a coherent policy on research and developmentto I iduce Innovationsand to diffuse technicalknowledgeand Informatlon through extenslon services. Withoutsuch policies the potential gains of price reform probably will not be realized(Chhlbber[1989]). Cropshave to reach marketsquickly and only farmers with access to credit will choose the right mixof Inputs or exert the right amountof effort.

The provision of

public goods, like water and lrrigatlon systems, as well as extenslon services, can be a most effective way to Increase yields: but one can hardly expect Individualfarmers to Invest muchIn them. The evidence suggests, however, that manycountrles, particularly low IncomeSubsaharan African economies,have seen the efficacy of price reforms underminedby the presence of severe Infrastructural constraints and marcet rigidities. In consequence, many structural adjustment programs should have policy componentsaddressing those Issues. Credit, FlnancialInstitutions, and Marketing Boards Improvedaccess to credit In LDCswas Intendedas a major policy Instrumentto accelerate developmentIn the rural areas and to Improvethe Incomedistribution between rural and urban



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In additlon, It was advocated as a second best remedy to counter the common

discrnlination agalnst agriculture through the urban bias In tax, price, and exchangerate policles. The record of companlonpolicies to price reform, particularly on credit and Institution building, Is disappointing. Over the past 30 years, massive amounts of credit, most often at subsidizedInterest rates, have been channeledto rural sectors In developingcountries. But more often than not, those subsidieshave benefitted the wealthierand Influential farmers. Llttle formal credit reachedthe smallfarmers. Also, manyinstitutions created to support the agricultural sector, In particular formal credit Institutions, suffer from inefficiency and Ineptitude, engage In arbitrary practices, and lack financial viability (Adams[1971], von Pischke, Adamsand Donald[1983], and Bravermanand GuaschL1990]). The abovementlonedshortcomingsIn performanceof financial institutions, however, could easily apply to the developedcountries. TheSavings& Loan crisis In the UnitedStates wIllprobably end up costing $250 to $500 bililon, an amountthat dwarfs the obligations of even the most debt ridden LDCs. The creation of long term accountability In financial Institutions Is becominga global Issue. Eastern Europemustlearn from the failure of Incentives In manyfinancial institutions In LDCs and the developed world, and build credible mechanismsfor monitoring, enforcement, and accountability. Banks In the socialist system were essentially agenciesfor transmissionof funds, and fulfilled few of the functions of full financial Institutions In a market economy. Therefore, technical assistance from developedcountries will be necessary In order to develop basic skills In the technology of banking,accounting practices, and generation of financial Instruments. Financial institutions must be created Immediately,for without them,a market system cannot function.



The neededInstitutional changesgo beyondthe financial sector, and, as argued above, are critical In the area of marketing. Reforms In marketing boards and procurement agencles are urgently needed to promote competition, since manyof these organizations exhibit monopolypower and overly tax the farmer. Their noncompetitivebehavior reduces farmers' supply response and InhlbitsImprovementIn the rural sector. ExperienceIn developingcountries has shownthat attempts to Interfere directly with supplythrough ratloning, licensing,targeting and other direct controls have been open to abuse. At best, the attempts breed inefficiency. At worst, they Increase monopoly power, Increase Inequality, and encourage corruption. The key characteristics to strive for are accountability, non-interference, and responsiveness to market forces which will generate competitive behavior. Property Rights, Land Tenure, and Privatization Structural adjustmentpoliciesoften Involvereassessingproperty and land rights as wellas titling the land. A major Issue here Is whether and howthe absence or ambiguousdefinition of land rights harmagricultural productivity. Oneusual lineof reasoningIs that whenlandor property rights are not welldefined, farmers are reluctant to sink fixed (irreversible) Investmentor to makelongterm InvestmentsIn their land, even though doing so Is socially efficient. Another Is that farmers access to credit Is hampered,since their land Is not accepted as collateral. Evidenceof the reality of these links Is ample. For exampleFeder's t1990] case study on Thailandshowsthat the lack of land title prevents smallfarmers from access to credit and Induces underinvestmentof capital. The policy implicatlonIs that property rights should be fuly exclusive, transferable, alienable,and enforceable to facilitate the developmentof an active land or rights

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market. Property rights or long term land use rights with these characterlstics Induceefficlent and higher levels of labor and management, as wellas greater Investmentsto enhanceland yields. This point Is very kmportant In the East Europeanand Sovlet context, since these countries enter the transitional period with a strong Ideological bias against fully functloning markets In land. Restrictions on land markets will constraln the extent to which reform In the financial sector can moveforward, since the state will be forced to retain an active role In agricultural lending(Brooks [1 990]).

A point to consider In the land privatization process Is what should be the level of land fragmentation. Of course, that could be left ex post to the market to resolve, but that could take years and large transaction costs to bring the desired changes. An argumentfor maintainingthe current size, where the average farm size Is over 1500 hectares, except In Poland,Is that It would allow for the reaping of the existent and significant economiesof scale In agricultural activities, givvlig those countries an advantage over the countless smaliholdingsof the EC,provided that the managerialand agency Incentive problemsare accounted for. The developingcountries offer few lessons on the particular Issues of farm reorganization and privatizatlon of landrelevant to Eastern Europe and the USSR simplybecause few collectivized on the scale of the socialist countries. The available lessons lie mostly In the successes and failures of the Chineseand Israeli experiences,but the generalizations are lknited. In Chinaprice reform and divisionof the land(albeit suboptimally)brought an Immediate supplyresponse due In part to a divisible technology amenableto smallscale production. TheChineseexperiencesuggests that uncertainty as to the duration and renewabilityof the landcontract llmitsInvestmentand constrains


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longterm growth (Lin [19903). The Israeliexperiencewith long termmarketablecontracts In landalso offers some lessons (Zusman[1988], and Klslev, Lermanand Zusman[19903). In Israel long term leasingof land has provided security of tenure adequatefor Investmentand producers have Jointly contracted for use of nondivisibletechnology. The Israeli agricultural sector, however, has been plaguedby financial overextension, due to the exlsting uniknitedjoint liability both amongmembers and amongcooperatives that lead to significant "free-riding". In additlon to land reform, the privatization of agrarian enterprises Is at the core of the agricultural reform In Eastern Europe. When,where, and how to privatize these organIzations, and how to structure efficiency and fair access Into the process present dilemmasfor the former socialist countrles that the LDCexperience does little to elucidate. The public sector In most developingcountries Is of course proportionately smallerthan In Eastern Europe. Manydeveloping countries established state enterprises with the Intention to correct market failures and Inprove Income distributlon. Although some state enterprises, like the Kenyan Tea Authority and the BotswanaMeat Commission, are relatively well run, manypublic enterprlses In developing countries and throughout Eastern Europe and the USSRare statutory monopolles,or are given advantages over private concerns through open or Indirect subsidies. In addition, they often lack competitive or fiscal disciplineas they perceive themselves-- unfortunately rightly so -- as being subject to soft budget constraints (Kornal [1980]). Theabsence of financlal disciplineshelters their survival and riddles them with Inefficiencies and Inaqulties. Somedeveloping countries have In response movedhaltingly toward the privatizatlon of large state complexes. The results of their cautious


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approach have been mixed. In Malaysiaand Togo, selective privatization has been vigorous, but these countries havebeen the exceptlons despite widespreaddisenchantmentwith the pubilcsector. The efficiency argumentfor privatization or divestiture emphasizesthe potentlal benefit to the consumer from iower production costs.

Those benefits can be reaped and passed to the

consumersonly If there Is a competitiveenvironmentand a supporting Infrastructure. Privatization In Itself will not bring competitlonand Improvedperformance. In Poland,despite muchprivatization In extension, credits, Input supply, In agricultural production, systemicand Institutional Impediments and marketingdepress agricultural productivity. Noncompetitivebehavior In marketingprevents the private sector from benefitting from the superior Incentives of private ownership. Moreover, transferring monopolypowerfrom a publicenterprise to a private one willtransfer value addedfrom one privileged group to another (or sometimesto the samepeople In larger amountsi),but will have ambiguousnet kIpact on consumersand on total factor productivity. ThA question of how and when to privatize Is a complexone. The conditlons under which privatization can fully Implementthe soclal objectives of equity and efficiency are restrictive. Economictheory convincinglyargues for the allocativesuperiority of competition,but It Is muchless forceful, If not ambiguous,about the superiority of private ownership. There Is a cost to privatization, as we have learned through the principalagent literature. In providing Incentives, the goverrment receives less than the expected discountedvalue of enterprise profits, because of risk aversion, informatlonalconstraints, and capital restrictions. Moreover, someobjectives might be very difficult to obtain In the course of privatizatlon, like the rlght risk-taking, the socially optimal Innovation,and the equitable divislonof capital, particularly In these socletles whereover 40 years

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of collctivizatlon have significantly underminedthe psychologicalprerequisitesfor private undertakings. Theappropriatebalancebetweenthe publicandprivate sectors hingeson establishig who has a comparativeadvantageIn the productiveor serviceactivity. If measurescan be taken to ensure a competitiveenvironment -- a large determinantof efficlency-- It wouldbe foollsh to clahk

that no governmentInterventloncould knprove welfare. Openingformerlyclosed seonomels to foreign competitioncan Induce competitivebehavior even If the domesticIndustry remains concentr.ted. Giventhe severityof the priceandmarketdistortionsaffecting EastemEuropean countries, It Is difficult to determineex ante whichstate enterpriseswouldperformeffectively undera bona fIde marketsystemandwhichwouldnot. TheIssueof privatizatlonIllustratesour needfor humillty -- If wecoulddistingulshtheviablefromthe nonviableenterprises,whichshouldbe privatized?The bankruptones,tradingfiscal solvencyfor hlgherunemployment? Or the potentiallyprofitableones, releasingprofits wherethey can growunderbetter Incentives,andretalningweakfirmsunderthe shelter of the state's portfolio? If It Is possibleto hardenthe budgetconstraint and change managerial Incentives,privatizationmaynot be necessary. Thecredibilltyof the commitment to a hardbudgetconstralnt Is difficult to promote,however(Brooks[1990]). Equltyandfairnessare keyIssuesIn theprivatizationdebate,andmustbe consideredalong withefficlency. Wehavelearnedfromdeveloping countriesthat severeInequitlescan result on two fronts. Firstly, equitywill suffer If small,powerfulgroupswithinthe society are allowedto gain ownership of largeamountsof property. Conversely, EastEuropeans andSovietsnowface the rare

-17 opportunityto put In placea relativelyequitabledistrlbutionof agriculturalassets andwealththat minknizes the needfor costly contractualnegotiatlonsand can serve as a foundationfor future growth(Stigiltzt19903).Secondly,a situatIonIn whichthe pricesof capitalare muchlowerthanthe actual marketvaluationcan result In the Inappropriatelarge transfers to foreign Interests with greater accessto capital. EvenIf valuationIs correct, wealthwillpass to foreignersIf domestic citizenshavepoor accessto Internatlonalcapitalmarkets. Thedistributionof the gainsfromprivatizationwithinthecountrydependson the distribution of Informationand access to capitalmarkets,whichoften privilegespeoplewellplacedIn the old order. Valuationalso criticallyaffects the distributlonof gains. Careshouldbe exercisedto avoid "spontaneousprivatization",or the illcit or unfair captureof sale proceedsor asset valueby the formermanagerial class. Denyingownershipto former managers,however,elhuinatesa class of peoplewhopresumably are relativelybetter trainedto run the enterprise. If the enterprisecan be fairly valued,the problemsof spontan3ousprivatizationare reduced,but not elkninated. Research,ExtenslonandTechnology Muchagriculturalgrowthcancomefromnewtechnologles.ResearchgeneratesInnovatlons, and extensionbringsthemto the fleld. Researchandextensionare publicgoods,andthe private sector alonewillunderinvestIn themwithoutgovernmentIntervention. Mostdevelopingcountries haveneglectedagriculturalresearch,as Is exemplified by the lack of governmentcommitment to research,budgetcuts anda lowlevelof fundingfor operationalexpenses.Researchandextension expenditureshave barely exceededone percent of the value of agriculturalproduct In most developingcountries,whereasthree timesas muchIs allocatedin the Industrialcountrles,wherethe


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relative knportanceof agriculture In the natlonal economyIs lower. Perhapsthe shortage of tralned sclentific arid technical staff, and the difficulties In measurlngpositive returns In extension and research iivestments In the short run have been someof the causes. The developing world has consiste itly shownlack of a coherent strategy, the lack of a review of the status of research for each agro-ecological zone, and the lack of an evaluation of the expected net gains from research. The most commontype of research has been applied or adaptive. It Is iess costly, more oriented to quick results, and essential, because research developedelsewherecannot be directly transferred without some adaption to local conditions. But even where successful research programs have been developed, problemshave occurred In the disseminationof those advances. Researchand extension services have not always been linked. East Europeans and Sovlets can learn from the shortcomings In research and extension in the developing world, but they can learn the same lessons from the poor returns to their own, larger, investments In agricultural research. Satisfactory links dependon cooperative attitudes amongthe sclentist, the extension worker, and the farmer. Reglonalcommittees,Joint onfarm trlals, having research workers function as subject matter specialists, running periodical in-the-fleld training sessions can all help In strengthening these links. The experienceof agricultural research and technology transfer In the developingworld Is not one of uniform falure. There have been significant successes, as well, and manyof these have been achievedIn coordinated Internatlonalefforts that link participants from manycountries of the developedand developingworld. Llnkageswlth the Internationalsclentific communitycan be expected


19 -

than In the deveiopingworld because the to have a higher payoff In Eastern Europe and the USSR initlal InvestmentIn basic sclentific knowledgeIs hlgher. The Environment Environmentaldegradation Is one of the moreominousproblemsfacing Eastern Europe and the USSR,and In this area the experienceof LDCsoffers an kiportant cautlonary note to temper the enthusiastic rush toward markets In the former socialist countries. in deveiopingcountries, a focus on growth without careful consideration of the iong-term consequences has resulted in pollution, erosion, and consumption of nonrenewable resources.

The classic problems of

externalitles have mademarkets myopicwlth regard to the needs of future generations and very hard on the onvironment. Given the Inherited environmental degradation, the former socialist economiescannot afford lelsurely lessons In environmentalprctection. Technicalassistance will be necessary in order to find w is drastically to reduce industrial pollution, deforestation and soil degradation. The severity of the onvironmentaldegradationassociated with market oriented growth raises an kmportant question: Shouldthe wealthiercountrles subsidizepoorer nations to encourage them to choose an onvironmentallymoreresponsible path? This question arises more concretely whena wealthy neighbor provides tied assistance to a poorer neighbor, with the objective of reducing transboundary pollution. In both cases Instrumentsmust be created to transmit the incentive to cease pollution to the agents actually engaged In environmentallydestructive behavior. This involves creation of Instruments such as marketable pollution permits, but these will achleve the desired effect only If indirect effects on employmentare included,as well.

- 20 -

CONCLUSIONS The transition to post collectivlst agriculture presents unprecedented opportunities and dilemmas.The experienceof developingcountries has muchrelevancefor the countries of Eastern Europe and the USSR,but unfortunately It offers no magicformulas or guaranted solutions. The scope of change Is greater than that attempted In the structural adjustment programs of the developing world, and, because of Its comprehensiveness,the potential that the parts will fit together Is greater. The dilemmasand pitfalls are correspondingly large. A centra'

Is the

tension between commitmentand flexibility. Economicagents must believe that the goverrvnontwill and will force others to play by the new rules. Yet the rules must occasionally be changed or adjusted as Ignorance clears or circumstancesadjust. The merger of flexibillty with crediblllty Is Indeed an art. In this process of artistic sclence, moderneconomictheory Is of lkuitedhelp. Rarely have economists encountered the kind of consclously undertaken, sweeping changes that Eastem Europeansocieties and the USSRhave proposed Includingthe creation of new legal, polltical and social Infrastructures.

Western technical assistance with the support of International fhanclal

Institutions can be effective only If professlonals of the East and West work together, since this Is a process of joint learning, not a pure transfer of knowledge.

- 21 -


Adams,D.W.,"Agricultural Credit In Latin America:A Critical Reviewof External Funding",American Jouial of Avlcultral Economics.1971. Braverman,A., and J.L. Guasch,"The Theory of Rural Credit Markets", In Agricutural Development Polcs and the Economis of RuralOrganization;Hoff, Bravermanand Stlgiltz (ods). Oxford University Press, 1990 (forthcoming). Braverman,A., and S.M.R. Kanbur, "UrbanBiasand the PoliticalEconomyof Agricultural Price Refom", WorldDovebpmnt, 1987. Braverman,A., S.M.R.Kanbur, A.S. Brandao, J. Hammer,M.R.Lopes, and A. Tan, ACommodity Price Stabilizatlon and Price Reform: An Approach to the Evaluationof the BrazilianPrice Band Proposals", The WorldBank, 1990. Brooks, Karen M., "Property Relatlons and OrganizationalStructures" In AgrIcultural Reform In Eastern Europe and the USSR:Drlaas & Strategies, Braverman,Brooks and Csakl (eds), forthcoming 1990. Chhlbber,A., "TheAggregate SupplyResponse: A Survey", In Structural Adjstment and Agrkulture. S. Commander (ed), London:OverseasDevelopmentInstitute, 1989. Feder, G., "The Economicsof Land and Titling In Thailand",In Agricultural DevelopmentPoles and the Economicsof Rural Organization,Hoff, Bravermanand Stigiitz (eds), Oxford University Press, 1990 (forthcoming). Kanbur, S.M.R.,"Howto AnalyzeCommodityPrice Stabilizatlon?",Oxford EconomicPapers, 1984. Kislev, Y., Z. Lerman,and P. Zusman,"Cooperative Credit In Agriculture--The Israeli Experience",In Arcultural Deveobpment Poicies and the Economicsof Rural Organization,Hoff, Braverman and Stlgiltz (eds), Oxford University Press, 1990 (forthcoming). Kornal, J., Economicsof Shortag

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-22 Structures, and ContractualChoiceIn Reformof SocIalist Stigiltz,J., "Incentives,Organizational Diemas . Stratels, r" In AgrlItural Refom In EasternEuropeandthe USSR: Agricultur 1990. Brooksand Csaki(ods),forthcoming Braverman, MarketsIn Dovebpq Countries, J.P.,D.W.Adamsand G.Donald(ods),RuralFinancial von Plschlce, Baithuoro:TheJohnsHopkinsUniversityPress,1983. The Pinhas,Idlvk*ual Behavlorand SocialChoiceIn a CooperativeSettemnt, Jerusalem: Zusman, MagneaPress,TheHebrewUniversity,1988.

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