Academic journal article Agricultural and Resource Economics Review

Agricultural Contracting and the Scale of Production

Academic journal article Agricultural and Resource Economics Review

Agricultural Contracting and the Scale of Production

Article excerpt

This study presents evidence that contracting is positively associated with the scale of production for six major U.S. agricultural commodities. Specifically, contract producers tend to operate at a larger scale than do independent producers, and the likelihood of an operation contracting increases with its scale. This relationship is strongest in the cattle and hog sectors, where it persists even among large commercial operations. Six theoretical explanations for the observed correlation between scale and contracting are proposed, including imperfect capital markets, contractor transaction costs, input leverage, grower risk aversion, asset specificity, and technological change. Information from five annual national surveys is used to examine the validity of three of the proposed mechanisms.

Key Words: marketing contracts, production contracts, risk, scale of production, transaction costs

In recent years there has been a substantial increase in the concentration of agricultural production in the United States-the size of farms and ranches has grown while the number of operations has declined. For example, based on Census of Agriculture data, between 1992 and 1997, the number of farms accounting for 75% of sales declined by 22%, while the average farm size for this group increased 8.8% [U.S. Department of Agriculture/National Agricultural Statistics Service (USDA/NASS), 1992 and 1997 census years)]. This consolidation of production has coincided with an increase in the use of marketing and production contracts. Marketing contracts govern the terms of sale of a commodity by specifying the price (or pricing mechanism), quantity to be delivered, and time of delivery. Production contracts contain agreements governing the provision of inputs by the contractor in exchange for a marketing arrangement. Production contracts often assign legal ownership of the commodity to the contractor. Marketing and production contracts may take a variety of forms: some may bind growers to particular management practices or specify that growers meet certain quality standards. USDA data show that the share of agricultural production in the United States under contract increased at an average rate of 3% per year between 1991 and 2002, with production and marketing contracts growing at about 4% and 2% per year, respectively [USDA/ Economic Research Service (ERS)]. In 2002, 37% of the value of all agricultural production was produced under contract.

Of the major commodities in the last decade, the hog sector has probably experienced both the greatest consolidation of production and increase in the use of contracts. Between 1994 and 1999, the number of U.S. hog farms fell by more than 50%, from over 200,000 to less than 100,000, while the hog inventory remained relatively stable (USDA/ NASS, 1995-1999). During the same six-year period, farms with at least 2,000 head increased their share of total swine inventory from 37% to 81%. Similarly, there was rapid growth among very large operations: operations producing at least 50,000 head increased their share of total hogs marketed from 17% in 1994 to 37% in 1997 to 51% in 2000 (Lawrence and Grimes, 2001). The last decade also saw a rapid increase in contracting, with the share of hog production under contract increasing from about 18% in 1990, to about 28% in 1995, to almost 60% in 2000 (USDA/ERS).

The simultaneous increase in the scale of agricultural production and the incidence of contracting suggests these two phenomena could be related. The first objective of this study is to identify whether there is a positive correlation between the scale of production and the use of contracts. Using five pooled annual national surveys of the agricultural sector, the findings reveal contracting is associated with a larger scale of the production for all of the major commodities for which information is available. That is, larger-scale producers are more likely to use contracts, and contract producers operate on a larger scale, on average, than do independent producers. …

Search by... Author
Show... All Results Primary Sources Peer-reviewed

Oops!

An unknown error has occurred. Please click the button below to reload the page. If the problem persists, please try again in a little while.