PART II: AGRICULTURAL POLICY AND AGRICULTURAL MARKETS
3 Illustrating use of the model
In the following, the three scenarios are used to illustrate the use of the model and to derive several policy recommendations. The scenarios are summarised in the table 1 and explained in detail below.
Table 1: Different scenarios in the model
Item Scenario 1 Scenario 2 Scenario 3
Marketing costs Reduce by average 50% Reduce by average 50% Regional export bans Domestic supply Same as in base period Increase by 25% Same as in base period
3.1 Scenario 1: Reducing marketing costs
Scenario 1 is designed to cast some light on the implications of excessive grain marketing costs for agricultural development in Ukraine. In this scenario, all marketing costs (except rail and transportation fees) are reduced by 50%, to a level comparable to Western Europe. In some cases, marketing costs in Ukraine are more or less than twice as high as in Western Europe, but for sim-plicity the reduction coefficient 50% was used throughout. Concerning the cost of obtaining certifi-cates, not only the associated fees but other transaction costs as well are important. These costs often significantly inflate the real costs of certification.7
Rail transportation costs are not changed in the simulation. Generally, rail transportation fees in Ukraine are lower than in Germany (see, for example, STRIEWE, 1998). However, the transaction costs of railway transportation in Ukraine are very high. These transaction costs are often the result of the Ukrzaliznytsya monopoly. For example, the railway charges a wagon-lock fee (security locks) which amounts 0.30 US$/t. Traders argue that grain transportation does not require such locks – they do not guarantee grain security and make little sense for such a product as grain. Furthermore, traders today demand not only transport services, but logistic service as well. And these logistic ser-vices are almost non-existent in Ukraine today. Nevertheless, as these constraints are very difficult to measure, railway costs are assumed to remain constant in scenario 1, except for the elimination of the wagon-lock fee.
Harvest and farm storage losses are reduced by factor of three in scenario 1. STRIEWE (1998) estimated harvest losses to be 7 US$/t of grain, and farm storage and handling losses to be an addi-tional 7 US$/t. SHPYCHAK (1998) measured the grain harvest losses in Ukraine to average 180 kg/t or 18 US$/t (at a world market price of 100 US$/t). These losses are very high compared with West-ern standards. Harvest and farm losses in Germany, for example, are estimated to be 3.9 US$/t (STRIEWE, 1998).
The simulation of scenario 1 casts light on the following questions:
3.1.1 How much do farmers and consumers in Ukraine lose as a result of which specific ex-cessive marketing costs?
The results of scenario 1 with the reduction of different marketing costs are shown in table 2.
Table 2: Changes in total producers’ and consumers’ surpluses and transportation costs due to reductions in marketing costs (mUS$)
All costs Seaport
handling Elevator
costs Harvest and farm
losses
Certifi-cation Weight losses
dur-ing mar-keting
Other costs*
Producer surplus 321.4 81.7 38.3 128.2 9.8 7.9 55.5
Consumer surplus -263.0 -68.3 -29.5 -102.6 -8.1 -7.3 -47.2
Transportation costs 61.6 15.7 7.2 24.1 2.0 1.6 11.0
Total social welfare 120.0 29.1 16.0 49.7 3.7 2.2 19.3
Note: * Security locks, financial costs, trade margin and additional expenses.
Source: Own calculations.
7 Traders argue that certification procedures take a long time. It takes 15 days to get a radiological certificate, for exam-ple. One trader stated that the quickest export terms for grain in Ukraine is around 4 weeks.
Table 2 shows that the 50% reduction in marketing costs leads to an increase in producer surplus of 321.4 mUS$ (13.5%), a decrease in consumer surplus of 263 mUS$ (29.3%), and an in-crease in transportation costs by 61.6 mUS$ (24.5%) due to an inin-crease in wheat trade that out-weighs reduced prices. The change in total social welfare (producer surplus plus consumer surplus plus transportation costs) is estimated to be 120 mUS$. The total producer improvement of 321 mUS$ is equivalent to 23 US$/t of wheat marketed in the 1999/2000 marketing year, or 54.5 US$/ha of the harvested area under wheat in 1999.8
The most excessive marketing costs are seaport handling and elevator handling costs. The reduction of these costs alone would increase producer surplus by 120 mUS$. This roughly equals the improvement in producer welfare that results from the reduction of the harvest and farm han-dling losses (128.2 mUS$).
3.1.2 Which regions would benefit from a reduction in marketing costs?
Benefits and losses are distributed among oblasts depending on their export or import situa-tion. Producers benefit the most in export oblasts with high wheat production, high supply elastic-ities, and locations close to seaports and DAF points. Consumer losses are largest in import oblasts with high human and livestock populations, high demand elasticities, and locations far from seaports or DAF export points.
The corresponding results of scenario 1 are reproduced in table 3. After reducing marketing costs by 50%, the oblasts in which producers benefit by 10 mUS$ or more are: Autonomous Repub-lic of Crimea, Vinnycya oblast, Dnipropetrovsk oblast, Donetsk oblast, Zaporizhya oblast, Kyiv oblast, Kirovohrad oblast, Odesa oblast, Mykolayiv oblast, Kherson oblast, Poltava oblast, Sumy oblast, Cherkassy oblast, Khmelnytsky oblast, and Kharkiv oblast. Odesa oblast, Mykolayiv oblast, and Kherson oblast are significantly affected by the decrease of the seaport handling costs due to their proximity to FOB export points, and Kharkiv oblast to the DAF point. Again, adjusting wheat marketing costs to Western Europe levels would bring Ukrainian farmers an additional 321 mUS$
per year.
Among oblasts with the largest reductions in consumer welfare are Autonomous Republic of Crimea, Vinnycya oblast, Dnipropetrovsk oblast, Donetsk oblast, Kyiv oblast, Kharkiv oblast, Odesa oblast, Luhansk oblast, and Lviv oblast. The largest consumer losses occur in Donetsk oblast, while the smallest occur in Chernivtsi oblast.
The simulation also makes it possible to estimate the benefits and losses (gain in producer welfare minus loss in consumer welfare) by oblast. If the increase in producer surplus is higher (smaller) than the reduction in consumer surplus, the oblast realises a net benefit (loss). Most oblasts realise net benefits, reflecting the fact that most are net grain exporters. The largest net benefits oc-cur in Vinnycya oblast, Kirovohrad oblast, Zaporizhya oblast, Mykolayiv oblast, Odesa oblast, Pol-tava oblast, and Kherson oblast. The net loss oblasts are Donetsk oblast, Ivano-Frankivsk, Transcar-pathian oblast, and Luhansk oblast. Gains and losses are roughly equivalent in Autonomous Repub-lic of Crimea, Volhynia oblast, Dnipropetrovsk oblast, and Kyiv oblast.
The results in tables 2 and 3 show that the consuming population loses as a result of im-proved wheat trade prospects due to reduced marketing costs. Generally, the elasticity of demand for bread products is very low due to weak substitution possibilities. However, bread prices are deter-mined not only by the supply of wheat but also by the efficiency of the processing industry, the re-tail chain, etc. Increasing wheat prices by 10% will not necessarily lead to an increase in the price of bread products by 10% because wheat is just one component of the total cost of producing bread.
Furthermore, although consumers are negatively affected by falling marketing costs in the export
8 For these calculations, domestic production in 1999 is estimated to be 13.6 mill. t and harvested area 5.9 mill. ha (STATE STATISTICS COMMITTEE OF UKRAINE, 2000).
situation, they gain significantly in an import situation such as prevailed in the 2000/2001 marketing year. Generally, a more efficient marketing chain would reduce price volatility making it easier for consumers and producers to plan and policy makers to implement dependable policies. Finally, in the long run increased growth in agriculture due to decreasing grain marketing costs would generate higher economic growth and incomes in Ukraine. Under these conditions, consumers would be in a better position to absorb increased food prices. Indeed, this is another argument for intensifying structural economic reforms, market liberalisation, competition, and institution building in Ukraine.9 Table 3: Simulation of marketing cost reduction at the oblast level (mUS$)
Changes in producer sur-plus
Changes in consumer
sur-plus Net changes Autonomous Republic of
Crimea 13.0 -12.1 0.9
Vinnycya oblast 19.6 -12.1 7.5
Volhynia oblast 6.3 -5.8 0.5
Dnipropetrovsk oblast 18.2 -18.0 0.2
Donetsk oblast 11.0 -22.1 -11.1
Zhytomyr oblast 7.9 -8.3 -0.4
Transcarpathian oblast 0.9 -6.4 -5.5
Zaporizhya oblast 17.4 -10.5 6.9
Ivano-Frankivsk 2.6 -7.1 -4.5
Kyiv oblast 16.1 -15.8 0.3
Kirovohrad oblast 19.5 -7.9 11.6
Luhansk oblast 5.5 -12.8 -7.3
Lviv oblast 7.3 -12.9 -5.6
Mykolayiv oblast 22.2 -7.5 14.7
Odesa oblast 33.2 -15.6 17.6
Poltava oblast 19.5 -11.1 8.4
Rivne oblast 4.9 -6.1 -1.2
Sumy oblast 11.1 -7.8 3.3
Ternopil oblast 6.8 -7.3 -0.5
Kharkiv oblast 21.1 -15.6 5.5
Kherson oblast 21.2 -8.4 12.8
Khmelnytsky oblast 11.6 -7.5 4.1
Cherkassy oblast 14.9 -10.2 4.7
Chernivtsi oblast 2.7 -5.1 -2.4
Chernihiv oblast 7.0 -8.9 -1.9
Total 321.4 -262.9 58.5
Source: Own calculations.
3.1.3 Which infrastructure investments would generate the greatest return in the form of welfare-enhancing grain trade in Ukraine?
STRIEWE (1998) argues that the main impediments to the creation of an efficient marketing and transportation system for trade of grain and oilseeds in Ukraine are the following: overdue pri-vatisation of Khlib Ukrainy; high storage and other elevator service fees; high transaction costs for river transportation; bottlenecks and high handling fees in the seaports; certification procedures; and, high weight losses and financial costs.
9 However, there is no question that many Ukrainians are already food insecure and would suffer greatly from increased grain prices. Possible policy responses are discussed in chapter 8 on Promoting Food Security in Ukraine.
The simulation of scenario 1 suggests that the most welfare-enhancing infrastructure invest-ments would be in seaports, storage and transportation infrastructure, as well as harvesting technol-ogy (see table 2).
The cost of the seaport handling of one t of grain is about 12 US$ in Ukraine. The seaports of Ukraine represent a bottleneck for the export of grain. Low handling speed, the lack of facilities to load vessels of a capacity of more than 50 thousand t, and poor organisation are responsible for their low efficiency (STRIEWE, 1998). Investments in seaport infrastructure would generate addi-tional port incomes and encourage more exports.
Many traders argue that storage costs (fees, but also storage losses etc.) in Ukraine are higher than in most other grain producing countries. STRIEWE (1998) estimates the storage costs in Ukraine to be twice as high as in Western Europe. In 1997, CARANACORPORATION concluded that the grain distribution chain in Ukraine needed immediate demonopolisation and privatisation. The low efficiency of storage services in Ukraine is exemplified by the fact that most grain and oilseed exports take place in the first several months after harvest – in a sense 'storage' is currently taking place abroad.10 Therefore, investments in storage facilities are crucial for agricultural development and economic growth in Ukraine.
Rail transportation fees appear low in Ukraine, but the transaction costs associated with rail transportation are large, as discussed above. The monopoly position enjoyed by Ukrzaliznytsya gives it the opportunity to continuously increase rail fees; from January 1998 to May 2001, rail fees have been increased six times. This reduces certainty and transparency in the grain trade business and, thus, increases marketing costs
Transportation of grain by water is generally less expensive than other modes of transporta-tion over medium and long distances. River transport in Ukraine is cheaper than rail transport on the basis of fee per km, but it is not used due to the lack of infrastructure and high transaction costs:11
· small barge capacities (500 t instead of the 1,000 t capacities which traders need);
· the low depth of the Dnipro near most elevators does not make loading possible;
· the small number of river elevators with required infrastructure;
· navigation on the Dnipro generally ceases in November. Ukrrichflot argues that it could tran-ship grain after November, but that transportation costs and times would rise substantially;
· Ukrrichflot does not have enough barges in its disposal. Traders must order barges one month in advance, while rail wagon ordering can take as little as 3-4 days; and
· weak guarantees of timely grain supply to the sea ports.
The development of Dnipro infrastructure could significantly increase efficiency by making transportation less expensive and more convenient. The Dnipro could play the same role in Ukraine as the Mississippi does in the United States. While the Dnipro could not replace all rail transporta-tion, it could significantly relieve the rail transportation network and increase competitransporta-tion, leading to improvements in the quality of rail services.
Harvest and farm handling losses greatly reduce farmers' welfare. The model simulations show the importance of reducing these losses. To reduce these losses, farmers need access to mod-ern machinery and inputs. This, in turn, requires a viable rural and farm credit system12 and an elimination of barriers to imported agricultural technology.
10 See chapter 7 on Price Determination and Government Policy on Ukrainian Grain Markets.
11 Information about river transportation was obtained from TradiGrain Ukraine.
12 See chapter 4 on Rural Finance in Ukraine – Extending the Frontier.
3.2 The impact of increased wheat production
In 1999/2000 marketing year, wheat supply was slightly more than demand in Ukraine. In order to show how producer and consumer welfare would change if wheat production was signifi-cantly higher, scenario 2 models a 25% increase in the wheat supply in each oblast (see table 1).
This increase in production could be caused by decreased marketing costs, farm restructuring, tech-nical change, improved policies, etc.13
The results of scenario 2 are the following. If production was 25% higher than in 1999/2000, a reduction of marketing costs by 50% would increase the producer surplus by 401.7 mUS$ and decrease the consumer surpluses by 401.7 mUS$. In comparison with scenario 1, therefore, produc-ers would receive an additional 80.3 mUS$, while consumproduc-ers would notice no changes in their wel-fare. These producer gains are equivalent to an additional 13.6 US$/ha of harvested wheat area compared with scenario 1 (assuming no change in the harvested area).
3.3 The impact of regional bans on grain movement
In 1996, some oblast authorities declared bans on grain exports, ostensibly to secure repay-ment for inputs that had been delivered in the spring as well as assorted tax debts etc. In each of the following three years (1997-99), regional export bans and confiscation of grain and oilseeds were employed in a similar manner, and in each year, the need to collect payment for earlier input deliver-ies and debts was the pretence used to justify these measures.14
It is important to realise that one oblast’s ban has a negative influence on many oblasts. To empirically estimate this influence, scenario 3 is simulated (table 1). Regional bans are modelled by assuming very high transportation costs between the oblast(s) in question and other oblasts.15 Grain flows, as a result, 'avoid' the banned oblast. This has an impact on many domestic and international grain trade flows in Ukraine.
Vinnycya oblast was chosen to demonstrate the effects of the regional bans.16 According to the simulation results, a ban in Vinnycya oblast reduces the total producer surplus in Ukraine by 78.8 mUS$ and increases total transportation costs 18.3 mUS$, while total consumer surplus in-creases by 92.8 mUS$. Producer surplus falls due to increased transportation costs (and conse-quently falling farm-gate prices) as traders attempt to avoid the oblast that has imposed the ban.
Table 4 presents the effects of the ban on producer and consumer surpluses at the oblast level. The ban in Vinnycya oblast affects other oblasts in different way. The Southern and Eastern oblasts do not suffer at all. These are net surplus oblasts that have direct access to export points without using Vinnycya oblast for wheat transportation. Producers in Northern and Western oblasts are hurt the most, while consumers in these oblast benefit. Altogether, twelve oblasts are affected and producer losses are larger than consumer gains, so Ukraine as a whole loses due to the ban in Vinnycya oblast.17
13 For example, the government's withdrawal from providing farm inputs in 2000 has greatly improved conditions in farming, and can be expected to increase production in the medium run. See chapter 2 on Agricultural Policy Reform in Ukraine: Sequencing and Results.
14 See chapter 2 on Agricultural Policy Reform in Ukraine: Sequencing and Results.
15 The assumed prohibitive railway costs are 100 US$/t of wheat.
16 Vinnitsa is located in the centre of Ukraine and much grain is transported through this oblast under 'normal' condi-tions. By comparison, an export ban by Kyiv oblast would not affect other oblasts as significantly.
17 It should be noted that the model assumes no constraints for railway business, i.e. there is availability of wagons, free access to ways of avoiding the oblast that has imposed the ban, no bottlenecks, etc. If such constraints are taken into consideration, the costs of regional export bans would probably be much higher than presented in table 4.
Table 4: Changes in producer and consumer surpluses due to the grain movement ban in Vinnycya oblast (mUS$)
Surplus Changes
PS CS
Vinnycya oblast -64.2 70.9
Volhynia oblast -1.3 1.3
Zhytomyr oblast -1.5 1.8
Transcarpathian oblast -0.3 2.4
Ivano-Frankivsk -1.0 2.9
Kyiv oblast -1.1 1.2
Lviv oblast -1.5 2.9
Rivne oblast -1.0 1.3
Ternopil oblast -2.1 2.5
Khmelnytsky oblast -3.6 2.6
Cherkassy oblast -0.2 0.2
Chernihiv oblast -1.2 2.7
Total (without changes in Vinnycya oblast) -14.8 21.8
Source: Own calculations.