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Hello Dear distance learners, well come to the course Economics of

Agriculture. In order to get better understanding on the course
Agricultural Economics, prior knowledge on Microeconomics part I and
II are mandatory. The course is classified in two modules (parts). The
first part addresses the various issues of agricultural production
economics in historical perspectives, analysis of major principles and
laws in economics with respect to agriculture and the theories of peasant
economics mainly in developing countries. In the first module, the first
chapter tries to define and clarify what the scope of Agricultural
Economics is; and then attempts to discuss the various views forwarded
by different political economists on the role of agriculture in economic
development and their influence on policies and overall growth of
agricultural production techniques. The chapter further elaborates on the
types of agricultural development models and their practical
implications to the past and contemporary Ethiopian development
processes. The second chapter will be dealing with microeconomic
principles of agricultural production economics and assess efficient as
well as inefficient production decision in using scarce agricultural input
at household level. The third chapter (end of the first module) will be
dealing with peasant production decision making in the face of the
above microeconomics principles and tries to look the efficient, risk
aversion and drudgery natures of peasant economies.

After acquiring some preliminary knowledge of the principles of

agricultural production in developing countries in the first module, the
second module will acquainted you with fundamental understanding of
the various agricultural policies for solving the problems of agricultural
and rural development in poor countries of the world.

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CHAPTER ONE
DEFINITION, SCOPE, AND ROLE OF AGRICULTURE IN
ECONOMIC DEVELOPMENT

1.1 Introduction: Definition And Scope Of Agricultural

Economics
What Agricultural Economics is about?

? Brain storming!!!
Dear distance learners, please try to give your own definition of agricultural
economics._____________________________________________________
______________________________________________________________
_______________________________________________________________

To make it simple, before we attempt to define the term agricultural

economics, let us begin with splitting the two words ‘Agriculture’ and
‘Economics’ and then attach specific definition for each.

We hope that every one of you is well familiar with the word
agriculture. Agriculture is the purposeful tending of crop(s) and
livestock. It includes group of interrelated activities that encompasses
the planting, raising, subsequent care and final disposition of a wide
range of crops and livestock. Alternatively, we can define agriculture as
the production, processing, marketing, and distribution of crop and
livestock.

What is economics? The modern definition of Economics, like other

science, is brought evolutionary from the earlier definition of Adam
Smith “economics as the study of wealth” to the modern Keynesian
definition “as the study of administration of scarce resources and of the
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determinants of income and employment.” In your microeconomics

course you had been acquainted to different ways of defining
economics. This means there is no single definition for the word
economics. But for our purpose let us define economics as a science of
analyzing the use of limited resources to achieve the desired
wants/satisfy human wants.

Now bringing both definitions, we can define Agricultural Economics as

a discipline that adopts the principle of economics to the problems of
agricultural production and people engaged in agriculture and allied
activities. Thus, Agricultural Economics is an applied science dealing
with how humans choose to use scarce productive resources and
technical knowledge to produce agricultural output and to distribute
these for consumption to various members of society over time.

? Critical thinking!!!
Is agriculture unique from other sectors? If you think so, in what aspects?
_______________________________________________________________
______________________________________________________________.

Agricultural production has several general characteristics that

distinguish it from other forms of production. These are:
• The existence of many small production units (despite differences
among countries, agriculture employs by far the largest share of
the world population)

• The plurality of products from one producing unit (individual

producing unit or farm typically engage in production of several
different types of commodities)

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• The biological nature of the production process (production

processes are geared to the life cycle of the particular plant or
animal that is involved requiring considerable quantities of heat,
moisture, and soil nutrients)
• The nature of location decision (decision is how best to use the
land)
• The existence of considerable degree of production for self-
sufficiency (majority of farmers in the world plan their activities
in terms of production for home consumption rather than for the
market. In other words it does not enter commercial channels)
• Its sensitivity to natural forces such as rainfall intensity, climate,
drought, temperature and the like.
Because agriculture is special (almost unique) in a number of ways, a
specialized branch of economics called Agricultural Economics has
developed to address the problems associated with it. And agricultural
economists make extensive use of microeconomics or price theory in
which propositions on the functioning of markets in terms of production,
consumption, and exchange are developed from hypothesis about the
behaviors of individual producers and consumers. In contrast,
macroeconomics utilizes highly aggregated concepts such as total
consumption, national output, investment etc, which are closely linked
with agriculture. Recently some studies (e.g. Trimmer et al, 1985) have
noted that macroeconomic policies and adjustments can have a major
impact on the agricultural sector.

The central theme in studying agricultural economics is that resources -

land, labor, capital, time, etc are limited or too few to satisfy all human
wants and that as a consequence of this scarcity choice must be made.

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The problems with which we will study are ones of "constrained choice"
(socio-economic influences-land tenure, farm size, market system,
infrastructure, government actions, cultural influence); that is how
limited quantities of inputs are allocated between alternative production
uses of agricultural as well as non-agricultural activities, and of how
limited income are allocated between the many products consumers may
buy.

Evolution of the Subject Matter

The application of economic theory to agricultural problems has gone
through a process of slow acceptance. The origin of the field, now
known as Agricultural Economics reach back in many directions and
over a long period of time. The filed came from two separate sources: -
from the physical sciences, and later, from economic theorists.
Since agriculture and its production systems are influenced by physical
(topography, climate), social (tradition, culture) and economic (market,
infrastructure) factors, a comprehensive body of science, which includes
physical science, social science, and economic theory, is fundamental.
The severity and length of the agricultural depression beginning in the
1880s caused increasing attention to be devoted to its causes and
possible solutions. Primarily agronomists and horticulturalists made the
most notable early efforts. They recognized that the ability to grow
plants and animals was not sufficient to make farmers succeed.
Agricultural Economics is an important subject area because it is
concerned with society's basic needs. Getting food and other agricultural
products to all people in the world in the right form at the right time is
an extremely complex process.

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1.2 Role of Agriculture in Economic Development

? Brain storming!!!
Dear distance learners, taking the case of your country, Ethiopia, what role do
you think agriculture plays for the national economy?
_______________________________________________________________
_____________________________________________________________.

The contribution of agriculture to economic development is crucial. The

contributions lie in:
1. Providing food to the rapidly expanding population
2. Increasing the demand for industrial products and thus
necessitating the expansion of the secondary and tertiary
sectors, i.e. Market Contribution.
3. Providing additional foreign exchange earnings for the import
of capital goods for development through increased
agriculture exports, i.e. Product Contribution
4. Increasing rural incomes to be mobilized by the state
5. Providing productive employment, i.e. Factor Contribution
6. Improving the welfare of the rural people
According to Kuznet (1960), the contribution of the agricultural sector
to economic development constitutes three elements:
A) Product contribution
B) Market contribution
C) Factor contribution
A. The product contribution: developing countries mostly specialize in
the production of a few agricultural goods for exports. As output and
productivity of exportable goods expand, their exports increased and
result in large export earnings.

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Thus agricultural surplus leads to capital formation when capital goods

are imported with foreign exchange. Foreign exchange earnings can be
used to build the efficiency of other industries and help the
establishment of new industries by importing scarce raw materials,
machines, capital equipment and technical know-how. This is what is
called the product contribution of agriculture, which first augments the
growth of net output of the economy, and then the growth of per capita
output.
B. The market contribution: a rise in rural purchasing power, as a
result of the increased agricultural surplus there is a great stimulus to
increased development. The market for manufactured goods is very
small in developing countries where peasants, farm laborers and their
families are too poor to buy factory goods. Increased rural purchasing
power caused by expansion of agricultural output and productivity will
tend to raise the demand for manufactured goods and extend the size of
the market. This will lead to the expansion of the industrial sector.
Moreover, the demand for such inputs as fertilizers, better tools,
implements, tractors, irrigated facilities in the agricultural sectors will
lead to the expansion of the industrial sector. Besides, transport and
communications will expand. The long-run effect of these expansions
will be higher profits, which tend to increase the rate of capital
formation through their investment.

C. The factor contribution: a developing country needs large

amount of capital to finance the creation and expansion of the
infrastructure and for the development of basic and heavy industries. In

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the early stages of development, increasing the marketable surplus from

the rural sector without reducing the consumption levels of farm
population can provide capital. Labor as the principal input can be a
source of capital formation when it is reduced on the farm and employed
in other productive works. One major possibility of increasing farm
receipts and thus capital formation is by mobilizing increased farm
incomes through agricultural taxation, land taxes, agricultural income
tax, land registration charges, school fees, fee for providing agricultural
technical services and other types that cover the cost of services
provided to the farm population.
In general, the agriculture sector occupies a central place in the national
economy. The manner in which it contributes to the economic
development can be depicted in the chart below:
Agriculture

National Trade Foreign

Food income A way of
exchange
Rural life
Industry development Vocation
Employment

1.3. Theories of Role of Agriculture in Economic

Development
Dear distance learners, we are now ready to briefly summarize the
changing views of role of agriculture in economic development since
1950s and their impact in economic policy, and we systematically place
the theories in historical perspective.
To begin with, the history of agricultural development ideas can be
divided roughly in to three periods:

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i) The Economic Growth and Modernization Era (1950-1960s)

ii) The Growth-with-Equity Period (1970s)
iii) The Economic Growth and Policy Reform Period (1980s)

I. The Economic Growth and Modernization Era

Economists traditionally have analyzed agricultural development in
terms of its relationship to the growth of the overall economy. The first
notable Physiocrats viewed agriculture as the engine of economic
growth, arguing that agriculture was the only activity capable of
generating a surplus large enough to stimulate growth in other sectors of
the economy. Classical economists, on the other hand, believed that
diminishing marginal returns to agricultural land would eventually lead
to overall economic stagnation.

Most Western Development Economists of the 1950s did not view

agriculture as an important contributor to economic growth, and
assigned passive role of agriculture to economic development. Those
economists of course knew little about tropical agriculture or rural life,
and thus equated development with the structural transformation of the
economy, i.e., with the decline of agriculture’s relative share of the
national product and of the labor force and the dominance of the
industrial modern sector.

Many development economists of 1950s and 1960s concluded that since

economic growth facilitated the structural transformation of the
economy in the long run, the rapid transfer of resources (especially
surplus labor) from agriculture to industry was an appropriate short-run
economic development strategy.

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Box 1: Arthur Lewis

The first important event affecting development economics throughout
the 1950s and 1960s was by W. Arthur Lewis’s 1954 article “Economic
Development with Unlimited Supplies of Labour.” In the article Lewis
presented a general equilibrium model of expansion in an economy with
two sectors - a modern capitalist exchange sector and an indigenous
non-capitalist sector, which was dominated by subsistence farming. The
capitalist sector is characterized by its use of reproducible capital, hiring
of labour, and its sale of output for profit. The subsistence sector was
pictured as the ‘self-employment sector’. Lewis’s model focused on
how the transfer of labour from the subsistence sector (where the
marginal productivity of a laborer approaches zero as a limiting case) to
the modern sector facilitated capitalist expansion through reinvestment
of profits. The labour supply facing the capitalist sector was ‘unlimited’
in the sense that when the capitalist sector offers additional employment
opportunities at the existing wage rate, the numbers willing to work at
the existing wage rate will be greater than the demand. Then expansion
in the capitalist sector continued until earnings in the two sectors were
equated, at which a point dual-sector model was no longer relevant.

Box 2: Hirschman
The second important event affecting development economists’ view of
agriculture was the publication of Albert Hirschman’s influential book
The Strategy of Economic Development (1958). Hirschman introduced
the concept of linkages as a tool of investigating how, during the course
of development, investment in one type of economic activity induced
subsequent investment in other income-generating activities. Hirschman
defined the linkage effects of a given product line as the investment-

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generating forces that are set in motion through input-output relations,
when productive facilities that supply inputs to that line or utilize its
outputs are inadequate or non-existent. According to Hirschman,
investment should be concentrated in activities where the linkage effects
were greatest, since this would maximize indigenous investment in
related or linked activities. So Hirschman asserted that agriculture lacks
direct stimulus in the setting up of new activities through linkage
effects-and he concluded the superiority of manufacturing. He argues
investment in industry would generally lead to a more broadly based
economic growth than would investment in agriculture.

In an article entitled "The role of agriculture in economic development"

(1981) Johnston and Mellor drew on insights from the Lewis model to
stress the importance of agriculture as a motive force in economic
growth. They argued that far from playing a passive role in
development, agriculture could make five important contributions to the
structural transformation of third word economies: Thus, agriculture

Provide labor, capital, foreign exchange, food to growing
industrial sector, and

Supplies a market for domestically produced industrial goods.
Johnston and Mellor's article and William H. Nicholl's influential article
"The place of agriculture in economic development" (1964) were
instrumental in encouraging economists to view agriculture as a
potential positive force in development, and they helped to stimulate
debate on the interdependence of agriculture and industrial growth.

In addition, Western development economics was challenged (1960-70s)

by the emergence and rapid growth of Radical Political Economy and
Dependency Models of Development and Underdevelopment.

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The radical political economy models have their roots in the writings of
Lenin (on imperialism), Kautsky (on agriculture), Paul Baran and other
Marxist economists.

Box 3: Baran
Baran argued that in most low-income countries it would be impossible
to bring about broad-based capitalist development without violent
changes in social and political institutions. Accordingly, small-scale
agriculture is incapable of making major contributions to economic
growth and he stressed on the need for farm consolidation. Baran
Identified institutional and structural barriers to development and
stressed on the need to put effective demand at the centre of
development programs. Baran also accepted the view that the marginal
product of labour often approached to zero in agriculture and that
therefore there is no way of employing it usefully in agriculture.

The dependency interpretation of underdevelopment was first proposed

in 1950s by economic commission for Latin America under the
leadership of Raul Prebisch. The basic hypothesis of this perspective is
that underdevelopment is not a stage of development but the result of the
expansion of the world capitalist system. It is a condition of
impoverishment brought about by the integration of the Third World
economies in to the world capitalist system. Dependency theorists
implicitly argued that low-income countries were pauperized through
both a process of unequal exchange with the industrialized world and
repatriation of profits from foreign owned businesses. Capitalist growth
in Third World countries was stunted by policies favoring import
substitution of luxury goods and export of agro-industrial products often

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produced on large estate farms. These policies limited the internal

market for consumer goods (including food and other agricultural
products) and led to impoverishment of the mass of small farmers.

To sum up, radical political economists made several important

contributions to the understanding of agricultural and rural development.
First, they stressed on the importance of understanding each country’s
economic development in the context of that country’s historical
experience. Second, in arguing that rural poverty in the third world
resulted from the functioning of the global capitalist economy, they
focused attention on the relationships between villagers and the wider
economic system. Third, they attacked the ‘mutual benefit claim’ of
international trade by development economists - the assertion that
economic relations between high and low-income countries could be
shaped in a way to yield benefits for all.

Both the western dual-sector model economics and the radical analysis
of the 1960s suffered from the following shortcomings:-
 Inadequate attention to the need for technical change in
agriculture.
 Lack of attention to the biological and location-specific nature of
agricultural production process.
 Lack of a solid micro foundation based on empirical research at
the farm and village level.
? Analytical thinking
Dear distance learners, taking the realities of agricultural production system of your
Wereda, Tabia, or country, attempt to criticize the Western dual-sector model and the
radical political economy and dependency perspectives________________________.

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II. The Growth-with-Equity Period (since 1970s)

Dear distance learners, recognition of some of the shortcomings of the
above model were important elements leading to a reevaluation of the
goals and approaches of development economics and of the role of
agriculture in reaching those goals in the period following 1970. Then
around 1970 mainstream Western Economics began to give greater
attention to employment and the distribution of real income. This shift in
emphasis spills over from three reasons:-
a) The goal of economic growth for Third Word countries was
seriously questioned and the need to redefine the goal of
development more broadly was required.
b) From the 1960s onwards it became apparent that rapid economic
growth in some countries (Pakistan, Nigeria and lran) had
harmful and in some cases disastrous results. The development
disasters ranged from civil war to the establishment of murderous
authoritarian regimes.
c) Though in countries were rapid economic growth had not
contributed to social turmoil, the benefits of economic growth
were not trickling down to the poor and the income gap between
rich and poor was widening.

Thus growth-with-equity concerns stimulated a number of important

theoretical and policy debates.
 The first concerned the interactions between income distribution
and rates of economic growth. The analysis focused on changes not
only in the size of distribution of income during the course of
development but in the functional distribution as well (for example
impact of economic growth on small farmers, on women…).

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 The second centered on employment generation and the possible

existence of employment-output trade-offs in industry and
agriculture (for example population growth, rural-urban migration
and its impact on agricultural production and output; urban
industry and its capacity to employ new entrants to the labour
force…).

Taking these and other issues, new concern was raised about creating
rural jobs in agriculture and industry, and in the relative output and
employment generation capacities of large and small enterprises. In
agriculture debate centered on how much emphasis should be given to
improving small farms as opposed to creating large and more capital-
intensive farms and plantations. In industry, the small-versus-large
debate led to empirical studies of rural small-scale enterprises.

IMPLICATIONS FOR AGRICULTURE

The change in orientation of development economics implied much
greater role for agriculture in development programs because:
i) The majority of the poor in most developing countries live in
rural areas and because food prices are a major determinant of the
real income of both for rural and urban poor, the low productivity
of agriculture was seen as a major cause of poverty.
ii) Urban industry had generally provided few jobs for the rapidly
growing labor force; development planners increasingly
concentrated on ways to create productive employment in rural
areas, if only as a holding action until the rate of population
growth declined and urban industry could create more jobs.

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It becomes apparent that if agriculture were to play a more important

role in development programs, policy makers would need a more
detailed understanding of economics. That is why there was a rapid
expansion of micro-level research on agricultural production and
marketing, farmer decision-making, the performance of rural factor
markets, and rural non-farm employment in 1960s and 1970s.

III. The Economic Growth and Policy Reform Period of 1980s

Distance learners, we have so far discussed two views concerning the
role of agriculture in economic development: The Economic Growth
with Modernization Era, and the Growth-with-Equity Period. We are
now remaining with the third view. Let us dwell on it and have a clear
picture.
This period witnessed a major shift in development economics towards
economic growth, policy reform and market liberalization. The shift
from microeconomic analysis of agricultural projects to macro policies
was considered as a cutting edge of development in food policy analysis,
and it was the dominant development theme of the 1980s. In Africa,
policy reform was strongly advocated in the Word Bank's report, and
structural adjustment programs were launched or in underway in the mid
of 1980s. In Asia, agricultural development proceeded more rapidly than
expected and can be considered as major success story of the 1980s. For
example, India achieved food self-sufficiency in grain production in the
mid 1980s.

In the policy reform era, a major analytical advance in the way

economists viewed policy was the development of the Food Policy
Analysis Approach. The approach synthesized work in a number of

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areas, outlining how to trace the effects of macroeconomic adjustments

as well as sectoral level policies on food production, income generation,
and consumption patterns of the poor. The food policy analysis approach
has set two distinguishing characteristics apart from the production
incentive school, and the basic needs school

The production incentive school emphasizes the need to get prices high,
i.e. raising agricultural price in order to increase farmers’ incentive to
produce. The basic needs school stressed the need to keep price low in
order to ensure that the poor could afford an adequate diet.

The Food Policy Analysis Approach recognized that the production

concerns of the production incentive school and the consumption
concerns of the basic needs school were both legitimate, and it showed
how they will be linked through food prices. Food policy analysis hence
forms a bridge between the two approaches. In addition it recognized in
a more explicit manner that policy formation takes place in an open
economy where the financial and commodity markets are increasingly
integrated; thus calls for the integration of food and agricultural policy
with macro policies such as the exchange rate and interest rates, in a
world economy framework.

In the mid 1980, policy makers in many countries become interestingly

concerned about Food Security. Despite the achievement of national
food self-sufficiency in major Asian countries, it was apparent that a
large percentage of people neither had the access to resources (land,
credit) nor the purchasing power to secure their food needs. Thus many
works stressed that food security should involve assuring both an

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adequate supply of food (through own production and trade) and access
by the population to that supply.

Tips!!! Food Security can be defined as access by all people at all times
to enough food for an active and healthy life. Similarly, it could be
defined as the absence of hunger and malnutrition.
The basic concepts are:
 Sufficiency of food (calorie requirement)
 Access to food (produce, purchase, gift)
 Security (vulnerability, risk)
 Time (chronic, transitory)

Acid rain, pollution, environmental degradation, and sustainable

agriculture also emerged as central issues in the 1980s, especially
following the release of the influential Bruntland Report, ‘Our Common
Future’. Concerns about sustainability were raised at several levels:
local, institutional, national, and global. Increasing population pressure
on fragile environments led to worries that existing farming systems in
many parts of the world were no longer sustainable.

Summary and Lessons

Distance learners; now let us have a concise summary of the different
views that have been influencing agricultural production systems,
agricultural growth, and the overall economic development of countries
in the world overtime, and draw some policy implications for the future.

To begin with, in the 1950s and 1960s, economists had developed

simple two-sector models to analyze the role of agriculture in relation to

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industry. During the 1970s analysts developed an increasingly detailed

micro theoretical and empirical understanding of the rural economy with
the wider economic system. During the 1980s, however, many
economists realized the importance of broader macroeconomic analysis
for the quest of better understanding. So by the end of 1980s
development thinking had come nearly full circle. From all these views,
we now can draw some important lessons for 2000s.
Lessons for the future can be summarized as:
a) Population pressure will reemerge as critical issue, and rapid
population will press hard on natural resource base of Africa
and Asia. In addition, political instability will continue to
undermine African economic progress. Comprehensive and
integrated policies of population, agriculture, and natural
resource use are important
b) The success of macroeconomics policies to stimuli
agricultural growth depends on:
• Sufficient domestic and international effective demand,
• Public investment in research and rural infrastructure, and
• Political environment conductive to mobilize resources
So, countries should give due attention for the interdependence
and impact of national and international economic and political
policies for domestic economies.
c) Third world economists and agricultural economists are
concentrating on purely economic and technocratic issues, but
they have to broaden their analysis to take into account other
factors on food and agricultural policies like political forces,
institutional change, transaction costs and market failures.

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According to research findings and development experiences of

developed and developing economies for attaining rapid, broad-
based agricultural growth and rural development, the following
components should be emphasized:

• Strengthening the institutional bases of smallholder

agriculture through research, training and extension.
• Policy analysis, and analysis of agricultural development
issues in broader macro economic frame work
• Studying impact of International trade peasants
• Food aid and food security in disastrous seasons
• Agricultural mechanization and specialization

1.4. Agriculture in Economic Development (Theories)

Dear distance learners, we have seen that there has been a shift away
from an earlier "industrial fundamentalism" to an emphasis on the
significance of growth in agricultural production and productivity for the
overall development process of a given country. As economists has been
involved in the analysis of development problems in nations
characterized by static agricultural technology and rapid growth in
demand for agricultural products, attention has shifted increasingly to a
concern with the conditions under which an agricultural surplus can
occur and be sustained.

Now we are in a position to investigate different descriptive approaches

that have been developed by political economists to trace back why
agricultural and economic stagnation has occurred in developing
countries and the possible remedial measures thereof.

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Three approaches have been used frequently in attempts to stake out the
boundaries of a new development economics:
I. The Growth-Stage/Leading Sector approach (Walt Rostow)
II. The Dual-Economy approach (Arthur Lewis)
III. The Structuralism and Dependency perspectives (Raul Prebisch
and Paul Baran)

1.4.1. Growth stage theories

The earlier growth stage literature was primarily a product of the 19th
century German Economic Historians (because Germany was then a
latecomer to industrialization, relative to Britain) and the promotion of
industrialization and economic growth were regarded as major goals of
German nationalism. With the rebirth of interest in economic growth,
economists have joined together in an effort to satisfy the demand for a
general development theory by dividing economic history into discrete
linear segments.
The general growth-stage development theories through historical
perspective are:
The German tradition
The Structural transformation, and
The Leading sector

A. The German Tradition

There were two major traditional schools in the 19th century German
literature of growth stage theories:-
• Fredric List and the German historical school
• Karl Marx and the Marxists school

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Both List and Marx emphasized five stages in the development process,
but their stages were based on entirely different principles.
List’s stages are Marxist stages are
- Savage - Primitive communism
- Pastoral - Ancient slavery
- Agricultural - Medieval feudalism
- Agricultural manufacturing - Industrial capitalism
- Agricultural-manufacturing - commercial - socialism

In List's view, progress in agriculture could occur only under the

stimulus of export demand or the impact of domestic industrial
development. Of these, domestic industrial development was considered
as the more important generator of agricultural progress because of the
double impact of the increased demand for farm products from non-farm
sector and the development of more efficient production methods. This
will be made by encouraging industrialization through the protection of
"infant industries" to promote both import substitutes and industrial
exports.

Marx based his classification on changes in production technology and

associated changes in the system of property rights and ideology. In
Marxist system, economies evolve through these stages, driven by the
forces generated by struggles between two classes, one controlling the
means of production to combine with labor and the other possessing no
means of production but labor. The class struggle reflects the continuing
contradiction between the evolution of economic institutions and
progress in production technology.

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B. Structural transformation
List’s last three stages can be termed as primary, secondary and tertiary
production stages. According to structural transformation theorists
(mainly Fischer and Clark), the steady shift of employment and
investment from the essential primary activities to secondary activities
and still to greater extent into tertiary production accompanies economic
growth. The economic growth, which accompanies this transformation,
is achieved by:
 Increases in output per worker in any sector, and
 Transfer of labor and capital from sectors with low output per
worker to sectors with higher output per worker.

Fischer, as did List, held that such a transition was closely associated
with the advance of science and technology.

Criticism
i) Official statistics conceal that there is high proportion of time
spent by the rural population in secondary and tertiary activities
and this disproves the greater share to be given for secondary
and tertiary activities to foster economic growth.
ii) Dovring demonstrated that the size of the agricultural sector
relative to the rest of the economy limits the rate at which
workers can be shifted to nonagricultural employment. In an
economy that is primarily agricultural, the share of labor in
agriculture will decline slowly even when the growth of
employment in the industrial and service sectors is very rapid.
iii) According to Johnston and Kelby, the domestic demand for the
commodities produced by the agricultural sector is limited by

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the small size of the urban-industrial sector and the low income
of workers in the industrial and service sectors.
iv) The above demand side constraint in turn limits the farm sector
demand for manufactured consumer goods and purchased input
(fertilizer, farm equipment, etc).

C. Leading Sectors
The decline of professional interest in the Fischer-Clark stages during
the 1960s was due, at least in part, to the emergence of Rostow’s
‘leading sector’ growth stage approach. Like the traditional German
historians, Rostow identified five growth stages in the transition from
primitive to a modern economy. These are:
Stage 1: The traditional society, characterized by stagnant, subsistence
agriculture and a stratified society;
Stage 2: The precondition for take-off, characterized by change
through external forces, infrastructure development,
increasing exports, and a new social and political elite;
Stage 3: The take-off, characterized by investment of greater than 10
per cent of GDP, high growth manufacturing sectors, and
institutional change favoring high growth;
Stage 4: The drive-to-maturity, characterized by self-sustaining
growth, the impact of growth spreading to all areas, and
decreasing social inequality;
Stage 5: The high mass consumption, characterized by a shift in
sectoral dominance to durable consumer industries and
growth of the service sector and welfare capitalism.

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It was argued that developing countries were at stages one and two
while developed countries had passed stage three. The stages except the
first and last, are transition stages rather than equilibrium positions.
Rostow was primarily concerned with the process by which a society
moves from one stage to another, and with the objective of providing
policy guidance to the leaders of the developing countries. Rostow's
approach starts from the premise that "deceleration is the normal
optimum path of a sector, due to a variety of factors operating on it,
from the side of both demand and supply." The problem of transition
and hence of growth become how to offset the tendency for slow
progress in individual sectors to achieve growth in the total economy.

On the supply side, Rostow introduces the concept of sequence of

leading sectors, which succeed each other as the basic generators of
growth. On the demand side, declining price and income elasticities of
demand are introduced as technical factors dampening the growth rate of
leading sectors and transforming them to sustaining or declining sectors.
Technology plays an important role in both the emergence of new
leading sectors and the elimination of old sectors.

The above three growth stage theories (List, Marx and Rostow) so far
reviewed treat the transition from an agricultural to an industrial society
as the major problem of development policy. In an open economy,
however, agriculture and primary sector industries may act as leading
sectors and carry the burden of accelerating growth. In addition,
agriculture must provide food for a rapidly increasing population,
provide mass market, generate capital investment and labor force for
new leading sectors outside of agriculture.

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1.4.2. Dual Economy Models

The dual economy models identify agriculture as the traditional sector
and industry as the modern sector and attempt to trace the relationship
(or lack of relationship) between the two sectors in the process of
development. Broadly, the dual economy model can be categorized into
two major parts: static and dynamic dualism.

A. Static dualism
There are two distinct variations within this model:
i) Sociological dualism, which stresses cultural differences
leading to distinct Western and non-Western concepts of
economic organization and rationality.
ii) An enclave dualism, which emphasizes the improper
(perverse) behavior of labor, capital and product market
through which the traditional and modern sectors interact.

Sociological dualism: Boeke (1910) argued that Western economic

thoughts were not applicable to tropical colonial conditions and urged
the need for a separate theoretical approach to the problems of such
economies. Where there is a sharp, deep, and broad cleavage dividing
the society into two segments, many social and economic issues take on
a quite different appearance and western economic theories lose their
relation to reality and hence their value.

The major policy implication of Boeke analysis is the futility of

attempting to introduce Western technology and institutions to the Asian
economic systems. Despite some criticisms (alleging him in
unfamiliarity with Western thought) he has got acceptance in the

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intellectual elite and the bureaucracy in the economic policy and

planning agencies. It provided an intellectual rationalization for an
industrialization policy that avoids investment in agricultural inputs
(fertilizer, chemicals, equipment) in favor of other heavy industry and
import substitutes.
Boek’s “backward bending supply curve” provides a rationalization for
failure to achieve productivity gains in agriculture, in spite of: -
a) Failure to invest in agricultural research, education and
manufactured input.
b) The adoption of price policies that provide only minimal
incentives to use available technology.

Enclave dualism: Enclave dualism encompasses (encloses) a high

productivity sector producing for export coexisting with a low
productivity sector producing for the domestic market. Higgins,
explicitly rejecting the sociological dualism, traces the origin of dualism
to differences in technology between the modern and subsistence
sectors. In his view, the modern sector concentrates heavily on the
production of primary commodities in mining and plantations. It imports
its technology from abroad, which is basically laborsaving. This is in
contrast to the technology employed in the traditional sector, which is
characterized by wide substitution possibilities between capital and
labor and the use of labor-intensive production methods. Expansion of
the modern sector is primarily in response to demand in foreign markets,
and its growth has relatively little impact on local economy.

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B. Dynamic Dualism
This model is the work of Jorgenson, Fei and Ranis accepting the static
typology of ‘sociological’ and ‘enclave’ dualism as essentially valid for
a broad class of underdeveloped economies (Asia, Africa and Latin
America) with large indigenous populations.
According to them, these economies are characterized by the
coexistence of two sectors: -
• A relatively large, stagnant and subsistence agricultural sector
• A relatively small but growing commercialized sector.
The main thrust of dynamic dual-economy models has been to explore
the formal relationship that would permit an escape from the Malthusian
trap-the inevitable consequence of attempting to introduce new
technology into native agriculture, and from the lack of effective labour
and capital market relationships between the modern enclave and the
traditional economy. Indeed productivity increase in agriculture
become, in the dynamic models, the mechanism that permits continues
reallocation of labour from the agricultural to the industrial sector.

In the model, the subsistence sector is characterized by:

a) Disguised unemployment and underemployment
b) Institutionally determined wage rate for agriculture
c) A marginal productivity of labor lower than the wage rate.
d) Fixed land input.

Under these conditions it is possible to transfer labor form the

subsistence sector to the commercial industrial sector without reducing
agricultural output and without increasing the supply price of labor to
industrial sector during the early stages of development. Indeed, the

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transfer of one worker from the subsistence to the non-subsistence sector

results in an agricultural surplus, which then becomes available as an
investment fund for the development of the industrial sector. The model
also envisages additional agricultural surpluses as a result of
productivity increase from labour-intensive capital improvements.
Agriculture in this system, contributes both workers and surplus
production in the form of a wage fund for the expansion of the industrial
sector.

MPLi
Wage
MPLi
Rate

Wi

01 L1 L2 02 qty of lab
agriculture sector
industrial sector

Given that: L1 is the labor shortage point

L2 is the labor commercialization point
Wi is the supply curve of labor

If agricultural labor force supply exceeds O2 L1, Marginal Productivity

of Labor (MPL) of agriculture will be is zero. If agricultural labor force
supply exceeds O2 L2, MPL exceeds wage rate.

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If the demand for labor in industrial sector exceeds O1L1, then transfer
of labor form agriculture to industry leads to decrease food output which
then leads to increase food price and consequently to increase wage rate
in industrial sector. Similarly, if the demand for labor in industrial sector
tends to exceed the O1L2, wage rate in agriculture and industry rise
together.
Two points are important to discuss in relation to the above results:
1. The Point when the Marginal Value Product (MVP) of
agricultural labor begins to rise above zero, shortage point, the
transfer of one worker from subsistence to non-subsistence
(commercial-industry) sector doesn't releases a sufficiently large
wage rate to support his consumption. The result is a worsening
of the terms-of-trade (TOT) against the industrial sector.
2. The point when the MVP of labor exceeds the wage rate in
agricultural sector, commercialization point, a rise in the
industrial wage is required if the non-subsistence sector is to
compete effectively with the subsistence sector.

According to the Fei and Ranis model, the major functions of the public
policy are:
• To design institutions that transfer the ownership of such
surpluses from the agricultural sector to the government or to the
entrepreneurs in the commercial-industrial sector, and
• To avoid dissipation of potential surpluses through higher
consumption in the rural sector.

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1.4.3. Dependency Perspectives

The growth- stage approach looks largely within national economy for
the timing of the transition to more advanced stages. It also looks within
the national economy for the transformation of industrial structures.
However, the dependency perspective insists that the key to differential
development between developed countries of the center and the
underdeveloped countries of the periphery is to be found in the growth
of the international economic system in the word system.

The distinguishing feature of the dependency perspective is the

dominance of the economic forces operating in the international system
over those operating within national system.
The different models are:
1. The structuralism model
2. The under development perspective
3. The agrarian development in the periphery.

The structuralism model

The central argument of the structuralist school is that the countries of
the periphery have experienced long-run deterioration in the terms-of-
trade (TOT) with the center due to:
• Low price and income elasticity of demand in the center for the
products of the periphery
• High demand elasticity for imports from the center by the
periphery

Illustration: Productivity growth, measured in output per worker, is

slower in primary production (source of export by the periphery) than in

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the industrial sector (source of export by the center). Similarly, the

periphery sells its products in competitive market (homogeneous and
undifferentiated) while the center in monopolistic market (differentiated
goods like consumer durables and industrial equipment)

In the structuralisms view, the great industrial centers not only keep for
themselves the benefits of the use of new techniques in their own
economy, but also are in a favorable position to obtain a share of that
deriving from the technical progress of the periphery. As a consequence
of differential demand elasticity’s and differential rates of productivity
growth, the countries of the periphery are forced into the unattractive
alternative of growth strategy by restraining imports, by tariff protection
or subsidies to import substituting industries.

The Underdevelopment perspective

The Orthodox Marxian theory assume that the force of technological
change (the forces of production) interacting with changes in institutions
(the relations of production) and with culture and ideology (the
superstructure) cause economic growth in the advanced and backward
countries to converge along the common path. This is what is termed as
the convergent growth hypothesis, which states that developed
countries show to the less developed countries the image of thier own
future. The perspectives insist that the underdevelopment of Africa,
Asia and Latin America has been a product of the same forces that have
led to development in Europe and North America. The integration of
backward areas into the world capital system is viewed as a major
source of underdevelopment. So it appealed to nationalist sentiment
because it focuses reform effort on inequalities in the international
system rather than on domestic policy.

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Agrarian Development in the Periphery

Alain de Janvry has elaborated the implications of the dependency
perspective for agrarian development. In the de Janvry's view the
implications of the dependency perspective for agrarian development
has been seen that rural poverty particularly in the Latin American
context is explained by a three lever chain of exploitive relations:
a) At the international level between the dominant countries of the
center and the dependent countries of the periphery, there had
existed unequal exchange between raw materials and industrial
capital goods.
b) At the sector level between capital intensive industry and the
labor intensive sector, the former produces commodities for the
upper class in the periphery and for the word market, while the
latter produces mass consumption with cheap labor; the type of
cheap food for the laborers in commercial sector of agriculture,
and which in turn produces cheap food for the urban- industrial
sector.
c) At the social level between landlords and agricultural laborers
driven by the need for cheap food and cheap labor in the urban
sector.

The marginalization of peasants in the periphery is a consequence of the

peculiar pattern of dependent industrial development, i.e. wages and
incomes remain low in rural areas because capital-intensive industrial
development creates little demand for labor, and labor-intensive
industrial development can expand only as long as wage rates remain
low.

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In the center, the distribution of income between capital and labor

determines growth. The center is the primary consumer of its own
output, and wages are an important source of demand as well as a cost of
production. In the periphery low wages are an important determinant of
the ability to export labor-intensive primary and industrial products and
to import capital equipment and luxury consumer products.

The implication of dependency theory of agricultural development

stands in sharp contrast to the growth stage and dual economy theories
in:
• The growth stage theories attempt to explain the process of
transformation from a primary agrarian to an industrial economy.
• In the dynamic dual economy models incorporation of peasants in
to the market results in the disappearance of dualism.
• The dependency perspective, however, attempts to explain why the
periphery remained trapped in a backward agrarian state. They
view incorporation of rural areas in to the market is the source of
marginalization and it perpetuates rather than erodes dualism.

? Activity
Dear distance learners, now you have got some insights of the reason why
agriculture and overall economic development of developing countries has
been stagnant for many decades. Please list out the fundamental causes for
agricultural stagnation, low productivity, and rural poverty in your Wereda,
Tabia, and possibly suggest for the whole country Ethiopia_______________.

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1.5. Theories (Models) of Agricultural Development

Dear distance learners, in line with the strong analysis economists have
made to investigate the very causes for agricultural stagnation and
underdevelopment in developing countries that we have discussed so
far; they have also developed different models (theories) of agricultural
development to influence decision makers. Let us now go through
(review) some of these models and look their implication to Ethiopian
economy, and critically evaluate the internal strengths and weakness of
each model.

It should have to be recalled that, the problem of agricultural

development is not that of transforming a static agricultural sector into a
modern dynamic sector, but of accelerating the rate of growth of
agricultural output and productivity, consistent with the growth of other
sector of a modernizing economy.
Similarly, a theory of agricultural development should provide insight
into the dynamics of agricultural growth [changing sources of growth] in
economies whose output growth from an annual rate of 1.0 percent or
less to 4.0 percent or more.

Agricultural policy makers are applying one or more models from

theories for policy formulations and realizing the development
objectives of the agricultural sector. Reviewed literature on the topic
under consideration came up with nine major classifications. The
models of agricultural development are:
• Conservation model
• Frontier model
• Industrial fundamentalism model
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• Urban industrial impact model (location model)

• Diffusion model
• High payoff input model
• Induced innovation model
• Cultural change first model and community development
movement
• Neo-Marxist and dependency model

The theories of agricultural development, based on Ruttan and Hayami,

can be seen under five major models and their practical implications to
Ethiopia could be reviewed as follows (nevertheless the models consist
of in total nine): -
1. The resource exploitation model
2. The conservation model
3. The location model
4. The diffusion model
5. The high payoff input model
These are not regarded as models of stages in the agricultural growth but
as changing sources of growth during the process of agricultural
development.

I. The Resource Exploitation Model

According to this model, expansion in the areas of cultivated/grazed has
been the main means of increasing agricultural production, exemplifying
in Western history the opening of new continents such as North and
South America, Australia to European settlement during 18th and 19th
centuries. Similar events were also seen, though in slow pace, in Asia

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and Africa, and to some extent in the case of Ethiopia in Derge and
EPRDF settlement issues.

Population pressure resulting in the intensification of land use in the

existing villages was followed by pioneer settlement programs, the
establishment of new villages, and the opening up of forest or Jungle
land to cultivation with a series of changes from Neolithic forests to
shifting cultivation on bush and grassland to short fallow annual
cropping.

The implications of agricultural development in newly settled regions

are viewed through the staple model and the vent-for-surplus model

The staple model developed by Harold A. Innis explains the rapid

growth of commodity production and exports in the newly settled areas
of North America. The vent-for-surplus model developed by Myint
explains the rapid growth of production and trade in a number of
tropical countries during the 19th century. He further explained that
peasant export production usually expanded as rapidly as that of
plantation sector while remaining self sufficient in production of food
crops.

The explanation is that surplus land and labor capacity enabled peasant
producers to expand production rapidly under the stimulus of new
markets opened by the reduction of transport cost. This is exemplified in
the production of rice in Asian countries. In Latin America and Africa
the opening up of new lands awaited the development of technologies
for control pests and diseases in the tsetse fly infested plains and
productivity problems of soil and incapability of maintaining fertility
was a problem.

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The primary concern of the scholars (staple and vent for surplus
theories) were to explore the conditions by which underutilized natural
resources could be exploited to generate growth in agricultural output
and to identify the processes by which agricultural surplus could be
mobilized to generate growth in the whole economy.

The major problems (criticisms) observed were:

• Little insight in to the problem of how to generate growth in
productivity.
• Diminishing marginal productivity from additional increment of
resources was given less attention.
• Lack of due emphasis to the issue of sustainability
In order to sustain agricultural growth it is necessary to make a
transition from resource exploitation to:
a) Development of resource conserving or enhancing
technologies such as crop rotation and manuring
b) Substitution of modern industrial inputs such as fertilizers
for natural soil fertility
c) Development of modern fertilizer responsive crop varieties.
? Brainstorming
Dear distance learners, taking the real socio-economic conditions of your
locality (Wereda, Tabia) and your country, is the resource exploitation model
suitable to implement? What merits and demerits will be encountered?
_________________________________________________.

II. The Conservation Model

The conservation model of agricultural development evolved from the
advances in crop and livestock husbandry and the concepts of soil

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exhaustion suggested by soil scientists. This theory was reinforced by

the concept of diminishing returns to labor and capital applied to land
and the traditions of ethical, aesthetic and philosophical naturalism.

The new husbandry permitted the intensification of integrated crop-

livestock production through the recycling of plant nutrient and animal
manures to maintain soil fertility. Advances in technology were
accompanied by the consolidation and enclosure of farms and by
investments in land management; thus the inputs used in this
conservation system of farming were largely supplied by the agricultural
sector itself.

The nature and principle of soil and plant nutrition led to a doctrine of
soil exhaustion which states that the danger of soil exhaustion
(depletion) was so great that any permanent system of agriculture must
provide for the complete restoration to the soil of all the elements
removed by the crop. And it was also extended to include the
maintenance of the mineral content of the soil.

Summarized in economic terms, the doctrine asserts that natural

resources are scarce, that the scarcity increases with economic growth
and that resources scarcity threatens to impair levels of living and
economic growth.

Criticism
• The perspective of agriculture was seen as a relatively self-
contained system. Therefore, industrial inputs were not viewed as
playing a significant role at either the extensive or intensive
margin.

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• An attempt to explore the economic importance of conservation

principle, particularly in the field of fertility maintenance, as a
guide to agricultural development practiced lately.

By the early 1950s as new body of literature embracing both technical

(soils, plant nutrition, agronomic, engineering) and economic
consideration was leading to a more rational view of both the farm
management and public policy aspects of soil fertility and the role of
land in agricultural development. With the new perspectives in the
theory, it has been possible to analyze and test the resource scarcity
more rigorously using the study of scarcity and growth by Barnett and
Morse taking strong and weak versions of the scarcity hypothesis.

The strong scarcity test is based on change in the unit cost of extractive
output. The definition is based directly on the classical notion that as the
quantity of land that is brought into production declines, larger and
larger dose of labor and capital are required to produce a unit of
extractive output.

The weak scarcity test is based on change in the relative price of the
extractive products. A rise (decline) in the price of the extractive
produce relative to the general price level is taking to indicate an
increase (decrease) in scarcity. The weak scarcity test is generally
regarded as a more relevant measure because the price of extractive
products reflect the effect of expectations regarding the future costs of
exploration, discovery, and extraction of productivity growth in the
extractive industries.

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In spite of the some criticisms, agricultural development efforts carried

out within the framework of the conservation model can continue to
make an important contribution to productivity growth.

? Analytical thinking
Dear distance learners now compare and contrast the resource exploitation
model with the resource conservation model? And comment the superior
desirability of each model to current Ethiopian development
_________________________.

To evaluate the relevance of the model in Ethiopia, it is helpful to assess

the ground that justifies the application of the model. According to the
‘Ethiopian Highlands Reclamation Study’, the ecological and economic
loses are proved to be tremendous. In 1983, degradation was estimated
to cost Ethiopia for about 600 million birr per annum, which was found
to be equal to 14 per cent of the contribution of agriculture to GDP of
the time.
In the current socio-economic development policy of Ethiopia, the
development strategy of agricultural sector emphasizes that the
development effort should be in line with a guiding principle of
conservation based agricultural development strategy. As a result,
conservation model has explicit legal and policy bases of application in
the country. In general after considering ADLI as priority task in the
macro development strategy in current Ethiopia, there are few new
inclusions in relation to agricultural development efforts in the policy
frameworks ensuring the application of conservation model. The
inclusions are:

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• The establishment of Environmental Protection Authority, with

relevant regional and zonal offices, that formulates and
implements rules and regulations regarding the use of land, water
and natural resources of the country.
• The recent regulation enacted to control the use of agricultural
chemicals impacts on the control of various diseases, insects,
weeds and vegetable pests that will in turn contribute a lot to the
sustainability of agriculture.
• Pertaining Ethiopia being signatory of International Convention
on Environmental Protection, which strengthens efforts to
control the existing and potential environmental degradation.
• The attention given to pastoral farming system, which is
practically at a premature, is also another implication to be
looked on environmental conservation issues.

III. The Location model

Dear distance learners, in the previous models locational divergences in
agricultural development and impact of development of nonagricultural
sectors were not brought into agricultural development process. The
location model was initially formulated to explain geographic variations
in the location and intensity of agricultural production in an
industrializing economy. This model primarily explains the changing
distribution of commodity production in response to changes in
transport cost and variations in the national environment. Schultz
formulated the implications of the location model for modern
agricultural development in 1953 as:
• Economic development occurs in a specific locational matrix

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• These existing matrices are primarily industrial-urban in

composition.
• The existing economic organization works best at or near the
center of a particular matrix of economic development and it also
works best in those parts of agriculture which are situated
favorably in relation to such a center.
Schultz presented a rationale for the urban-industrial impact hypothesis
in term of more efficient functioning of factor and product market in
areas of rapid urban-industrial development than in areas where the
urban economy had not made a transition to the industrial stage.

Development polices based on the urban-industrial impact of

agricultural development appear to have limited scope in the poorest of
the less developed countries, where: -
a) The major problem is to initiate and accelerate economic growth
at a sufficient rate to absorb the growing labor force rather than
the geographical distribution of economic activity.
b) The technology necessary for rapid agricultural growth is not
available.
c) The pathological growth of urban centers resulting form
population inflow from rural areas is running ahead of growth in
the demand for non-farm workers.

? Activity!!!
Dear distance learners now develop you own criticisms to the location
model of agricultural development? __________________________.

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This model can be said partially practiced in Ethiopia when the first
effort was made to develop the economy in 1945 when the ten-year
program of industrial development was prepared. At this initial stage of
the policy practice, industrial development was believed to change and
develop the whole economy, while the remaining sectors were
considered to change and develop as a result of the industrialization. By
implication, the model has also been partially exercised in the
subsequent few urban as well as industrial development policy, planning
practices and budgetary allocations of the country. Although, all
policies, plans and strategies on paper insist on the importance of
agriculture sector to Ethiopia, the practice was far from the promise. As
a result, the agriculture sector of Ethiopia did not get the right share in
budgetary allocation as much as its contribution and expected role to
play in the development of the whole economy.

IV. The diffusion model

The diffusion of better husbandry practices and of crop and livestock
varieties has been a major source of productivity growth in agriculture.
Such diffusion must have been an important element in the evolution of
pre-industrialize labor and land intensive conservation systems. The
diffusion model of agricultural development has provided the major
foundation for much of the research and extension effort in farm
management and production economics. Besides, it became the source
of institutionalization of the process of plant exploration and discovery
in many parts of the world.

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 In Britain for example, the effort was organized through a system

of botanic gardens (to facilitate the transfer, test, and introduction
of plant materials)
 The Empirical observation of differences in land and labor
productivity among farmers in any agricultural region from the
most advanced to the most backward.

The development of farm management research and extension occurred

when research experiment station were making only a modest
contribution to agricultural growth. This led to a heavy emphasis on the
analysis of farmer innovations through survey method, accounting
techniques and statistical methods to determine the sources of
productivity and income differentials among farmers. A further
contribution to the effective diffusion of known technology was
provided by the research of rural sociologists on the diffusion process
emphasizing the relationship between diffusion rates and the personality
characteristics and educational accomplishments of farm operators.

The limitation of the diffusion model as a foundation for the design of

agricultural development policies become increasingly apparent as
technical assistance and community development programs failed to
generate either rapid modernization of traditional farms or rapid growth
in agricultural output.

The practical application of the model to Ethiopia is quite relevant.

Although the initial efforts of extension activities on disseminating and
demonstrating fertilizer application, partially improved seeds cultivation
and new farming practices have shown good results, it could not be

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sustained. The effort to acquaint farmers with new farming practices has
not registered significant result even at the beginning. The reason for all
is that, on one hand, the per head income of farmers is not so much
enabling to go beyond the common expenses. On the other hand, the
prices of inputs are continually increasing so that limited further
diffusion. However, the diffusion model has relatively better
importance, wider bases for practices as well as strong sides for
applications as compared to others.

? Analytical thinking
Distance learners, we have said that the diffusion model failed to
generate substantial increase in farm output or modernization of
traditional agriculture, but would you suggest why?

V. The High Pay-Off Input Model

The answer the above boxed question is here: The absence of a body of
agricultural techniques that could be readily diffused from the high
productivity to the low productivity countries and the existence of
significant disequilibrium in the allocation of resources among
progressive and lagging farmers led to the emergence of a new
perspective that agricultural technique is highly location specific and
that techniques developed in advanced countries are not directly
transferable to less developed countries with different climate and
resource endowment.

In Schultz's opinion, the key to transforming a tradition agricultural

sector into a productive source of growth is investment to make modern

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high pay-off input available to farmers in poor countries. Peasants in

traditional agriculture are rational, efficient resource allocators and they
remain poor because of limited technical and economic opportunities.
This implies mainly three types of relatively high productivity
investment for agricultural development: -
 In the capacity of agricultural experiment stations to produce
new technical knowledge,
 In the capacity of industrial sector to develop, produce and
market new technical inputs, and
 In the capacity of farmers to use modern agricultural factors
effectively.

The high-payoff input model has been accepted and translated widely into an
economic doctrine due to the successful results of the efforts to develop high-
yielding modern grain varieties suitable for tropics. The varieties were highly
responsive to industrial inputs, such as fertilizers and other chemicals, and to
more effective soil and water management. The significance of the high pay-off
model is that policies based on the model appear capable of generating a
sufficiently high rate of agricultural growth to provide a basis for overall
economic development consistent with modern population and income growth
requirements and thus the model was heralded as a ‘green revolution’.

As interpreted generally, the model is sufficient to embrace the central concepts

of the conservation, location, and diffusion models of agricultural development.

? Analytical thinking
Dear distance learners, it is now your duty to discuss how the high pay-off input
model embraces the concepts of conservation, location, and diffusion models of
agricultural development._______________________________________________.

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Criticism
• The model does not incorporate the mechanisms by which resource are
allocated among non- marketable public goods such as how knowledge
is transferred, how research is conducted, and other public and private
roles in the course of dissemination of high payoff inputs.
• The model does not explain how economic conditions induce the
development and adaptation of an efficient set of technologies for a
particular society.
• At last, the model does not explain how economic conditions induce the
development of new institutions such as publicly supported agricultural
experiment stations to enable both individuals and society to take fuller
advantage of new technical opportunities.

Although the model was criticized for the major problems of

inapplicability at the micro level, it is implicitly applied in Ethiopia by
establishing the Rural Technology Center in order to produce and
introduce new inputs and equipment designed for improved agricultural
production and productivity but practically unable to be fully effective.
The Rural Technology Centers (started since long during the then
Dergue regime and functional still) have dimensions of diffusion model
as well. In fact, the dissemination of materials produced/installed at
demonstration level also failed mostly because of the activities being
carried out without the participation of peasants from the very
beginning.

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CHAPTER TWO
ECONOMICS OF AGRICULTURAL PRODUCTION
2.1. Introduction
Dear distance learners, in the previous chapter we have tried to indicate
that growth in agricultural production is necessary not only to increase
food availability and raise nutrition levels of the population; but it is also
essential to the overall economic development process. At the same time
indeed it is accepted that a prerequisite for rapid economic growth is
channeling of agricultural surplus to the non-farm sector. In light with
this view, in this chapter particular attention will be given to (i) the
factors which influence the supply of agricultural product, (ii) the factors
which govern the usage of productive inputs (labor, fertilizer,
machinery, etc…), (iii) the efficiency of resource use and (iv) the impact
of technological change. Let us remind ourselves that these topics are
central to the role of agricultural markets and in particular to the design
of effective development policies aimed at motivating agricultural
producers, mobilizing resources in the sector and spreading new
technologies. In this chapter we present the main elements of the theory
of agricultural production economics, which is concerned, with the
allocation of scarce resources to alternative uses. Here the decision-
making unit is either the firm in commercialized agricultural production
or the peasant in non-commercialized peasant agriculture.

Microeconomics provides few basic principles, laws and relationships

applicable to agricultural production and resource use. The following
table summarizes these fundamental relationships in agricultural
production economics.

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Box 4
Principles of Economics Explaining Management decision

1 Principles of Diminishing Factor-Product How much to produce?

Returns or Increasing costs relationship [optimal level of resource
use]
2 Principle of substitution or Facto-Factor How to produce? [Least-
least cost combination relationship cost method]
3 Principle of opportunity Product–Product What to produce?
cost or equi-marginal relationship [Enterprise Selection]
returns

2.1 Physical and Economic Relationships of Agricultural

production

? Brain Storming!!!
Dear distance learners, please attempt to define the word production
______________________________________________________.

Production in agriculture can be defined as the process of combining

resources (labor, fertilizer, mechanical implements….) in the creation of
agricultural products. Producing a ton of wheat, for example requires in
addition to suitable climatic conditions, some amount of arable land,
seed, fertilizer, equipment such as ploughs, and human labor. From this,
we can understand that production varies in a systematic way with the
level of input usage, and economists call this relationship as production
function, which mathematically can be expressed as:
Q = f (x1, x2,…,xn)
Where Q = quantity of specific product
x1,…,xn = quantities of n inputs used in the production process

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The function purely states that output is related to the levels of input
usage. The production function is purely physical concept: it depicts the
maximum output in physical terms for each combination of specified
input in physical terms. It relates to a given state of technology. The
technical aspects of production are discussed in terms of.
1. Factor- product relationships
2. Factor- Factor relationships
3. Product - product relationship

2.2.1 Factor-Product Relationship

If it is assumed that all inputs except one (fertilizer denoted as x1) are
held fixed, the relationship between output and single variable factor can
be denoted as:
Q = f (x1 / x2,…, xn )
The above relationship is represented by the Total Physical Product
(TPP) curve in the following figure. For inputs like fertilizer, irrigation
water, weedicides, etc, one would expect some level of output even if
there were zero application of input and the graph starts at some level
above the horizontal axis. For other inputs like seed, labor or land, a
zero input would cause zero output and the production function begin at
the origin of the graph.

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Qty of output

TPP
A
Q0

Stage 1 Stage 2 Stage 3

0 X’1 X0 1 X’’1
X1/x2…xn
Fertilizer input

APP and
MPP
Stage I Stage II Stage III

APP

X’1 X0 1 X’’1 X1/x2…xn

MPP

The relationship states that as more of fertilizer (x1) is applied, output

(Q) increases until maximum, associated with input usage (x’’1) is
reached. Further application of fertilizer will only serve to reduce the
total output.
Three aspects of factor-product relationship will be of interest:
i) Marginal physical product (MPP)
ii) Average physical product (APP)
iii) Input elasticity (partial elasticity of production)

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I. Marginal Physical Product (MPP) of the variable input

? Activity!!!
Dear distance learners from your microeconomics background, please define
what Marginal Physical Product (marginal productivity), and the law of
diminishing returns mean. How do you compute Marginal Physical Product?

Dear distance learners, form the very beginning we have noted that our
production function is constructed keeping other resources such as land,
labour, and production technology constant. Under such conditions
though output grows with successive increases in fertilizer application,
the amount by which it grows changes because of the existence of fixed
quantities of resources

The concept, which measures the quantity of additional output obtained

for each successive additional input is called the Marginal Physical
Product (MPP). It is defined as the change in output resulting from a
small change in the variable input expressed per unit of the input;
alternatively it is the slope of the total product curve at any point.
For a discrete change:
MPPx1 = ∆Q where ∆ signifies “change in”
∆x1

For an infinitesimal change:

MPPx1 = δQ where δ signifies “derivative of”
δx1

The slop of the TPP curve, i.e. MPP first increases and is maximum (the
slope of TPP is at greatest) at the point of inflection of the curve (x’1), it
is zero at the point of maximum TPP (x’’1) and becomes negative at

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input levels beyond x’’1. MPP curve slopes continuously downward

reflecting lower and lower additional output for each successive unit of
input.

II. Average Physical Product (APP) of the variable input

Distance learners, there is a very important measure of productivity of
factors of production the average productivity. It is defined as total
product divided by the total amount of the variable input (fertilizer)
used in production.
APPx1 = Q
x1

The APP is the slope of the line from the origin to the relevant point on
the TPP curve (A) at input level x01, where APPx1 = MPPx1, i.e., the
slope of the TP curve equals to the slope of a line from the origin at x01.

III. Input elasticity

Another important measure of the physical relationship between an
output and a single variable input is the input elasticity (partial
elasticity of production). It is defined as the percentage change of
output resulting from a given percentage change in the variable input.
E = % change in output
% change in input
E = dQ/Q = dQ*x1
dx1 /x1 dx1*Q

E = MPP * 1 = MPP
APP APP

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The relationship between E, MPP and APP can be summarized as:

 The area of diminishing marginal returns on production function

occurs When MPP<APP, but it is not negative, i.e., 0< E< 1.
 E > 1 and E < 0 define areas of the production function in which
it would not be economically logical for the farmer to operate.
- The first case (E>1) is because output grows more than
proportionately with any increase in input, which means
the farmer could always gain by using more of the input.
- The second case (E<0) is because output decreased as a
consequence of using more input and the farmer clearly
does better by reducing input use.

When summarized, the discussion on the physical relationship of factors

and products, all production functions must satisfy two conditions to
make economic justification acceptable:
a. The MPP should be positive and declining, i.e. the equation
should have a positive first derivative [dQ/dx > 0]
b. The equation should have a negative second derivative [d2Q
/dx2< 0], i.e. the response of output to increasing level of input
must be rising but at a decreasing rate.

Distance learners notice that the TPP, MPP and APP curves have been
divided into three stages. Since you are very well familiar with these
stages, let us remind you with the following summary:

 Stage 1 is defined to be that in which APP of x1 is rising, and

MPP is above APP. With each additional units of fertilizer, more

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is being added to total product. In this stage, the fixed input is not
utilized efficiently.
 In stage 2 both APP and MPP of x1 are falling but are positive
 In stage 3 MPP of x1 is actually negative. In this stage additional
units of fertilizer reduce total product i.e. the marginal product of
fertilizer is negative. The fixed inputs are overloaded and the
producer’s interest would be better served by using less fertilizer
(moving back out of stage 3).
Distance students, it would therefore be predicted that the optimum
position in terms of variable input usage will lie somewhere in stage 2

? Activity!!!
Dear distance learners given the production function Q = 2200 + 25x1 - 0.10x12,
where x1 is the variable input, fill in the TPP. After constructing the APP and MPP
equations, compute and fill the corresponding values in the blank columns.

Units of
Fertilizer (x1) TPP (tones) APP MPP
A 0
B 25
C 50
D 75
E 100
F 125
G 150

2.2.2. Economic Optimum level of resource use

The most efficient level of variable input depends on the relationship
between the price of the input and the price of output. Then in deciding
the economically optimal usage of a single variable input, the farmer
requires three pieces of information: (i) the MPPx1, which indicates the
contribution of the variable input to total output; (ii) the price per unit of

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the final product (Py); and (iii) the price per unit of the variable input
(Px1). The value of an additional unit of the input to the producer is the
extra revenue, which will be forthcoming as a result of greater input
usage. This is measured by the value of marginal product (MVPx1)
where:

MVPx1 = MPPx1*Py [When the farmer is price taker in

competitive market]

Economic Optimum yielding maximum profit will be attained where the

value of the marginal product of the variable input is equated to its price:
MVPx1 = Px1; or MPP x1 = Px1
Py
At the particular level of input usage associated with the optimal
condition, the farmer is said to be in equilibrium (no incentive to alter
the production plan).

 When MVPx1 > Px1, an additional unit of the input would yield
more to the producer interns of extra revenue than it would cost,
thus more profit would be obtained if an extra unit were
employed
 When MVPx1 < Px1, the last unit of the input employed
contribute less to revenue than it added to cost, hence less of the
input should be used.

Activity ??
Dear distance learners, to grasp a clear picture on the economic
optimum of resource use, assume that the market prices for the variable
input (fertilizer) and the final product (maize) are $1.00 and $0.10 per
unit respectively. Now taking the information in the above activity,

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attempt to find the level of input use (economic optimum) where the
value of marginal product of the variable input is equal to price of the
variable input i.e.
VMPx1 = Px1; or MPP x1 = Px1
Py

2.3. Factor-Factor relationship

? Analytical thinking
Dear distance learners, let us come to very practical production method that
farmers apply today. Do you think that farmers use only one variable
productive resource in one season? ________________________________.

2.3.1. The physical interaction between inputs

Typically in a given production period, there would be more than one
variable factor of production. For example in the production of wheat,
fertilizer, seed, and labor services may be variable, while land and
mechanical implements may remain fixed. Now our main interest is in
the relationship between output and the set of variable inputs and the
extent to which one variable factor may be substituted for another.

In this case, the idea that two or more variable inputs may be combined
in different quantities to produce the same output is called the principle
of factor substitution (or the law of variable factor proportion). It
applies whenever alternative combinations of input can produce the
same level of output.

Assuming two variable inputs, the production function is defined as:

Q = f (x1, x2 / x3…xn)
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This relationship will be illustrated by an isoquant map (or iso-product

curve). It is a contour line or locus of different combination of the two
inputs, which yield the same level of output.

Qty of x1

A
X10

X11 B Q = 15
Q = 10

Qty of x2
X2 0 X21

From the above figure one can easily understand that both the input
combination at point A and that at point B can produce ten units of
output.
In moving from A to B, the amount of x1 decreased from x10 to x11 and
that of x2 increased from x20 to x21, i.e., x2 substitute for x1.

The rate at which one input substitutes for another at any point on the
isoquant is called Marginal Rate of Substitution (MRS) and it can be
measured as the slope of the isoquant curve. MRS measures the rate at
which one input must be substituted for the other if output is to remain
constant.
Numerically,

MRS of x2 for x1 = ∆x1 or δx1

∆x2 δx2

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MRS is negative since more usage of one input is associated with less of
another, i.e., the isoquant is downward sloping. However, the negative
sign is often omitted.

Isoquants are convex to the origin. This means that MRS tends to
diminish as more of one factor is used to replace the other. The
Diminishing Marginal Rate of Substitution (DMRS) results from the
principle of Diminishing Marginal Returns (DMR) which states as
substitution proceeds it requires more and more of input x2, to replace a
single unit of x1 in order to maintain the same level of output.
There are different rates of substitution between inputs:
I. Decreasing Rate of Substitution, the input being increased
substitutes for successively smaller amount of the input
being replaced. MRS of x2 for x1 at A is greater than at B

X1
A

B
Q

X2

II. Constant Rate of Substitution, the amount of x2 required to

replace a unit of x1 remains the same. MRS is constant

X1

δ=∞

X2

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III. Complementary Substitutes, there are no substitution

possibilities since the inputs must be used in fixed proportions.

X1

δ=0

X2

However, the MRS as a measure of the degree of substitutability of

inputs has a serious defect in that it depends on the units of
measurements of the inputs. A better measure is provided by the
elasticity of substitution (δ) which is defined as:-

δ = Percentage change in x1 /x2

Percentage change in MRS

This is a pure number, which is independent of units of measurement.

The numerator is the percentage change in input, the input ratio, or
factor intensity

In the decreasing rate of substitution, the factor intensity at A in the

figure above is given by the slope of the ray (OA) from the origin to
the isoquant. In the above diagram, when we move from A to B, the
ratio of x1/x2 falls and as x1 intensive production is replaced by an x2
intensive production. Similarly, the denominator is the percentage
change in MRS as we move along the Isoquant.

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In constant rate of substitution, where inputs are perfect substitutes, the

denominate for MRS is zero, hence δ = ∞. In complementary input,
since inputs are in fixed proportion, numerator is zero, hence δ= 0

2.3.2. Economic Optimum Level of Resource Combination

To determine the appropriate level of input use when there are two
variable factors of production, a producer must know the rates at which
input are exchanged in the market [their relative prices] as well as the
rates at which they can be exchanged in production [their MRS].
To illustrate the former, we introduce isocost line, which is the locus of
all combinations of two variable inputs, which the producer can
purchase with a given cost outlay.

X1
Co
Px1

Co = PX1X2 + PX2X2

Co X2
Px2
The slope of the isocost line is the ratio of input prices
= (-) Px2
Px1
The least cost combination of the two inputs occurs at a point of
tangency between isocost line (C0) and an isoquant line (Q). At this
point the slope of the isocost line is equal to the slope of isoquant.

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X1

X2
At point A, MRS of x2 for x1 = (-) PX2
PX1
Mathematical implications, in summary, on the factor-factor
relationships can be looked as:
Y = f (X1, X2)
MPPx1 = dy and MPPx2 = dy
dx1 dx2
Inverse ratios of MPP = MRS
MPPx1= dy . dx2 = dx2 = MRSx1x2
MPPx2 dx1 dy dx1
The inverse ratio of MPP of each input equals the inverse ratios of their
prices. Therefore,
MPPx1 = P1 by cross-multiplying
MPPx2 P2

MPPx1 = MPPx2
P1 P2
?? Critical thinking
Dear distance students, assuming the reality in your locality, how do peasants
choose the type of crops when there is differences in soil type or differences
in season (short or long rain) or when there will be shortage or excess labor
supply? _______________________________________________________

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2.4. The Product-Product Relationship (Enterprise choice or

physical interaction between outputs)
Dear distance learners, now our analysis is extended to the multi-
product firm, since most farmers have a range of alternative crops they
could grow for a given availability of input. As an example we can take
the following:
• Growing two different successive crops with short growing seasons on
the same land.
• Utilizing different kind of land for the crops most suitable to the
different soils.
• The practice of mixed cropping which permits a fixed labor resource to
cultivate simultaneously several different crops.
It is assumed that the producer can produce two products, Wheat and
Maize, each output being produced by a set of n inputs.
Production function for wheat and maize can be specified as:
QW = f1 (X1, X2, ……..,Xn)
QM =f2 (X1, X2 ……….Xn)
A Production Possibility Frontier (PPF) or [transformation curve] can
illustrate the production options, which are technically feasible for the
above two production functions. This curve is the locus of combination
of outputs [wheat and maize], which can be produced with a set of given
inputs and assuming a particular state of technology.

PPF
Qty of W0 a

c
b

Qtity of M0

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The slope of the PPF represents the Marginal Rate of Transformation

(MRT) of Maize for wheat
MRTMW = ∆ QW
∆ QM

It is the amount of wheat on the vertical axis (dy1), which can be

obtained by giving up one unit of Maize on the horizontal axis (dy2). In
other words, MRT measures the increase in y1 (wheat), which results
from a small decrease in y2 (Maize)
It should be noted that an efficient farmer would chose to operate at
some point on the PPF. A point inside the PPF would mean an
inefficient use of resources, since with the same level of inputs, more of
at least one of the product could be forthcoming specially in the ab
segment of the carve.

2.4.1. Economic Choice of Enterprises

W Iso-revenue lines

W0

W*

1500
1000
500
M
M* M0

Iso-revenue lines are different combination of outputs (wheat and maize)

which yield a given levels of total revenue. The slope of the Iso- revenue

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lines equals the inverse ratio of output prices. The slope is negative
because for total revenue to remain constant increased income from one
output is associated with decreased income from the other. The optimum
combination of enterprise occurs at the point of tangency of an iso-
revenue line with the PPF, since any iso-revenue lines to the left of this
point would represent lower returns. Therefore, the optimal allocation
point is at: W*. Pw + M*. Pw = 1500 birr
In General
Taking Y1 = f(X1) the single variable input, x, has two
Y2 = f(X1) MPPs, one for each functio

MPP (y1) = dy1/dx1

MPP (y2) = dy2/dx1
The MRT of output y1 into output y2 is MRT12 that is equal to
MPPy1 = dy1 * dx1 = dy1
MPPy2 dx1 dy2 dy2

The MRT equals the ratio of MPPs for a given resources between the
two enterprises.
MRT12 = P (y2)
P (y1)
Therefore at the optimum point,
= MPP(y1) = P(y2)
MPP(y2) P(y1)
= MPP (y1)*P(y1) = MPP(y2) *P(y2)

MVP (y1 )= MVP (y2)

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When the above mathematical applications are summarized, the

optimum choice of enterprise occurs when the Marginal Value Product
(MVP) per unit of a variable resource is equal in both enterprises. This
is called the principle of Equal-Marginal Returns. It says that a
variable input should be transformed from one enterprise to another up
to the point where the MVP of each unit of the input is equal for both
enterprises. The two concepts mostly associated with the economic
choice of enterprises are Opportunity cost and Comparative advantage

A. Opportunity Cost: Opportunity cost of any resource may be defined

as the maximum income that the resource could have obtained in an
alternative use. For example, if farmland could earn more by turning
into a holiday resort then the opportunity cost of continuing to use it in
farming is the income, which could have been obtained by leasing it to a
hotel resort.

B. Comparative Advantage: It refers to the physical resources best

suited to the production of different crops/livestock which exist in
different locations e.g. at the level of a single farm which has land of
difference qualities, it makes sense to grow alternative crops on the land
economically best suited to each crop.

Both on-farm and off-farm sector comparative advantage may change

over time due to:
a) Change in technology (new variety, equipment, etc)
b) Land improvement (drainage, irrigation, etc)
c) Change in relative input costs or output prices in different location
d) Changes in transport cost (opening of new roads)
e) Development of substitute outputs (synthetic fibers)

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CHAPTER 3
THE THEORY OF OPTIMIZING PEASANT

3.1 Introduction
Dear distance students!! We have now gone through the roles and
historical perspectives of Agricultural Economics, which is believed to
acquaint with different models of agricultural development perspectives.
Since development is a complex phenomenon, the way to advance from
traditional to modern agricultural development is also becoming a heavy
task these days. This is evident in the present Ethiopian cases when
majority of the population is still under agrarian situation. The
transformation of the agrarian system into more advanced form of
agriculture is the corner stone of the whole economic growth. How the
peasant’s livelihood will be improved? is the whole issue circled in
major economics studies in general and agricultural economics in
particular. Before one goes into the solutions, it is relevant to look first
the major behavior of peasants associated with the principles of basic
economics. If we are well aware of the distinctive behavior of peasants
from other sects of the society, then we are in a good position to seek
answers why peasants are still in agrarian forms and how profitably can
the system be transformed into advanced forms. The next topic will be
all about studying the behavior of peasants.

Critical thinking??
Think of any hypothetical peasant in your locality and try to define in your
own words what peasant is to mean using the social norms and the economic
principles you have been employed yet?

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3. 2. Optimizing behavior of peasants

3.2.1. Peasants and economic efficiency
The quest for a definition of peasants based on social characteristics,
which differ from other social groups, is associated mainly with the field
of social anthropology. The word social here does not signify lack of
economic content; it merely focuses on peasants as communities rather
than as single individuals or households. A characteristic, which is often
stressed, is that peasant societies in some sense represent a transition;
they stand midway between the primitive tribe and industrial society.
Broadly it could be possible to look peasants based on some
characteristics like transition, markets and exchange, subordination and
internal differences among the peasant society. Peasants are seen as
representing a transition from relatively dispersed, isolated, and self-
sufficient communities towards fully integrated market economies. The
idea of transition gives rise to several other relevant features of peasant
societies. One of these is that peasants as a social group are always part
of a large economic system. This means that peasant societies participate
in exchange with the larger system, and that peasant production is
exposed to market forces. The idea of subordination implies unequal
social or cultural status, coercion of one social group by another, and
unequal access to political power. Therefore, by identifying peasants as
a distinctive social or economic group, and by stressing their
subordination to other social groups, there is a risk of overlooking
differences of social and economic status within peasant society itself.
Peasants are not a uniform, homogeneous, set of farm families all with
the same status and prospects within their communities. On the contrary,
peasant societies are always and everywhere typified by internal
differentiation along many lines.

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So far we look the definition of peasants from social perspectives, which

give peasants a definite identity with dimensions of history, change,
society, economic activity and use of resources. On the other hand,
when the economic definition of peasants is concerned it lies in two
central concepts: partial integration into markets and limitations in the
operation of market principles.

In economics market imperfection is a relative concept, which is defined

by comparison to a hypothetically ideal perfect competition. Perfect
competition emphasizes the neutrality of the price mechanism and its
role as the arbiter of all economic decisions. There are many buyers and
sellers in the markets for both inputs and outputs. No producer or
consumer is able to influence price levels by individual action. There is
freely available and accurate information on market prices. There is
freedom of entry and exit in any branch of activity.

Peasant communities often confront markets, which differ markedly

from the perfect competition ideal. There may be no markets or
incomplete markets for such important resources such as land, labor and
credit. By incomplete markets we mean markets which function
sporadically and in a disconnected way across location and time.
Markets for farm inputs and farm outputs sometimes do not work well
due to generalized economic collapse, resulting in erratic availability of
imported input like fuel, spare parts, fertilizer; and lack of consumer
goods in rural areas. Sometimes they do not work well due to poor
transport and communications. To varying degrees, peasant society may
feature non-market, or reciprocal, transactions between farm
households. Reciprocity refers to exchanges, which are culturally
defined, non-replicable between one event and the next, and involve
unlike goods and services.

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Distance students! We can now summarize the economic definition of

peasants as follows and compare it with your own definition:
Peasants are households, which derive their livelihoods mainly from
agriculture, utilize mainly family labor in farm production, and are
characterized by partial engagement in input and output markets, which
are often imperfect or incomplete.

Therefore, looking the very characteristics of peasants as family farmer,

partial engagement in market and imperfection to those market,
according to schultz, farm families in developing countries were
characterized by efficient but poor and thus there are comparatively few
significant inefficiencies in the allocation of the factors of production in
traditional agriculture.

The proposition that peasants are efficient ascribes to the peasant

household with the motivation of profit maximization because efficiency
and profit maximization are two sides of the same coin. Since economic
efficiency requires a competitive market, by the very definition of
peasants, their partial engagement in imperfect market, strict economic
efficiency is ruled out. However, there are several valid reasons for
examining what is meant by economic efficiency in the study of
peasants. Three points are important here: -
a) Profit maximization hypothesis does not require the existence
of profit in the form of sum of money. What it requires is for
there to be no adjustment of inputs or outputs which would give
the household a higher net income whether measured in money
or physical terms, and this applies equally to a near subsistence
household as to a fully monetised one.

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b) Profit maximization has both a behavioral context (motivation)

and a technical-economic context (farm economic
performance).
c) Even if the nature of peasant economy inhibits the attainment of
efficiency in its strict neoclassical sense, this does not mean that
a strong element of economic calculation can’t exist in the
context of multiple goals and constraints of the farm household.

Thus profit maximization conditional on the goals; constraints and

markets confronted by farmers may exist even if strict efficiency is not
observed.

3.2.2 Technical, Allocative, and Economic Efficiency

A. Technical Efficiency
Dear distance students, in our previous discussions, it was assumed that
farmers operate on the Production Possibility Frontier (PPF) available to
them. It also can be assumed to operate on the outer bound of the
production function, i.e., the technically most superior production
function available to them. The problem with this assumption is that it
overlooks the inefficiency that result from operation on an inferior
production function. In effect the profit maximization model tends to
focus on only one aspect of efficiency, which is the adjustment of output
and inputs to their relative prices. To perceive this problem, consider the
simple production function portrayed in the following figure:

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a TPP1
Q

c TPP2

Xi
The important points, which are relevant here, are: -
TPP1 displays higher output for all positive levels of input use than
TPP2, i.e., TPP1 is technically superior to TPP2. A farm operating at any
point on TPP1, say points a or b is more technically efficient than farm
operating on TPP2, say points c or d. Technical efficiency, then, is
defined as the maximum attainable level of output for a given level of
production input, given the range of alternative technologies available to
the farmer.

B. Allocative (Price) Efficiency

It refers only to the adjustment of input and outputs to reflect relative
prices, given the state of technology. This will occur when the Marginal
Value Product (MVP) is equal to Marginal Factor Cost (MFC) for any
single variable input, and that MVP per unit of input should be equal
across different outputs. This is what is termed as the Principle of equi-
marginal returns (as stated in previous discussion), which states that a
variable input should be transferred from one enterprise to another up to
the point where MVP of the input is equal for both enterprises.

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TFC (total factor cost) = cumulative cost incurred as input use increases.
MFC (marginal factor cost) = the addition to total cost as a result of
successive uses of input. MFC = price of the variable input (PX).

In order to see the distinction between the two terms (technical and
allocative), we refer to the simple production function displayed above: -
i) Point d on TPP2 display both technical and allocative
inefficiencies
ii) Point c on TPP2 displays allocative efficiency but technically
inefficiency.
iii) Point b on TPP1 displays technical efficiency but allocative
inefficiency.
iv) Point a on TPP1 display both technical and allocative
efficiencies

C. Economic Efficiency
The achievement of either one of the efficiencies [Point b or c] may be
seen as a necessary but not a sufficient condition for economic
efficiency. The simultaneous achievement of both efficiencies (Point a)
provides the sufficient condition to economic efficiency.
Distance students!! It can also be possible to understand in a better way
the technical, allocative and economic efficiencies using the isoquant
and PPF curves. Both reveal the same output as studied using the
production function. Please refer to the following figures

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Isoquant and Efficiency

X1
d

c
Q2 = 100 qt
a
b Q1 = 100 qt

X2
Where X1 and X2 are variable inputs

Point “a” is the allocative efficiency points on this technical efficient

Isoquant (Q1), which is economically efficient.

Production Possibility Frontier and Efficiency

PPF2
Point “a” is the allocative
efficiency position on the
Q1 PPF1 a technically efficient PPF2.

b
d

Q2
Given data on the price of input (for example wage rate per hour for
labor denoted by w) and the price of output, then an average farmer
achieves allocative efficiency when: the slope of the production function
(MPP) equals the inverse ratio of input price to output price at the profit
maximization point.

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MPPL = w where w= wage rate

P P= price of output
Then, MVPL = 1
w
The Marginal Value Product (MVP) of a variable input divided by the
input price should equal to one if allocative efficiency is being observed.
This ratio is called the ALLOCATIVE EFFICIENCY RATIO (k) for a
single input where:
K = MVP for any variable resource, x.
Px
K should be close to one for the allocative efficiency hypothesis to be
achieved.

3.2.3 Policy Aspects of Peasant Households

Dear distance students, it is to be recalled that the implications for
economic policy of the theory of profit maximizing peasant depend on
the degree of acceptance of the various components of the efficiency
hypothesis. Therefore, the major policy implications vis-a-vise the
efficient hypothesis of peasants could be generalized as:
1) Peasants are efficient with in the constraints of existing
technology, and then change in technology will be determinant
in transforming peasant production system into modern and
advanced system of [transferring approach] the economic
growth.
2) On the assumption that farmers are allocatively responsive to
price changes, then manipulation of input and output prices
(through credit schemes, subsidized fertilizer) may have the
effect to lower costs.

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3) If inefficiencies result from market failures, then the working of

markets should be improved.
4) If farmers are technically inefficient then farmer education and
extension has a major role [improvement approach].

3.3 The Risk-Averse Peasant

3.3.1 Uncertainty and Peasants
The pervasiveness of various kinds of uncertainty like natural hazards,
market failure, and improper state actions in peasant production has
important implications for its economic analysis and for the
interpretation of its future prospects. The propositions and arguments,
which surround uncertainty, are:
I. It results in sub-optimum economic decisions at the micro
economic level of the unit of production [absence of profit
maximization]
II. It results in unwillingness or slowness to adopt innovations
[peasant conservatism]
III. It results in using various farming systems, like mixed cropping,
which represent to uncertainty.
IV. Its impact is more severe for poor than for better-off farm
households, implying that it reinforces social differentiation.

3.3.2 Types of Uncertainty

Uncertainty is a condition, which in varying degrees surrounds all forms
of activity in a market economy. It is considered more of a problem for
agricultural production than for industrial production due to the
influence of climate and other natural factors on output, and the length
of the production cycle. The different types of uncertainty are:

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a. Natural hazards
Natural hazards brought unpredictable impact on output due to climate,
pests and diseases, and other natural calamities. Climate may affect the
outcome of planting decisions at all stages [from cultivation to harvest].
Combating pests and diseases depend on ability to purchase pesticides
and herbicides. This is also called yield or output uncertainty.

b. Market fluctuations [price uncertainty]

The lengthy lag between decision to plant crop or rear livestock and the
achievements of output lead to unknown market prices at the time of
decision-making. It is assumed to be severe for perennial crops. Lack of
information and market imperfection are also sources for price
uncertainties.

c. Social uncertainty
This is the major source to insecurity caused by differences in resource
control, which lead to peasant household dependence on devices like
crop sharing and usury. This is due to unequal ownership of land in
peasant communities representing high level of uncertainty.

d. State actions and war

Peasant economies as a whole are susceptible to decisions by state
agencies and external donor agencies (like IMF, World Bank, etc).
Peasants are often caught up in guerilla wars, subjected to expeditions
by either side in an armed struggle. Above all, the insecurity of refugee
will be higher for peasant families who typically have very few social
and legal rights in their countries of adoption.

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3.3.3. Definitions of Risk and Uncertainty

The terms Risk and Uncertainty are not strictly interchangeable in the
economic context: risk has a rather precise meaning which is distinct
from the descriptive sense of uncertainty.
RISK: is restricted to situations where probabilities can be attached to
the occurrence of events, which influence the outcome of a decision-
making process.
Example: If drought occurs on average in two years out of five, the
probability of a drought as risk occurring is 2/5 = 0.4 = 40%.
UNCERTAINTY: a situation where it is not possible to attach
probabilities to the occurrence of events. The likelihood of the
occurrence is neither known by the decision maker nor by anyone.
The distinction between them underlies through the following basis:
i. Risk as an objective matter: Assuming that enough information
is available from weather station records, and other research and
extension institutes, risks can be measured while uncertainty
cannot.
ii. Risk is based on decision makers’ personal degree of belief
about the occurrence of events.
iii. Risk is based on the subjective problems attached by farm
decision makers to the likelihood of occurrence of different
events.
Hence the term risk is used to describe the entire mechanism by which
farmers make decisions with respect to uncertain events. While
uncertainty refers to the character of the economic environment
confronting peasant farm households, an environment, which will
contain a wide variety of uncertain events to which farmers, will attach
various degrees of risk.

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3.3.4. Analysis of Risk Behavior

Distance students, now you are clear with the definition of risk, which is
central to the topic of discussion. If so, then there are two distinct
approaches to subjective probability associated with the definition of
risk. The first approach is to treat probability, and hence risk, as variance
either side of the expected average outcome of uncertain events.
Therefore, risk in this approach is the probability of events occurring
which result in incomes above or below the average expected income in
a succession of crop seasons.

The second approach is to treat risk as the probability of disaster that is

to mean the probability that the variable outcome of certain events will
take on a value less than some critical minimum or disaster level. This is
closer to the dictionary definition of risk than the former approach. For
the analysis of the impact of risk on the situation and behavior of poor
peasant families, we stick to this definition.

The implications of risk for the neoclassical model of farm production

can be studied as follows. Now distance students you are provided with
three different response curves of output to a single variable input, say
units of purchased fertilizer. The response curves are in value terms;
they are total value product (TVP) curves, so that features of profit and
loss are shown. The figure is designed to explore the income variance
approach to risk. Assuming that the risk situation, which it describes, is
one of uncertainty about the weather, there are only two events, which
can occur:
1. The weather may be good (best crop yield)
2. The weather may be bad (poor crop yield)

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a
b
TVP1
TVPY c

b1 E(TVP)

TFC
c1 a1
b2
b3
c2
a2

TVP2

X2 XE X1 X (fertilizer input)

• TVP1 = TP*P; TVP is the total value product response to

increasing level of fertilizer input in good year.
• TVP2 is the total value product response to increasing level of
fertilizer input in bad year.
• Total Factor Cost (TFC) traces out the cumulative cost incurred
as fertilizer use increases.
• E (TVP) The expected total value product given the farmer’s
subjective views about the likelihood of occurrence of good and
bad seasons. In this example the farmer expects 3 years out of
every 5 years to be good, and 2 years out of 5 years to be bad.

Hence,
P1 = Probability of good season = 3/5 = 0.6 = 60%
P2 = probability of bad season = 2/5 = 0.4 = 40%
E (TVP) = P1 (TVP1) + P2 (TVP2)
E (TVP) = 0.6 (TVP1) + 0.4 (TVP2)

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The three alternative operating positions X1, X2 and XE, each of which is
allocatively rational depending on the farmer’s subjective preferences
with respect to risk can be further analyzed as:
A. Input use X1
Consistence with allocative efficiency on TVP1, it occurs that the largest
possible profit, aa1 is obtained. If TVP2 occurs a substantial loss, a1a2 is
occurred. A farmer choosing to operate at this position is described as
risk-taking. He/She prefers to take the largest possible profit will come
[where aa1> a1a2]
B. Input use X2
Consistence with allocative efficiency on TVP2, the farmer makes a
small profit, c1c2 is obtained. If TVP1 occurs a profit, cc2 is obtained. A
farm operating at this position is described as risk-averse. He/She
prefers to act as if the worse possible outcome will happen.
C. Input use XE
Consistence with allocative efficiency on balanced assessment of the
average outcome of good and bad seasons, if TVP1 occurs a profit, bb2,
is obtained but this is not the largest possible profit on TVP1. If TVP2
occurs a loss, b2b3, is occurred and this is not the smallest lose possible
on TVP2. A farmer choosing to operate here is described as risk-neutral.
The above analysis is based on income variance approach to risk. TVP1
and TVP2 represent the variation either side of the average response
curve of output to input (fertilizer) and their position on the graph is
defined in terms of the level of subjective probability attached to each of
them.
Risk aversion occurs here as a matter of personal choice between several
alternatives. It is used to illustrate the idea of risk aversion as a response
to the problem of disaster. This response for disaster avoidance is what

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Lipton meant by the survival algorithm of peasant farmers. Lipton’s

argument is that poor small farmers are of necessity risk-averse. This
can be justified, as the poor small farmers can’t afford to cover their
household needs from one season to the next since if they fail to do so
they will starve to death. In order to avoid disaster the farmer must
operate with input use in the vicinity of x2, no other operating position
will do.
The notion of disaster avoidance is sometimes referred to as the safety
first principle. More precisely it means that decision-making is
constrained by the farmer’s unwillingness to risk obtaining a net income
below a given level unless the probability of it falling below that level is
very low indeed.

Economic rationality in the pure neoclassical sense demands that the

farmer should operate at the point where: E (MVP) = MFC [the
expected MVP of input equals the price of the input]. This is the profit
maximizing position taking good years with bad over a season.
A device called decision tree analysis facilitates further understanding
of decision theory. A simple decision tree is set out and it contains
example figures, which are compatible with the earlier analysis of a
production decision.

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Decision tree analysis of a risky decision problem

Acts States Probability Outcomes
(Decision making choices) (Uncertain events) (Net Pay offs)

Good (s1) 0.6

= 2000 birr
Max fertilizer (a1) A

Decision Bad (S2) 0.4 = -375 birr

node

Good (S1) = 1300 birr

Min fertilizer (a2) 0.6
B
Chance
node
0.4
Bad (S2) = 300 birr

The components of the decision theory approach can be interpreted to

give somewhat broader understanding on the basic terms as follows:
Act: This is the set of alternative actions between which a choice must
be made.
• Apply fertilizer in full up to the recommended agronomic
practice = act a1 or, apply a token amount of fertilizer = act a2.
These are the discrete equivalents of courses of X1 and X2
States: these are uncertain events or states of nature, which may occur,
and influence the outcome of whatever decision is taken.
Good weather (S1)
Bad weather (S2)
• These are the same as the states underlying TVP1 and TVP2.
Probabilities: degrees of belief held likelihood of each state occurring.
• P1 and P2 are 0.6 and 0.4.
Outcome: The decision between two or more decisions (acts) leads to
specific outcome (payoff)
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Profit of birr 2000 – Good weather

Act a1 =
loss of birr 375 – Bad weather

Profit of birr 1300 – Good weather

Act a2 =
Profit of birr 300– Bad weather

Solution procedures: the solution method for a decision tree problem

begins from the right hand side and works backward towards the
decision node. The major steps that should be followed in coming the
solution procedures are:
A) Calculating the EMV [expected money value] of the outcome of
each node.
• Chance node A
0.6 x 2000 - 0.4 x 375 = 1050 EMV
• Chance node B
0.6 x 1300 + 0.4 x 300 = 900 EMV
B) Eliciting from the farmer the certainty equivalent (CE) net income
which corresponds to the risky outcomes of each act:
• The farmer will have a risk-averse CE for a1 of 850 birr because
it is less than 1050 birr.
• The farmer will have a risk-neutral CE for a2 of 900 birr because
it is equal to 900 birr.
C) Rejecting the alternative, which has the lower CE: in the above
example act a1 is eliminated and the farmer would maximize utility
by choosing act a2.

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In summary the outcome of risk-averse decision-making is different

from profit maximization. The profit-maximizing alternative in the
above problem is act a1 [Expected Money Value (EMV) came as the
result of the above calculation as 1050 birr], but risk aversion means that
act a2 is chosen using certainty equivalent calculation. Act a2, maximizes
the utility of the farmer with respect to uncertainty, it does not maximize
profit.

Researchable themes in this topic

Distance students, upon analyzing the risk behavior of peasant families
you may came across some exceptional economic behavior than studied
in the conventional principles of economics. These topics or themes are
subjected to some research undertakings. This research theme is
designed to discover whether and to what degree peasants are risk
averse, the impact of risk on farm efficiency and on agricultural growth,
the major source of risk and many more. The following are some of the
research themes, which received due attention in analyzing the risk
behavior of peasants:
(i) Peasants are risk-averse: Since it results from inefficient levels of
resource use at the farm level [Marginal Value Products (MVPs)
exceeds factor price], then producing crops A, B, C in descending order
of output variability with a given resource leads to MVPA > MVPB >
MVPC rather than the equi-marginal returns.

(ii) Peasant risk-aversion results in farming practices, such as spatial

diversification of plots and mixed cropping, which are designed to
increase family food security rather than to maximize profits. In other
words a trade-off is made between livelihood security and economic
efficiency.

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(iii) Peasant risk-aversion inhibits the diffusion and adoption of

innovations, which could improve the output, and incomes of peasant
families. Peasant skepticism about innovation is thought to be largely
related to imperfect knowledge of innovations and the agronomic
practices appropriate to them and constraints to adoption such as high
cost or lack of credit.

(iv) Risk aversion declines as wealth or income rises. Higher income or

wealthier families are better able to withstand the losses which might
result from taking risky decisions. It follows that higher income farmers
might be expected to be more efficient, more prepared to specialize in
cash crops, and more willing to innovate. Since these factors are
cumulative an implication is that the more uncertain the decision-
making environment, the more advantaged are better off farmers
compared to poor ones and the greater the likelihood of emerging and
deepening inequalities between households.

3.3.5 Policy implications of risk

Alternative policy implications of risk-aversion may be grouped broadly
in line with the categories of hazard they are designed to overcome as
follows:
1. Natural hazards
1.1. Irrigation: is not only just for risk avoidance strategy; it also has
a major impact on output via its complementarity’s with multiple
cropping, increased fertilizer use, and improved seed. Large-scale
irrigation schemes are unlikely to attract private investment and
hence better to involve in smaller scales manageable by
households.

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1.2. Crop insurance

Establishing insurance scheme to save the times of disaster
Growing crops like sweet potato
1.3. Resistant Varieties
Plant breeding or selection designed for resistant to pests,
diseases, and drought and for stability of yields.

2. Market risks
2.1. Price stabilization
State intervention ranging in setting minimum floor prices for key
strategic staples to fixed producer prices across a wide range of
crops. Where crop yields remain highly variable, price
stabilization may serve to exacerbate rather than reduce income
variance.
2.2. Marketing information
Where risk-aversion is attributed to inadequate information
[about prices, about new seeds, etc] then information provision is
considered a useful component of risk policy.
2.3. Diffusion of information to peasants can take many forms
through extension work, training and visit programs, radio,
leaflets, and farmer education in schools
2.4. Provision of credit for consumption is a means of reducing risk-
aversion in farm households subject to wide seasonal variations
in income.
2.5. Credit has also been considered relevant on the production side,
for overcoming resistance to the adoption of new technologies.

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ADDITIONAL TIPS!!!!!
Reiterating that agricultural production is a risky business, Hardaker J.B.
and Lien G. gave due attention and tried to discuss in detail on the
matter and conclude that risk analysis and risk management tools have
become increasingly popular in recent years and developed principles of
good practice for decision analysis in agriculture.
The principles are:
Principle 1: all decisions are risky, some more than others. A decision
analysis that ignores risk may be flawed, perhaps seriously
so.
Principles 2: risk analysis is “the art of the possible”.
Principle 3: despite some limitations that have recently been given
renewed prominence, the subjective expected utility
hypothesis has yet to be displaced as the best model for
normative decision analysis.
Principle 4: measuring the risk attitudes of decision makers is difficult
and will give misleading results if based on inappropriate
hypothetical or real choice situations or on inappropriate
analyses of observed behavior.
Principle 5: the importance of risk aversion has generally been
exaggerated, especially in the context of farmer’s partial or
short-term decision making in more developed countries.
Principle 6: for policy decision-making, it is usually appropriate to
assume indifference to risk because society can potentially
share bad consequences among a very large number of
citizens.

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Principle 7: abundant, comprehensive and relevant data are often not

available or obtainable for many important risky agricultural
decisions. As a result, analysis must often be based
subjectively assessed probabilities.
Principle 8: all probabilities for decision analysis should be
thoughtfully and transparently obtained using the best
available information, advice and well-considered and
disclosed methods.
Principle 9: in obtaining subjective assessments for risk assessment,
analysts should give careful thought to clarification on the
nature of the uncertainties to be faced and to ways to
motivate and assist assessors to minimize bias in their
judgments.
Principle 10: in cases where data are sparse or absent, it will be wise to
seek probability assessments from people with relevant
expert knowledge.
Principle 11: sharing information among assessors makes sense, or some
form of feedback and reassessment has the potential to yield
better probability assessments.
Principle 12: whenever possible, subjective probabilities should be
calibrated against actual outcomes so that assessors can be
given feedback on their performance with a view to
improving the reliability of their assessments…..

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3.4 The Drudgery-averse peasant

3.4.1 Peasants as consumers and produces
Taking in to account the consumption side of peasant decision-making, a
side of profit maximization and risk aversion, Wolf observed that
peasants run a household, not a business concern. The dual character of
peasant household as a family and enterprise, consumer and producer
leads to the interaction of consumption and production with in the
household which causes a unique form of decision making which sets
peasants apart from any other kinds of production unit under capitalism.
The special interest in this model is that to know the extent to which
consumption decisions alter the production responses of the household.
Unlike that of profit maximizing and risk-averse household theories
[with only a single aim] in the full household theory the pursuit of
various different goals in consumption may result in unpredictable
responses with different kinds of economic/social change. Thus a major
aim of such theory is to clarify as far as possible the links between goals,
actions, and the outcomes of such actions, and to construct a more
accurate representation of the multiple goals of the household.

3.4.2 The Chayanov Farm household model

The Chayanov (1966) peasant household model is a theory of household
utility maximization. It focuses on the subjective decision made by the
household with respect to the amount of family labor to commit to farm
production in order to satisfy its consumption needs.
The subjective decision involves a trade-off between:
- The drudgery/irksomeness of farm work (disutility of work) and
- The income required meeting consumption of household (utility
of income)

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Or the household has two opposite objectives:

- Income objective (which require work on the farm household)
- Work avoidance objective (which conflicts with income
generation)
Hence the theory is characterized as the theory of the drudgery-averse
peasant.

Some Revisions on Economic Theories

In the theory of the firm, the entrepreneur buys his inputs, converts them
into products and sold them in the market. He produces and sells to the
extent that his profit is maximized. On the other hand, the consumer
decided to purchase the combination of commodities that maximizes his
utility. In addition, the worker is assumed to choose a combination of
work and leisure so as to maximize his utility.

How is leisure and work defined?

- Asking relative - Going to market

- Holidays - Construction
- Medication - fencing

Days of work are unsatisfactory measure since the number of hours of

work per day can vary. Quantity of work depends on health, experience,
etc. These assumptions underlying the economic theories are incorrect
when dealing with the typical peasant (African) farmer.
(i) Unlike the industrial worker he doesn’t hire labor by hour, day or
week and expect homogeneous amount of work/output.
(ii) Unlike the consumer he doesn’t have a regular income expected
with high degree of certainty.

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(iii) The choice about the amount and kind of work done is determined
by how much output and income the farmer and his family want
and how much time they want to devote to other occupations [craft
work, ceremony, visiting relatives, etc.]

Referring to the last paragraph, which is the basis of central discussion

in this sub chapter (the drudgery-averse peasant), major factor
influencing the trade-off between how much output and income to earn
and how much time to spend on other occupation outside farm is the
demographic structure of the household [size, working/ nonworking,
age, etc]. The demographic structure of the household can be seen as the
ratio of consumers to workers in the household or simply as the c/w
ratio where C stands for consumers and W stands for workers.
Example:
• If a household consists of just two couples with no children, its
c/w ratio would be 2/2 = 1.
• If a household consists of two couples with an elderly parent and
four children [assuming two of the children make half an adult’s
work contribution, then c/w = 7/3 = 2.33]
C = 2 adults + 1 parent + 4 child = 7
W = 2 adults + 1 (4 children) = 3

Key assumptions of peasant household behavior model:-

a) No labor market; no hiring of labor (hiring in) nor wage work
(hiring out) by family members.
b) Farm output could be retained or sold in the market.
c) Flexible access to land for cultivation

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d) Each peasant community has a social norm for the minimum

acceptable consumption level. Household motivation follows a
social perception of the minimum acceptable level of material
income

The Model
The model contains both production and consumption aspects of
household decision-making. The production aspect is handled by a
production function describing the response of output to varying levels
of labor input.
The production function notation is:
Y= Py * f(L); the function states that total income of the family is
a function only of market price of output and the
labor input.

Output or
income P
P is a function only of market price
of output and the labor input

Labor time

The consumption function is represented by a set of indifference curves

describing given amounts of total utility provided by alternative
combinations of leisure and income.

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The utility function notation is U = f(Y,H)

The utility or happiness of the peasant household is a
Output Utility function of income (Y) and leisure (H)

Minimum output

Max labor
Leisure measured
Labor measured

Leisure
Now combining both the above twotime
graphs, the Chayanov model of the
farm household can be depicted as:

Output
Output MU of Y = 0
or
or
Income (Y)
Income (Y)
I1 I2
TVP

Ye A B
dy

MU of H = 0 dH
Ymin Ymin

0 Le Lmax L
Leisure days (H)
Labor days (L)

Y min = minimum level of income acceptable for living with in the social system
L max = the number of full working days physiologically feasible for worker
members of the household
dy/dh = the subjective wage rate

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The production function (TVP curve) displays the property of

diminishing marginal returns to labor. The indifference curves are
convex towards the origin at L. Any point on an income-leisure
indifference curve, B on I2, describes the subjective value placed by the
household on work at that point. The slope of the curve, at B, describes
the amount of income, dy, which the household would need to gain in
order to compensate for the loss of one unit of leisure dH. In other words
it is the household’s subjective wage level.

Ymin gives the farm household’s minimum acceptable standard of living

and Lmax gives the maximum number of full working days, which it is
physiologically feasible for worker members of the household. The
existence of these constraints affects the shape of the indifference curves
at the extremes:-
a) At the left bottom, Indifference curve (IC) becomes horizontal to
mean that marginal utility (MU) of leisure becomes zero. At this
particular point no amount of leisure could compensate for a fall in
income below this level.
b) At the right top, IC becomes vertical to mean that the marginal utility
of income tends to zero. No amount of income could compensate for
a fall in leisure at the maximum labor constraint is approached.

The equilibrium position of the farm household is given by the point of

tangency of the production function to the highest possible IC of utility,
at point A, with labor input Le and income level Ye. At this point the
MVPL equals the subjective value of family labor time (dY/dH), i.e. the
amount of income required to compensate for the loss of one unit of

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leisure. Therefore, the way the economic problem of the peasant

household formulation in the Chayanov model can be simply put as:-
Maximization of utility subject to production function, minimum
acceptable income level, maximum number of working days available

In notation form, it can be written as:

Max U = f(Y,H)
subject to
Y=PY * f(L); Y ≥ Ymin; L ≤ Lmax
Assuming that the production function (rather than one of the other
constraints), which is binding, the solution to the above problem occurs
where the MRS of leisure for income (the subjective wage) equals the
MVPL.
MUH = dY = MVPL
MUY dH

The demographic character of the model is emphasized on the impact on

equilibrium output and labor use of a change in the production function.
The production function may change due to: -
a) Changes in other resources, which combine with labor to produce
output.
b) A change in the technology of production
c) A change in the market price of output
The increase/improvement in these changes will shift the family income
curve upwards, and thus place the household on a higher IC than before.
The impact of factors of family size and composition on the slope and
position of indifference curve are described as:

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(i) The household grows in size as children are born, raising the
minimum consumption level and c/w when children are small and
their work contribute low.
(ii) Children grow up and contribute increasingly to the work of the
household, causing the c/w ratio to fall from its peak to mean that
the number of person-days of labor available to the household
rises.
(iii) Adult children begin to form families, and farms, on their own,
thus reducing the family size, lowering the minimum consumption
level, and reverting eventually towards the original demographic
structure of the household.
These changes describe the demographic cycle of the peasant farm
household, which is a central feature of the theory of peasant economy.
As an example, let us look on changes on (i) impacts of higher C/W and
minimum consumption level

I1
I2
Output
or
income
(Y)

Y2e TVP
B
Y2min A Y2min

Y1min Y1min

L1e L2e Lmax L

Labor days L

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The following are the comparisons with the previous equilibrium:-

(a) The number of workers and TVP curve stay the same
(b) The minimum consumption constraint is raised from Y1min to
Y2min, reflecting the increased consumption needs of the larger
family.
(c) The shape and position of the income leisure IC changes. The
curve has a shallower slope because the marginal utility of income
has increased and the marginal utility of leisure has decreased for
all points on the curve.
The preferences of the households change due to the need to feed a
larger family. The household is prepared to accept a smaller rise in
income (dY) in order to compensate for the loss of one unit of leisure
(dH) than before. There is a fall in the subjective wage.

Distance students when we wined up our discussion on the drudgery

nature of peasant households, especially with respect to the poor African
case, the key elements which needs due attention in this theory are:
- The size of the peasant family
- The C/w ratio
- The absolute number of workers in the family
- The social norm of a minimum acceptable because standard of living

These elements lead to a distinctive type of economic calculation on the

part of peasants – equating the MVPL to the subjective wage, which is,
different from that followed by capitalist enterprise. In essence the
model is a demographic explanation of household motivation, which
yields the following testable propositions:

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a) A new equilibrium is established at higher output Y2e and labor input

L2e than before. The capacity of the farm household to intensify labor
use by lowering the subjective wage - Chayanov terms the capacity
of farm household for “self-exploitation.” Self-exploitation versus
exploitation of labor by capital in the capitalist enterprise has distinct
meanings. To conclude, the Chayanov model sets up a theory of the
peasant household containing both consumption and production
components.
b) The marginal and average products of labor should vary significantly
between households according to their demographic structure. This
emphasis on variation in labor efficiency contrasts with the profit-
maximizing hypothesis where the focus of empirical work was on
average efficiency, not on variation and its explanation.
c) The size of the area sown should vary directly with family size.
d) The lower the c/w ratio, the higher the average income per person in
household. This is because low c/w ratio means a higher subjective
wage, placing the family in a position on the production function
with high marginal returns to labor.

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