Agricultural policies, agricultural production and rural households’ welfare in Ethiopia

A large body of literature suggests the various agricultural policies to raise agricultural productivity and improve rural social welfare. Agricultural policies play a key role in the process of agricultural economic growth. Among them, technological change has been acknowledged as the principal driver of productivity growth (OECD 2012; Morris et al. 2007). The differences in aggregate agricultural productivity across countries are mainly attributed by modern technical inputs, human capital, agricultural research and infrastructure (Hayami and Ruttan 1985; Mundlak and Hellinghausen 1982; Lau and Yotopolous 1989). Change in agricultural productivity is the fundamental policy to initiate agricultural transformation and raise the income of the rural people (Ngai and Pissarides 2007; Urgessa 2015). The empirical literature documents the significant effects of agricultural productivity on rural people welfare (Thirtle et al. 2003; Irz et al. 2001; de Janvry and Sadoulet 2010; Birner and Resnick 2010). The agricultural productivity improvement increases farmers’ real wages and secures food supply at reasonable prices (Otchia 2014). The magnitude of the effects of agricultural productivity growth on rural people welfare improvement varies largely across countries, depending on the way they developed and used new technologies (de Janvry and Sadoulet 2010).

The government in Ethiopia has implemented various agricultural policies such as market liberalization, structural adjustment, Agricultural-Led Industrialization, Sustainable Development and Poverty Reduction Program, Participatory and Accelerated Sustainable Development to Eradicate Poverty and successive Growth and Transformation Plans I and II to raise productivity in agriculture between 1991 and 2016. Since 1991, the government abolished all subsidies and price support measures to agriculture. A structural adjustment program reduces the role of the government and increases the role of demand and supply forces in the allocation of resources in the Ethiopian economy. All these policy interventions have been implemented to increase agricultural productivity and production which, in turn, reduce poverty and food insecurity. However, the agricultural sector in many developing countries has suffered from price distortions and low productivity, attempts to find solutions have often overlooked the interaction between these two problems (Rakotoarisoa 2011). Market incentives play a key role in the realization of the economic potential created by modern technology because they affect the producer’s choice of technique (Mundlak 1988). Agricultural research and development, irrigation, access to credit and price support policies have great impacts on agricultural transformation if they are implemented jointly and successfully (Eicher 1995; Smale 1995). The need for the roles of information market on the status of macro and micro-nutrients in soil and rates of technology usages, and price support policies has neglected in Ethiopia. As result, domestic supply shortages of agricultural and manufacturing commodities are the important causes of the current inflation in Ethiopia, particularly high food prices that are mostly affecting the welfare of households with fixed income. This paper makes a critical review of agricultural subsidization, price support, and stabilization policies, describes their significance with reference to the experience of the developed, and developing countries in the literature. The study does describe the modeling methodology. The study provides base year data needed for policy simulation in a regional CGE model. A model for the economy of Oromia region is stated and calibrated employing 2010 as a benchmark equilibrium. Assumptions are stated about some elasticity parameters, and closure rules. A policy shock applied to an exogenous variable is deemed in the experiments and the impacts of separate and combined policies are tested.

Various studies have explored the Ethiopian agricultural policies and their implications for agricultural production and food security (Alemu et al. 2002; Byerlee et al. 2006; Khairo et al. 2005; Rahmeto 2008; Alemu 2010; Bekele 2010; Admassie 2015). Moreover, most studies on agricultural policies are largely based on literature reviews. There are no studies that have actually explored the effects of agricultural policies on production, employment and social welfare using CGE models. CGE models provide a unique opportunity to measure the effects of proposed agricultural policies on agricultural production, employment and social welfare in Ethiopia. To my knowledge, these model simulations have not been explicitly used in earlier studies to suggest better agricultural policies for policy-makers in Ethiopia. An important innovation in this paper is the inclusion of combined policies simultaneously in the model. Thus, the study fills the knowledge gap in the agricultural policy modeling literature. It also adds new knowledge to the existing empirical knowledge by analyzing the impacts of agricultural policies on agricultural production. The paper contributes to the scant literature on agricultural policies in Ethiopia.

The rest of the paper is organized as follows. Section 2 provides background justifications for model simulations. Section 3 discusses theoretical framework of models and presents database for the computable general equilibrium model of the economy. Section 4 presents the model simulations and assumptions. Section 5 discusses the results of the policy experiments. Finally, Sect. 6 gives conclusions and policy implications for policy-makers.

Agricultural policies in both developed and developing countries have been employed to increase agricultural productivity and production, social welfare and redistribute incomes (Krueger et al. 1988; Schiff and Montenegro 1997; McKay et al. 1998). Countries use agricultural policies to achieve self-sufficiency, transfer income among economic agents, and secure food supplies and low prices to consumers. Industrial countries adopt agricultural policies to raise agricultural product prices above market prices that transfer income from consumers to farmers while; developing countries employ agricultural policies to reduce agricultural product prices below market prices that provide cheap food for consumers (Krueger et al. 1988). Developing countries use indirect and direct means to tax agriculture that adversely influences rural households’ welfare.

Moderate agricultural taxation or subsidization has a significant impact on aggregate agricultural productivity; but high or low rates of agricultural taxation or subsidization do not have a significant effect on agricultural productivity (Hu and Antle 1993). Agricultural support policies in advanced countries influence rural households’ welfare (World Bank 2003; Tangermann 2005). Many Asian and Latin American countries have employed different price support and stabilization policies to increase crop production as well as social welfare. In general, Asian countries used price support policies to address price fluctuation that affect production adversely since the 1960s. These policies have accelerated the extensive utilization of Green Revolution innovations that increased crop production (Hazell 2010). Many Asian countries stabilized grain prices at or above world price levels that made rural households to have better social welfare (Cummings et al. 2006; Dawe 2007). By contrast, many poor African countries used inadequate or no price support programs to manage agricultural price uncertainty that led to slow change in productivity and growing reliance on food imports. The absence of price support policies in Africa leads producers to have a low social welfare (Demeke et al. 2012).

Developing countries strongly oppose domestic and export subsidies by developed countries. Since developing countries cannot afford to support their producers at the levels of developed countries, subsidies tend to limit fair competition. In general, both domestic and export subsidies distort production patterns. Some argue that subsidies given to producers in developed countries have resulted in overproduction and lower world prices of agricultural commodities, which have been harmful to agriculture in developing countries (Koo and Kennedy 2006). Although subsidies distort trade flow, they influence the welfare of consumers in both exporting and importing countries (Bhagwati 2004) because subsidies reduce world prices for agricultural commodities.

In general, scholars and policy-makers view that trade liberalization in developing countries negatively affect rural households’ welfare by depressing world agricultural product prices, for which advanced countries have a comparative advantage in agricultural technologies. For instance, removing import tariffs on farming commodities benefit consumers from lower consumption costs, but leave agricultural producers vulnerable to competition from foreign agricultural producers that result in both lower profits and wages in developing countries. The microeconomic agricultural household theory argues that agricultural market liberalization adversely affect agricultural producers’ welfare and positively influence rural household consumers’ welfare in developing countries.

Government of Ethiopia has imposed restrictions on exports of cereal crops to stabilize domestic supply and encourage oilseed, pluses, and coffee exports that have either a positive or negative impact on social welfare. The government has used agricultural export policies in the form of export taxes and export bans on different agricultural commodities. The tax on coffee export was abolished in 2002 following declining coffee prices in the international markets. The government banned the export of major food grains to reduce the food price for urban consumers. The domestic grain prices were tried to reduce through banning the exportation of teff, wheat, maize and sorghum in December 2006. In June 2008, banning is applied to the exportation of all cereals (Admassie 2015). The chat has been taxed at a 29% since 1993. The oilseed and pulses have been freed from export taxes (Rashid et al. 2009). The Ethiopian government has used overvalued exchange rates to tax farmers and promote oilseed, pluses and coffee exports that increase costs of agricultural production.

Since 1991, the government of Ethiopia has employed a number of agricultural policies to increase productivity and production in agriculture, efficiency in the processing and marketing chain that have a substantial positive effect on rural households’ welfare. Policy instrument in structural adjustment program is market liberalization to raise crop productivity and production, rural households’ participation in emerging markets and increase their income through commercialization and, therefore, enhance rural households’ welfare (Von Braun and Webb 1994; Kennedy and Haddad 1994; Wang et al. 2009). Agricultural markets have been liberalized in favor of market mechanisms for allocating resources. The fertilizer markets were liberalized to move the fertilizers from sources to the farmers or ultimate users. The government deregulated the prices of fertilizers at the wholesale and retail levels. Input subsidies were abolished to reduce the government budget deficit. Liberal input and product prices did not lead to competitive markets due to the government’s continued intervention in the commodity markets and financial markets from 2000 to 2007. Private companies exited from the fertilizer markets in 2000. The government of Ethiopia has authorized monopsonies and monopolies’ powers to Agricultural Input Supply Enterprise to import and distribute fertilizers in 2005. Like private companies, this enterprise has imported pesticides and herbicides and distributed these inputs to farmers through cooperatives. Some of the agricultural inputs, such as pesticides, herbicides, tractors and combine harvesters have been imported and distributed to farmers by private companies. Cooperatives are given monopoly’s power to distribute fertilizers to farmers (Habte et al. 2020).

These policies tend to underestimate the role of technology and information markets that can determine agricultural productivity. For instance, government interventions in output markets, and input markets did not address the shortage of agricultural commodities, and stop upward trending of agricultural prices. Because these policies have ignored the roles of information market on the status of macro and micro-nutrients in soil and rates of technology usages in accelerating agricultural productivity, as observed by Schneider et al. (2011) and Habte et al. (2020). Rapid growth in agricultural productivity is strongly associated with well function of agricultural technology and information markets. Neoclassical theory suggests that well-functioning knowledge and information markets are necessary to increase productivity. But, this theory does not work in developing countries assuming knowledge and technologies are freely available within countries, to all producers. As a result, the government of Ethiopia could not achieve intended targets using these policies. Thus, precision agriculture policy is necessary to create information markets on the status of macro and micro-nutrients in soil and rates of technology usages in Ethiopia. These new markets provide both adequate flows of information to farmers regarding macro and micro-nutrients testing facilities and technology usage rating facilities. Incentives should be adequate to confirm that private sectors invest their capital in technological infrastructure.

In order to examine the impact of agricultural policies on rural households’ social welfare, Oromia region in Ethiopia is selected for this study as it plays a central role in the national crop production, accounting for 43.72% of total pulses, 49.82% of oilseeds, 40.81% of root crops and 21.79% of total fruit crop production. It also supplies 36.99% of the total vegetable product of the country (CSA 2018), and 49.35% of grain products for national consumption. The agricultural sector is a means of livelihood for the majority of rural households. The sector employs about 85% of the labor force and is still of strategic significance to rural income generation. However, agriculture is the unproductive sector in Ethiopia because of outdated technologies (Rahmeto 2008) and inappropriate agrarian policy (Kibret 1998).

Moreover, the Oromia region has 63 rivers and 688 tributary streams. These rivers and tributary streams provide about 58 billion cubic meters of surface water, and half the country’s surface water resources. The region has used only 5% of the irrigated land to produce agricultural products that is about 1.7 million hectares (ha). The total estimated irrigated land is about 85,402 hectares (ha). The common irrigation types are traditional irrigation schemes (i.e., 48,816 ha), small-scale irrigation (i.e., 9160 ha) and large-scale irrigation (i.e., 27,426 ha). Irrigation policy has been established to increase irrigated area by 11.25%. This policy facilitates credit services for farmers and encourages them to use water pumps (Wodon and Zaman 2010). However, there is a significant gap between the actual irrigated area and a land area equipped for irrigation (Fig. 1).

Poor regulatory framework is the reason for the big gap between actual irrigated and planned areas for irrigation (Awulachew et al. 2010). On the contrary, the researcher argues that price fluctuation is the main reason for irrigation policy failures. Good irrigation policy is necessary for securing high productivity and production, but good policy may not function well if there is no price incentive or price support policy. The price support policy is necessary to secure stable productivity and supply of agricultural output. The historical fact is that both developed countries and developing countries used price stabilization and support policies to reduce variability in agricultural productivity and supply. This study suggests government to use irrigation policy along with price support policy to address shortages of agricultural commodities, which are the main causes of the current inflation in Ethiopia, particularly high food prices that are mostly affecting the welfare of households with fixed income. This combined agricultural policy may effectively address fluctuations in price and productivity, which may have significant effects on rural households’ welfare as well as on urban households’ welfare.

I design experiments to examine policy options for the Oromia region to increase agricultural productivity and production, labor productivity and increase the social welfare of households. Ethiopia is endowed with abundant water resources with 12 river basins and with an annual runoff volume of 122 billion m³ of water and an estimated 2.6–2.65 billion m³ of ground water potential (Awulachew et al. 2010; Makombe et al. 2011). However, only about 11% of this potential has so far been used to produce crops (MoA 2011). An increase in the irrigated area is a vital to increase agricultural production and meet the growing food demands of rapid population growth in Ethiopia. It has the power to stimulate economic growth and rural developments (Hagos et al. 2009; Makombe et al. 2011). The government of Ethiopia is also committed to invest more in irrigation schemes (Wodon and Zaman 2010). This study assumes that government should use price support policy to secure continuous agricultural product supply and provide investment subsidies and soft credit to farmers in order to invest in irrigation equipment. The agricultural policy instruments should be complements for accelerating agricultural growth (de Janvry 1985). Price support measure has a more impact on production decision than market prices resulting in a net increase in welfare (Koo and Kennedy 2006). Improved price incentives alone will not bring about the desired improvements because agricultural aggregate supply is deemed to be highly inelastic (de Janvry 1985). Responsive prices will lead private agents to make investments in irrigation equipment, storage and delivery of both inputs and outputs (to supplement and/or complement those made by the public sector) (Koo and Kennedy 2006). The government should include the followings in policy: a set of objectives, instruments for achieving those objectives, and rules for functioning instruments. The irrigated area is affected by industrial policies which facilitate an organized marketing system, provide incentives, and encourage industries to invest in these sectors. The regulatory frameworks (the rules of policy) play a central role in implementing instruments and controlling the impact of the policy instruments. This is because institutional change plays a key role in the success of agricultural productivity in the region as transaction costs within the input supply system are very high (Otchia 2014).

The study estimates the amount of labor and capital required to produce the values of total output under the area of irrigated land to carry out scenario 1. Even though there is no closure rule on irrigated area in the methodology section, irrigated land is proxied by values of total output that are obtained from irrigated land. The total returns/values of output from irrigated land are split into rural labor and capital. The first and second scenarios assume an increase in the area of irrigated land by 15% and 31%, respectively. The third and fourth scenarios assume a significantly larger increase in irrigated area by 46% and 61%. The government should give emphasis to rules of policy which are very necessary to implement and operate instruments including water fees, water rights, water conflict resolution, incentives for collaboration among the levels; incentives for accurate reporting of current projects, etc.

Precision agriculture combines advanced technologies to achieve quantitative and qualitative crop production (Gebbers and Adamchuk 2010). This study uses investment subsidies and credit facilities as a proxy for economic incentives. The government should provide investment incentives and credit facilities for cooperatives and private companies to invest in the various technologies (Van Genderen 2013). The precision agriculture can be implemented due to the development of sensor technologies combined with procedures to link mapped variables to appropriate farming management actions such as cultivation, seeding, fertilization, herbicide application and harvesting (Gebbers and Adamchuk 2010). Precision agriculture is the use of technology to assist in optimizing agricultural production by improving the accuracy of existing management activities (Shockley 2010). I complement this analysis with two scenarios of institutional arrangements that lead to an increase in the supply of inputs. This simulation also means that farmers invest in new methods of production and information market on the status of macro and micro-nutrients in soil and rates of technology usages to increase the effectiveness in the use of chemicals. In scenario 1, I assume that the Oromia region adopts new methods of production with precision agriculture in agriculture, increasing productivity by 25%. This scenario implies that farmers in Oromia region apply inorganic chemicals and best practices to increase efficiency of technologies or the value added shift parameter. Economic incentives are necessary to address the needs of investment significantly in the sector (Bartels et al. 2009; Tuomi 2011). Technically, I also implement the scenarios as a joint simulation of a 30%, 40%, 65%, 80% increment in the irrigated areas and precision agriculture (Table 1).

Theory suggests that it is price fluctuations that maximize or deteriorate the welfare of a household. Joint implementations with price support policies are necessary to manage fluctuation in prices and agricultural productivity to maximize overall welfare of a society (Evenson and Golin 2003). Many developed countries suffered from low productivity and uncertain grain prices before implementation of price support policies or World War II. Supported and stabilized domestic prices has resulted in high levels of production and secured a faster food supply than demand in many advanced countries (Boussard 2006; Alston et al. 2009).

The simulations 1, 2 and 3 will increase output, demand for factors of production and rural households’ income and consumption (Table 2). This implies that irrigation policies raise aggregate agricultural output supply which leads to higher labor and capital demand, and increases rural households’ welfare. The interventions address the shortages of raw materials in downstream sectors (Table 2). For instance, simulation 1 increases incomes of rural households from labor and capital, which has a great positive impact on the demand for downstream sectors’ commodities. The irrigation policy, simulation 3 raises rural households’ consumption of all commodities by 2.97% while combination of irrigation policy with price support policy (simulation 3) raises rural households’ consumption of all commodities by 5.08% (Table 2).

Table 2 indicates the impacts of agricultural policies on output, factor income and consumption. I allow for unemployment and sectoral labor mobility, changes in factor income are a response to the change in employment. This result indicates that irrigation policy will increase the demand for rural low-skilled and semi-skilled workers. In rural areas, capital and high skill appear to be complementary as capital-intensive technology increases the demand for high-skilled workers. High-skilled workers are needed to operate tractors or to spray chemical as manual work is less needed. Change in area of the irrigated land (Scenario 2) influences labor income by increasing the intensity of workers on the farm and, therefore, raising working hours and the frequency of work throughout the year.

Table 3 indicates that precision agriculture and technological change raise the returns for all factors of production involved in the production process. The adoption of both auto-steer systems will increase the expected net returns under all four scenarios when compared to the base scenario because it will reduce the costs of production and increase productivity at a time (Table 3). Table 3 shows that all the four simulations of precision agriculture and modernization (Scenarios 1, 2, 3 and 4) lead to an increase in income and consumption. This finding suggests that precision agriculture and technological change can be independently sufficient in reducing poverty via productivity and income growth effects. Improved precision agriculture practice has a great potential to enhance growth outside agriculture.

The joint implementations of these scenarios lead to an increase in supply and demand of agriculture inputs. Firstly, the increase in supply and demand of agriculture inputs implies creates back and forward linkage between the upstream and downstream sectors. It has a positive implication for the expansion of agro-processing industries.

The joint implementation of policies in agriculture increase factor income of rural workers as they are intensively employed in agriculture. Increasing agricultural productivity and production lead to a reduction of poverty and food insecurity. Under these scenarios, the changes in the income of rural farmers lead to higher demand for industrial commodities. Simulations 2, 3 and 4 increase consumption of commodities of rural households by 12.22%, 14.74%, and 17.90%, respectively (Table 4). They have the significant implications for a reduction of poverty and food insecurity.

Similarly, the joint implementation of scenarios indicates that welfare gains are associated with policy measures in rural area. From a policy standpoint, this indicates that technological changes play an important role in boosting agricultural productivity. Wosp refers to only scenarios 1 and 2; WSp refers to combination of scenarios 1 and 2 with price support policy.

The CGE models are analytically important to simulate the functioning of factors, products, and foreign exchange markets. The solutions from CGE models are useful to narrow the gap between factor demand and supply. The solutions can be used to increase factor and output productivity, which in turn have a positive effect on social welfare. Price support policies in both developed countries and developing countries have been used to reduce fluctuations in agricultural productivity and prices which are the main driver of agricultural growth. This paper introduces a new dimension in the debate on price support policy by pointing out that, historically; the developed countries themselves did apply price support policy to manage variations in productivity and prices.

This study draws three major implications. First, irrigation policies increase agricultural production and investment in irrigation equipment and encourage investment simultaneously in other sectors, and raise rural households’ income and consumption. The analysis identifies the significance of technological change with scaling up irrigation practices in improving agricultural productivity and production, and social welfare (Rada et al. 2010). Irrigation policies have a positive implication for returns to rural and urban low-skilled labor and semi-skilled workers because it increases the volume and frequency of transactions of agricultural commodities that create job opportunities in various nodes of agricultural value chains. Second, technological changes and precision agriculture will increase productivity by providing information market on the status of macro and micro-nutrients in soil and rates of technology usages. The adoption of precision agriculture reduces the costs of production, increases aggregate agricultural output by increasing technical efficiency, and increases labor and capital productivity. Third, the joint implementations of two policies will increase productivity which helps way out of poverty. The implications may extend to other sectors. These policies will reduce a shortage of raw materials in agro-processing industries.

From a policy perspective, this finding suggests that price support policies should be implemented simultaneously with these policies to increase farmers’ market incentives and improve marketing efficiency. Market incentives motivate farmers to invest in irrigation equipment and technologies increase the adoption of precision agriculture practices. These policies secure adequate agricultural food supply, resulting in lower prices and higher consumption for rural and urban poor people, enabling them to earn enough money to invest in new technologies. It leads to an increase in income for all labor types and consumption for urban and rural households. By implementing price support measures, the government can stimulate production and ensure adequate supplies of agricultural commodities without the need for compulsory quotas (Franzel et al. 1989).