Overview of smallholder contract farming in developing countries

Contract farming can bring potential benefits to smallholders by providing access to new markets and by providing opportunities for employing underutilised resources, particularly labour. However, such benefits may bypass smaller farmers as contracts flow to larger farmers and, as well, there may be undesirable second-round effects from such contracting through impacts in local markets for food and farm inputs.An agribusiness firm’s choice to expand activities through contract farming rather than plantations, buying directly from open markets or other means reflects differences in transaction costs found in different types of procurement systems. Smallholders may enter contracts to reduce transaction costs of accessing new markets, borrowing, managing risk, acquiring information or increasing employment opportunities.The success of contracts reflects both the contracting environment and management practices:Contracting environment: includes the strength of markets for contracted output, government macro policies, technical sophistication in production and attenuation of land ownershipmanagement practices: farm groups, selection of participants for contracts, managing contract default and conflict resolution. Direct benefits from contracting accrue to smallholders from improved access to markets, improved technology, better management of risk and opportunities for employment of family members. Indirect benefits occur from empowerment of women and increased commercial acumen on the part of smallholders.Contract farming has the potential to improve the welfare of smallholders however it is not a sufficient condition for such improvement. Smaller farmers can be excluded from contracts because of selection bias by agribusiness firms awarding contracts to larger farms, be adversely affected by the second-round effects of contracts on incomes and prices and suffer from narrowing of markets that lie outside of contracts.Institutional developments that might ameliorate this type of exclusion are anti-trust legislation, policies to directly improve the contracting environment, policies to address specific problems smallholders face in entering contracts and participation by NGOs in contract facilitation. [author]