Incentives for smallholders to enhance the production of quality cocoa beans in Ghana: the role of institutions

Cocoa beans from Ghana have a reputation of being of consistent quality. As such they sell at a premium on the international market. As a result of this quality reputation, Ghana is able to sell over 70% of its annual produce in forward markets. This trading practice ensures that farmers are protected from price fluctuation in the international market. Consequently, farmers, buyers, scientists and policy makers agree that sustaining Ghana’s premium quality position on the international market should be a central component of cocoa sector policies in Ghana. Over the years, therefore, policy and programme attention has been placed on ensuring that the produce supplied by farmers is of superior quality. Some of these efforts have included development of clearer quality parameters, establishment of cooperative societies, market liberalization, introduction of competition in the cocoa market, and farmer extension reforms among others. In spite of the attention paid to quality, evidence is emerging that farmers can do more to enhance the quality of their produce. For example, nationwide, disease infestation alone results in loss of up to 35% of the potential crop. Also, the surge in poorly fermented and not thoroughly dried produce has been amply described in the literature. These quality issues would not arise if farmers were to improve their rate of adoption of the several recommended quality-enhancing technologies developed by scientists. The question is therefore frequently asked: why does the rate of adoption of recommended technologies by farmers fall below the expectation of policy makers and scientists? Drawing mainly from new institutional economics, this thesis argues that the adoption by farmers of quality-enhancing technologies is hampered by the rules (or institutions) that govern interactions in the internal cocoa market of Ghana. The central object of this thesis is to gain an insight into what institutional factors are and how they can be altered to provide effective incentives for Ghanaian cocoa farmers to enhance the production of quality cocoa beans.Five specific objectives were addressed. First, impact of specific price-related institutional reforms on producer incentives was analysed. Second, the study identified relevant institutional factors constraining smallholders from enhancing the production of quality cocoa beans. These two studies set the stage for experimentation with alternative institutional mechanisms which might motivate cocoa farmers to enhance the quality of their produce. Hence, the third objective explored agricultural knowledge institutions by comparing the effectiveness of participatory and conventional extension methods on accumulation of knowledge and adoption of quality-enhancing technologies. The fourth and fifth objective of this study then focused on what alternative institutions may be designed to govern cocoa beans trade to ensure that Ghana sustains its good premium quality reputation. The fourth objective of this study assessed the influence of incentive mechanisms designed by certification programs on farmers’ effort to enhance the quality of cocoa beans they produce. The fifth objective then attempted to determine the extent to which farmers respond to a price differentiation structure which builds in mechanisms of rewards and punishments. Having introduced the thesis in the first chapter, Chapter 2 addressed three questions: (1) did prices and the variation of these prices influence cocoa supply?; (2) to what extent did institutional reforms affect the stability of producer prices? and (3) how did cocoa price-related institutional reforms affect the transmission of world price to producers? A time series econometrics approach was employed in this study. To assess the impact of prices on farmer behaviour, a double-logarithmic ordinary least squares (OLS) regression was estimated. Cocoa production was regressed on current and lagged producer prices and on a number of control variables, including the price of maize. To answer the question of how cocoa price-related institutional reforms affected the transmission of world price to producers, specific reform eras were first identified. These were: (1) before and after the introduction of the Producer Price Review Committee (PPRC); and (2) before the use of cost-plus-margin price rule; during the cost-plus-margin price rule; and during the percentage F.O.B. pricing rule. Next, a co-integration and error correction approach was employed to analyse the impact of these reform periods on the transmission of world prices to producers. The results confirmed economic theory in that increases in the producer price provided sufficient incentives for farmers to increase their output while the variation or instability of this price was a disincentive. The institutional reforms led to increases in prices but did little to stabilize producer prices over the years. These results pointed to the important role institutions can play in shaping farmer incentives. The time series data employed in the analyses of institutions failed to account for the perspectives of stakeholders. Chapter 3 therefore employed a cross-sectional approach to investigating how institutions shape the incentive for smallholders to enhance the quality of their produce. A number of formal and informal institutions work together to constrain farmers’ capacityand willingness to enhance the production of quality cocoa beans. Farmer knowledge institutions, especially the organization of cocoa extension, have resulted in low contact hours between farmers and extension agents. This affected the knowledge and hence capacity of farmers to utilize relevant technological innovations which could enhance the quality of their produce. Farmers’ unwillingness to enhance the quality of their cocoa beans any further also arises from institutional factors like land tenure contracts, corruption, and rent-seeking behaviour of cocoa buyers,whichaffect their income position. Farmers do not have enough countervailing power to deal with these problems because they are often very weakly organized. The willingness of farmers to enhance the quality of their produce is also influenced by an asymmetric information problem. This problem arises because buyers do not determine the quality features of the produce before or even after sale transaction. This asymmetric information is attributed to the lack of market governance structuresthat ensure thatcocoa beans are graded before purchase from farmers. The absence of grading before purchase results in payment of uniform pricesfor all quality grades. In the absence of a pay-for-quality policy farmers will rather not invest extra labour in furtherenhancing produce quality. In Chapter 4, the effectiveness of participatory and conventional extension methods of extension on accumulation of knowledge and adoption of quality-enhancing technologies was compared. Farmers involved in participatory research were compared with those involved in conventional extension in terms of knowledge accumulation, yields and bean quality. It was found that using recommended technologiescan enhance the cocoa bean quality 17% more than current practices. At a cocoa price of US$ 1.86 per kilogramme, profits per hectare were with recommended technologies about 8% higher than with farmers’ practices, just because recommended technologies yielded higher volumes of cocoa. If cocoa prices at the farm gate would be differentiated by quality, the relative profitability of using good agricultural practices would even be higher.Being trained through participatory methods resulted in significant improvement in farmers’ knowledge. Their gain in knowledge did not motivate farmers to enhance cocoa bean quality, butrather farmers selected specific yield-enhancing technologies for adoption. This chapter confirmed that as long as there is a lack of market incentives farmers are unwilling to adopt quality-enhancing recommended technologies. In Chapter 5,the question of how certification programs influence farmers to enhance the production of quality cocoa beans was addressed. The study identified the determinants of the choice between being an independent farmer and being a certified farmer. The study showed that farmers with a high marginal utility of income participated in certification. Furthermore, farmers that for some reason were constrained in their capacity to apply extra effort to their pre-harvest and post-harvest activities, by lack of time or health conditions, were not likely to join the certification program. Having joined certification programs a number of incentive mechanisms were used to coordinate farmers’ production activities to ensure they supply quality cocoa beans. First, certification programs organize farmers into producer organizations which use their internal rules of rewards and punishments to strictly enforce quality requirements. Also, certification programs employ traceability mechanisms where every cocoa bean can be traced to the farm where it was produced. Hence the information asymmetric problem is completely resolved. Additionally certification programs pay a higher price for the quality of produce they purchase. These mechanisms were not available to independent farmers. As a result of thesedifferences in trading practices and incentive mechanisms, certified farmers put up 17% more pre-harvest and 20% more post-harvest effort in their production practices than independent members. This explains why certified farmers recorded 52% higher yields and 12% better quality than independent farmers. In Chapter 6an alternative market governance mechanism to certification was experimented with. The impact of price differentiation with self-selection was tested by offering farmers in the Suhum district a menu of price; the regular producer price for lower quality Grade II cocoa beans and the higher price for Grade I cocoa. To receive the higher price however farmers were to pay a fee (of 1kg of cocoa beans) and had to have their beans tested. If the produce met the high standard set by the buyer, the seller received the high price (whichis equivalent to 3kg of cocoa), otherwise he or she just received the regular market price and the test fee would become his or her cost.The results showed that faced with this menu, farmers exposed to this test-cum-fee price option significantly improved the quality of their cocoa beans by 2.7% more than control farmers. Other factors which significantly impacted on the quality of farmers’ produce were previous involvement in farmer participatory research (Chapter 4) and dependence on cocoa as a main source of livelihood. A central aim of test-cum-fee price mechanism is to stimulate farmers to supply only their best quality produce. Over the two seasons of the experiment farmers who were exposed to the test-cum-fee price mechanism increased the proportion of their produce which was sold for a premium by 28%. The quality of these beans sold for a premium also improved over the experimental period by 3%. This self-selection behaviour is explained by farmers’ risk preferences, perception about the new price mechanisms, and their capacity to enhance their quality of their cocoa beans. In Chapter 7, the main findings of the study were summarisedand their policy implications were discussed. The study’s limitations were highlighted and some ideas for future research were proposed. Problems with cocoa bean quality at farmgate have been attributed to asymmetric information between farmers and buyers. As a result of this information problem, buyers are unwilling to pay for quality. This thesis puts forward two governance structures which can address the asymmetric information problem. First, it is demonstrated that certification of producer organizations with mechanisms of traceability, group control and price premiums can completely resolve the information problem. This thesis shows that another governance structure with a win-win potential to address the information problems in Ghana’s cocoa industry is price differentiation with self-selection mechanisms. Policy makers therefore need to pay closer attention to these mechanisms if Ghana is to sustain her position as a net supplier of premium quality cocoa beans.