Demand for Contract Farming and Nature of Market in Developing Economies

This paper examines what factor determines demand of firms for contract farming, and how the market condition affects their demand. 208 pork processing firms in Jilin and Henan Provinces in China faced a severe price competition, and failed to differentiate their products that allow them to raise selling prices. Under this market condition, few firms have demands for employing contract farming. Contract farming effectively controls the safety of pork but generates further costs, since the firms have sufficient power to differentiate products and set higher price. However, firms can afford to do contract farming only by suppressing procurement price from farmers. We estimated choice probability among three procurement types; contract farming, independent farmer and middleman, by multinomial probit estimator (maximum simulated likelihood). Contract farming, as theory predicts, is taken by the firms who are motivated to produce high quality agro products, and willing to bear monitoring cost for inspecting pork. However, substantial part of firms chose procurement through middleman, which saves transaction costs and transportation costs. Key Word: Contract Farming, middleman, pork processing firm, price competition, product differentiation JEL D43 L11 L14 O13 Q12 Q13 ◆ World Bank, Washington D.C., U.S. △ Institute of Agricultural Economics, Chinese Academy of Agricultural Science ◎ Institute of Developing Economies, JETRO, Chiba: Contact author 1