Agriculture and trade & finance have a necessary but strained relationship. This is not surprising since trade and finance are often dynamic, short-cycle, growth-oriented ventures, whereas, farming the land to produce food, fiber, and fuel is an arduous labor, seeking incremental gains, requiring patience, and a humble acceptance that the next drought, pest outbreak or bad harvest is always lurking just beyond the horizon. However, despite the very real challenges, for those who have chosen to dedicate their lives to agricultural pursuits – in my case I spent years working livestock on ranches and now I work with agribusinesses, providing technical assistance and capital – we appreciate the romantic side of this noble vocation, usually practiced in idyllic, rural regions. As a group, farmers strive to provide for each human’s daily need for sustenance, while balancing the imperative to steward the natural beauty and finite resources of our shared home. Even in an increasingly urbanized world, where there are ever more miles between farm and table, demand for food continues to grow (expected to increase 70% by 2050); and smallholder farmers remain largely responsible for the dual priorities of feeding us and caring for the land.
Family farms are essential to global food and beverage production. Experts estimate that there are over 500 million family farms, 475 million of which are small farms (<2 hectares), supplying markets across the world. Family farms produce around 80% of the world’s food; but not all family farms are small. Nonetheless, small family farms produce about a 1/3rd of the global food supply, and if we include farms up to 5 hectares (12.4 acres) into the equation -still pretty small- then they produce close to half (46%) of the world’s food supply.
About 2 billion humans strive to make a living off of these 475 million small farms. However, the “paradox”, in the words of Pope Francis, is “those who produce food are the ones who suffer from a lack of or scarcity of food.” Despite huge technological leaps forward – mechanization, synthetic fertilizers, improved seed, AgTech – that have benefited agricultural production, farming remains hard and uncertain work. The success or failure of agriculture is intimately linked to the weather and climate, to global market trends like the price of oil and shipping logistics, and also the financial trading of commodities. Furthermore, many of the technological advances listed have not reached the world’s smallholders. And yet despite these challenges, 2 billion individuals continue to make a living from farming, ensuring many of us – if unfortunately, not all – eat every day.
Given the magnitude and complexity of the effort to keep the planet fed, it should come as no surprise that agricultural production, and the agribusinesses which act as the critical link between smallholders and markets, have large financing needs. It also should come as no surprise, given some of the challenges I have outlined that the world of finance often casts a wary eye at agricultural businesses, preferring to invest its capital in safer and less volatile initiatives like construction, manufacturing, the provision of services or banking. A recent World Bank brief states: “Agriculture loans and investments portfolios currently are disproportionately low compared to the agriculture sector’s share of GDP.”
However, since agriculture plays this central role in rural development, social stability, and environmental conservation, low investment in this sector is not in the interest of the common good. So, let’s explore in greater detail what makes investing in agriculture unique and thus risky. I would like to posit that there are 4 key characteristics which make investing in agriculture, and especially smallholder agriculture, a unique proposition. These characteristics are:
- The outsized impact of climate patterns and weather on the bottom line.
- The transaction costs of the vertically integrated business models* commonly employed in smallholder agriculture – think farmer-run cooperatives or outgrower (contract farming) schemes.
- Policy challenges: a lot more eaters than producers vote.
- A lack of expertise/specialization of financial institutions working with the agricultural sector.
A better understanding of each of these key characteristics of smallholder agriculture and agricultural value chains, especially in banking and investment circles, can undoubtedly lead to strategies and solutions – whether endogenous or exogenous – which will allow us to mitigate risk and increase investment in agriculture. In the next post in this series, I will dive deeper into each of these characteristics and illustrate each using the cases of a few of CRS’ agribusiness clients.
*Vertical integration: In the best cases this improves coordination, but it also adds layers of complexity (production-processing-finance-logistics) and adds high transaction costs (aggregating the product and organizing all of those smallholder farmers) to business operations.