Inversely, providing access to modern price risk management instruments (which tend to be virtually cost-free) is in relative terms of the greatest benefit to the poorest farmers. This implies that one should be careful when evaluating the impact of programs to bring such tools to the farming community. In practice, better-off, generally better-educated farmers can respond more easily when provided with the opportunity to use modern risk management tools, and also, the absolute volumes that they produce are larger. So it is likely that in the short term at least, one can see the largest benefits of such programs accrue to the farming elite. But in the medium term, the impact on poor farmers’ livelihoods, and their capacity to escape from the poverty trap, is likely to be significant.
Box 2: Cooperatives’ price risk exposure
Cooperatives may engage in a number of marketing and pricing functions:
At some part of the production cycle (often at the time that the major decisions on input usage are made) they may guarantee a (minimum) price to farmers.
They may provide inputs on credit, and sometimes also cash credit, to farmers, with reimbursement to be made through deduction from the farmers’ final sales revenue
At harvest time, they buy from farmers. Nowadays, this is often a competitive process, with farmers ready to abandon their cooperative (and their obligations to reimburse their loans) by selling to a trader who may offer only a few per cent more. Often, the cooperative may offer their farmers an initial first payment, with a second payment to be made once the coffee has been sold (assuming that the sales price is sufficiently high), and a third payment in the form of a share in the cooperative’s profit at the end of the season.
The cooperative then processes the coffee, and sells it—directly to a trader, exporter or processor, or through an auction. In the case of Arabica, processing and transport time together, it may take six to eight weeks for the coffee to be ready for sale; in the case of Robusta, the cooperative may carry the inventory only for two weeks or so. In this period, the cooperative generally carries all the risk on the value of its inventory. In some cases, the cooperative may already sell the coffee before it is processed, at a fixed price, or at a price-to-be-fixed (PTBF) at some time prior to delivery (PTBF contracts will be discussed in the next chapter).
Cooperatives can thus be exposed to a complex series of price risks: - When a cooperative promises a minimum price to farmers six to nine months prior to the expected time of sale of the coffee, it runs the risk that prices fall to a level at which it cannot keep its promise; this can destroy farmers’ trust in their organization. When it is linked to a system of input credits, the cooperative can then also expect massive defaults. In principle, the cooperative could hedge this risk by buying options, but in what quantity? If the initial price that the cooperative offers to farmers is too much below that offered by traders (typically, farmers may desert their cooperative for a price difference of as little as 5–10 per cent) they will not be able to buy and process enough to cover their fixed costs; not to mention the fact that farmers who sell outside of the cooperative marketing system may default on the (input) credits that the cooperative provided to them. So there is much pressure on the cooperative to pay as high an initial price as possible, leaving little or no protection against the risk of price falls. Once the cooperative has taken possession of the coffee, farmers generally feel that price risks are now the cooperative’s problem. They will not accept to reverse part of their initial payments to cover their cooperative’s losses. Given the time between the purchase of coffee by the cooperative and its sale, the cooperative runs a significant risk (in one - -