An Economic Analysis of Agricultural Support Prices in Developing Economies

Abstract

The goals of the Guaranteed Support Price (GSP) scheme, adopted by several developing countries to support their farmers and the underprivileged population, are threefold: (a) as a supply-side incentive, to ensure high output from the farmers, (b) as a demand-side provisioning tool, to subsidize the consumption needs of the poor, and (c) to maintain an adequate amount of foodgrains as reserve stock, to mitigate the adverse effects of yield uncertainty (food security). We offer analytically-supported insights on the fundamental aspects of this scheme by analyzing a Stackelberg game between a homogenous population of small farmers and a social planner. We model the strategic behavior of the farmers and the consuming population (Above- and Below-Poverty-Line consumers), and compare the equilibrium outcome with that under the Direct Benefits Transfer (DBT) scheme, where the social planner simply distributes the budget among the BPL consumers. The comparison of the social planner’s surplus depends on the marginal value from maintaining a reserve stock (i.e., the significance of food security). If this value is high, then the surplus under the GSP scheme strictly dominates that under DBT; otherwise, the surplus is identical. The comparison of the production by the farmers depends on two economic forces – the poorness of the BPL consumers and yield uncertainty. If the poorness is extreme, then the two schemes lead to identical production. If yield uncertainty is dominant, then DBT is ineffective in improving production while the GSP scheme can induce a strictly higher production by strategically choosing the reserve stock.

Keywords: Support Prices, Agricultural Operations, Operations in Developing Economies, Food Security

JEL Classification: C72, D40, L11, L22