Climate Change and Coffee Farm Relocation in Ethiopia: a Real-Options Approach

Abstract

Climate change and emerging pest and diseases may negatively affect coffee yields and revenues in some Ethiopian regions. Hence, the relocation of coffee farms to other areas has been suggested. In this paper, we study how sunk establishment costs, uncertain net returns, and policy induced incentives may affect the timing and value of a coffee farm relocation. This is done by developing a real-options model taking into account the relevant drivers of the farmer's decision to relocate. We then present an empirical analysis examining a hypothetical relocation. We show that relocation is a rather attractive opportunity even though the presence of volatile net returns and relatively high establishment costs may induce its postponement. Thus, we identify under which circumstances subsidies may foster the relocation process and determine their amount.

Keywords: Real-options, Coffee farms, Climate Adaptation, Relocation

JEL Classification: C61, Q54, Q58, R11