FUNDAMENTALS

OF
AGRICULTURAL
ECONOMICS

WASHINGTON MUCHINERIPI MUZARI

0
FUNDAMENTALS OF AGRICULTURAL
ECONOMICS

By

Washington M. Muzari

PhD Development Studies (Leadership Afric. Dev.); Post

Grad. Dip. Higher Edu.; MPhil Agric. Econ; BSc Agric.
Econ; Dip. Business Admin & Management; Cert. Project
Planning & Management.

1
FUNDAMENTALS OF AGRICULTURAL
ECONOMICS

Published by

ASARE Publishers

Copyright © W.M. Muzari, 2015

Third Printing, 2021
P. Bag 7724, Chinhoyi
Zimbabwe
Mobile: +263 (0) 772 661 825
Email: muzarimuchineripi@gmail.com

ISBN: 978-0-7974-6596-1

2
 ABOUT THE AUTHOR

Washington Muzari holds a PhD in Development Studies (Leadership for Africa’s

Development) from the University of Africa; a Post Graduate Diploma in Higher
Education from Chinhoyi University of Technology (CUT); a Master of Philosophy
Degree in Agricultural Economics from the University of Zimbabwe; a Bachelor of
Science Honours Degree in Agricultural Economics, also from the University of
Zimbabwe; a Diploma in Business Administration & Management from Cambridge
Tutorial College; and a Certificate in Project Planning & Management from the
Zimbabwe Institute of Public Administration and Management. Dr. Washington
Muchineripi Muzari has taught a wide range of degree courses at Chinhoyi University
of Technology, Women’s University in Africa, and Zimbabwe Open University between
2005 and the present date. The modules that he taught and/ or coordinated at CUT
include Agricultural Economics; Farm Management; Systems Analysis in Agriculture;
Farm Production Planning and Control; Agricultural Extension & Communication;
Agribusiness Management; Agro-entrepreneurship; Industrial Attachment; Farm
Attachment; and Supervision of Research Projects. The modules that he taught at the
Women’s University in Africa include Livestock and Crop Production Economics;
Managerial Economics; Industrial Crops; and Agribusiness Accounting. The modules
that he taught at Zimbabwe Open University include Introduction to Agricultural
Economics; Farm Management; Agriculture and Food Marketing; Management
Concepts; Agricultural Extension and Communication; Macroeconomics of
Agriculture; Agribusiness Management; and Supervision of students’ Research
Projects. Dr. Muzari’s current occupation is that of Senior Lecturer at CUT. Before
joining CUT in 2005, he worked as Agricultural Economist in the then Ministry of
Agriculture and Rural Development; Projects Manager at Jimat Development
Consultants; Research Fellow at the University of Zimbabwe; and Economic
Investigator at the International Crops Research Institute for the Semi-Arid Tropics.
He also participated as Consultant in at least 12 international, regional and national
development projects.

3
 ABOUT THIS BOOK
This book aims to achieve the following: develop knowledge and
understanding of advanced principles of scientific agriculture;
develop an appreciation of how knowledge of agriculture can be
applied to identify and solve agricultural problems; demonstrate
sound agricultural practices and techniques; promote awareness of the
contribution of agriculture to the needs of society; develop a positive
attitude towards conserving natural resources and their use for
sustainable development; and provide a suitable foundation for the
study of agriculture or related courses at tertiary level and for
professional courses which require students to have knowledge of
agriculture on admission.
Using the knowledge gained from studying this book, readers should
be able to, among other things: recall, recognize and demonstrate
understanding of specific agricultural facts, principles, relationships,
concepts and terminology; communicate information coherently in
continuous prose; organize and present information by means of
tables, graphs, diagrams, and drawings; analyze and interpret
numerical and non-numerical agricultural information; explain and
interpret specific phenomena in terms of agricultural principles; make
predictions and propose hypotheses, using agricultural facts and
principles; and solve agricultural problems qualitatively and
quantitatively.
This book is divided into three parts (Parts A to C). Part A is titled
“Principles of Agricultural Economics”, and it covers chapters 1 to 3.
Part B is titled “Farm Management”, and it covers chapters 4 to 6.
Lastly, Part C is titled “Marketing”, and it covers chapters 7 and 8.

4
 Table of Contents
Table of Contents ................................................................................ 5
PART A: PRINCIPLES OF AGRICULTURAL
ECONOMICS ....................................................................................... 9
CHAPTER 1: INTRODUCTION TO AGRICULTURAL
ECONOMICS.......................................................................................... 10
Definition of Agricultural Economics .................................................. 10
The Nature of Agricultural Economics ................................................ 10
The Scope of Agricultural Economics ................................................. 10
The Nature of Agriculture as Distinct from Industry .......................... 11
Commercialization of Agriculture in Zimbabwe ................................. 14
CHAPTER 2: SUPPLY AND DEMAND OF AGRICULTURAL
PRODUCTS ............................................................................................ 17
Introduction .......................................................................................... 17
Equilibrium Price ................................................................................. 19
Demand and Supply Curves ................................................................. 20
Price Controls: Interference with Equilibrium ..................................... 21
Cheapness/ Affordability ................................................................... 22
Maintenance of incomes .................................................................... 22
Minimum wages ................................................................................. 22
Price stability .................................................................................... 22
Strategic commodities ....................................................................... 23
Price Ceilings and Price Floors ............................................................ 23
Price ceiling....................................................................................... 24
Price floor .......................................................................................... 24
THE THEORY OF DEMAND ............................................................ 25
The Meaning of Demand...................................................................... 25
Household and Market Demand........................................................... 26
Factors Affecting Demand ................................................................... 26
Price Elasticity of Demand ................................................................... 29
Concept .............................................................................................. 29
Factors affecting price elasticity of demand ........................................ 31
Significance of price elasticity of demand to agriculture .................... 34
Income Elasticity of Demand ............................................................... 36

5
 Engel’s Law .......................................................................................... 38
Significance of Income Elasticity of Demand to Agriculture.............. 38
Cross Elasticity of Demand .................................................................. 39
THE THEORY OF SUPPLY ............................................................... 40
The Meaning of Supply ........................................................................ 40
Factors Determining Supply................................................................. 40
Price Elasticity of Supply ..................................................................... 45
Concept .............................................................................................. 45
Determinants of the Price Elasticity of Supply .................................... 46
CHAPTER 3: PRODUCTION AND COST CONCEPTS IN
AGRICULTURE ..................................................................................... 49
Introduction .......................................................................................... 49
Key Concepts in Agricultural Production Economics ......................... 49
Goals/ Objectives of Agricultural Production Economics ................... 51
Context/ Setting of Agricultural Production Economics ..................... 52
Rationale for Agricultural Economics ................................................. 53
The Production Function ...................................................................... 56
Methods of presenting a production function ...................................... 57
In functional notation ........................................................................ 57
In the form of a numerical table ........................................................ 59
As an algebraic equation ................................................................... 60
As an input-output curve ................................................................... 62
Conclusion ............................................................................................ 64
Law of Diminishing Returns ................................................................ 64
Costs of Production .............................................................................. 66
Fixed, variable, and total costs ............................................................. 66
Average Fixed Costs (AFC), Average Variable Costs (AVC), and
Average Total Costs (ATC) ................................................................. 69
Marginal Costs ..................................................................................... 71
Opportunity Costs................................................................................. 71
Economies and Diseconomies of Scale ............................................... 73
Economies of scale ............................................................................... 73
Sources of economies of scale ............................................................. 75
Sources of economies of scale on large scale commercial farms ........ 77
Sources of diseconomies of scale ......................................................... 77
PART B: FARM MANAGEMENT .............................................. 80
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CHAPTER 4: INTRODUCTION TO FARM MANAGEMENT .......... 81
Overview .............................................................................................. 81
Definition of Farm Management .......................................................... 81
The Fields of Farm Management ......................................................... 83
Production............................................................................................. 84
Marketing ............................................................................................. 86
Finance.................................................................................................. 87
Human resources .................................................................................. 89
CHAPTER 5: LAND TENURE SYSTEMS IN ZIMBABWE .............. 90
Introduction .......................................................................................... 90
Large Scale Commercial Farms ........................................................... 91
Communal (Smallholder) Farming Areas ............................................ 92
Small Scale Commercial Farms ........................................................... 94
Old Resettlement Areas ........................................................................ 94
Fast-Track Land Reform ...................................................................... 96
Model A1 Resettlement Areas ............................................................. 97
Model A2 Resettlement Areas ............................................................. 98
Impacts of Land Reform on Agriculture .............................................. 99
Risk and Uncertainty in Smallholder Agriculture ............................. 102
Definitions of Risk and Uncertainty ............................................... 102
Uncertainty in Smallholder Agriculture ............................................. 103
Types of uncertainty ........................................................................ 104
Risk aversion ................................................................................... 107
Policy Implications of Risk and Uncertainty ..................................... 108
CHAPTER 6: FARM PLANNING CONCEPTS AND BUDGETING112
Rationale for Planning ........................................................................ 112
Income and Costs Concepts in Farm Planning and Budgeting .......... 113
Components of a Budget .................................................................... 115
The Budgeting Process ....................................................................... 115
Components of an Enterprise Budget ................................................ 117
Uses of the Gross Margin ................................................................... 118
Complete or Whole Farm Budgeting ................................................. 119
Cash Flow Budgeting ......................................................................... 123
Uses of Cash Flow Budgets ............................................................... 124
Partial Budgeting and Analysis .......................................................... 127

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 Situations in Which Partial Budgeting is Applicable for Decision
Making ................................................................................................ 129
Format and Procedure for Partial Budgeting ..................................... 130
Partial Budgeting Example................................................................. 131
Break-even Analysis........................................................................... 136
Farm Decision Making Processes for Profitability and Sustainability137
Limitations to Farm Planning on Small Scale Commercial,
Communal and Resettlement Farms in Zimbabwe ............................ 139
PART C: MARKETING................................................................. 141
CHAPTER 7 : MARKETS AND COMPETITION ............................. 142
Introduction ........................................................................................ 142
Perfect Competition ............................................................................ 143
Conditions for perfect competition.................................................. 143
Functions of the price system under perfect competition ............... 144
The individual producer in perfect competition.............................. 145
Profit maximization under perfect competition .............................. 149
The perfectly competitive industry .................................................. 152
Monopoly Market ............................................................................... 154
The Monopolist’s Demand (D), Marginal Revenue (MR), and
Total Revenue (TR) Curves ............................................................ 155
The Monopolist’s Profit Maximizing Output ................................. 157
Arguments against monopoly .......................................................... 159
Arguments for monopoly ................................................................. 160
Monopsony Market ............................................................................ 162
CHAPTER 8: MARKETING INSTITUTIONS AND FUNCTIONS . 163
Marketing Functions of Local Banks, Boards and Unions ................ 163
Regional and International Trade Agreements .................................. 167
Different types of trade agreements/ trading blocs ............................ 168
Zimbabwe’s Regional/ International Trade Agreements ................... 170
Government Intervention in Agricultural Markets ............................ 171
Problems of Marketing Agricultural Products ................................... 173
REFERENCES AND FURTHER READING ...................................... 177

8
PART A: PRINCIPLES
OF AGRICULTURAL
ECONOMICS

9
 CHAPTER 1: INTRODUCTION TO AGRICULTURAL
ECONOMICS
Definition of Agricultural Economics
Agricultural Economics is an Applied Social Science. It deals
with how humans use technical knowledge and scarce
productive resources (land, labour, capital). In essence,
agricultural economics deals with the activities of production
and distribution of food and fibre to members of society. It
uses the scientific method and economic theory in finding
solutions to problems in agriculture and agribusiness.
The Nature of Agricultural Economics
As a social science, Agricultural Economics is concerned with
the allocation of scarce resources in producing, processing and
consuming farm products. Agricultural Economics is both
theoretical and applied in its character. It is theoretical
because it provides the development of principles of resource
economics, production economics and distribution economics.
It is also an applied science as it deals with the application of
these principles to production, consumption and distribution
activities to agriculture.
The Scope of Agricultural Economics
The Agricultural Economist deals with the following
relationships which constitute the scope of agricultural
economics:
(i) relations between different enterprises indicating the
choice of farming as an occupation and the
relationship between the different branches of farming,
10
 a choice between cultivation of crops or animal
husbandry, or even between various crops;
(ii) the problem of selecting a good combination of
various factors of production, for example labour
versus capital;
(iii) relations of value of different factors of production and
the final product, i.e. cost-benefit relationship or the
relationship between factors of production and price;
(iv) commercial relations between farmers and the rest of
the economy and even with the outside world (e.g.
regional and international markets).

Thus Agricultural Economics is not that much different from

the general economics. All the tools employed in general
economics are also used in Agricultural Economics,
nevertheless with a bias towards agricultural goods and
services.
The Nature of Agriculture as Distinct from Industry
In agriculture the fundamental factors which have a bearing
on decision making as distinct from industry are as follows:
Biological nature of agricultural production. Agriculture
deals with living beings or organisms like plants and animals.
Therefore, they are prone to a number of health hazards
resulting from unfavourable weather conditions, and disease
infection. The same is not true of non-agricultural sectors.
Agriculture is a household affair. Particularly in smallholder
agriculture, agricultural units being very small and widely
dispersed are typical family units. It leads to greater
11
competition in agriculture than in industry because no
individual farmer can influence price by altering his or her
output. Moreover, these small units have comparatively less
scope for the division of labour. Industry, on the other hand,
has generally larger units of production in which production at
a very high level is possible.
Heavy dependence on climate. Agricultural production is
very largely dependent on climatic factors such as
temperature, rain, storm, sunshine, humidity, floods, etc.
Industrial production, on the other hand, is very much less
dependent on climatic factors.
Limited choice of location. Since land is the basic factor of
production in agriculture, a farmer has limited choice of
location and size of farm. An industrial unit, in contrast, can
be located practically anywhere, provided certain
infrastructure like power and communications are available.
The size of the production unit in industry can also be decided
upon with relative flexibility.
Rapid price fluctuations. Because of seasonal production and
continuous demand for agricultural commodities and their
perishable nature, the fluctuations in agricultural product
prices are very high. Industrial production, on the other hand,
is not seasonal in nature and as a result there are no rapid price
fluctuations.
Law of diminishing returns. In agriculture, the law of
diminishing returns begins to operate at an earlier stage than

12
in industry. This law states that after a certain stage in
production has been reached, the application of additional
capital and labour units on a given piece of land leads to a less
than proportionate increase in output and thus to an increase
in the costs of production per unit of produce.
Time-lag in agriculture. Agriculture involves a time lag
between the point of time when expenditure is incurred and
the time when returns for such expenditure are obtained. This
lag may be defined as the length of time during which costs
are incurred before a crop is marketed. During this interval,
there is every possibility of change in demand and price which
may upset the calculations of the farmer. In this way, business
fluctuations cause variations in farm income and lead to
greater risks and low turnover.
Problems of standardization. Apart from the high
perishability, the variation in size, colour, flavour etc. of
produce in the agricultural sector is more when compared with
the non-agricultural sector. Therefore the grading and
standardization of agricultural products becomes difficult and
costly.
Low elasticity of demand and supply. Because of the seasonal
nature of production, the response of output to changes in
price is low. For example, if the price increases after the
planting season is over, the farmer is unable to increase
supply or production level of the commodity in the immediate
period in order to capitalize on the price increase.

13
Commercialization of Agriculture in Zimbabwe
Smallholder commercialization has been a long drawn out
process in both the colonial and post-colonial period in
Zimbabwe. Before the arrival of white settlers in 1890,
Zimbabwe’s smallholder agriculture was based on a wide
range of food crops for balanced household nutrition and risk
aversion. Some of the crops grown were finger millet, pearl
millet, sorghum, maize, groundnut, rice, sweet potato,
pumpkin and melon. Apart from the introduction of a few
cash crops, similar crop mixes many years after independence
continue to dominate smallholder farming systems.
Colonial rule in 1890 saw the emergence of the large scale
commercial farming sector. This sector consisted of white
settlers, and it existed alongside a subsistence smallholder
farming sector composed of blacks. The white large scale
commercial farming sector received unqualified government
support to raise agricultural production and productivity,
largely at the expense of the smallholder farming sector. This
scenario persisted until the attainment of independence in
1980.
The agricultural thrust of the majority rule government was to
increase productivity in the smallholder sector, while
maintaining production on large scale commercial farms. In
this regard, the government focused on empowering
smallholder farmers through agricultural credit, research,
extension, establishing marketing depots, roads and bridges in
communal areas, and providing favourable pricing policies to
14
increase agricultural production. This policy thrust
contributed to the agricultural revolution in the 1980s and
1990s. Smallholder farmers have as a result transformed
themselves from subsistence to commercial farmers of a
number of key agricultural commodities throughout the post-
independence period.
In Zimbabwe, smallholder farming was treated as a way of
life till the advent of Independence. With the
commercialization of the economy, it is being transformed
more and more into a business venture. With the passage of
time, farmers have had to increase the percentage of
purchased inputs. As new high-yielding or improved varieties
of crops become available, more and more farmers are turning
to the use of purchased as opposed to retained or open-
pollinated varieties. Earlier on, the farmyard manure (e.g.
cattle dung) and compost produced at home and farm were
used as a source of soil nutrients. But now, chemical
fertilizers have assumed an important role and account for a
sizeable cost in farm budgets. Against the menace of insect
pests and diseases, farmers are adopting increased use of
pesticides to combat these undesirable phenomena. Herbicides
are also being used in the destruction of weeds which would
otherwise compete for water and nutrients with the crops. In
general, the inputs for which the farmer has to incur direct
expenditure have replaced the home or farm produced inputs.
In smallholder agriculture before commercialization, the
output produced on the farm was of a diversified nature and
15
was based on direct household or family requirements. Only a
small part of the produce formed the marketable surplus. But
nowadays, the marketable surplus has increased dramatically.
Government intervention or support has been particularly
instrumental in raising marketable surplus among smallholder
farmers in Zimbabwe.
As a result, over the first decade of independence in
Zimbabwe (1980-1990), the percentage of smallholder sales
of maize, cotton and sunflower rose from less than 10% in the
pre-independence era to between 50% and 70% over the ten
year period. The percentage contribution of smallholder
farmers to total maize production showed an increase from 42
percent in 1980 to 1985, to 60 percent in 1985 to 2000.
Similarly, groundnuts increased from 86 percent from 1980 to
1985, to 94 percent from 1995 to 2000. Significant gains were
also made by smallholders in cotton and burley production.
Therefore, it is apparent that smallholder agriculture in
Zimbabwe has become more of a business and less as a way
of life.
Before 2000, smallholder farmers consisted mainly of
communal farmers. However, the addition of A1 farmers to
the land tenure systems has broadened the base of
smallholders.

16
 CHAPTER 2: SUPPLY AND DEMAND OF
AGRICULTURAL PRODUCTS
Introduction
The study of the demand and supply of agricultural goods and
services, and the way they interact, forms a fundamental part
of agricultural economics. Indeed, the majority of the
problems we come across in everyday life can be explained by
a careful examination of the demand and supply of goods and
services.
By way of introduction to this important area of study, let us
take an example from agriculture. At various times of the year
some dairy farmers are willing to sell milk, while consumers
are willing to buy it. In this situation, both a demand and a
supply of milk are said to exist. Let us now imagine that we
can select one market on one day, and have the power to ask
as many questions as we like. Furthermore, let us assume that
we can dictate what the price of milk is going to be.

17
Table 1: Demand Schedule for Milk
Price of milk Quantity of milk that
buyers are willing to buy
($/litre)
(litres)
2.00 2,500
2.50 2,000
3.00 1,500
3.50 1,000
4.00 500

If we take all those who wish to buy and tell them that the
price of milk will be $4.00 per litre on that day, a high price
for that particular season, very few consumers will wish to
buy and the quantity sold will be small. If we say that the
price will be $3.50 per litre, more buyers will be interested
and each buyer will tend to buy more milk, because the price
of milk will be falling. As a result, a larger quantity of milk
will be bought. As the price is lowered, more interest will be
shown. If we make a table of the quantity of milk that
consumers could buy at the various prices, we end up with
what is called the demand schedule (Table 1).
If we moved on to the suppliers of milk (i.e. dairy farmers) we
would find that at a low price the quantity they would be
prepared to sell would be small. Only a few suppliers would
18
be prepared to sell at low prices, but if we offered a higher
figure the quantities offered would increase: more sellers
would want to sell, and each seller would want to sell a
greater quantity. Similarly, we could draw up a table or
schedule of prices and the quantities of milk that suppliers
would be prepared to supply at these prices. Such a table is
called the supply schedule (Table 2).
Table 2: Supply Schedule for Milk
Price of milk Quantity of milk that
sellers are willing to sell
( $/ litre)
(litres)
2.00 1,000
2.50 1,250
3.00 1,500
3.50 1,750
4.00 2,000

Equilibrium Price
In the hypothetical example discussed above we have two
schedules, one of demand and one of supply. If we set the
price of milk at $2.00 per litre, buyers would be willing to buy
2,500 litres but sellers will only be prepared to provide 1,000
litres, so there will be a shortage of milk at that price. If we set
the price at $4.00 per litre, suppliers will be prepared to sell
19
2,000 litres but only 500 litres will be wanted, so there will be
an excess supply of milk. Looking at the two schedules will
show that there is only one price at which the quantity
demanded and supplied exactly balances. This price is $3.00
per litre and at this price 1,500 litres will change hands
between buyers and sellers. This is known as the equilibrium
price. The equilibrium price of a commodity is that price at
which the quantities demanded and supplied at a given time
period are equal to each other.
Demand and Supply Curves
It is common practice, and a useful aid to understanding, to
express demand and supply schedules in graphical form.
When plotting schedules it is conventional to place price on
the vertical axis and the quantities supplied or demanded on
the horizontal axis. Most demand curves slope downwards
from left to right, implying that more of a commodity is
demanded as price falls. Supply curves slope upwards from
left to right, indicating that more is supplied as price rises.
Figure 1 is a graphical illustration of demand and supply
curves for an agricultural commodity.

20
Figure 1: Demand and Supply Curves and Equilibrium
Price

Demand

Price
($ Per Litre) Equilibrium Price Supply
3.00

0 1,500
Quantity Demanded and Supplied (Litres)

Price Controls: Interference with Equilibrium

Governments sometimes interfere with equilibrium prices.
Governments do not just freeze prices at a low level; they
sometimes maintain them at artificially high levels. It is
possible for a government to be fixing some prices too high
and others too low at the same time. Objectives of
government intervention include the following:
21
Cheapness/ Affordability
It may be the objective of a government to keep the price of a
product at a level at which it can be afforded by most people
(e.g. food or housing).
Maintenance of incomes
The government may want to keep the incomes of producers
at a higher level than that which would be produced by market
forces (supply and demand). This is often true of farm
incomes.
Minimum wages
Where wages are too low, a government may try to improve
the position of workers by insisting on a minimum wage.
This may, however, have the effect of encouraging employers
to employ fewer people and instead substitute other factors of
production (e.g. labour-displacing technology). Thus the
workers that remain in employment are better off but others
will have lost their jobs.
Price stability
If there is a wide variation in the price of produce from year to
year (e.g. agricultural product prices), the government may
wish to iron out these variations in the interests of both
producers and consumers. Agricultural products are often
subject to unplanned variations in supply. Because of the
influence of such things as the weather and diseases the actual
output in any particular year may be greater or smaller than
that which farmers planned for. High prices in bad years

22
might suit farmers but might cause distress or even famine to
consumers. On the other hand, although consumers might be
delighted with low prices in good-weather years, these prices
might result in bankruptcy for many farmers. In extreme cases
the price may fall so low that it does not even cover
harvesting and distribution costs and the crops may have to be
ploughed back into the soil. It would seem desirable therefore,
to attempt to stabilize agricultural prices and incomes through
government intervention in the setting of prices and incomes
rather than leaving them at the mercy of market forces.
Strategic commodities
The government sometimes subsidizes a product by giving an
extra amount of money to the producers for each unit they
sell. This is done to promote the production of a certain
commodity and/ or the incomes of producers. In Zimbabwe,
good examples of strategic commodities are tobacco and
maize. Tobacco is strategic because it earns foreign exchange
for the country. Maize is a strategic commodity because of its
contribution to household and national food security.
Price Ceilings and Price Floors
Price regulation is a deliberate attempt to interfere with the
market mechanism. If price controls are to be effective, they
must be designed to prevent the market from reaching the
‘natural’ equilibrium. Government intervention of this type
takes two forms: (i) price ceilings and (ii) price floors.

23
 Price ceiling
Price ceilings are often introduced when the equilibrium
market price is considered so high that, if it prevailed, some
groups within the society would be severely disadvantaged. A
price ceiling (PC) is set below the equilibrium price (PE), as
illustrated in the diagram below.
Figure 2: Price ceiling

S
PE
Price

PC
D
0
Quantity

Price floor
Conversely, governments may introduce price floors where
the equilibrium price is deemed ‘too low’. A price floor (PF) is
set above the equilibrium price (PE), as illustrated below.

24
 Figure 3: Price floor

PF
Price

PE

S
D
0
Quantity

THE THEORY OF DEMAND

The Meaning of Demand
Demand for a commodity occurs when people have a desire
for the commodity coupled with the willingness and ability to
purchase it. For example, a starving man may want some
bread very badly. He may even physically need it to keep
body and soul together, but unless he has the purchasing
power in his pocket to buy that bread, he will have no access
to it. People who die from lack of food in poor, drought-
stricken countries do so because they lack the resources to buy
food from other parts of the world where it is plentiful. On the
other hand, if a farmer has the financial resources which
would enable him to buy a new car, but he refuses to replace
the old one for sentimental reasons, there is no demand from
him for a car, in this case through lack of desire. Similarly,
religious taboos may eliminate demand for beef or pork

25
irrespective of the spending power of the people who adhere
to the religions.
Household and Market Demand
Often individuals exist in groups called households, which
make purchases collectively, reflecting the wants and incomes
of the various members of the household. A man, his wife and
say five children, tend to buy things as a household rather than
as seven separate individuals. So we talk of household
demand for a commodity. When talking about the demand for
a whole community for a commodity, such as maize meal in
Zimbabwe, we use the term market demand. Demand is a
flow, meaning that it changes from time to time. So, if we say
a household’s demand for maize meal at a given price is 25
kgs, we must add the phrase “per month”, or whatever the
relevant time period is.
Factors Affecting Demand
The factors that affect the demand for an agricultural
commodity include:
1) the price of the commodity itself;
2) the incomes of consumers;
3) the price of competitive (or substitute) goods;
4) the price of complementary goods;
5) tastes and preferences of consumers;
6) the size of the population; and
7) the income distribution pattern of the population.

26
 1) The price of the commodity itself
When the prices of most commodities go up, the quantities of
them which consumers are willing to buy decline. Conversely,
when prices are lowered, the quantities demanded increase.
2) The incomes of consumers
Generally, when consumer incomes rise, the quantity
demanded of most commodities rises. However, the degree of
responsiveness of the quantity demanded to changes in
income may vary from commodity to commodity in any given
society. In a few uncommon cases, it may turn out that the
quantity demanded of a particular good actually declines with
a rise in consumer incomes. Such goods are commonly
referred to as “Giffen goods”.
3) The price of competitive (or substitute) goods
When the price of a good rises in comparison to the price of
its substitute, consumers tend to adjust their purchasing
pattern in such a way that they buy less of the good whose
price has increased, and more of the substitute good, which is
now relatively cheaper. (An example of substitute goods is
beef and chicken).
4) The price of complementary goods
Complementary goods are those which are usually used
together, such as oil and diesel for tractors. If more diesel is
bought in any one year, more oil is also bought because
tractors use both together. The effect on the demand curve for
oil of a rise in the price of diesel is to shift it to the left.

27
 5) Tastes and preferences of consumers
The tastes and preferences of consumers for a particular good
may change over time. Consumer tastes may shift in favour
of, or against, a product, in terms of quantities demanded. An
example of a decrease in demand for a product due to negative
shifts in tastes and preferences, is the one that occurs when
there have been changes in fashion, for items such as clothing
or footwear for instance. Tastes and preferences for a
commodity may also shift due to changes or advances in
technology. For example, consumers may demand less of
particular type of computer software or hardware, an
appliance or a machine, simply because it is not up to date, or
abreast with advances in modern technology. Quantities
demanded may also fall due to a company’s cut-backs or
reductions in promotional activities such as advertising. The
whole essence of allocating huge sums of money in
advertising expenditure is to cause a shift in tastes and
preferences towards, hence an increase in the demand for, the
commodity being advertised.
6) The size of the population
A rise in the country’s population will increase demand for
goods even if average income per head and all prices remain
the same. There are simply more people desiring to be fed,
clothed, and housed. Assuming that they possess the
purchasing power, the country’s demand curve will shift to
the right.

28
 7) The income distribution pattern of the population
The income distribution pattern of a given population is
defined by the level of earnings of a defined percentage of the
population, in terms of the percentage of total income of that
population. For example, the income distribution pattern of a
population may be stated as: “x percent of the population
earns y percent of total income”, e.g. “25 percent of the
population earns 40 percent of total income”. Income
distribution is perfectly equitable when, for example, 50
percent of the population earns 50% of the total income; 20
percent of the population earns 20% of income; 30 percent of
the population earns 30% of income; 62.5 percent of the
population earns 62.5% of income; and so on.
The demand for certain capital goods like tractors will rise if
the distribution of income is highly inequitable in such a way
that a small percentage of the population earns a large
proportion of the country’s income. On the other hand, the
demand for simple consumer goods will increase, the more
even the distribution of income becomes. A change in the
distribution of income among households may not affect
average income per head, but will cause the demand for some
goods to increase and demand for others to fall.
Price Elasticity of Demand
Concept
The demand for certain commodities is said to be price
sensitive or price elastic, while the demand for other
commodities is said to be price inelastic. It is possible to
29
measure the degree of elasticity of demand for a commodity,
or its responsiveness to price changes. The index used for this
purpose is the price elasticity of demand.
Price elasticity of demand = Percentage change in quantity demanded
Percentage change in price

For example, suppose that at price P1 the quantity demanded

of commodity A at a given market is Q1. Suppose now that the
price of commodity A rises to P2, resulting in a shift in
quantity demanded to Q2. In this situation, the price elasticity
of demand for commodity A is given by:

Price elasticity of demand for A = {(Q2 - Q1)/Q1} x 100%

{(P2 - P1)/ P1} x 100%

A coefficient of -1 means that an x percent change in price

causes a change in the quantity demanded also of x percent. A
figure between 0 and -1 implies that the percentage change in
quantity is smaller than the percentage change in price (i.e.
demand is relatively price-inelastic). A coefficient of greater
than -1 (e.g. -2 or -3) implies that the percentage change in
quantity is greater than the percentage change in price (i.e.
demand is relatively price-elastic).
The price elasticity of demand is accompanied by a negative
sign because a movement along a downward-sloping demand
curve involves either a negative change in price (and a
positive change in quantity), or a negative change in quantity
30
(but a positive change in price). Frequently however, the sign
is omitted and the coefficient of elasticity is taken as the ratio
of the proportionate changes.
The numerical value of the price elasticity of demand will
vary from zero to infinity. Elasticity will be zero if the
quantity demanded does not change at all when the product
price changes. The larger the elasticity, the larger the
percentage change in quantity demanded, for a given
percentage change in price.
If the quantity demanded of a good does not change as price
changes, the demand for that commodity is said to be
perfectly inelastic. It is represented by a vertical demand
curve. If the quantity changes by a smaller percentage than
price, the value of the elasticity will lie between 0 and -1, and
the demand for the commodity is said to be inelastic. If the
quantity changes by the same percentage as the price, the
elasticity will be equal to 1, and the demand is said to be
unitary elastic. If the quantity changes by a larger percentage
than the price, the value of the elasticity will lie between -1
and -∞, and the demand is said to be elastic. If consumers will
purchase all they can at a particular price but none of the
product at a higher price, then the demand for that product is
said to be perfectly elastic, and it is represented by a
horizontal demand curve.
Factors affecting price elasticity of demand
Price elasticity of demand for a good refers to the sensitivity
of quantity demanded of the commodity to changes in its
31
price. It defines the degree of responsiveness of quantity
demanded to price changes. Price elasticity of demand is
reflected in the steepness of the demand curve. The demand
curve for an elastic good (e.g. petrol), is much flatter than that
for an inelastic good (e.g. water). Several factors influence the
sensitivity of the quantity demanded to changes in price. The
factors which influence price elasticity of demand include:
(i) the presence of good substitutes;
(ii) the cost of the commodity in relation to household
income;
(iii) the essential or non-essential nature of a commodity;
and
(iv) habits.

The presence of good substitutes

Buttercup margarine is a good substitute for Stork margarine,
although individual consumers may prefer one brand or the
other. If the price of Buttercup were increased by only a few
dollars, sales of Buttercup would greatly fall because
consumers would switch to alternative margarine brands (such
as Stork) whose price had not increased and which were now
relatively cheaper. The demand for individual brands of
margarine is therefore highly price-elastic. But take a second
example, fresh milk. For many purposes there is no effective
substitute for fresh milk, so even if the price were raised
substantially, the total quantity bought would only decrease
by a small amount. On the other hand, if the price were
lowered, it is unlikely that much increase in sales of milk
32
would occur since there will be little demand transferred to
milk from substitutes. The demand for fresh milk is said to be
inelastic with respect to price changes because of the lack of
good substitutes, and its demand curve is hence quite steep.
The demand for a commodity is thus more elastic if there are
close substitutes for it. A small rise in price will have a
relatively large effect on consumption, as consumers switch to
other commodities which are fairly similar but have not
changed in price. Taking another example, the demand for
beef might be price elastic if there are a number of meat
products (e.g. pork, poultry, mutton) which are viewed as
adequate substitutes.

The cost of the commodity in relation to household income

This is another way of saying that the price elasticity of
demand depends on the proportion of income spent on a
particular product. The higher the product’s share of a
consumer’s budget, the more sensitive the quantity demanded
will be to changes in its price. For products such as seasonings
(e.g. salt and pepper), which may account for a trivial (tiny)
proportion of consumer income, quantities demanded will be
relatively unmoved by a change in price.

The essential or non-essential nature of a commodity

It is difficult to get along without some commodities, like
basic foods, water, clothing and shelter. So if the prices of
these goods go up, the quantity demanded will hardly change.

33
The demand for these commodities is relatively price inelastic
as the quantity changes by a smaller percentage than the price.

Habits
Well-established habits can make consumers’ buying patterns
insensitive to price increases. If the consumption of certain
commodities is habitual, large increases in price will result in
small changes in the quantity demanded of such commodities,
signifying that habits can result in the quantity demanded
being price-inelastic. An example of commodities whose
consumption is habitual is addictive substances such as
alcohol and cigarettes.
Significance of price elasticity of demand to agriculture
Food in its various forms is agriculture’s main product. The
steeply downward-sloping demand curve which the
agricultural industry faces for its products has important
implications on revenue to agricultural producers. Increased
levels of production of agricultural commodities can have a
significant impact on the revenue to the industry from selling
its products, and hence on the incomes of farmers.
To illustrate the implications, we will use a simple model
based on potatoes, showing the impact on revenue to potato
growers caused by the influence of weather on crop yields.
This model contains the essential elements which apply to
many agricultural products.
When favourable conditions cause potato yields to be heavier
than expected, the effect on the supply curve of potatoes is to
34
shift it to the right. At every level of prices growers would be
willing to supply a greater quantity than in a year of normal
yields. The supply curve for potatoes in a normal year lies to
the left of the supply curve for potatoes in a year of more
favourable weather. The supply curve for the year of
favourable weather intersects the demand curve at a much
lower equilibrium market price. Note that the shifts in potato
supply levels has caused a movement in the point of
intersection of the supply and demand curves (which depicts
the equilibrium or free-market price) downwards along the
demand curve, which itself has not shifted. The result is that
the revenue which the potato industry receives, (i.e. the
quantity sold multiplied by the price) is less in the year of
more favourable weather and with greater quantities sold, than
in the year of normal weather and lower quantities sold.
Conversely, a drought year with lower-than-normal yields
would shift the supply curve of potatoes back to the left,
greatly raising the price at which the supply and demand
curves intersect. Revenue would increase because the drop in
quantity sold would be more than compensated by the
increased price.
We have a situation, then, where the unpredictable influence
of weather can cause outputs to vary, so that higher outputs
are associated with lower revenues and lower outputs with
higher revenues. Producers in the agricultural sector can
respond as follows. If increasing the output reduces the
agricultural industry’s revenue from potatoes, the logical way

35
for farmers acting together to raise their revenue is to reduce
production. This would force the supply curve back to the left,
thus pushing up prices and raising revenue.
Besides lowering production, other ways of countering the
negative effects of favourable weather on the farmers’
revenue include:
(i) refrigeration or other forms of storage, which allows
the farmers to hold stocks and releasing them on to the
market in seasons when the market will not be flooded
by the product;
(ii) seeking alternative marketing channels;
(iii) research into alternative uses of the product, which
will increase sales and revenue;
(iv) advertising and other promotional activities;
(v) packaging the products into smaller packets which are
affordable to consumers; or
(vi) value addition (processing).

Income Elasticity of Demand

If a household receives an increase in its income it will also
increase the quantity of goods and services that it will buy, but
it will not increase its expenditures on all commodities
equally. The percentage increase in expenditure will vary
from one commodity to the next. For example, if a household
receives an in income, very little extra quantities of basic
commodities such as maize meal will be bought. On the other
hand, substantial increases in quantities of luxury
commodities might be purchased. The relationship between
36
changes in the quantity demanded and changes in income are
measured by the Income Elasticity of Demand. The formula
used to estimate this elasticity for any commodity is:
Income Elasticity of Demand for = Percentage Change in Quantity Demanded
a Commodity Percentage Change in Income

A low income elasticity of demand for a commodity shows

that the quantities bought are little affected by changes in
income, and vice versa. The effect of a rise in income on the
demand curve for a commodity is to shift the curve to the
right, as illustrated below (Figure 4).
Figure 4: Effect of an income rise on the
demand curve for bread

Price
of
Bread
Demand curve moves to the right
D1 D2

0 Quantity demanded per week

37
Occasionally, it is useful to calculate income elasticity of
demand in terms of the percentage change in expenditure on a
given item.
Income elasticity of expenditure = Percentage change in expenditure on “A”
on good “A” Percentage change in consumer income

Published data on income elasticities of demand will specify

whether they are derived from “quantity” or “expenditure”
measures.
Engel’s Law
The 19th Century statistician Ernst Engel noticed that any
additional income of a household tended to be spent more on
luxuries and non-essentials than on essentials. His
observation, commonly known as “Engel’s Law”, can be
formulated as follows: “The proportion of personal (or
household) expenditure devoted to necessities decreases as
income rises”. Alternatively, “The proportion of household
expenditure devoted to luxuries increases as household
income rises.”
Significance of Income Elasticity of Demand to
Agriculture
Income elasticities of demand have a number of implications
for development planning. Income elasticities of demand for
food decline as income grows in the course of economic
growth, and the proportion of total expenditure devoted to or
spent on food will decrease. Hence the focus of economic
activity will shift away from the agricultural sector.
38
Furthermore, empirical results calculated for some food
products imply that as income grows, the pattern of
production within the agricultural sector itself will have to
change. Since expenditure on some products (namely
livestock products, fruit and vegetables) increases more
rapidly as income grows than on staple foods (e.g. cereals),
increased specialization in livestock and horticultural
production will be required.
Another useful observation concerning elasticities is that
lower income households tend to have larger income
elasticities for food products than higher income households.
Thus the income distribution pattern at a given point in time
will be a significant determinant of food consumption
patterns.
Moreover, in the course of economic growth, the income
distribution pattern will change, and the precise way in which
this occurs will have implications for food consumption levels
in the various income strata as well as for the agricultural
sector itself.
Cross Elasticity of Demand
Competitive goods are goods which are to some extent
substitutes for each other, and they compete to satisfy the
consumer’s wants. Complementary goods are those which are
usually used together, such as tea and sugar, bread and butter,
or oil and diesel.

39
The sensitivity of demand for a product to the price of
competitive or complementary goods is called the Cross
Elasticity of Demand. It is given by the formula:
Cross Elasticity of Demand = Percentage Change in Quantity of Good“A”
Percentage Change in Price of Good “B”

The cross elasticity of demand of competitive goods is

positive, since a rise in the price of one will cause more of the
other being bought. An example of competitive goods is
butter and margarine. When the price of butter rises,
consumers will buy more margarine.
THE THEORY OF SUPPLY
The Meaning of Supply
The supply of a commodity can be defined as the quantity that
producers are willing and able to offer for sale in a given time
period. Like demand, supply is a flow of goods and services.
Factors Determining Supply
The supply of any good depends on five major factors,
namely:
1) the price of the commodity itself;
2) the prices of other goods within the firm’s production
possibilities;
3) the prices of factors of production;
4) the state of technology; and
5) the goals, or objectives, of firms.

40
 1) The price of the commodity itself
Normally, as the price of a good increases, producers are
willing to supply a greater quantity. Producers behave in this
way because greater profits can be made by producing more
of the commodity as its price rises.

2) The prices of other goods within the firm’s production

possibilities
If the producer price of wheat rises, but that of barley remains
the same, the supply of barley is expected to fall because
cereal farmers will switch more land and other resources into
growing wheat. Both crops compete for the farm’s resources,
and an increase in the production of one crop, encouraged by
a rise in its producer price, will necessitate a reduction in the
production of the other. Hence wheat and barley are termed
“competing” products on the farms.
The sensitivity of the supply of one product (e.g. barley) to
the price of another product within the firm’s production
possibilities (e.g. wheat) is measured by the Cross Elasticity
of Supply.
Cross Elasticity of Supply = Percentage Change in Quantity Supplied of “A”
Percentage Change in Price of Good “B”

With competing products the cross elasticity of supply will be

negative. The effect on the supply curve of barley of a rise in
the price of wheat is to shift it to the left. At each price of
barley, farmers will supply less barley than previously
41
because more acres of land and other resources will have been
used for wheat and less for barley.
Some products exist whose production process is inseparable
from that of some other good. An example is mutton and
wool. If farmers are attracted into producing more wool by
high wool prices, more mutton will have to be produced,
almost as a by-product. Such closely linked products are
termed joint products. The cross elasticity of supply between
joint products is positive.
Figure 5: Effect of a rise in the price of wool on the
quantity of mutton

Supply curve moves to the right due to a rise in the price of wool
S2
Price of mutton

S1

Quantity of mutton

The effect of a price rise of wool will be to shift the supply

curve of mutton to the right: more mutton will be supplied at
42
the same prices than before the rise in the price of wool
(Figure 5).

3) The prices of factors of production

If the cost of any one of the factors of production (e.g. labour)
rises without the price of the product rising by amounts large
enough to compensate the producer, the profit will be
squeezed and reduced. The firm’s operators may consider that
this lower profit is insufficient to compensate them for the
risks they are taking in production, and hence may pull out of
production. The supply of the commodity reaching the market
will fall and the supply curve will shift to the left.
4) The state of technology
In agriculture there is a constant search for new strains of
plants or breeds of animals which grow faster or yield more
heavily than the existing strains, thus increasing the output
achieved by farmers. These changes can be described as
technical advances when they enable more to be produced
more profitably from a given land area. Total costs to the
farmer may rise, as is the case when new cereal varieties
require heavier applications of fertilizer to realize their
potential. But yields rise too, so that the gap between costs
and total revenues (i.e. profit) increases. Another type of
technical advance is that which enables the same quantity of
goods or services to be produced at a lower cost per unit. An
example might be the introduction of a feeding trough in a
piggery which reduces the wastage of food so that the same
43
quantity of pigs could be produced at a lower cost. The effect
of an advance in technology is to shift the supply curve of a
good to the right.
5) The goals or objectives of firms
It is commonly assumed that the goal, or objective, of any
firm is to maximize profits. However, this is not always the
case, and a change in the objectives of a firm can alter the
supply curve independent of any change in the product prices,
factor costs, or state of technology. Even when money profits
are the only goal there may be a conflict between short-term
and long-term objectives. For example, a butcher may decide
to sell his beef at a lower price than he could get in a period of
temporary beef scarcity in order to maintain the goodwill of
his customers. Without this goodwill he might find his clients
drift permanently to other butchers.
Another important goal or objective that may affect the supply
of a commodity is the attainment of food security. If the goal
of the firm is to achieve food security for the nation, the firm
will continue to produce the agricultural product and put it on
the market, regardless of whether the returns adequately cover
the costs of production. Firms with a mandate to ensure food
security for the nation include agricultural production
parastatals like the Agricultural and Rural Development
Authority (ARDA) in Zimbabwe. Where prices and other
market conditions do not ensure viability of operations, such
firms have a tendency to rely on the fiscus and government
subsidies to guarantee their sustainability.

44
Other socio-economic objectives which firms may pursue, and
which influence product supply, encompass developmental
goals such as economic growth, equity, reduction of rural-to-
urban migration, economic efficiency, stability, foreign
exchange generation and savings, indigenization,
entrepreneurship development, poverty alleviation,
environmental conservation, and decentralization of economic
activities.
Price Elasticity of Supply
Concept
The responsiveness of producers in terms of output, to
changes in the price of their product, is measured by the Price
Elasticity of Supply. It is defined by the following formula:

Price Elasticity of Supply=Percentage Change in Quantity Supplied of “A”

Percentage Change in Price of “A”

Usually the price elasticity of supply, sometimes just referred

to as the Elasticity of Supply, is a positive figure, indicating
that as the price of a commodity increases, the quantity
supplied will also increase. For some commodities the
quantity supplied is extremely responsive to price changes.
Such supply is called “elastic” and the price elasticity of
supply would be high. Where changes in supply occur without
any change in price being necessary, supply is called
“infinitely elastic”.

45
Determinants of the Price Elasticity of Supply
The following factors influence the elasticity of supply:
1) the time period under review and the length of the
production cycle;
2) the cost structure of production; and
3) the feasible number of uses of factors of production.

1) The time period under review and the length of the

production cycle
The length of the production cycle is the time between
instigating production and finally selling the product. Taking
an example from livestock production, if the price of beef
rises, it is difficult or impracticable to increase within one year
the production of beef in response to the price increase. This
is because about two years elapse between the conception of a
beef calf and the slaughter of the finished animal for some
exotic beef animal breeds. With cereals the production cycle
is shorter and hence production can be expanded more easily.
The shorter the production cycle, the more elastic is the
supply in a given time period, and the opposite is also true.
2) The cost structure of production
This applies chiefly to reductions in the quantity supplied. An
example of the influence that cost structure could be expected
to have on the responsiveness of supply to falling prices is
provided by farms which depend to different extents on hired
labour. Small scale dairy farms on which the work force
consists entirely of members of the farmer’s family, can keep

46
on producing even when milk prices fall (i.e. their supply of
milk is price inelastic). This is because they have no hired
labour to pay and are able to put up with lower profits simply
by spending less and adjusting their standard of living
downwards. On larger dairy farms with hired workers forming
a large proportion of the labour force, a fall in the price of
milk would be followed more quickly by reductions in milk
production or supply and changes to more profitable
enterprises. A general decline in the proportion of hired labour
would be expected to make supply of agricultural
commodities less elastic. Conversely, a general increase in the
proportion of hired labour would be expected to make the
supply of agricultural commodities more elastic.
3) The feasible number of uses of factors of production
The term “factor of production” is used to describe the
resources, or goods and services, which are used up in any
production process. For example, the growing and marketing
(sale) of wheat requires land, seed, fertilizers, machinery, men
to operate the machines and someone to take the decisions of
when to plough, plant, etc. These factors can be classified in
various ways. One way is to group them into “specific”
factors and “non-specific” factors.
Specific factors are factors which can only be used for a single
or a few closely related lines of production. Non-specific
factors are factors which can be used in many lines of
production. Where factors are specific to a particular form of
production, that production will tend to continue even with a

47
fall in the price of the product, i.e. supply will be inelastic as
price falls. This is because the factors may have no alternative
use, or have only very low earnings in other uses.
The number of alternative uses of a given land resource is
influenced by factors such as its quality, climate, and location
with respect to proximity to markets. These characteristics
will determine the flexibility of the farmer to respond to
changing market conditions such as a rise or fall in producer
prices. In Zimbabwe, most of the farms located in marginal
rainfall areas (Natural Regions IV and V), are also situated on
low quality, infertile soils. Because these farms are far away
from markets and major lines of communication, transport
and transactions costs tend to be higher than elsewhere. The
outcome of all these factors is that the most feasible
agricultural production enterprise in Natural Regions IV and
V is low-cost, extensive cattle ranching. If beef producer
prices fall relative to other agricultural products like tobacco,
maize, or horticultural products, farmers in these regions
cannot easily switch the use of their land from cattle ranching
to the more lucrative enterprises, which require higher rainfall
and better quality land. Thus they will keep on supplying beef
to the market even at the lower beef producer prices. This
behaviour is dictated by the fewer feasible alternative uses of
their land. In short, the “specific” nature of their land resource
causes the supply of beef in these areas to become price-
inelastic.

48
 CHAPTER 3: PRODUCTION AND COST CONCEPTS
IN AGRICULTURE
Introduction

Key Concepts in Agricultural Production Economics

This section expounds on five main concepts used in
agricultural production economics. These are costs (variable
and fixed costs); output response to inputs; profit
maximization; cost minimization; and revenue maximization.
Costs
Variable costs are the costs of variable inputs such as:
• seed;
• feed;
• fertilizers;
• pesticides;
• herbicides; and
• seasonal/casual labour.
Variable costs vary with the level of production. This is
because higher levels of production require the use of larger
quantities of variable inputs, which in turn absorb greater
amounts of cash in their purchase. Thus variable costs are
directly and positively related to the quantity of output
produced on a farm.

49
Fixed costs are costs of fixed inputs, and they include such
items as:
• taxes;
• rent;
• rates;
• insurance premiums;
• electricity consumption charges for domestic lighting,
cooling and heating;
• loan repayments (principal and interest charges);
• wage bill for management; and
• wage bill for permanent labour force.
Fixed costs are fixed, and do not vary with the level of
production.
Output response to inputs
This involves varying the amount of variable inputs and
observing and studying the resultant effects on the quantity of
output produced. For example, in crop production the amount
of fertilizer applied to a crop is varied, and the resultant effect
on crop yield is observed and studied. In another example
from livestock production, the amount of pig feed is varied,
and the resultant effect on weight gain of pigs (i.e. the
quantity of pork produced) is observed and studied. Yet
another example from dairy (milk) production is when the
amounts of feed fed to a dairy cow are varied, and the
resultant effects on milk yield are observed and studied. These

50
relationships depict a key concept in agricultural production
economics known as the “production function”.
Profit maximization
This is another concept in agricultural production economics.
It involves answering the following questions:
• What level (amount) of input produces maximum profit?
• What level (quantity) of output results in maximum
profit?
• What combination (in physical quantities) of inputs gives
maximum profit?

Cost minimization
In dealing with the concept of cost minimization, an answer to
the following question is provided: What combination of
inputs (in physical quantities) result in the lowest cost of
production?

Revenue maximization
An analysis of revenue maximization involves answering the
question: What combination (in physical quantities) of outputs
(e.g. maize and soya beans) will give the maximum revenue?

Goals/ Objectives of Agricultural Production Economics

In expounding on the application of micro-economic
concepts, principles and techniques to the problems

51
encountered in agricultural production, we aim to achieve
three main goals or objectives:
(i) to assist farm managers in determining the best use of
scarce resources (land, labour, machinery, equipment,
fertilizers, etc.);
(ii) to assist policy makers in determining the impacts of
alternative policies (e.g. price policy, minimum wage
policy) on output, profits, and resource use on farms; and
(iii) to assist farmers in making appropriate adjustments in
output and resource use when economic variables (e.g.
inflation) change.

Context/ Setting of Agricultural Production Economics

In Zimbabwe, the application of the principles of agricultural
production economics has become more relevant because of
the following developments:
(i) new plant varieties and animal breeds have been
introduced in agricultural production systems;
(ii) new production methods in crop and livestock
production have been developed by scientific researchers
and are now available for adoption by farmers;
(iii) new settlers on former white commercial farmland, who
have limited training and experience, need some insight
into agricultural production economics; and
(iv) household, national, and international demand for food
has increased due to population growth, and the needs for
food and fibre have grown and become more diverse.

52
Rationale for Agricultural Economics
There are numerous reasons why we should be vitally
concerned about the development of the agricultural sector in
general, and the application of the principles of agricultural
production economics in Zimbabwe. The following are some
of the more important reasons:
Employment creation
A large proportion of the labour force in Zimbabwe lives in
rural areas and works in agriculture. Agriculture provides
employment and livelihoods for about 70% of the population,
including 30% of formal employment. About three-quarters of
Zimbabwe’s population live in the rural smallholder farming
sector and depend on agriculture for their livelihoods.
By developing the agricultural sector, we are making it an
attractive venture, therefore not only encouraging the
incumbent farmers to stay, but also encouraging new entrants
into this labour-intensive and employment-generating sector.
Commercial orientation of smallholder agriculture
In Zimbabwe there has been a historical transition of
smallholder agriculture from a predominantly subsistence
orientation (i.e. producing for domestic consumption and
household needs) to the current commercial/ subsistence
orientation. In this current orientation, smallholders engage in
agricultural production activities with the objective of not
only meeting household requirements, but also generating a
cash income from selling the marketable surplus.
53
Smallholder agriculture is now being treated as a business
venture incorporating the micro-economic objective of profit
maximization. Therefore, agricultural production economic
analysis becomes a useful strategy to ensure efficient resource
use, increased productivity, raising profits, and guaranteeing
sustainability of farming operations in the smallholder
farming sector.
Contribution to national income
Agricultural Gross Domestic Product is an important
contributor to the Gross Domestic Product (GDP) in
Zimbabwe. The GDP is an internationally accepted measure
of national income. Agriculture is a key sector of the
Zimbabwean economy contributing about 20% to the
country’s Gross Domestic Product (GDP).
Food security
Food in its various forms is the product of agriculture itself,
and other related primary sectors such as fisheries, forestry,
and wildlife. Household and national food security therefore
hinges upon the physical and financial performance of the
agricultural sector.
Raw materials
Agriculture is the principal source of raw materials for agro-
based industries, such as those involved in agro-processing.
The agricultural sector in Zimbabwe contributes as much as
60% of the raw materials used by the domestic manufacturing
sector. Therefore, improvements in productivity, efficiency,

54
and profitability of agriculture will lead to increased supply of
agricultural raw materials to agro-based industries.
Foreign currency generation
Agriculture is a major source of the much needed foreign
currency in Zimbabwe. The trading of export crops on the
international market ensures that the country earns foreign
exchange to finance both the domestic and export sectors.
Agricultural exports account for between 40% to 50% of the
total export revenues of the country.
Creation of effective demand
In agricultural marketing, farmers sell agricultural products on
the market and receive a cash income. They use this income to
purchase goods and services produced by other sectors of the
economy. Thus agriculture boosts the demand for other goods
and services.
Infrastructure development
Infrastructure built to support agricultural development
includes roads, bridges, market yards, depots, railways,
storage facilities, etc. The strategic nature and physical
location of this infrastructure makes it available, or exposes it
to use by other institutions, businesses, and members of
society whom it was not originally intended to serve.

Reduction of inequality
There is a distinct geographical (rural/ urban) sectoral
structure in the economy of Zimbabwe. The majority of the
population resides in the rural sector and only a small
minority lives in the urban sector. But the small minority in
55
the urban sector commands ownership and control of the bulk
of the country’s income and marketable assets.

Since agriculture is the main occupation of rural residents,

developing and promoting agricultural activities will raise
both the incomes and marketable assets of rural people. This
reduces the income and assets gap, differential or disparity
between the low-income rural sector and the high-income
urban sector. In other words, agricultural development makes
more equitable the country’s income distribution; it reduces
inequality in income distribution.
The Production Function
A production function portrays or depicts an input-output
relationship. It describes the rate at which resources or inputs
are transformed into products or outputs. The type of
production function and its graphical form or shape in
agriculture depends on different variables such as soil type,
breed of animal, technology used, and variety of crop.

The production function is a purely physical relationship

between input and output. It is a relationship between
quantities of input in physical terms (e.g. kilograms, tonnes,
litres, bales) and quantities of output, also in physical
quantities.
Some examples of input-output variables from dairy
production, crop production, and livestock production, are
presented in Table 3.
56
Table 3: Examples of input-output variables in a
production function
Variable input Output
Amount of feed (dairy cow) Milk yield
Quantity of fertilizer (crop Crop yield
production)
Quantity of feed (pig Weight gain
production)

Methods of presenting a production function

There are four main ways of presenting a production function.
A production function can be presented:
(i) in functional notation;
(ii) in the form of a numerical table;
(iii) as an algebraic equation; or
(iv) as an input-output curve.

In functional notation
A production function is expressed in functional or symbolic
notation as:
Y = f (X1, X2, X3, X4, ………. Xn)
where:
“Y” denotes the quantity of a specific product (e.g. maize
yield);
“X1, X2, X3, X4, ……..Xn” represent quantities of an
unspecified number (n) of inputs:
57
 X1 could denote - quantity of fertilizer;
X2 – soil moisture content at planting time;
X3 – plant population (e.g. number of maize plants per
hectare); and
X4 – rainfall during the growing season.
“f” stands for: “is a function of”, which alternatively means
“depends on”, “is determined by”, or “results from”.
The above functional notation production function states that:
“Maize yield is determined by the quantity of fertilizer, soil
moisture at planting time, plant population, and rainfall
during the growing season, among other variable inputs.”
Because there are many variable inputs in the above
expression, the above production function is known as a
multiple variable input production function. However in the
case of a single variable input production function, we
consider only one of the variable inputs in the brackets. Let us
suppose that we want to consider only input X1 – fertilizer,
in relation to the output Y – maize yield. In this case, the
production function in functional notation is written as: Y = f
(X1)
This does not imply that we are ignoring the rest of the
bracketed variable inputs (X2, X3, X4, …………. Xn). It
merely states that we are varying only one input, namely
fertilizer, but holding the rest of the variable inputs constant,
and observing and studying the yield response. Each of the
58
non-fertilizer variable inputs is held constant at some level.
For example, if we want to hold X2 – soil moisture content at
planting time constant, we apply the same amount of
irrigation water to the soil in each identical experimental plot
just before planting, vary only the amount of fertilizer X1
applied to each plot, and observe and study the yield
response, Y.
Similarly, if we want to hold X2 – plant population constant,
we maintain the same inter-row spacing (i.e. spacing
between adjacent rows) and intra-row spacing (i.e. spacing
of plants within the rows) in identical plots, vary only the
amount of fertilizer applied to the plots, and observe and
study the yield response, Y. If we are using a mechanical
planter, the way to hold X2 – plant population constant is to
adjust the equipment such that the seeding rate is the same
for all the identical experimental plots. This will ensure that
when the seed germinates, each plot under consideration will
have the same plant population (i.e. number of plants per
given area).
In the form of a numerical table
A numerical production function consists of a numerical table
of the physical quantities of input and the corresponding
output quantities. Table 4 is an example of a numerical
production function depicting milk yield (output, Y) resulting
from various levels of feed (input, X1) fed to a dairy cow.

59
Table 4: Milk yield response to quantity of feed fed to a
dairy cow
Quantity of feed (X1) in kgs Milk yield (Y) in litres
2 32
4 56
6 72
8 80
10 80
12 72

The following information is conveyed by the numerical

production function in Table 4:
2 kilograms of feed produce 32 litres of milk;
4 kilograms of feed produce 56 litres of milk;
6 kilograms of feed produce 72 litres of milk.
As an algebraic equation
The production function, or the physical relationship between
output Y and input X1, can be represented by the following
algebraic equation:
Y = 18X1 – X12 …………………………………. (Equation
1)
This production function is exactly the same as the numerical
production function presented above in Table 4, but presented
in a different form.

60
To illustrate the similarity of the production function
presented in the two different forms, let us consider the output
level Y (milk yield) when X1 (the quantity of feed), is 4
kilograms. In the numerical production function in Table 4, it
can be observed that 4 kilograms of feed produce 56 litres of
milk.
In comparison, let us also consider the output Y, when X1, the
quantity of feed is again 4 kilograms, but now using the
algebraic production function. The value of Y is found by
substituting (X1 = 4) in the algebraic equation:
Y = 18X1 – X12
as follows:
Y = 18(4) – (4)2
= 72 -16
= 56
Thus, by using the algebraic production function, we find that
4 kilograms of feed produce 56 litres of milk, the same answer
that we got using the numerical production function.

To further illustrate the similarity between the algebraic

production function and the numerical production function, let
us first determine the output Y using the algebraic production
function, when the quantity of feed (X1) is 6 kilograms.
Again, we substitute (X1 = 6) in the algebraic equation:
Y = 18X1 – X12

61
as follows:
Y = 18(6) – 62
= 108 – 36
= 72

We find that 6 kilograms of feed produce 72 litres of milk,

using the algebraic production function.

In comparison, let us now determine the milk yield Y, when

the quantity of feed fed to the dairy cow is again 6 kilograms,
but this time using the numerical production function. We do
this by observing the milk yield that corresponds to 6
kilograms of feed, in the numeric production function in Table
4. We find that the corresponding milk yield is 72 litres, the
same answer that we got for 6 kilograms of feed when we
used the algebraic production function.
Similar comparisons can be made between each input-output
combination in the numerical production function in Table 4,
and the input-output combinations obtained using the
algebraic production function in Equation 1. It is confirmed in
either case that the production function is the same; what only
differs is the method of presenting it.
As an input-output curve
The fourth method of presenting a production function is to
plot an input-output curve. The output levels, Y (e.g. milk
yield) are plotted on the vertical axis, and the input levels X1
(e.g. feed) are plotted on the horizontal axis.

62
The numeric production function in Table 2 can be presented
in the form of an input-output curve by plotting the values on
a graph, as shown in Figure 6.

Figure 6: Input-output curve

80
Milk Yield,
Y (litres) -

40

0 6 12

Quantity of feed, X1 (kgs)

It can be observed in the production function presented above
(Table 4, Equation 1, and Figure 6) that milk yield reaches a
maximum of 80 litres when 8 kilograms and 10 kilograms of
feed are fed to the dairy cow. When the levels of feed were
further increased to 12 kilograms, it can be observed that milk
yield actually decreased from the 80 litres maximum down to
72 litres. This decline in milk yield could be explained by
possible nutritional disorders and diarrhea that the cow
experienced when feed quantities of more than 10 kilograms
63
were fed to the cow. The nutritional disorders and diarrhea
tend to curtail the cow’s physiological ability to produce milk
in the milk glands, thus reducing milk yield.
Conclusion
It has been demonstrated in the preceding discussion that
instead of presenting a production function in functional
notation, the same production function can alternatively be
presented as a numerical table, as an algebraic function, or as
an input-output curve.

Law of Diminishing Returns

This law states that “If an input is being used in the

production of an output, with all other inputs held constant at
some level, the output will increase, first at an increasing rate,
then at a decreasing rate, reaches a maximum, and then begins
to decline”. The typical relationship in the production function
between a single variable input and an output depicts this law
of diminishing returns.

64
The classical production function depicts this law of
diminishing returns, as shown in the diagram below.
Output , e.g. maize M

N
Total Product Curve

0
Quantity of input, e.g. nitrogen fertilizer

Figure 7: Total product and diminishing returns

The S-shaped total product curve in the diagram above is

called a production function. In this case, it shows how the
quantity of maize produced (the output or product) varies as
one increases the quantity of nitrogen fertilizer (input) applied
to the maize crop. Point N on the curve is called the inflection
point, and it marks the end of increasing returns and the start
of diminishing returns. This is when the curve changes
direction. As you move along the curve from 0 to N, the
steepness, gradient or slope of the curve is increasing, and this
region marks increasing returns; maize output is increasing at
an increasing rate with each additional unit of nitrogen
fertilizer added. As you move from point N to point M, the
gradient, steepness or slope of the curve is decreasing, until
65
the output reaches a maximum at point M. The region from N
to M marks diminishing (decreasing) returns. To the right of
point M the curve turns downwards and maize output begins
to decline because too much fertilizer is now burning the crop.
Beyond point M, returns are still diminishing, to the point that
they have now actually become negative.
Costs of Production
Fixed, variable, and total costs
Costs are the expenses incurred in organizing and carrying out
the production process. An input or resource is variable if its
quantity is varied at the start of or during the production
period. Most inputs have costs associated with them. Costs of
fixed inputs are called fixed costs, while costs of variable
inputs are called variable costs. The sum total of fixed costs
and variable costs are called total costs.
Fixed costs (FC)
The following are the characteristics of fixed costs:
• Fixed costs do not change in magnitude as the amount of
output of the production process changes.
• They are incurred even when production is not taking
place.
• Thus fixed costs are independent of output.

Variable costs (VC)

The following are the characteristics of variable costs:

66
 • Variable costs change according to the amount of
variable inputs used.
• Thus total variable costs (TVC) are computed by
multiplying unit price of input (PX) by the quantity of
input used (X),
i.e., TVC = PX.X in the single input case.
• Variable costs increase or decrease when the amount of
output produced increases or decreases, respectively.
Thus variable costs are dependent on the level of output.
Total costs (TC)
Total costs are the sum of total variable costs (TVC) and total
fixed costs (TFC) at any output level,
i.e., TC = TVC + TFC
But, TVC = PX.X where PX is the unit price of input, and X
is the quantity of input.
Therefore,
TC = PX.X + TFC
When no variable input is used, this implies that the quantity
of input, X = 0, so that:
TC = PX(0) + TFC,
which means that
TC = TFC

67
 In other words, when no production is taking place, the only
costs that the farmer is incurring are the fixed costs.

Figure 8: Total Fixed Cost (TFC), Total Variable

Cost (TVC), and Total Cost (TC) Curves
Cost $ (dollars)

TC=TFC+TVC

(i)
TVC
TFC
1000

Output (Y) (e.g. kgs, tonnes)

0

In Figure 8, the TC curve is the vertical summation (addition)

of the TVC and TFC curves. The TC curve is shaped exactly
like the TVC curve, but is always equal to $TFC (in this case
$1000) higher than the TVC curve at each output level. The
TFC curve is always horizontal and lies above the horizontal
(output) axis.

68
Average Fixed Costs (AFC), Average Variable Costs
(AVC), and Average Total Costs (ATC)

Average Fixed Costs (AFC)

Average fixed costs (AFC) are computed by dividing total
fixed costs (TFC) by the amount of output (Y),
i.e., AFC = TFC/Y
Average fixed cost (AFC) varies with the level of out, Y. As
output increases, AFC decreases. The concept of “spreading
fixed costs” implies increasing total production (Y) to divide
total fixed costs (TFC) among an increasing quantity of
output, thereby reducing fixed costs per unit of output.
Average Variable Cost (AVC)
Average variable cost (AVC) is obtained by dividing total
variable cost (TVC) by the amount of output (Y),
i.e., AVC = TVC/Y
AVC measures the efficiency of the variable input. When
AVC is decreasing, the efficiency of the variable input is
increasing. Efficiency is at a maximum when AVC is at a
minimum. When AVC is increasing, efficiency is decreasing.
Efficiency of the variable input is thus a measure of the cost
of variable input per unit of output. An input is highly
efficient if its cost per unit of the output is low.
Average Total Cost (ATC)
Average total cost (ATC) can be computed in two ways:
(a) By dividing total cost (TC) by output (Y),
69
 i.e. ATC = TC/Y
(b) By adding AFC and AVC for that particular value of Y,
i.e. ATC = AFC + AVC
ATC is often referred to as the unit cost of production, or the
cost of producing one unit of output.
Graphical presentation of AFC, AVC and ATC
Figure 9: AFC, AVC and ATC curves
Average Costs ($)

ATC

AVC
AFC

Output, Y (in kilograms, tonnes, litres, etc.)

Figure 9 shows the graphical presentation of AFC, AVC and

ATC curves. It can be observed that the average variable cost
(AVC) curve always lies above the average fixed cost (AFC
curve), but below the average total cost (ATC) curve, at all
output levels.

70
Marginal Costs
Marginal cost (MC) is defined as the change in total cost per
unit increase in output. It is the cost of producing one
additional unit of output.
MC is computed by dividing the change in total cost (∆TC) by
the corresponding change in output (∆Y),
i.e., MC = ∆TC/∆Y
But the only change in total costs is the change in total
variable costs, because fixed costs are constant (remember,
TC = TVC + TFC). Thus ∆TC = ∆TVC. Therefore, MC could
also be computed by dividing the change in total variable cost
by the change in output, i.e., MC = ∆TVC/∆Y
Opportunity Costs
The opportunity cost of an activity is the value of the next-
best alternative that must be forgone in order to undertake the
activity. An alternative way is to define opportunity cost of
any decision as “the value of the next best alternative which
was just rejected.” Three examples will suffice. Suppose that a
farmer decides to grow soya beans on one hectare of land, and
in the process earns a profit of $500. If among the range of
crops that he could also grow on the same piece of land, sugar
beans could have earned him a profit of $480, sunflower
$420, or groundnuts $490, his opportunity cost is the profit
forgone by not growing the groundnut crop when he decided
to grow soya beans. This is because the groundnut crop had
the highest possible profit among all the alternative individual

71
crops that he could have grown on the same piece of land,
instead of growing soya beans. The groundnut crop would
have been his next best alternative, and the profit forgone by
not growing groundnuts is therefore the farmer’s opportunity
cost of the decision to grow soya beans.
Similarly, if a farm manager decides to take up a job on a beef
producing farm and he earns a salary of $500 per month, and
in the process he has turned down offers from neighbouring
farms where he could have earned $450 per month as cereal
crop manager, or $460 as a farm workshop manager, his
opportunity cost is the salary that he would have earned in his
next-best alternative, that is, as a farm workshop manager.
Lastly, the opportunity cost can be illustrated by a farmer who
was initially producing 8 tonnes of sorghum and 20 tonnes of
maize. It is assumed that these are the only crops that he is
growing on his entire piece of land and that he has committed
all his productive resources to produce them. If he now
decides to increase maize output to 27 tonnes, he must
necessarily take resources out of sorghum production in order
to produce the additional 7 tonnes of maize. Taking resources
out of sorghum production will imply a reduction in the
quantity of sorghum produced. Let us suppose that as a result,
sorghum output decreases from the original 8 tonnes to 5
tonnes. In this case the opportunity cost of increasing maize
production by 7 tonnes, is the quantity of sorghum forgone as
a result of this decision. Thus the opportunity cost of
increasing maize production from 20 tonnes to 27 tonnes, is
72
 the quantity by which sorghum output decreases, i.e. 3 tonnes
of sorghum (= 8 tonnes – 5 tonnes). This concept is illustrated
below in the diagram of a production possibility curve
between sorghum and maize.

Figure 10: Opportunity cost and the production possibility curve

Production possibility curve

Sorghum output (t)

8
5

0 20 27

Maize output (t)

Economies and Diseconomies of Scale

We define economies of scale as a reduction in the average
cost of production as output is increased using a larger scale
of plant. Similarly, we define diseconomies of scale as
increases in the average cost of production as output is
increased using a larger scale of plant.
Economies of scale
It is generally thought that economies of scale are gained as
output is increased from low levels using larger sizes of plant,
73
whereas diseconomies of scale begin to set in for output levels
beyond a certain critical amount or quantity. Hence the
progression from economies to diseconomies of scale implies
a U-shaped long-run average total cost (LRAC) curve, as
shown in Figure 11. To the left of point B in Figure 11, the
farmer is experiencing economies of scale; to the right of
point B, diseconomies of scale have set in.

Figure 11: Economies and Diseconomies of Scale

LRAC
Average Cost ($)

0
Output (Tonnes)

74
Sources of economies of scale
Economies of scale are thought to result from two main
reasons, namely:
• gains in technology; and
• input prices.
Gains in technology: The main gains in technology arise from
specialization of inputs, both labour and capital. As output is
increased, labour can be divided into more specialized tasks.
Taking the example of horticultural production such as
growing roses for export, it is theoretically possible for one
person to learn all the skills from tending the crop while it is
still in the greenhouse, administering the right chemicals for
soil fertility and pest management, managing the micro-
climate and water application levels, trimming the plants and
cutting the roses at the right time, storing the cut flowers at
the right temperature and moisture environment, packing them
in the right containers, and transporting them safely to the
airport for their export destination.
Some output could eventually be produced once all the skills
have been learned and mastered, but this will clearly take a
long time. However, as we move to a larger production unit
with more labour, then work can be broken down, with
individual workers only responsible for a specific group of
tasks. Following training in each task they soon become
highly efficient at such procedures. Time is saved not only
from the skill in performing a repetitive task, but also because

75
workers do not waste time moving to other tasks and changing
the materials, tools and equipment they need. A further stage
is reached as the scale increases and the production line
introduced. There are huge economies to be gained in this
division and specialization of labour.
On the capital side the move to a larger scale usually involves
more mechanized and automated methods of production, such
as in the manufacture of fertilizer. More advanced equipment
often has a minimum size for technical reasons. Hence we can
say there are indivisibilities in size of machines and it is
impossible to scale them up or down in infinitely small
gradations. Automated machines are typically expensive to
buy and may involve large costs in setting the equipment up
correctly. Despite these high fixed costs of any particular
machine, the great advantage is that variable costs are
generally very low. In addition, as output moves up towards
capacity, the high fixed costs are averaged over a larger
output, bringing unit costs down dramatically. Hence the
average cost of production of these highly capital-intensive
methods becomes very low, provided the machine is used near
its full capacity.
Price of inputs: The second source of economies of scale
occurs on the financial side, namely that the price of inputs
purchased may fall as the number of units purchased rises.
This is normally described by the everyday phrase ‘buying in
bulk’. This can apply to a wide range of inputs. The price of
basic materials and components from outside suppliers is
76
likely to decline with the size of the order. The reasons are
firstly that the supplier will want to sell such large amounts
and will use the quantity discount to induce a large order.
Secondly, it is usually more convenient for the supplier to
arrange for one large order than several small ones. The same
argument could be applied to fuels where the energy supplier
could also offer discounts for large volumes of consumption.
In marketing the rates of repeat advertisements may be
reduced if the number of screenings is increased. Even in the
field of finance there may be economies of scale with banks
offering lower rates of interest and more favourable terms to
larger loans than small ones.
Sources of economies of scale on large scale commercial
farms
The following are common sources of economies of scale on
large scale commercial farms:
• specialization and skill;
• mechanization;
• lower prices for bulk buying of inputs;
• spread of fixed costs over a larger output;
• division of labour; and
• bulk transportation.
Sources of diseconomies of scale
As the size of the plant gets very large, or as output exceeds a
certain level, diseconomies of scale set in. These occur in the

77
same areas as those discussed above, namely technical issues
and the price of inputs.
Technical issues: On the technical side it is often argued that
economies of scale will eventually be exhausted. There is a
limit to which tasks of labour can be broken down. Even
before this is reached, however, the job satisfaction for
workers may be so reduced that industrial unrest results. It is
in those agro-industries which are most mechanized and
subject to production line jobs, that labour disputes are most
likely to arise and labour turnover to be greatest. Work gets
boring and people get demoralized. This situation will then
impose costs in the form of lower quality standards, disrupted
output or high costs of hiring and firing workers.
On the capital side, just as there is minimum scale of plant,
there is often a maximum scale of plant which is operationally
feasible. Moreover, when agro-factories get very large, they
become very difficult to manage, as the management or board
of directors get out of touch with the details of the running of
the firm. The board or management then makes bad decisions
based on poor information and the costs of the firm will start
to rise. Furthermore, as size increases a more bureaucratic
organization is needed to maintain control, and this itself has
the danger that so many rules and regulations are needed,
causing the firm to become inefficient. In effect, the firm gets
so emasculated in its own red tape and will find it difficult to
adapt to changing market conditions for its product.

78
Input side: On the input side there may also be limits on
quantity discounts, particularly if large orders no longer
attract additional reductions in cost per unit. Worse, the
scarcity of certain inputs essential to the production process
may even force up costs at high output levels. This is
particularly likely to apply if highly skilled engineers and
technical personnel, who are vital to the smooth operation of
automated production lines, are needed to keep operations
going. Scarce skilled personnel attract very high salaries,
which could constitute a significant cost to the firm. In
addition, a shortage of such personnel to operate and maintain
the machines could result in significant declines in the firm’s
output, and this has an effect of raising average costs (cost per
unit of output).

79
PART B: FARM
MANAGEMENT

80
 CHAPTER 4: INTRODUCTION TO FARM
MANAGEMENT
Overview
Farming is a business. The question is often asked whether
management is a science or an art. Management requires
getting things done given the realities of the situation. Like all
other professions (including medicine, law, science, landscape
design, athletics, and engineering), it is in part an art. On the
other hand, like other professions, management is improved
by making use of organized knowledge, whether crude or
advanced, exact or inexact, to the extent that it is well
organized, clear, and pertinent, comprises a science. Thus,
management is partly an art, and partly a science. The science
and art of managing are complementary rather than mutually
exclusive. Farm Management is the art and science of making
decisions about the use of available but limited resources to
achieve goals and objectives of farmers. Farm Management
requires planning, organizing resources, controlling,
coordinating and motivating workers so that the objectives are
achieved efficiently and cost-effectively.
Definition of Farm Management
What is Farm Management? Economic principles, combined
with the findings of agricultural technologists, form the basis
of the field of study called “Farm Management”. The field of
agriculture has witnessed many dramatic changes in the last
few decades, and these changes have demanded a different
approach to management of the farm business. No longer can

81
the successful farmer have primarily a production and
technology orientation; he or she must understand and
skillfully apply management concepts in the areas of
marketing and financial management as well.
Management involves a broader set of activities than just
developing plans and choosing acceptable production,
marketing and financial activities of the farm firm; it involves
implementing those choices and plans once a decision is
made, and then monitoring actual performance and comparing
that performance to planned expectations. Farm Management,
then, is the application of planning, implementation and
control concepts to the activities of production, marketing,
finance and human resources. Farmers as business managers
must incorporate price, input-output, and resource availability
information along with analytical procedures to determine the
most economically efficient production, marketing and
financial plan. Then they must carry out this plan in the most
efficient manner and evaluate the consequences so that
changes can be made to improve efficiency in the future.
Farming, apart from being a way of life, can also be a
business. But farming is a unique business with a unique
environment and set of problems. Nevertheless it is still a
business and should be managed through the application of
business management principles and concepts. Management
in its simplest form means making the best possible use of
available scarce resources (land, labour, and capital) to
achieve the objectives set. It is a dynamic process involving
82
the responsibility for effective operation of a business, this
responsibility entailing the installation and implementation of
procedures which will ensure the adherence to plans and the
selection, guidance, motivation and control of the people
involved in the business.
Farm Management can also be defined as a field of applied
economics that is concerned with the application of economic
and management principles to farm decision making. It is
multi-disciplinary in that it integrates and applies the
knowledge from the social and biological sciences to improve
production and management at the farm level. It deals with
proper combinations and operations of farm resources to
achieve farm household goals. Johnson (1982) defined farm
management as “the active process of making decisions so
that the use of the available resources of the farm is planned
and controlled to achieve the farmer’s specific objectives.”
The Fields of Farm Management
While business management specialists customarily divide
management along functional lines, agriculturalists more
typically emphasize fields or areas of expertise in their
analysis of management. In reality, both the functions of
management and areas of expertise must be interfaced or co-
existent. To adequately perform the planning, implementation
and control functions within the farm firm, the manager must
have analytical expertise and access to data in the following
fields or areas:

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 (i) production
(ii) marketing
(iii) finance
(iv) human resources.

Production
The most obvious area of responsibility for the farm manager
is that of production phenomena. The farm decision maker is
a production manager who has to decide on what to produce,
how to produce it, how much to produce and how to
implement the production process. Plans must be made and
implemented with respect to the production system to be used
for each crop and livestock enterprise. This involves selecting
the combination and timing of inputs for each product.
Enterprise-specific decisions (such as which insecticide or
herbicide will provide the desired pest or weed control or
whether silage or high-concentrate ration should be fed to
cattle) are typical production decisions. Selecting the type and
size of tractor needed to prepare the ground and plant the crop
in a timely fashion, and deciding whether a confinement or
open lot cattle feeding facility will provide the lowest cost or
highest gain are other examples of production decisions.
The farm manager as a production manager utilizes
information on production efficiency and input-output
relationships from numerous physical and biological sciences.
Soil scientists can provide information on the response of crop
yields to different fertilizer applications and the effectiveness
of alternative herbicides. Agronomists can decide which
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variety is best suited to a particular soil type. Animal
scientists can provide detailed information on the impact of
the ration on butterfat content or milk production for dairy
cows, or the gain that will result from different feed types and
amounts used in the feedlot. The effect of providing
micronutrients and the use of various antibiotics in disease
prevention and control can be provided by animal
nutritionists. The impact of cross breeding programmes on the
weaning weight of calves can also be provided by animal
breeders.
Entomologists and plant pathologists can provide information
with respect to the damage that might be done by various
insect populations and diseases as well as the effectiveness of
chemicals, resistant-varieties, cultural practices, and other pest
management strategies. Engineers can provide detailed blue-
prints to use in the construction of buildings and information
on the best materials to use in that construction. They can also
provide data on the fuel consumption of various sizes of
tractors and the acres per hour that can be ploughed with
various size power units or harvested with different sizes of
combines. These physical input-output or production
relationships are a crucial component of the information
required by a farm manager to make production decisions.
To determine the profitability of alternative production
opportunities, the physical data must be combined with price
and cost information as well as data on the availability of
various land, labour, and capital resources. Thus, it is
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necessary to combine the information provided by the
appropriate physical and biological scientists with price
information and the appropriate decision-making procedures
in making production decisions of the farm firm.
Marketing
The farm manager as a decision maker is also a marketing
manager who has to decide on input acquisition at competitive
prices and selling the products at a price that will yield net
gain. The need for price and cost data to make adequate farm
management decisions underscores the necessity for expertise
in the second field of farm management – that of marketing.
To maximize income or even to survive, farmers must not
only produce the crop or livestock product efficiently, but
they must also buy the inputs and sell the product at prices
that will result in a profit. The ability to analyze the market
and to reflect changing expectations in production schedules,
input purchasing, and product selling strategies is an essential
component of profitable farm management. Basic decisions
with respect to the scheduling or timing of production and
sales require forecasts of future prices. Production scheduling
decisions require the farmer to be acquainted with information
on seasonal, cyclical and trend movements in crop and
livestock prices. Hence, the farmer must be aware of the
supply and demand relationships for the particular product,
the impact of consumer incomes and the availability of
substitutes or product prices as suggested by income and
cross-price elasticities of demand, and the expected response

86
of other producers to current prices. The ability to gather and
analyze these price expectation data is one of the basic
marketing functions that must be performed by the farm
manager.
Numerous other decisions require knowledge of market
relationships and market phenomena. Such choices include
which marketing channel to use, whether to sell cattle or pigs
on a live-weight or grade or yield basis, and whether or not to
sell grain at harvest or to dry and store it for sale at a later
date. The price premium paid for different grades is important
market information that must be considered when deciding
whether to feed dairy cattle versus beef cattle, or yearlings
compared to calves. Evaluation of moisture discounts in grain
production and the potential to sell specialty crops to local
processing facilities are yet other marketing decisions that
must be made by farmers. These examples illustrate the
importance of accurate market information to the farm
manager.
Finance
In addition to the information on production efficiency and
market and price relationships, data must also be available on
resource availability for adequate farm management analysis.
Except for the farmer’s own labour and management
resources, the acquisition of other productive inputs in
farming such as land, machinery and equipment, and hired
labour, involves the outlay of money. Improving the labour
and management skills through formal education also requires
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the use of money for tuition and other expenses. Thus, the
field of finance and financial management is also an important
area where the farm manager must have some expertise.
Basically, farm finance involves decisions with respect to the
acquisition and use of those funds to acquire the services of
various resources. For example, purchasing land with various
combinations of equity and debt funds requires a financial
management decision. Issues with respect to repayment
capacity or the ability to generate sufficient cash to repay
operating loans when they are due are included as well.
Whether capital should be committed to the purchase of real
estate or whether the services of that estate could be more
profitably rented or leased is a financial management issue.
Leasing machinery as compared to purchase, and the
repayment schedule that will be required to service a loan on
machinery are important finance questions.
The choice among alternative sources of funds, including the
appropriate combination of debt and equity, requires detailed
financial analysis, as does the comparison among terms and
interest rates offered by different financial institutions. The
management of working capital so as to take advantage of
cash discounts on the purchase of feed and other inputs is
another example of the importance of financial analysis in
farm management. Financial management decisions also
involve such questions as organizing a business to withstand
expected risk, holding cash reserves for unexpected

88
contingencies, and acquiring insurance policies for protection
against property damage.
For adequate financial analysis, the farm manager must be
acquainted with the concepts and procedures of cash flow and
evaluate repayment capacity; understand the phenomenon of
present value analysis and the basis for discounting in
investment analysis; and have the ability to analyze financial
statements, various tax management strategies, and alternative
business organizations.
Human resources
Human resources, personnel, labour or people are one of the
most critical resources for both crop and livestock production
on a farm. Permanent labour force constitutes a significant
proportion of fixed costs of the farm business. Like other
resources, labour has to be planned for, so that the tasks are
performed timeously and efficiently. It is therefore necessary
to effectively plan, measure and control the use of labour on
farms.
The farm manager as a decision maker is also a personnel or
human resources manager who has to source and retain
competent workers. The workers need to be properly trained
and sufficiently motivated to undertake their tasks efficiently.

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 CHAPTER 5: LAND TENURE SYSTEMS IN
ZIMBABWE
Introduction
Agriculture has been central to economic development since
the country was colonized by whites in 1890. Between 1900
and 1980, agricultural growth was based on the large-scale
commercial farming sector which was predominantly
composed of white farmers. This was because of the
agricultural policy priorities of successive colonial
governments which discriminated against black farmers and
favoured white farmers. To do this, the colonial governments
enacted various legislative instruments such as the Land
Apportionment Act of 1931, the Maize Control Act of 1934,
the Land Husbandry Act of 1952, and the Land Tenure Act of
1969. As a result, investment was concentrated in large-scale
production infrastructure, technological innovation in hybrid
seed development, irrigation development, commodity
diversification and import substitution. All these strategies
were directed at supporting large-scale commercial farming.
The smallholder sector, dominated by blacks, received
minimum support.
Since 1980, agricultural growth has been based on both
continued support to large-scale commercial farms and new
investment in the smallholder communal sector by the newly
elected Zimbabwe government. The government announced a
policy of ‘growth with equity’, which continued to
accommodate the large scale commercial sector, shunning

90
retribution against the former colonizers. While smallholder
agricultural production grew significantly from 1980 to 1990,
the large scale commercial farming sector also expanded and
became more export-focused. Production of tobacco,
horticulture and wildlife increased remarkably in the large-
scale sector, while the smallholder sector largely focused on
maize, cotton, small grains and sunflowers. Despite all these
successes, major challenges to agricultural development
remained, including low technological change in the
smallholder sector, food insecurity, and more importantly the
unresolved land question.
Large Scale Commercial Farms
The total land area of Zimbabwe constitutes 39.6 million
hectares (ha) of which 33 million ha are potentially arable.
Before the Fast Track Land Reform Programme (FTLRP),
approximately 4,500 white commercial farmers, mostly of
European descent, controlled 28 percent of the country’s land
under freehold tenure, totaling 11.2 million hectares, and
averaging 2,000 ha per farm. Freehold title gives the owner
the right to sell or dispose of the land without further
reference to the state.
The land in the large-scale commercial farming (LSCF) sector
was owned by individual farmers, corporations under
directorship, trustees, churches, parastatals, NGOs and foreign
investors.
Freehold land tenure in the Zimbabwean context has been
assumed to lead to better management of land and natural
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resources, investment in agricultural development, and
generally to better welfare for the owners. However, as the
number of farmers shows, environmental stewardship has
been based on maintaining a very low threshold of people and
animals in the LSCFs.
Although large scale commercial farms were found in all the
Natural Regions (i.e. I, II, III, IV and V), most of them were
located in the Highveld (NRs I – III) which is endowed with
the most conducive climate and soils.
Communal (Smallholder) Farming Areas
In contrast to the LSCF areas, the communal or smallholder
traditional African farming areas are situated in mostly semi-
arid Natural Regions III, IV and V, which are the least
favourable for crop and livestock production in terms of
climate and soils. Communal areas comprise the former Tribal
Trust Lands, where families access land through inheritance,
which gives rights of use (or usufruct) only, and not
ownership to family members. They are occupied by
smallholder farmers who cultivate small fields of
approximately 2.5 hectares, allocated by community leaders.
Communal farming land has been sub-divided over the years
to accommodate the increasing number of family members as
families grow. This has reduced the plots to uneconomic units
to sustain the food and income needs of the families. Ultimate
ownership of land is vested in the community on behalf of the
state. Communal lands are the most densely populated areas
outside urban centres and the farmers usually do not have
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sufficient resources for the efficient management of land
resources. Land is mainly used for rainfed agriculture and
grazing. Not only are communal farmers confined to the
poorest land, but the size of land available to individual
households is also meager.
Over 70 percent of the Zimbabwean population live in rural
areas and are dependent upon land and natural resources for
their livelihoods. Most agricultural economic analysts and
observers agree that the prospects for poverty reduction are
dependent on a significant part of the population gaining
access to productive land to meet their food, energy and
shelter requirements.
The communal areas are characterized by slow technological
changes, inefficient marketing systems, and rapid population
growth. Due to population pressure, arable land has expanded
and encroached onto grazing and forest lands. The expansion
of arable land within the communal areas has contributed to
the increased degradation of land, forests and wildlife, and the
destabilization of critical habitats. The major causes of land
degradation in the communal areas have been considered
generally to include:
• pressure on land due to the expansion of cultivation on
marginal lands;
• expanding fuelwood requirements, which lead to
deforestation;

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 • soil erosion resulting from weak land conservation
practices;
• increased livestock numbers per unit of land, which
contributes to overgrazing;
• streambank cultivation; and
• expanding gold panning and abstraction of resources for
brick making (from forest and termite mounds) which
threaten the riverine zone with erosion and siltation.
Small Scale Commercial Farms
These farms were known as the Native Purchase Areas during
the colonial period before independence in 1980. They tended
to be a buffer between large-scale commercial farms and
communal areas. Small scale commercial farms were
allocated to better-resourced Africans who purchased the land
on freehold titles. It is estimated that there are about 8,000
such farms on about 4.1 million hectares. The average farm
size is about 510 hectares.
Old Resettlement Areas
Unequal land distribution is a very important issue in the
country’s economic, social and political history. Prior to the
land reform programme, the distribution of land in Zimbabwe
was highly skewed; just about 4,5000 white commercial
farmers were controlling 80% of the country’s agricultural
land.
It is important to note that land resettlement did not start with
the land occupations in the year 2000, and thereafter the Fast

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Track Land Reform Programme. In fact, the government had
been implementing land reform between 1980 and 1999,
albeit at a slow pace. The farms which were resettled during
this period are now referred to, in statistics of land settlement
patterns, as the Old Resettlement Areas. The goals of the Land
Resettlement Programme which was initiated in 1980 were to
redress the inequities in land distribution; to improve the
resource base for productive agriculture among smallholders;
and to alleviate population pressure in the communal lands.
The Lancaster House Agreements of 1979 (leading to
Zimbabwe’s independence) had established that the principle
of land transfer from commercial farmers to the government
would be on a “willing buyer – willing seller” basis. The
initial target was to resettle approximately 18,000 families on
about 1.2 million hectares.
Under the Land Acquisition Act of 1985, the seller of any
private rural land was required to offer the land to the
government at a specified price, giving it the first preference
over any potential buyers. Later on, the government started a
system of identifying farms which were being underutilized
and designating them for resettlement. Compensation for such
properties was based on recommendations by the Department
of Agricultural, Technical and Extension (Agritex) Planning
Branch.
From 1984 onwards, land value, prices and productivity rose
steadily. This made further land purchases for resettlement
expensive. Besides the need for financing the purchase of
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farms for resettlement, the normal resettlement scheme
required expenditures on schools, clinics, staff housing, water
supplies, access roads, and fencing. After the first decade of
independence, it was estimated that more than 50% of the
total cost of resettlement had been contributed by external
donors. At that time, the availability of external finance for
resettlement had been a major factor that had hindered the
pace of implementing the programme.
Some 76,000 people benefited from resettlement on about 3.6
million hectares of land. The average size of the land allocated
was less than 50 hectares but depended on location. These
resettlement areas have been termed “Old” to distinguish them
from Fast Track Land Reform Programme (FTLRP)
resettlement areas.
Fast-Track Land Reform
The widespread land occupations that led to the fast track land
reform programme from 2000 onwards in Zimbabwe actually
started in the late 1990s. There were aggressive land
occupations that targeted white owned farms. In a high profile
case, the Svosve people of Marondera occupied four farms in
June 1998, and in the same year 36 war veterans occupied
ARDA Mkwasine in Chiredzi District. Thereafter, land
invasions became more frequent. However, these occupations
were momentarily ceased after a promise by government
officials that a new constitution would legalize the transfer of
land to the Blacks. However, when the draft constitution was
rejected in a national referendum in 2000 the land occupations
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were revived. Starting in February 2000, exactly a day after
the ‘NO’ vote in the referendum, Zimbabwe experienced
nationwide land occupations. The occupations marked a
process that culminated in the redistribution of approximately
eleven million hectares of formerly white-owned large-scale
commercial farmland to nearly 150,000 resettled households
under the new Model A1 and Model A2 resettlement schemes
within a space of three years. However, a major setback to the
success of the Fast Track Land Reform Programme during
those years was the economic meltdown that characterized
Zimbabwe from 2000 until 2009. The shortage of finance to
buy agricultural inputs, machinery, equipment and other
resources proved to be a serious challenge facing the
government in its efforts to provide agricultural development
support to the newly resettled farm households.
Model A1 Resettlement Areas
The A1 Model is the main small-scale redistribution scheme,
designed to be an expansion of the smallholder sector by
catering for the landless from both the communal (or
customary) areas and the urban areas. Under this model,
households were given five to six hectares of arable land and
seven to fifteen hectares per household for grazing, with the
grazing lands being contiguous or adjacent to each other in the
case of ‘villagized’ settlements. In the villagized model, land
beneficiaries were apportioned small residential plots close to
each other, while arable land was composed of one large tract
which was then sub-divided for use by the different

97
beneficiary families. In the self-contained variant of the A1
Model, households were allocated one complete plot of land
in which they had to decide the position of the household and
divide the rest into arable and grazing land. There are close to
130,000 A1 farms in the country and approximately sixty-five
percent of these are villagized.
Model A2 Resettlement Areas
The A2 Model is comprised of farm units which average 330
hectares across the country, but there are some small A2 plots
considered as peri-urban farms which average 30 hectares in
size. The A2 model was designed to ensure the continuation
of commercial agriculture, at a smaller scale in terms of farm
sizes (compared to traditional white agriculture) but
increasing the number of farmers involved. The model
comprises small, medium and large scale commercial
settlements. There are approximately 17,000 A2 farms
nationwide. The land is issued on a 99-year lease with the
option to purchase. Table 5 shows the distribution pattern of
land ownership after the fast track land reform programme.

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Table 5: Land Distribution Patterns after the FTLRP
CATEGORY AREA (MILLION PERCENT
HECTARES)
A1 4.2 10.6
A2 2.2 5.5
Old Resettlement 3.7 9.3
(1980-1999)
Communal 16.4 41.4
Large Scale 2.6 6.6
Commercial
Small Scale 1.4 3.5
Commercial
National Parks & 6.0 15.2
Urban Areas
State Land 0.3 0.8
Other 2.8 7.1
Total 39.6 100.0
Source: PLRC, 2003
Impacts of Land Reform on Agriculture
Ideally, the socio-economic yardsticks for the success of land
reform should be its contribution towards addressing
historical grievances, the empowerment of land beneficiaries,
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and the expansion of the consumer base for marketed
commodities. The overall success of the land reform
programme in Zimbabwe has been curtailed by macro-
economic variables such as the economic melt-down in
Zimbabwe between 2000 and 2009, and the aftermath of the
Economic Structural Adjustment Programme which was
implemented from 1991 to 1995 but whose social and
economic repercussions are still being felt to date. The
government is also facing economic challenges arising from
economic sanctions imposed against the country by the West.
The near-collapse of the manufacturing, mining and
commercial sectors as foreign investors shun the country as an
unfavourable investment destination, has also not helped the
resuscitation of the country’s agricultural sector, which
depends on backward and forward production and income
linkages with these non-agricultural sectors for its prosperity
and success. Adverse agro-climatological conditions have
further made it difficult for the newly resettled farmers to
reach production and productivity levels that match those of
former white commercial farmers. In the face of recurrent
droughts, the near-collapse of irrigation infrastructure during
farm invasions has made the dependence on irrigated
agriculture as a safety net a non-existent option.
The agricultural policy environment has been highly erratic
since 2000. Sudden switches in priorities and levels of support
have dramatically affected the availability, affordability and
distribution of inputs, notably seeds and fertilizers. The level

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of extension support in the new resettlement areas has been
highly variable, sometimes even non-existent, and the ability
to source agricultural finance has been uncertain and patchy.
State agricultural subsidies and other interventions were
limited by resource constraints. Finally, the incentives
required by farmers to increase production or make
productivity-enhancing investments on their farms were
limited by the regulation of agricultural input and output
markets.
However, there is emerging evidence that some of the
resettled farmers, under very austere circumstances, have
managed to produce not only for household food security, but
also for national consumption (Helliker & Murisa, 2011).
Smallholder A1 farmers have fared best, where there is low
capital investment and reliance on local labour. Some have
done very well, while others are struggling. Some farmers
acclaim the land reform programme as highly successful
because despite the problems, life has changed remarkably;
they now have more land and can produce more than they
used to. Around 50% of the new settlers have reported an
improvement in their livelihoods (Scoones et al., 2010). There
has also been significant new investment in the resettled areas.
The new settlers have built homes, purchased farm equipment
and invested in livestock. On average, over US$2,000 had
been invested per household as way back as 2010 (Scoones et
al., 2010). Today, newly emerging supply chains are linking
the new resettlement areas with feedlots and butcheries in

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very different patterns of ownership and management. In the
past there was reliance on a few suppliers from large-scale
ranchers, going through a few abattoirs. Unlike in the past
when large numbers of people were excluded from
participation in the agricultural economy, many new players
are now involved, benefits are more widely distributed, and
economic linkages are more embedded in the local economy.
Land reform has also provided people with land and security
over resources; this is an essential step in creating incentives
for sustainable resource use. In addition, more people in rural
areas are now enjoying stable and productive lives, one of the
necessary conditions for sustainable development to take
place. Thus a more positive picture emerges of Zimbabwe’s
land reform than that often put forward.
Risk and Uncertainty in Smallholder Agriculture
Definitions of Risk and Uncertainty
The terms “risk” and “uncertainty” are not strictly
interchangeable in the context of economic analysis; ‘risk’ has
a rather precise meaning which is distinct from the descriptive
sense of ‘uncertainty’. The following are the fundamental
distinctions between risk and uncertainty.
Risk is restricted to situations where probabilities can be
attached to the occurrence of events which influence the
outcome of a decision making process. For example, if
drought occurs on average in two years out of five, the
probability of a drought occurring is 2/5 or 0.4. Uncertainty

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refers to situations where it is not possible to attach
probabilities to the occurence of events. The likelihood of
these events occurring is neither known by the decision maker
nor by anyone else.
Uncertainty in Smallholder Agriculture
It is widely recognized that a high level of uncertainty typifies
the lives of people in smallholder farm households in
developing countries such as Zimbabwe. This uncertainty is
more pervasive than for farm families in temperate zones for
several reasons. First, variations of climate are more
unpredictable and tend to be more severe in their impact on
crop yields. Second, markets are more unstable where
information is poor and other imperfections abound. Third,
insecurity of poor smallholder households due to low social
and economic status is more important in some countries;
insecurity due to the vagaries of state action is important in
others. And looming above all these kinds of uncertainty is
the sheer poverty of so many smallholder households,
meaning that the outcome of uncertain events can make the
difference between survival and starvation.
The pervasiveness of various kinds of uncertainty in
smallholder production has important implications for its
economic analysis and for the interpretation of its future
prospects. The following points summarize some of the
propositions and arguments which surround uncertainty:

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(a) it results in sub-optimal economic conditions at the micro-
economic level of the unit of production (absence of profit
maximization);
(b) it results in unwillingness or slowness to adopt innovation
(smallholder conservatism);
(c) it is the reason for various farming practices, like mixed
cropping, which represent successful adaptations to
uncertainty by ameliorating its effects;
(d) its impact is more severe for poorer than for better off
farm households, implying that it reinforces social
differentiation;
(e) it is reduced by increasing market integration due to
improved information, communication, market outlets, etc.
(f) it is exacerbated by greater market integration since the
safety of subsistence is replaced by the insecurity of unstable
markets and adverse price trends.
Types of uncertainty
Uncertainty is a condition which in varying degrees surrounds
all forms of activity in a market economy. It is considered
more of a problem for agricultural production than for
industrial production due to the influence of climate and other
natural factors on output, and the length of the production
cycle. Different types of uncertainty can be grouped under
four main headings namely:

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 • natural hazards;
• market fluctuations;
• social uncertainty; and
• state actions and wars.

Natural hazards
This refers to the unpredictable impact on output of weather,
pests and diseases, and other natural calamities. Note that
weather may affect the outcome of planting decisions at any
stage from cultivation through to final harvest, and is not
restricted only to the catastrophic impact of long term
drought. It is also important to note that the capacity to
combat pests and diseases may depend on the ability to
purchase relevant cash inputs, and this can vary widely
between different households within a smallholder
community. Natural hazards may also be described as yield or
output uncertainty.

Market fluctuations
The lengthy time lag between the decision to plant a crop or to
start up a livestock enterprise and the achievement of an
output means that market prices at the point of sale are not
known at the time the decisions are made. This is common to
agriculture everywhere and is a major reason for state
intervention in agricultural markets in many countries. The
problem is more pronounced where information is lacking
and markets are imperfect, features which are prevalent in

105
developing country smallholder agriculture. Market
fluctuations may also be described as price uncertainty.

Social uncertainty
This refers mainly to insecurity caused by differences of
control over resources within the smallholder economy and
the dependence for survival of some smallholder households
on others. This occurs where there is unequal ownership of
land in smallholder communities, and it typically expresses
itself in a high level of uncertainty concerning land access for
some households but not for others. It is more prevalent in
some parts of the world than others.

State actions and wars

The smallholder economy as a whole is susceptible to the
vagaries of decisions made by agencies of the state which may
change greatly from one moment to the next. Smallholders are
often caught up in guerilla wars, more often as bystanders
subjected to marauding expeditions by either side in an armed
struggle. The level of such uncertainty obviously varies
unevenly across space and time, but rarely can it overlooked
entirely in the economic study of smallholders. Also relevant
here, and of increasing importance worldwide, is the
insecurity of refugee smallholder households who typically
have very few social or legal rights in their countries of
adoption.

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Risk aversion
It has been argued that poor small farmers are of necessity
risk-averse. They cannot afford not to cover their household
needs from one season to the next, since if they fail to do so
they will starve to death. For a poor family existing at a bare
subsistence level of production a loss means starvation.
The notion of disaster avoidance is sometimes referred to as
the ‘safety first’ principle. More precisely it means that
decision making is constrained by the smallholder farmer’s
unwillingness to take the risk of obtaining a net income below
a given level, unless the probability of it falling below that
level is very low indeed.
The following has been found to be true about risk-aversion
among smallholder farmers:
• Smallholders are risk-averse. This results in inefficient
levels of resource use at the farm level.
• Smallholder risk aversion results in cropping patterns
designed to increase household security rather than
maximize output or profits. This may take the form of
allocating a higher proportion of land to subsistence food
crops than is warranted by relative price and returns
between food and cash crops. Or it may consist of
cultivation practices, like mixed cropping, which achieve
security at the expense of lower returns than could be
achieved by cropping in pure stands.

Smallholder risk aversion inhibits the diffusion and adoption

of innovation which could improve the output and incomes of
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smallholder households. This point closely ties the concept of
risk to lack of information or its inadequacy. Smallholder
skepticism about innovation is thought to be largely related to
imperfect knowledge of innovations and the agronomic
practices appropriate to them. Also important are other
constraints such as the high cost or lack of credit.
Risk aversion declines as wealth or income rises. Higher
income or wealthier farm households are better able to
withstand the losses which might result from taking risky
decisions. It follows that higher income farmers might be
expected to be more efficient, more prepared to specialize in
cash crops, and more willing to innovate. They are also likely
to be better informed and have greater access to credit. Since
these factors are cumulative, an implication is that the more
uncertain the decision-making environment, the more
advantaged are better off farmers compared to poorer ones,
and the greater the likelihood of emerging and deepening
inequalities between households.
Policy Implications of Risk and Uncertainty
The theory of the risk-averse smallholder, like the theory of
the profit maximizing smallholder, is associated with
government interventions designed to remedy the adverse
impact of risk aversion on agricultural productivity and
growth. Alternative policy implications of risk aversion may
be grouped broadly in line with the categories of hazard that
they are designed to overcome.

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Natural hazards
Irrigation. Perhaps the most obvious policy response to
natural uncertainty is that of irrigation as an answer to rainfall
variability. Irrigation can serve both to (a) alleviate the risk of
drought between one season and the next; and (b) to smooth
out within-season fluctuations of water supply to plants. In
addition, it can permit higher productivity cultivation
practices, such as double cropping (sequential cropping in the
same year), with a direct impact on the volume of output and
farm incomes.
Crop insurance. The most theoretically consistent and
comprehensive proposal for alleviating the impact of natural
hazards is crop insurance. Insurance is logical within a
neoclassical framework as a method of achieving income
security in the face of potential disasters. People pay risk
premiums, representing the average social degree of risk
aversion, and are thence protected against the incidence of
uncertain events. However, in practice crop insurance has not
got very far as a risk policy in agrarian societies.
Resistance varieties. More practical and relevant, because of
the much lower cost in relation to potential benefits, is plant
breeding or selection designed for resistance to pests, diseases
and drought, and stability of yields. There are of course trade-
offs here. Stable yields may not be consistent with the highest
attainable yields. Research station breeding of resistant strains
may not be that much more successful than traditional
varieties, or agronomic practices, which achieved the same
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end in the past. Moreover, there may be sacrifices in
palatability, storability, etc. of the crop, which are not
foreseen when new varieties are released.
Market risks
Price stabilization. The most popular policy response to
market price instability is price stabilization. Indeed this is the
main economic basis underlying agricultural policies
worldwide. Price stabilization may take many forms, implying
varying degrees of state intervention, from minimum floor
prices for key strategic staples through to fixed producer
prices across a wide range of crops.
Information. Where risk aversion is attributed to inadequate
information (e.g. input prices; new seeds), then information
provision is considered a useful component of risk policy.
Diffusion of information to smallholders can take many forms
such as extension work, training and visit programmes, the
radio, bulk leaflets, and farm education in schools. The
difficulty with this lies not so much in their basic provision as
in ensuring the quality, timeliness, and relevance of the
information with respect to location and latest alternatives.
This is more costly than what might appear at first sight.
Credit subsidies. The provision of subsidized credit is often
cited as a risk related policy, even though it has wider
connotations. Where risk aversion is related to disaster
avoidance, and this prevents the poor smallholder from
adopting higher productivity technologies (e.g. new seeds)

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and the variable inputs to go with them (e.g. fertilizer), then
easier credit is often seen as a means of overcoming this
barrier.
Social and state hazards
These are pertinent questions to which there are no single
‘policy’ solutions, but rather they are matters of politics. The
relationships between landlords and smallholders in agrarian
communities characterized by great inequalities of access to
resources is a complex one. That these relationships increase
the uncertainty of poor smallholders there is no doubt, but
their alteration (e.g. through land reform) is not a purely
economic matter even if sound economic arguments are put
forward for the change. As for hazards which originate from
the state itself, the important point is to recognize that these
can occur and to relate them to the underlying social position
of smallholders. They often point to the need for greater
political participation by smallholders themselves in decisions
which affect their welfare and their future.

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 CHAPTER 6: FARM PLANNING CONCEPTS AND
BUDGETING
Rationale for Planning
Farm planning is one of the prime functions for farm
management. The basis for farm planning is normally due to
the fact that the environment is constantly changing. For
example, there are changes in economic factors that influence
farmers’ incentives to produce a certain crop. Changes in
technical factors influence likely changes in production
methods. All these changes in turn may cause changes in farm
goals. There are several reasons for planning. These include:
1) to develop a plan of action for meeting farm household
goals;
2) to systematically choose among many alternatives by
eliminating the least profitable ones or those that do not
lead to efficient attainment of goals and objectives;
3) to determine the most efficient organization of available
but limited resources; and
4) to develop a reference standard that will be used to:
a) guide implementation of what is on the plan; and
b) assess and evaluate performance.

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Income and Costs Concepts in Farm Planning and
Budgeting

Hidden costs and obvious costs

Farming, like any other business, has costs. The costs can be
classified into hidden costs and obvious costs. Opportunity
cost is a good example of hidden costs. Obvious costs are
what one may call a matter of fact. These are costs like the
market price of seed, fertilizer, repairs and maintenance.
Among the cash or obvious costs are fixed costs, variable
costs, marginal costs,and average costs of fixed, variable and
total costs. There are also others like household costs and tax
costs.

Fixed costs
Fixed costs are also called overhead costs. These are costs that
are incurred regardless of whether one is in production or not.
They do not necessarily vary with the level of output. Average
fixed costs (AFC) are the quotient of total fixed costs over
total output. This is constantly falling as output increases.

Variable costs
Variable costs are the costs of the variable inputs used. They
vary with the level of output.

Total costs
These are the sum of fixed costs and variable costs.

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Marginal costs
Marginal cost is that additional cost of inputs that is incurred
to produce an extra unit of output.

Gross Income
Gross Income is the value of output. It is obtained by
multiplying quantity of output by the unit price of output.

Gross Margin
Gross margin is the residue of income obtained by deducting
variable costs from gross income. The gross margin measures
the addition to value as a result of undertaking a production
activity.

Budgeting Concepts and Definitions

A budget may be defined as an attempt to quantify the effects
of a proposed plan. It may then be seen as a formal plan for
carrying out some business activity in the future. A budget
shows the process of carrying out an activity and the end
result. A budget may be done for a whole farm or for a portion
of the farm. Budgeting involves three main steps, namely:
1) preparing a description and specification of the proposed
plan, in terms of the area of each crop and number of
each class of livestock to be produced and the methods of
production.
2) testing the feasibility of the proposed plan in terms of
resource requirements relative to what is available and to
other institutional, social and cultural constraints; and
3) evaluation of the plan.
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Components of a Budget
There are two major components of a budget and these are:
a) physical input and output relationships; and
b) financial relationships.

Physical input and output relationships

These concern the physical relationships of transforming farm
resources into outputs. They do not deal with the monetary
value of inputs or outputs. Instead, they deal with the
technical relationship between inputs and outputs. Thus they
answer the question: how much of this input will produce a
given level of output to be put on the market or consumed by
the farm household?

Financial relationships
These concern the monetary value of inputs and outputs. They
allow the specification of the cost of production and income
from production. From these the farmer will be able to
calculate the net returns from the farming business and
determine whether he is making a profit or not. These will
also enable the farmer to compare the returns from different
prospective ventures.
The Budgeting Process
The process of budgeting involves four steps:
(1) Estimating and specifying input requirements
These estimates are based on previous records on the farm or
data obtained from nearby surrounding farms. Most
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importantly it should be backed by data from research work or
from extension workers.
(2) Estimating cost of production
This entails calculating the cost of production obtained by
multiplying the quantity of input with its unit price. The costs
of input to be used in production are based on either the
previous prices, their current prices or anticipated future
prices as determined by the general economic climate in the
country.
(3) Estimating the value of output, i.e. returns from
production
This is almost the same as estimating the cost of production.
The output value is obtained by multiplying the quantity of
output by the unit price of that output. Unit price is based on
the previous market prices, current prices and possible
demand and supply of the outputs in question. The estimated
prices will be multiplied by the total expected output to get
the total value of output.
(4) Comparing costs and returns to determine net returns
or net benefit
This is mere subtraction of cost of production from total value
of output.
Enterprise Budgets (Gross Margin Budgeting)
Enterprise budgets are prepared to measure the profitability of
a single enterprise. Thus on a mixed farm the farmer can
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prepare cotton, livestock and maize enterprise budgets. An
enterprise budgets shows:
(i) Gross output (usually on a per unit basis, e.g. per hectare)
(ii) Variable costs (also usually on a per unit basis, e.g. per
livestock unit or per hectare)
(iv) Gross Margin.
In short, gross margin budgets show the resources needed to
produce a given enterprise, costs of production and value of
output. The equation used is as follows:
Gross Margin = Gross Income – Variable Costs
Enterprise budgets are the basis of constructing whole farm
budgets or partial budgets. An enterprise budget is more of a
diagnostic tool in that it enables the farmer to know which
particular sectors of the farm are likely to make losses and
find ways of solving the problems likely to affect them.
Components of an Enterprise Budget
The components of an enterprise budget are:
- estimated yield
- estimate of expected income
- expected crop price
- estimate of production costs
- input price
- gross margin.

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All these are expressed either per unit of the most limiting
resource (factor), or per most common unit of analysis to
allow comparison of alternative/ competing enterprises.
Uses of the Gross Margin
The enterprise gross margin must be great enough to cover the
enterprise fixed costs. If gross margin is greater than fixed
costs and the fixed costs remain constant, any increase in size
of enterprise will raise farm profitability. If gross margin is
less than fixed costs, the enterprise will not be viable.
Since gross margins are usually calculated on a per unit
resource (most limiting, most important resource), the gross
margins per unit resource are preferably used in finding out
which of the enterprises can make the best use of the resource
in question. In this regard the gross margin analysis budget is
used in choosing which enterprises to undertake among
different possible enterprises. The one with the highest returns
per unit of the most limiting resource (e.g. land) is chosen.
Gross margins are also used for farm performance comparison
purposes. Meaningful comparisons of gross margins can only
be done between farms of similar environments. For two
adjacent farms with similar weather, topography and soils, if
it happens that at Farm A maize gross margin per hectare is
$1800 and maize gross margin per hectare for farm B is
$1000, then Farmer B should seek advice on the technical
reasons for his poorer economic performance than Farmer A.

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Complete or Whole Farm Budgeting
Complete or whole farm budgets are concerned with the
whole farm system so all expenses and receipts likely to be
incurred are included. This is used in planning costs and
returns for an entire or whole farm business. It tests the
feasibility of undertaking the farm business.
Complete farm budgets are used when:
(ii) a plan for a new farm or farmer is required;
(iii) a large basic change is to be undertaken at the farm
and this has a result of affecting all the previous
arrangements at the farm; and
(iv) a profit potential of an existing farm needs to be
assessed (e.g. when preparing a lease agreement or
conducting a later check on the actual performance of
the farm).

The selected production programme needs to be presented in

monetary terms to show the expected income, costs,
contribution to farm net income as well as the expected cash
flows in and out of the farm business as a result of
undertaking the proposed production programme. This
involves gross margin calculations, determination of whole
farm gross margin and net farm income, as well as preparation
of a cash flow statement.
Use of budgeting techniques in farm planning provides
answers to the following questions:
(1) What is to be produced?
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 (2) How much should be produced?
(3) What enterprises (combination) should be
undertaken?
(4) How much money is required to produce the
selected enterprises?
(5) How much income is expected?
(6) How will the income generated contribute to whole
farm income and profitability?

This section outlines the steps one goes through in developing

the final farm business financial plan to be implemented.
Step 1: Calculate the Gross Margins for the feasible
enterprises given the limiting factors
This involves the development of a detailed budget for each
enterprise to determine the profitability of each enterprise.
The budgets would therefore be used to evaluate the
alternatives.
A typical enterprise budget shows:
a) The possible income – GROSS INCOME
b) Estimated costs of production – VARIABLE COSTS
c) The GROSS MARGIN (the difference between Gross
Income and Variable Costs).
The budgets are developed on the basis of efficient
management to ensure technical efficiencies in input or
resource use and achievement of best output performance.

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Step 2: List the Gross Margins for the various enterprises
in descending order of gross margins per unit of the most
limiting resource.
Step 3: Determine the FIXED COSTS associated with
each enterprise and allocate to each enterprise
Step 4: Re-evaluate the selected enterprise on the basis of
non-subjective and subjective factors such as:
a) risk and uncertainty;
b) contribution to covering of fixed costs;
c) contribution to increase or stability in net farm income;
d) contribution to reduction in financial liability; and
e) availability of viable markets.

Step 5: Final selection of enterprises

The alternatives showing the highest gross margins best able
to meet subjective and non-subjective requirements are
chosen. The selected enterprises are presented as a plan of
action for implementation showing the type of enterprise (e.g.
maize); size of enterprise (e.g. 500 hectares); input
requirements (e.g. labour, fuel, and other variable costs, in
quantitative terms); critical factors (e.g. planting time, mode
of fertilizer application, timing of operations, the need for
supplementary irrigation, etc.)

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Step 6: Financial analysis of the selected production
programme
The selected production programme needs to be presented in
monetary terms to show the expected income, costs,
contribution to farm net income, as well as the expected cash
flows in and out of the farm business as a result of
undertaking the proposed production programme.
Step 7: Implementation of the decision
A decision is made and implemented without deviating
significantly from the original plan.
Step 8: Monitoring the results
The outcome of the decision should be carefully monitored by
comparing projected (planned) results with actual results.
Modifications to the plan should be implemented if necessary.
Careful observations will also provide additional information
for future decisions.
Step 9: Evaluation of performance
After planning and actually carrying out those plans, it is
important to evaluate performance. Evaluation of performance
helps the farmer in identifying weaknesses and strengths of
the way things are running.

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Cash Flow Budgeting

Cash flow budgeting completes the farm financial planning

process. It is a management tool used in planning and
monitoring cash inflow and outflow of a farm business for a
future period. As a planning tool the Cash Flow Budget is
used to forecast cash requirements and position for a given
period. It is a summary of all cash flows from all sources,
including both farm and personal cash income and expenses.
The Cash Flow Budget shows the sources and utilization of all
cash. It is usually done on a monthly basis. When the required
cash exceeds the amount available from within the farm
business, the farmer has to borrow from external sources. In
such a case, the cash flow budget is used by the farmer to plan
and negotiate loan requirements. Financial institutions require
cash flow budgets to assess the viability of proposed
production programmes. A viable production programme is
one that has the ability or potential to repay loans acquired to
finance production. An acceptable cash flow budget, that is
one showing the viability of the proposed production
programme, becomes the basis for implementing the
programme and is used for monitoring expenditure.
A cash flow budget is a summary of cash inflows and
outflows of a farm business over a given period. It is a record
of the movement of cash in and out of the business. It is also a
forecast of the cash position of the farm business for the
immediate period ahead. The cash flow budget helps the
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farmer to determine the amount of money required to carry
out the planned crop and livestock programmes for a given
season or period of time.
Like a bank statement, the cash flow budget gives the
cumulative cash position as transactions occur. It is used to
plan ahead and monitor cash (liquidity) position of the farm
business. It shows:
(i) the amount of money available;
(ii) the time when it becomes available to the farm
business; and
(iii) how it could be used for the farm and non-farm
business.

The cash flow budget clearly shows the pattern of income,

expenditure and repayment of creditors, thus exposing cash
shortages, surpluses and their causes. However, a cash flow
budget does not show forecasted future profit because it
excludes non-cash expenditure or income, such as
depreciation and valuation changes.
Uses of Cash Flow Budgets
Cash flow budgets are used for:
(1) ensuring that managers properly plan their cash or
credit needs and repayment programs so that sufficient
working capital is available for production and
expenditure programs;
(2) application for a loan from financial institutions.
The cash flow budget will present the pattern of cash
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 inflows and outflows indicating the use of cash and
ability to meet financial obligations including loan
repayments; and
(3) monitoring and controlling of expenditure so that it
remains within the planned expenditure pattern and
budget.

Farm cash flow budgets are usually prepared for a production

period, usually covering an agricultural season. The chosen
period that is going to be covered by the budget is further
broken down into smaller periods, usually one or two month
periods. It is also possible to divide this into one-week
periods.
The current balance or the previous cash flow net balance is
used to start the cash flow statement, usually at the bottom of
the column on the left side of the first period. The next step is
to estimate cash likely to flow into the business followed by
that likely to flow out of the business. The net cash flow is a
result of subtracting cash outflows from cash inflows. The net
cash flow is added to the previous period’s balance to get the
cumulative cash flow balance.
The cash flow statement includes all sources and uses of cash.
The sources are:
- Beginning cash
- Cash receipts from crops and livestock
- Sale of capital items
- Nonfarm income
- Reduction in savings, stocks, etc.
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 - New borrowings
- Outside equity in the form of gifts, sale of stock,
etc.
The uses of cash include:
- Farm operating expenses
- Capital purchases
- Proprietor withdrawals, including for individuals or
cash dividends and taxes for corporations
- Principal and interest payments on farm debt
- Increases in savings, stocks, etc.
- Ending cash.

The format for the cash flow statement includes four major
parts, namely cash receipts, cash outflow, a flow-of-funds
summary, and the loan balance summary. Each of the sources
and uses of cash listed above is included in the first three
sections of the format. The cash receipts section includes
operating sales, capital sales, miscellaneous farm income, and
nonfarm income.
The cash outflow section includes operating expenses, capital
purchases, proprietor withdrawals for family living, payment
of income taxes, and other expenditures and payments on
intermediate and long-term loans. The third section uses the
totals from the first two sections and summarizes the flow-of-
funds for the period. It is important to note that the cash
difference (the sum of the cash balance at the beginning of the
period plus cash receipts minus cash outflows) can be either
positive or negative for any period. If it is negative, money

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must be borrowed. The total money borrowed this period is
the sum of new borrowing on current, intermediate, and long-
term loans. The fourth section is used to record the ending
loan position. Notice that the cash receipts, cash outflows, and
the flow-of-funds summary represent flows during the period.
The loan balance indicates the loan position at the end of the
period.
The following crucial points should be noted each time a cash
flow budget is prepared:
(1) After being prepared cash flow budgets can still be
edited any time of the year. The editing can be done
following price, cost or policy changes.
(2) Movement of cash is indicated during the time when
payment is expected to be received or made, not at the
time the transaction is made.
(3) All cash payments and receipts are indicated on the
statement whether they are operating or capital
transactions.
(4) Income and expenditure items that do not involve
cash movements are not included (though they are
important in farm accounting) because they produce no
cash flows.

Partial Budgeting and Analysis

This section discusses partial budgeting and how it is applied

in decision making in the process of farm business financial

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planning and control. It is both a planning and an evaluation
tool.
Partial budgets are used to estimate the change that will occur
in farm profit or loss from some change in the farm planning
by considering only those items of income and expense that
change. Partial budgets do not calculate the total income and
total expense for each of two plans, but only list those items
of income and expense that change, to estimate the difference
in profit or loss expected from the plans.
Partial budgeting is particularly useful in analyzing relatively
small changes in the business such as the purchase of a piece
of equipment to replace a hiring custom operator; considering
a shift in the cropping programme for the current year; or
participation in a government programme. Thus, partial
budgeting is a method of analyzing the impact of relatively
small changes in farm organization or production method. It is
a planning tool/ technique for comparing alternative methods
of production or organization that are intended for the farm.
This is a systematic way of choosing alternatives. It is
concerned with evaluating or analyzing the outcome or impact
of relatively small changes in organization, production
patterns and methods as well as management practices. In
partial budgeting the focus is only on those factors that will
actually contribute to, or change, or differ, or are affected by,
the changes under consideration. One would be measuring the
net effect of the planned change(s) on a relative measure of

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farm performance (e.g. enterprise gross margin, or net farm
income).
A partial budget is used to help the farmer or farm manager to
decide on the most profitable of possible alternatives or
planned changes in production or alternative methods of using
resources on the farm. It is a planning tool/ technique for
assessing the impact of changes on (i) costs; (ii) benefits; and
(iii) net benefits or gains.
It compares the situation before and the situation after the
change to determine the net effect of the changes on the whole
farm performance.
Situations in Which Partial Budgeting is Applicable for
Decision Making

Partial budgeting as an evaluation tool is used when

considering the following situations:
(i) change in the combination of enterprises;
(ii) substituting a new enterprise for an existing one;
(iii) change in size or scale of an enterprise;
(iv) introducing a supplementary enterprise; and
(v) change in production method or management practices
(e.g. buying a new machine/ plant; or adopting a new
technology such as conservation tillage or herbicide
use).

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Format and Procedure for Partial Budgeting
The process of partial budgeting or partial budget analysis
involves the following steps:
1) Describe and specify the proposed changes, stating what
is involved and other relevant information (e.g. timing of
the changes).
2) List those factors or items (direct and indirect) in the
existing system of production that are likely to change.
3) Determine the gains, i.e. what would contribute to
increase in income.
These are: (a) cost saved as a result of the change(s); and
(b) new or additional income arising out of
the change(s).
4) Determine losses, i.e. what would contribute to increase
in costs or reduction in income. These are:
(c) new or extra costs incurred as a result of
the proposed change(s); and
(d) income lost or foregone as a result of the
change(s).
5) Determine net change in income:
Net Income = [(a + b) – (c + d)]
6) State non-monetary factors that are not taken into
account of in Steps 3, 4, and 5.
Such non-monetary factors include:
(i) degree of risk and variability associated with the
change;
(ii) prerequisites before implementing or for
implementing the change;

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 (iii) implications of the change on resource utilization and
management;
(iv) implications on other enterprises;
(v) human and social aspects and other non-monetary
factors;
(vi) expected change in assets;
(vii) physical and technical aspects of making the change;
and
(viii) availability of labour.

Partial Budgeting Example

The following example will assist in understanding the

process and application of partial budgeting and analysis:
Situation
Maize producer price has been static for three years while that
of cotton has gone up by 15%. An AGRITEX extension
officer is advising farmers in Gokwe to make a complete
substitution of cotton for maize production. He uses the
following crop budget data to support his argument:

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 PARAMETER MAIZE COTTON
Average yield in 3 tonnes/ ha 1100 kg/ ha
Gokwe
Guaranteed price
for that year
$195/ tonne $0.85/ kg
Cash Variable
Costs
Pre-harvest
$297/ ha $455/ ha
Harvesting &
$36/ tonne $0.10/ kg
Marketing

Required:
Show how you would assess the impact on the farm income of
the proposed change on a farm growing 2 ha of maize and 1
ha of cotton, using the partial budget to assess the impact of
substituting cotton production for maize production.

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Solution
Stage 1
PARAMETER CURRENT SITUATION AFTER
SITUATION CHANGE
COTTON MAIZE COTTON MAIZE
No. of 1 2 3 0
Hectares
Yield kg/ ha 1100 3000 1100 3000
Price $195/ t $195/ t
0.74/kg $0.85/kg
Variable Costs
Pre-harvest/ ha $455 $297 $455 $297
Post-harvest $0.10/ $36/ t $0.10/ kg $36/ t
kg

What would change and how?

1. Area under cotton: up by 2 hectares
2. Area under maize: down by 2 hectares
3. Cotton total output: up by a 2 hectare factor
4. Cotton variable costs: up by a 2 hectare factor
5. Maize total output: down by a 2 hectare factor
6. Maize variable costs: down by a 2 hectare factor

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Stage 2
Specifications: Two hectares under maize to be put under
cotton.
Aspects in the present system that would change are as
follows:
GAINS LOSSES
a) Increase in output of c) Loss in maize output
cotton d) Increase in variable
b) Savings in cost of costs (VC) of cotton
maize production

Stage 3
Partial Budget Format:
GAINS LOSSES
New/ Additional A Income Lost C
Income
Costs Saved B New Costs D
Total Gain (A + B) Total Loss (C + D)

Net Gain = (A + B) – (C + D)

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`Stage 4
Application of Partial Budget Format to solve Problem:
New (Additional) Income (A) (i.e. cotton income)
= 2ha x 1100kg/ha x $0.85/ kg =$1870
Costs Saved (B) (i.e. maize costs) = Pre-harvest Costs + Post-
harvest Costs
= ($297/ha x 2 ha) + ($36/t x 2 ha x
3t/ha)
= $594 + $216
= $810

Total Gains (A + B) = $1870 + $810 = $2680

Income Lost (C) (i.e. maize income lost) = 2 ha x 3t/ha x

$195/t = $1170

New Costs (D) (i.e. cotton costs) = Pre-harvest Costs + Post-

harvest Costs
= ($455/ha x 2 ha) + ($0.10/kg x 2ha x 1100kg/ha)
= $910 + $220
= $1130

Total Loss (C + D) = $1170 + $1130 = $2300

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Inserting the values into Partial Budget Format:
GAINS LOSSES
New Income $1870 Income Lost $1170
Costs Saved $ 810 New Costs $1130
Total Gains $2680 Total Loss $2300

Net Gain = $2680 - $2300

= $380

Thus the decision to substitute cotton for maize is a viable

one, since the Net Gain figure resulting from the partial
budget analysis has a positive value.
Break-even Analysis

Break-even analysis is a specific application of gross margin

analysis and partial budgeting. It is a decision tool used to
establish or determine the value of the variables at which
returns are equal to costs. Break-even budgeting is used when
one is considering a marginal shift or change of enterprises. In
such cases it is used to determine the break-even point. The
break-even point is the point at which revenue is equal to
costs. It is the point where there is neither profit nor loss
being made. The break-even point gives the critical or
minimum levels of input, output, production and price.
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Break-even analysis is used as a decision-making tool in
several ways:
(i) By studying various combinations of break-even
prices and yield, one can form an expectation of the
chance of obtaining a price and yield combination that
will cover total costs.
(ii) It can be used to minimize costs.
(iii) It can be used to decide whether to produce or not, if
the expected price or yield will not cover costs.

To determine whether producing to minimize losses can be

undertaken, the break-even price and yield must be calculated
on the basis of operating costs (variable costs).
Break-even price = Operating Costs (i.e. Variable Costs)
Expected Yield.
Farm Decision Making Processes for Profitability and
Sustainability

Land, labour, and capital do not produce anything unless they

are organized together. The person who takes the decision to
organize these factors of production and bears the risk is
called a “manager” or “entrepreneur”. In a farm firm he is
responsible for what is produced (e.g. maize, wheat, beef,
milk), how production is implemented (e.g. whether to use
labour-intensive or capital-intensive methods), the choice of
the scale of production (e.g. 50-cow dairy herd or 100-cow
dairy herd), and for marketing the product (when, where and
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how to sell). All this requires an ability to make and
implement decisions. Generally the larger the business, the
higher the decision-making qualities that are demanded.
People differ in their organizational ability to assess risks, so
the quality of entrepreneurship is highly variable. While some
economists would maintain that the organizational role of the
entrepreneur is just a rather specialist form of labour, the risk-
taking element is a unique characteristic of the entrepreneur in
a free-market economy.
Management, in its broadest sense, is the process used to
control or direct a situation. Bradford and Johnson have
identified and outlined five basic steps as the foundation for
managerial decisions. They are:
(i) Observing a problem and thinking about its solution
(ii) Analyzing with further observations
(iii) Making the decision
(iv) Taking action
(v) Accepting responsibility for actions taken.

Management must have a set of objectives or goals. We often

think of the goal of the farm business in general as the
maximization of profits. But in some cases there may be other
non profit goals like personal or family satisfactions,
participating in community activities or services, and
increased leisure time.

138
Management is the factor or resource that is used by humans
as managers to ensure that other resources are organized or
controlled in such a way as to make those resources
productive. Management’s role is to set up goals or objectives
as well as ensuring that those goals are met or achieved.
Limitations to Farm Planning on Small Scale Commercial,
Communal and Resettlement Farms in Zimbabwe

In small scale farming systems in Zimbabwe, there is a very

close interaction between the farm, the farm household, and
off-farm activities of household members. When planning for
small-scale farming systems, considerations taken will differ
from those taken in planning for a commercial farm. If the
small scale farm is viewed entirely as a business, activities
such as fishing, hunting, gathering, handicraft manufacture,
child care or food preparation, which all contribute to cash or
household consumption, will be ignored.
Unlike on commercial farms where the major goal may be
profit maximization, a farmer in the communal, small-scale
commercial or resettlement areas may have multiple
objectives such as provision of food, to gain access to services
such as health care and education for children, sufficient cash
to buy a few extras above the basic needs to make life more
pleasant, and sufficient leisure time. It is with these facts in
mind that we realize that planning of farm household resource
use that ignores these diverse but important objectives will
defeat the whole purpose of the planning activity.
139
Farm planning techniques are not always easy to implement in
the communal farming areas, resettlement areas and small-
scale commercial farming areas. This is because of the
following difficulties that are faced by farmers in these areas:
• inadequate information;
• diversity of environments and production
systems;
• socio-economic, institutional and political
constraints; and
• input and output relationships not based on
monetary measures.

140
PART C: MARKETING

141
 CHAPTER 7 : MARKETS AND COMPETITION
Introduction
If people were entirely self-sufficient, producing the entire
range of food, clothes and other requisites from their own
resources and the gifts of nature, then a market in
commodities would not exist. Once, however, complete self-
sufficiency is left behind and specialization emerges, then the
problem of disposing surpluses in exchange for deficits on the
market is created. The farmer produces far more food than he
and his family require and he will wish to sell his produce,
and uses the money so earned to buy items such as clothing,
heating, processed foods and other consumer goods.
There are three main types of markets which are differentiated
by the degree or level of competition among sellers and/ or
buyers. The first type is one in which perfect or pure
competition prevails and such a market is called a perfectly
competitive market, or more simply, a perfect competition
market. The major distinguishing factor of such a market is
that it has many buyers and sellers. There is a continuum
among other types of markets, but within the scope of this
book we will look at only two other types, both of which
represent what is called ‘imperfect competition’ among sellers
or buyers. We will focus on the monopoly market, which is a
market dominated by one (single) large seller, and a
monopsony market, dominated by one (single) large buyer.

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Perfect Competition
Conditions for perfect competition
A perfectly competitive market for a good or commodity is
one defined to have the following set of properties or
conditions:
(i) Firms are independent profit maximizers, and consumers
are utility (satisfaction) maximizers with independent
tastes.
(ii) There are both a very large number of buyers and a very
large number of sellers, the quantity of each buyer or
seller being an insignificantly small proportion of the
total. None of the sellers and buyers has a large enough
market share for their decisions to affect market prices.
Sellers and buyers are price takers.
(iii) There is a homogeneous product (i.e. the product from
any one supplier is indistinguishable from that of any
other supplier), so that consumers are indifferent between
the produce of alternative suppliers.
(iv) All firms have identical technology, production
functions and management ability.
(v) Buyers and sellers are free to stop and start buying from
the market or supplying the market (i.e. unrestricted
entry to, or withdrawal from, the market).
(vi) There are no prejudices in the minds of buyers in favour
of or against any seller.
(vii) Sellers and buyers have perfect knowledge and foresight
about market conditions and adjust their decisions
accordingly.
In such a perfect market for a product only one price, the
equilibrium price, would exist at any one time. Any attempts
143
by buyers or sellers to deviate from this price would be
strongly resisted and the price would return to its equilibrium.
Functions of the price system under perfect competition
In a perfect competition market the price system performs a
number of important roles:
(i) It matches demand to supply.
(ii) The price mechanism signals changes in consumer
demands to producers. For example, if consumers take an
increasing liking to beef (the sort o thing that happens
when incomes rise) the demand curve for beef will move
to the right, resulting in higher beef prices. Beef
producers will make high profits; they will act in such a
way that they will attempt to expand production, and new
producers will be attracted into beef production,
eventually increasing supply.
(iii) The price system performs an allocative function.
Productive resources, controlled by entrepreneurs, are
attracted into producing those commodities which the
consumers demand. Changes in consumer demands
result in a switching of resources to satisfy those changed
demands, because the consumer demand shifts result in
commodity price changes to which producers or
suppliers respond.
(iv) The price system ensures that goods and services are
produced in the most efficient manner. This can be
interpreted to mean that goods are produced at the lowest
average cost. Competition between producers will allow
the more efficient to undercut the lowest price at which
the less efficient can operate, so the inefficient will be
forced out of business. If one size of firm proves to be
144
 particularly efficient, then larger firms or smaller firms
will be forced to adopt this size of the operation or go out
of business. Eventually all firms will be of this optimal
size. The price system thus ensures that the nation’s
demands are satisfied at the lowest cost.
The individual producer in perfect competition
The agricultural industry, consisting of many farmers whose
individual outputs form an insignificantly small proportion of
total output and whose products are virtually identical to those
of other farmers, approximates to the perfect competition
model. The individual producer in a perfectly competitive
industry, of whom the farmer is a good example, cannot affect
the market price for his product. He is a “price accepter” or
“price taker”. Furthermore, he will receive the same price per
unit, whatever quantity he places on the market. It matters
nothing whether he sells one tonne of maize, 10 tonnes or 20
tonnes; the price per tonne will remain the same.
The money received by a firm from selling its products is
called its revenue. The revenue from selling a given quantity
of output is termed Total Revenue (TR). Dividing Total
Revenue by the quantity of output sold gives the Average
Revenue (AR). For example, if the Total Revenue for selling
10 tonnes of maize is $2,000, the Average Revenue is $200
per tonne. Average Revenue is therefore the technical name
for the price of the product. The Total Revenue received will
be directly proportional to the quantity he sells, and doubling
the quantity sold will double the Total Revenue, but the

145
Average Revenue (= price per tonne) will be constant with
changing output, as shown in Table 6.
Table 6: The Revenue of a Producer under Perfect
Competition

Quantity of Price = Total Marginal

maize sold Average Revenue Revenue
Revenue (TR) ($) (MR) ($)
(AR) ($)
1 200 200 200
2 200 400 200
3 200 600 200
4 200 800 200
5 200 1000 200
6 200 1200 200

Marginal Revenue (MR) is the increase in total revenue to the

producer gained by producing and selling one more unit of
output. For example, MR of the 4th tonne of maize is the Total
Revenue (TR) from 4 tonnes minus the TR from selling 3
tonnes, i.e. $800 - $600 = $200. It can be observed in Table 6
that AR and MR are equal for each unit sold. To the
individual producer under perfect competition, therefore, AR

146
equals MR, and both are constant with increasing output. The
AR schedule is also the Demand schedule.
The TR, AR, MR, P, and D curves are shown in Figure 12.

147
 Figure 12: TR, AR, MR, P and D under
Perfect Competition

TR

400
Dollars ($)

AR = D = MR = P

200

0
0 1 2 3 4

Quantity Demanded Per Time Period

148
Profit maximization under perfect competition
What level of output should the producer aim to produce and
sell? If he is aiming to maximize profits he will be seeking the
largest possible difference between Total Revenue (TR) and
Total Costs (TC), i.e. he will seek to maximize his profit,
defined as:
Profit = TR – TC
The output at which this is achieved will generally not be the
highest possible because costs of production must also be
taken into account. It is commonly experienced that, once a
certain level of output has been achieved, the cost of
producing additional units of output rises. An example is
maize yields. Each additional tonne of maize per hectare
requires ever-larger applications of fertilizers, herbicides etc.
and hence the cost of each additional unit of yield is greater.
The addition to total cost caused by producing the last
(marginal) unit of output is called the Marginal cost (MC) for
that level of production.
If, for example, the addition to total revenue caused by
producing the 4th tonne of maize (i.e. its MR) exceeds the
addition to total costs of its production, then it will pay the
farmer to produce that extra unit of maize, because he makes
some profit from the unit. It will pay him to expand his output
until MC just reaches MR. Beyond this point, further
expansion to gain highest possible yields per hectare would
reduce total profit. This is because each additional unit of
149
output would cost more to produce than it brought back in the
form of extra revenue.
Thus the highest profit will be made when MC = MR. We
also know that, under perfect competition, MR = price of the
product, so we can state that, under perfect competition,
maximum profits will be attained when output is adjusted so
that MC = price of the product (See Figure 13).
In Figure 13, the AR curve has been labelled D (for Demand),
and the MC curve S (for Supply). Some explanation of this is
necessary. The AR curve, which in this example takes the
form of a horizontal straight line, shows how the product price
changes as the producer supplies different quantities to the
market. But a demand curve also shows how much of the
commodity buyers, who collectively constitute the market, are
willing to buy at given prices. Clearly therefore, an AR curve
and a demand curve are showing the same relationship
approached from two different directions.

150
 Figure 13: Profit maximization under
perfect competition

MC (=S)

G
P2 AR = D
Cost and Revenue ($)

F
Po Level of output
with highest
E profit
P1

0
Q1 Qo Q2
Quantity of Output

Turning to the “MC = S” label: the MC curve for a firm in

perfect competition is the same as its supply curve. The
151
supply curve shows the quantities which producers are willing
to put on the market at different prices. Let us suppose that the
prevailing price under perfect competition is at Po. The profit-
maximizing quantity that the producer supplies to the market
is Qo, because this is the quantity for which the marginal cost
(MC) is equal to the price (P). This is shown by the
intersection of the Po curve and MC curve at point F. If the
equilibrium price falls to P1, the profit-maximizing producer
will supply quantity Q1 to the market, because this is the
quantity at which the P1 curve intersects with the MC curve, at
point E. Similarly, if market price were to rise to P2, the
producer would supply the quantity Q2 to the market if he
were to maximize profit, and the MC curve would intersect
with the price (P2) curve at point G. Thus the MC curve joins
the points E, F, G, i.e. it traces the quantities which the profit-
maximizing producer will produce and supply to the market at
a range of prices. Comparing this with our definition of
supply schedule and supply curve, we can see that the MC
curve and the supply (S) curve mean the same thing, hence the
notation “MC = S” in Figure 13.
The perfectly competitive industry
We move now from considering the market situation of an
individual producer in a perfectly competitive industry to that
of the whole industry. The supply curve for a whole industry,
made of many small producing units, can be estimated by
adding together the quantities which each firm would be

152
willing to supply at a given price, and repeating this process
for a range of prices.
The demand curve for the whole industry is not horizontal, as
was faced by the individual firm. An industry like agriculture
faces a downward-sloping demand curve for its products
because, to encourage greater consumption, prices must fall.
In the case of agriculture, the price fall must be relatively
large. The downward-sloping demand curve cuts the
industry’s supply curve at an equilibrium price which the
individual producers have to accept.
Figure 14 shows the demand (D) and supply (S) curves of the
entire industry under perfect competition.

153
 Figure 14: Industry supply and demand curves

S (the sum of many

individual S curves)

Market Price
Price

D (=AR)
0
Quantity Demanded and Supplied Per Time
Period
Monopoly Market
A complete monopoly, where one firm controls all the output,
is the extreme opposite to perfect competition. The distinctive
feature of this market structure is that there is a single supplier

154
of the product, but it also requires that two conditions are met.
They are: (i) that there should be barriers to entry of new
suppliers, and (ii) that there are no close substitutes for the
product. If these two conditions were not met, monopoly
would be a short-lived phenomenon.
The Monopolist’s Demand (D), Marginal Revenue (MR),
and Total Revenue (TR) Curves
The monopolist, as the only seller of the product, faces the
market demand schedule which in general is expected to be
downward sloping (Figure 15). This is in contrast to a firm
operating under perfect competition which has a horizontal
demand curve for its product.
Moreover, the total revenue (TR) curve for the monopolist is
not a straight line starting from the origin, as is the case with
the TR curve for a firm operating under perfect competition.
Marginal revenue is given by the slope of the total revenue
curve and this has a value of zero when the TR is at a
maximum (i.e. when the output level is at Q* in the diagram).

155
 Figure 15: The Monopolist Demand, Marginal
Revenue and Total Revenue Curves

Price

($) MR D

0 Quantity

Total
Revenue TR
($)

156
Q* Quantity
The Monopolist’s Profit Maximizing Output

Figure 16: The monopolist’s profit maximizing output

Total Cost TC
($)
and
Total
Revenue
($) TR

0 Qo
Quantity

For purposes of comparing competitive equilibrium to that

under monopoly, the monopolist is treated as if it had taken
over all the competitive firms in the industry and was
operating with their collective cost structure. The monopolist
is also assumed to seek to maximize profits. The output level
which maximizes profits is found at Qo in Figure 16 where the
difference between total revenue (TR) and total cost (TC) is
157
greatest. At this level of output, the slopes of the curves are
equal, implying that marginal cost (MC) equals marginal
revenue (MR).
The monopolist has the choice of either setting a price for his
product and letting demand determine how much he sells, or
limiting the quantity and letting competition between buyers
determine the price. He cannot fix both price and quantity
simultaneously.
Monopolists, because of the economic benefits that they
derive by reason of their dominance in the market, will want
to maintain their prices and profits. They ensure this by
discouraging the entry of new firms into their line of business.
Monopolists use a wide variety of measures. As an established
producer, the monopolist will be in a good position to wage a
price war against a new entrant by temporarily cutting prices
to a level which the competitor cannot withstand because of
the high initial costs and low levels of sales that characterize
business infancy. Another method would be for the
monopolist to advertise his product heavily so that any
potential competitor would need to spend a great deal on
making his product known to buyers in order to take sales
away from the established producer.
In the real world, we often hear criticism of the power that
monopolies are alleged to wield over defenceless consumers
yet, on the other hand, legislation exists to protect some
monopolies.

158
Arguments against monopoly
The case against monopolies is based largely on the theory
that they result in the consumer being exploited. The
consumer is forced to pay a higher price than under perfect
competition, and purchases a smaller quantity. The
“exploitation” argument follows logically if one supposes that
an industry in perfect competition, producing as efficiently as
possible, is taken over instantaneously by a profit-maximizing
monopolist. With such a take-over the production costs of
each unit (firm) would not be altered; only the individual
entrepreneurs would be rolled into one large entity.
Because the monopolist has become large enough to influence
price or quantity, consumers are at a disadvantage as they now
have to pay a higher price and consume less as the monopolist
restricts output. The monopolist does this because, although
average costs rise as output is reduced, average revenue rises
even more, so that profit (revenue minus costs) increases.
Under the perfect competition which existed before the take-
over by the monopolist in our simple model, production took
place in the most efficient way because in the competitive
process high-cost inefficient firms were undercut, with the
result that they earned less than normal profits and ceased
production. Each remaining firm was producing at its
minimum-cost output, so that consumers were paying the
lowest prices possible with the techniques of production that
prevailed. The price received from customers (AR = P) just
equaled average costs of production. Yet each firm was
159
earning a profit sufficient to compensate its entrepreneur for
the uncertainties of production.
If the monopolist who displaces the state of perfect
competition restricts output to a level where price (AR) is
above average costs of production (AC), it follows that he is
earning a higher reward than would be necessary to
compensate him for the uncertainties he faces. This profit
above normal profit is termed “monopoly profit”. Obviously,
the monopolist will attempt to obtain this profit by restricting
supply if he is profit-motivated, and consumers will be
equally anxious to prevent monopoly profits being extracted
from them.
Arguments for monopoly
An instantaneous process described above is far from what
normally happens in the process of monopoly creation. When
a producer develops monopoly power in an industry it is
usually a gradual process based on the ability of larger firms
to undercut the prices of smaller ones because of the cost
advantages of large-scale production. The following are the
more obvious advantages associated with a monopolist
producing on a larger scale:
(a) Monopoly makes possible a more precise planning
of production. The reduction in uncertainty which results
from the elimination of competitors means that
monopolists can utilize the best scale of production and
the least cost combinations of inputs. Underused units
can be shut down and output concentrated in the most

160
 efficient units, with a saving in cost. Think of the
advantages which might flow from combining two
competing but under-utilized livestock feed factories in a
country.

(b) A more economical distribution of the product

becomes possible. In livestock feed distribution for
example, only one team of salesmen would be needed,
not two competing teams, and one fleet of lorries could
be organized in such a way that wasted journeys, due to
rival lorries covering the same route, each only partly
loaded, could be eliminated. With public utilities such as
electricity, gas, telephone, etc. the duplication of fixed
equipment by competitors would most likely be
undesirable and costly (e.g. several sets of telephone
wires or gas pipes under each road). Under a monopoly
these public utilities can be distributed more cheaply.

(c) A monopolist may be more than willing to

undertake research in pursuit of improved production
techniques and new products because of the size of the
research organization he can support and the sure
knowledge that he will be able to enjoy the fruits of his
labour undisturbed. On the other hand, critiques of
monopolies would allege that the removal of competition
dulls the spur of research.
If major economies are achievable through arranging
production in larger units, then these will offset and
maybe exceed the price-raising effect of a monopolist
reducing output to exploit his monopoly power.

161
Monopsony Market
Finally, we briefly discuss the effect that a single large buyer,
a monopsonist, has on the market.
The monopsonist is a single large buyer in a given market. An
example of this type of buyer is a marketing board which
might have the sole title to purchase and distribute a given
agricultural product. In Zimbabwe, the Grain Marketing
Board, the Cotton Marketing Board and the Dairy Marketing
Board once had the sole legal rights and titles to deal in cereal
grains, cotton and milk respectively before parastatal reform
and privatization, which took place as part of the economic
reform programme. Another example might be a large
landowner who is the only employer of hired labour in a local
region.
It can be shown that the monopsonist maximizes profit by
buying that quantity of product at which the cost of the last
unit purchased (marginal factor cost or MFC), just equals the
extra revenue gained from selling that unit (marginal revenue
product or MRP), i.e.,
MFC = MRP.
It can also be shown that a monopsonist will buy less of the
product and pay a lower price to consumers at this profit-
maximizing quantity, than would be the case without a
monopsonist. Thus the presence of a monopsonist would
reduce consumer welfare.

162
 CHAPTER 8: MARKETING INSTITUTIONS AND
FUNCTIONS

Marketing Functions of Local Banks, Boards and Unions

Local Banks
Financial institutions, particularly local banks, have to date
participated with varying degrees of involvement, directly or
indirectly, in funding the agricultural marketing functions of
farmers in Zimbabwe. Through credit provision for farmers’
production inputs and activities, the financial institutions are
also indirectly supporting marketing, by raising the
marketable surplus over and above subsistence requirements.

Agribank is the major commercial bank that provides credit to

all categories of farmers. Agribank was instituted in 1999
when its predecessor, the Agricultural Finance Corporation
(AFC) was transformed into Agribank and another entity
known as the Agricultural Development Assistance Fund
(ADAF). In 2000 the commercial activities of the AFC were
transferred to Agribank, while ADAF was created as a special
service to the smallholder sector. Whilst the AFC had
committed itself to expanding its network in rural areas, it did
not devote adequate attention to loan recovery or assessing the
creditworthiness of borrowers.

163
The Agricultural Development Assistance Fund emerged as
one of the key financial institutions in availing credit to
smallholder farmers for working capital, inputs, and for
medium-term loans for machinery and equipment purchase.
Even though the government devolved itself from direct
financing in the late 1990s, a number of private sector players
began to assume a critical role. For example, the Cotton
Company Finance Scheme contributed to a record 353,000
tonnes of cotton in the 1999/2000 season. At least 76,000
growers were financed under this scheme. Setting up input
supply schemes for the benefit of smallholder farmers was
critical in commercialization and agricultural marketing.
In the 1990s, within the spirit of the economic structural
adjustment programme, there were attempts by other
commercial banks to support the development of the
smallholder sector. Commercial banks such as ZB Bank
(Zimbank by then) and Barclays established specialized small
business units which extended credit to smallholder farmers.
CBZ Bank (the Jewel Bank by then) also supported livestock
commercialization through a programme spearheaded by the
Initiative for Development in African Agriculture (IDEAA).
These initiatives by commercial banks were on a small scale,
supporting the production of a few selected commercial crops
such as tobacco, paprika, cotton and livestock. However,
faced with loan repayment defaults and high monitoring costs,
the commercial banks scaled down or totally abandoned
lending to smallholders altogether.

164
In general, commercial banks shy away from providing capital
to smallholders because, firstly, many of the commercial
banks are located far away from the smallholders, making it
difficult to monitor their projects. Secondly, there were
generally more failures than successes for banks in giving
loans to smallholders. Failure to obtain funding is due to the
limited number of funding agents that operate outside urban
areas, which limits rural people’s access to financial facilities.
In addition, funding conditions and requirements of the
financial institutions are not favourable for smallholder
farmers because, for example, the banks require collateral,
which most smallholders do not have. There is also a lack of
information on alternative sources of funds for agriculture, the
fear of failure (risk aversion), as well as the inability to repay
the loans.
Boards
Before the liberalization of agricultural markets which took
place as part of the measures under the Economic Structural
Adjustment Programme (ESAP), agricultural marketing
boards, operating under the auspices of the Agricultural
Marketing Authority, played a very significant role in
agricultural marketing. The Grain Marketing Board, through
its intricate network of marketing depots, collection points
and bulk national silos throughout the country, had the
mandate to buy coarse grains, small grains and cereals from
farmers of all agricultural sub-sectors. The Dairy Marketing
Board participated in the purchase and distribution of milk

165
and milk products, while the Cotton Marketing Board dealt in
cotton marketing. The Cold Storage Commission was
mandated to purchase all livestock delivered by any person,
operate abattoirs and refrigeration works for the purpose of
chilling, freezing and storing beef, mutton, pork, poultry, fish
and any other perishable foodstuff of whatever nature, and
operate canning factories and works for manufacturing glue,
blood meal and other by-products of the carcasses of
livestock.

The liberalization of agricultural markets saw the privatization

of the Dairy Marketing Board into a private company,
Dairibord Zimbabwe Limited; the Cotton Marketing Board
into the Cotton Company of Zimbabwe; and the Cold Storage
Commission into the Cold Storage Company. The Grain
Marketing Board was commercialized as a wholly-owned
company by the government. The ensuing intense competition
as the market was opened up to new players, coupled with the
new emphases on cost-recovery, commercial viability, and the
removal of government subsidies from the operations of the
former agricultural parastatal marketing boards, have
generally compromised the boards’ service delivery and their
level of participation in the marketing of agricultural products
in Zimbabwe.
Unions
Farmer organizations have also been instrumental in
promoting agricultural marketing among their members at
166
grassroots level in Zimbabwe. Farmer organizations offer an
effective channel for contact with large numbers of farmers,
as well as for participatory interaction with various
institutions ranging from those that provide credit, research,
extension, and agricultural marketing services. The
information provided by farmer organizations includes
feedback on farmer needs such as problems in agricultural
input supply, production and marketing. Examples of farmer
organizations in Zimbabwe include the Zimbabwe Farmers’
Union (ZFU), the Zimbabwe Commercial Farmers’ Union
(ZCFU), and the Commercial Farmers’ Union (CFU).
Regional and International Trade Agreements

What is a Trade Agreement?

A trade agreement is a contract/pact between two or more
nations that outlines how they will work together to ensure
mutual benefit in the fields of trade and investment. Such
trade agreements may involve cooperation in the field of
R&D (Research and Development), the lowering of import
duties to be levied on the other partners’ exports, guaranteeing
of any investments made by the partner(s) in the home
market, or cooperation on the tax front.

Bilateral and multilateral trade agreements

Trade agreements are usually bilateral or multilateral. A
bilateral trade agreement is an agreement between two

167
nations, while a multilateral trade agreement involves more
than two countries.
Trade agreements and trading blocs
These two concepts are closely related. A trade agreement
leads to a trading bloc being formed. A trading bloc is
generally defined as “two or more countries bound by a
specific agreement which determines some or all of their
international trade practices and which usually provides for
common import tariffs on certain, if not all, imported
products.” Some economists argue that although trading blocs
are seen as a means of reducing trade restrictions (between the
countries involved), they themselves represent a form of trade
barrier as they exclude non-members.
Different types of trade agreements/ trading blocs

Free Trade Area (FTA)

This is the simplest type of trading bloc and it incorporates
two or more countries that have agreed to eliminate tariffs and
other barriers to trade amongst members, but individually
each country retains its own tariffs on imports from other non-
member states.

Common Monetary Area (CMA)

A Common Monetary Area is when countries, usually
geographically closely located to each other, agree to accept
one dominant currency as legal tender. South Africa had such

168
an agreement with Swaziland and Lesotho, called the SA
Common Monetary Area.

Customs Union
A Customs Union goes one step further than an FTA in that it
abolishes all tariffs among member countries, while members
agree to a single external tariff on goods imported from
outside the Customs Union. Revenue generated by the
Customs Union is shared amongst member countries based on
an agreed formula. The South African Customs Union
(SACU) is one of the oldest Customs Unions still in place.

Common Market
In a Common Market, like with a Customs Union, a common
tariff is placed on imports from other countries, while no
tariffs are charged on goods produced by one member country
and sold in other member countries. The main additional
difference between a Customs Union and a Common Market
is that with a Common Market, free movement of labour and
capital is also permitted. In other words, any restrictions on
immigration, emigration and cross-border investment
(amongst member countries) are abolished. The Common
Market for Eastern and Southern Africa (COMESA), of which
Zimbabwe is a member, is an example.

Trade Agreements and Marketing

The purpose of trade agreements is to reduce the barriers to
trade between countries and to make it easier to do business
169
(i.e. to trade) between the countries concerned. Clearly, any
agreement that reduces the barriers to trade is likely to have a
positive effect on exports of goods to the partner country(ies).
Zimbabwe’s Regional/ International Trade Agreements
Zimbabwe entered into Bilateral Trade Agreements
encompassing both Preferential Trade Agreements (PTAs)
and Most Favoured Nation (MFN) with over forty countries
across the globe. Some of the countries with which the
country has signed bilateral trade agreements include South
Africa, Namibia, Botswana, Malawi, DRC and Mozambique.
These agreements are aimed at broadening the scope for
market access on the basis of reciprocity.
Zimbabwe is a founder member of COMESA and SADC and
is actively participating in the respective Free Trade Areas
(FTAs). COMESA and SADC, the two Regional Economic
Communities (RECs) are currently undergoing transformation
into Customs Unions.
In 2009 Zimbabwe signed an Interim Economic Partnership
Agreement (EPA) with the European Union under the Eastern
and Southern Africa (ESA) configuration. The Interim EPA is
designed to take care of trade relations between the ESA
region and the EU while negotiations towards the full EPA
continue. Under the agreement, trade between Zimbabwe and
the EU will be on a reciprocal basis in line with World Trade
Organization (WTO) rules.

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Zimbabwe is a founder member of the WTO, having been a
Contracting Party in the General Agreement on Tariffs and
Trade (GATT), the predecessor of the WTO. The country is
currently participating in the Doha Development Agenda
(DDA) round of negotiations with much interest in
agriculture.
Zimbabwe has also been working closely with international
commodity bodies such as the Common Fund for
Commodities (CFCs), International Coffee Organisation
(ICO), and the International Sugar Organisation (ISO) to
advance commodity sector development in the country.
Government Intervention in Agricultural Markets
Government intervention in agricultural markets can take
many forms. Here we will discuss, very briefly, four
techniques of government intervention, and they are:
(i) quotas;
(ii) subsidies;
(iii) support prices; and
(iv) deficiency payments.

Quotas
A quota is the maximum quantity of an agricultural
commodity that is allowed on the market by government,
through an enacted law. Quotas are introduced to ensure that
producers are paid high prices for the products they sell. To be
effective, the quota must be set below the equilibrium
quantity. The effect of a quota is to force the commodity’s
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price upwards due to restricted supply or limited quantities.
Introduction of a quota would raise farmer incomes. The
reductions in quantity would be more than offset by the
increase in prices, thus increasing farmers’ revenues.
Subsidies
A subsidy is a payment made by the government to producers
to cover part of the cost of producing a commodity. The
subsidy in effect reduces the unit cost of production, so that
producers are able to supply a greater quantity of the
commodity produced, using the same outlay of money.
Producers can also make greater profits because of reduced
costs of production. Because the quantities supplied of the
commodity increase on the market, there is a downward
pressure on the market price. As a result, consumers obtain
the good at a cheaper price. Thus the effect of a producer
subsidy is to increase the welfare of both producers and
consumers; both will have benefited.

Support prices
Producer support pricing occurs when government pays
agricultural producers a certain incentive price for the
commodity they sell. Farmers make greater profits by
producing more at the higher price, so they increase
production/ supply. Larger quantities on the market push
market prices down; the result is that more consumers can
afford to buy the good, and each consumer can afford to buy a
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greater quantity. Therefore the impact of government
producer support pricing is to benefit both producers and
consumers.
Deficiency payments
A deficiency payment is a government compensation to the
farmers or producers of a commodity for all or part of the
difference between a government-guaranteed price and the
market price of the commodity. In other words, the target
price or deficiency payment program pays producers any
positive difference between a given target price and the
prevailing market price of their output. This scheme involves
direct payments by tax-payers (through government) rather
than transfers from consumers. Thus the structure of official
price guarantees to domestic farmers is supported by direct
payments from the treasury to producers. Producers would
clearly benefit, and they would respond by increasing
production. The increased supply would lower market prices
and this would benefit consumers. However, deficiency
payments constitute a drain on the tax-payer’s money, and is
therefore a costly method of financing agricultural marketing.
Problems of Marketing Agricultural Products
The agricultural marketing problems of smallholder farmers
in Zimbabwe are many and varied. However, we will focus on
five of the most important problems, and they are:
(i) Storage;
(ii) Road infrastructure;

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 (iii) Transport facilities;
(iv) Quality; and
(v) Poverty.

Storage
Smallholder producers need to store some of their crops like
maize in order to benefit from the present market
opportunities. In a liberalized economy, prices are market
based. The prices of commodities are determined by the
supply and demand conditions of the market. Thus, in the case
of agricultural commodities, prices tend to be very low just
after harvesting. This calls for farmers to store their
commodities for sale much later during the year when prices
have improved. But smallholders face the problems of poor
and inadequate storage facilities. This may lead to either
substantial post-harvest losses while in storage due to attacks
by insects and rodents, or to disposing of the produce while
prices are still low because there is nowhere to store it.
Road infrastructure
Most roads in rural areas where smallholder producers live are
in bad and chaotic conditions. This results in charging of
exorbitant transport costs to producers, thus increasing
marketing margins and reducing profit margins. This situation
forces producers to sell their commodities to private buyers
who give them very little money. It is thus important to have
these roads regularly maintained.

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Transport facilities
There are very few transporters in rural areas that can be used
by smallholders in marketing their produce. The absence of
competition among transporters means that the few that are
there are at liberty to charge whatever prices they want for
their services.
Quality
Most smallholder producers lose a lot of money due to quality
deterioration of their products. Farmers are frequently not
aware of the correct procedures of handling their produce
from the time they mature to the time they go to the market.
They are also not familiar with the right agronomic practices
to produce the desired quality of crop. This is particularly
critical for crops such as tobacco where buyers require a
particular quality of the leaf at the auction floors. In addition,
farmers are not aware of the grading system used by buyers.
They should be trained in order for them to know all the
grades of their commodities so as to avoid being cheated by
buyers.
Poverty
Most smallholders are poor, and understandably they are often
desperate for cash. This weakens their bargaining power in
negotiating a fair price for their produce with the buyers. They
are thus forced to sell their produce at paltry prices,
sometimes well below the prevailing market prices.
Smallholders’ high poverty status means that they cannot hold
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onto their produce for long periods of time after harvest and
wait for the price of their produce to rise later in the year. The
urgent and pressing need for cash forces them to sell their
produce just after harvest, when prices are still low. Livestock
owners among the poor smallholder farmers are not spared the
trouble either, as they must often part with their livestock at
give-away prices to outside unscrupulous cattle dealers, who
have now made it a habit to synchronize their cattle-buying
expeditions with the opening of schools, when the poverty-
stricken and cash-strapped farmers need hard cash to pay
school fees for their children.

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REFERENCES AND FURTHER READING

Alexander, J. (2006). The Unsettled Land: State-making and

the Politics of Land in Zimbabwe, 1893-2003. Weaver Press.
Amanor, K.S. and Moyo, S. (2008). Land and Sustainable
Development in Africa. Zed Books.
Evenett, S.J. and Hoekman, B.M. (2006). Economic
Development and Multilateral Trade Cooperation. The
International Bank for Reconstruction and Development/
World Bank.
Frank, R.H. and Bernanke, B.S. (2007). Principles of
Economics (Third Edition). McGraw-Hill Irwin.
Gillis, M., Perkins, D.H., Roemer, M. and Snodgrass, D.R.
(1996). Economics of Development (Fourth Edition). W.W.
Norton & Company.
Gough, J. (2000). Introductory Economics for Business and
Management. McGraw-Hill International.
GOZ (2011). National Trade Policy 2012-2016. Ministry of
Industry and Commerce.
Helliker, K. and Murisa, T. (2011). Land Struggles and Civil
Society in Southern Africa. Africa World Press.
Mararike, C.G. (2014). Land: An Empowerment Asset for
Africa. University of Zimbabwe Publications.

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Matondi, P.B. (2012). Zimbabwe’s Fast Track Land Reform.
Zed Books.
Mudimu, D. (1999). Farm Business Management. Zimbabwe
Open University.
Muzari, W. (2014). Agricultural Economics (Revised
Edition). ASARE Publishers.
Muzari, W.M. (2014). Agricultural Production Economics for
Tertiary Education in Southern Africa. ASARE Publishers.
Scoones, I., Marongwe, N., Mavedzenge, B., Mahenehene, J.,
Murimbarimba, F., and Sukume, C. (2010). Zimbabwe’s Land
Reform: Myths and Realities. Weaver Press.
Todaro, M.P. (1992). Economics for a Developing World
(Third Edition). Prentice Hall/ Financial Times.
Todaro, M.P. and Smith, S.C. (2009). Economic Development
(Tenth Edition). Addison-Wesley.
Wolmer, W. (2007). From Wilderness Vision to Farm
Invasions. Weaver Press.

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