Contracting Out Solutions: Political Economy of Contract Farming in the Indian Punjab

Abstract

This paper examines the rationale, practice, and problems of contract farming in vegetable crops in the agriculturally developed Indian Punjab which has faced the problem of sustainability of growth since the early 1980s. It is found that agribusiness firms deal with relatively large producers and their contracts, which are biased against the farmer, perpetuate the existing problems of the farm sector such as high chemical input intensity, and social differentiation. Contracting has however, led to higher farm incomes and more employment for labor. There seems to be an inherent contradiction in the objectives of the contracting parties and those of the local economy.

Introduction

Contract farming refers to a system for the production and supply of agricultural produce under forward contracts, the essence of such contracts being a commitment to provide an agricultural commodity of a type, at a time and a price, and in the quantity required by a known buyer. It basically involves four things––pre-agreed price, quality, quantity or acreage (minimum/maximum) and time. The contracts could be of three types: (a) procurement contracts under which only sale and purchase conditions are specified; (b) partial contracts wherein only some of the inputs are supplied by the contracting firm and produce is bought at pre-agreed prices; and (c) total contracts under which the contracting firm supplies and manages all the inputs on the farm and the farmer becomes just a supplier of land and labor. The relevance and importance of each type vary from product to product and over time, and these types are not mutually exclusive (Hill & Ingersent, 1982; Key & Runsten, 1999). Whereas the first type is generally referred to as a marketing contract, the other two are types of production contract (Scott, 1984; Welsh, 1997). But, there is a systematic link between product and factor markets under the contract arrangement as contracts require definite quality of produce and, therefore, specific inputs (Scott, 1984; Little & Watts, 1994). In addition, different types of production contracts allocate production and market risks between the producer and the firm in different ways.

For individual farmers, it is not the contract per se, but the relationship it represents which is important as the divergence between the two may prove crucial in determining the development of contract farming as an institution (Clapp, 1988). Further, the context of the contract can be significant, as there are many actors and environmental factors which influence the working and outcome of contracts. The way farmers perceive contract farming, i.e., define their relationship with companies, differs across cultures (Asano-Tamanoi, 1988). In fact, there is so much diversity in the type of firms, farmers, contracts, crops, and socioeconomic environment that it is better to focus on a specific situation than the generic institution of contract farming.

Contracting has emerged as good quality and timely raw material availability have become pre-requisites for any successful agribusiness firm, whether operating in the domestic or international market. It is important to recognize that this restructuring of the agricultural production sector is taking place due to policy and market changes outside the sector, i.e., in the industrial and trade sectors. Moreover, these macro-policy changes drive micro-changes such as contract farming which have the potential to change the production structure and relations of production in the agricultural sector. As a part of the internationalization process in agriculture which involves globalization of production, capital and trade, contract farming encompasses all the three dimensions through intervention in input supply and production decisions, supply of capital and finance, and global sourcing of agro-products. In fact, it is an extension of the phenomenon of global sourcing wherein a firm can produce anything anywhere, by sourcing inputs from anywhere, to be sold in any market in the world.

The proponents of agribusiness promotion, of which contract farming is a part, argue that it leads to big jumps in incomes and employment in agriculturally backward regions and brings a break from low levels of productivity and instability in production, thus putting the local economy on a dynamic path of growth and development. This is possible not only because of the technological and capital resources of these firms, but also because of the international character of processes of agribusiness which allows access to international markets. The agribusiness firms take on risk by undertaking new projects in processing and marketing and provide a stream of cash flow to the local economy. Agribusiness growth, it is argued, also helps earn foreign exchange and increase food supply nationally and locally (Williams & Karen, 1985; Leisinger, 1987; Benziger, 1996) though, as shown by the review in the following section, in practice, it may harm the food security situation (Shiva, 1991; Little & Watts, 1994). It is also important to recognize the role of the state in encouraging or discouraging the agribusiness firms and in protecting the producers in contract situations (Asano-Tamanoi, 1988; Christensen, 1992; Grosh, 1994; Benziger, 1996). Moreover, there is a need to look at the potential role of agribusiness more specifically for different commodity sectors and regions, but not as a blanket solution, as there are certain sectors which may require a more effective public sector or state intervention especially in technology and institutional innovations, instead of a private agribusiness effort (Christensen, 1992).

Looking at agribusiness growth from a different perspective makes it clear however, that it is essentially a process of industrialization of agricultural and rural production which takes place through simultaneous processes of appropriationism and substitutionism. Whereas appropriationism operates as a process of exploitation of land and other biological sources of supply by the application of modern and advanced technology to get more and cheaper raw materials, substitutionism as a process tries to move agribusiness away from direct dependence on land and other direct sources of raw materials by way of application of technology to create new products and sources of products. Thus, the two processes, though contradictory, are driven by the same agribusiness forces. Further, the application of biotechnology accelerates these processes and leads to what can be called bio-industrialization (Goodman, Sorj, & Wilkinson, 1987). In fact, contract farming directly promotes the process of appropriationism. This is a political economy view of technology-led growth. In fact, contract farming is similar to the practice of subcontracting in the industrial sector under which the large firms farm out many production activities to small firms and benefit from lower costs and better skills (Wilson, 1986; Watts, 1992; White, 1997).

Thus, given the failure of government mechanisms for support to agriculture, wide support for contract farming under the Structural Adjustment Programme (SAP) and liberalization policies, and its promotion by the international development agencies such as the World Bank, the USAID, the IFC and the CDC (Little & Watts, 1994; White, 1997), it is inevitable that more contracting and new forms of contracts will be tried by the agribusiness firms as it is the only way to ensure quality, timely and cost effective availability of raw material for processing, especially when, in some countries such as India, captive farming is not allowed legally. Besides, captive farming means putting large amount of resources into raw material production which may not be the best economic option for many agribusiness firms, especially small scale ones. It may also not be a viable option. Since contract farming also leads to changes in the way agricultural production, processing, and marketing are organized (White, 1997), it is important to understand its practice and dynamics.

This paper examines the rationale and implications of contract farming in the context of developing countries. It supplements a critical review of literature with case studies of contract farming in the Indian Punjab and documents both positive and negative effects––especially for the producers––with the help of evidence from the field. The case studies explore the nature of contracts across classes of farmers and companies (local versus multinational) and examine the farmer and the firm perceptions of the working of the contract system and problems therein. They also attempt to examine the effect of the contract system on the local economy and the community. The Indian Punjab, which is the most agriculturally developed region of India, has been experiencing serious problems in its farm sector in the recent years due to the tapering off of the Green Revolution growth momentum. There have been no studies on this aspect of Punjab or India's agrarian economy until recently. This study contexualizes the practice of contracting in the new economic policy and environment in India. It goes beyond firm–farmer relations and examines the development implications of contract farming in the context of small-holder farming. It compares the contract systems of multinational and local firms for their relevance and focuses on the context, and not contract-farming per se. The case studies are based on an interview survey of contract farmers in the state of Punjab with the help of an interview schedule, and discussions with the managers in two different types of agribusiness firms––two Multi-National Corporation (MNC) subsidiaries, and one small domestic firm––which are involved in processing and marketing of value-added food products for domestic and export markets.

The primary survey of contract growers was conducted in different contract-farming pockets of the state. Since the study intended to cover the contract systems of all the major players and for all significant contract crops in the state, it was not restrictive in terms of locational coverage of farmers. A complete list of growers could not be obtained from the companies; and as some of them gave only a few good contract growers' names and addresses (as the companies perceived them to be), the farmers were located through a snowball sampling procedure, i.e., locating the whereabouts of more farmers from a few who were contacted initially with the details provided by the companies. About 20% of the interviewed farmers grew, under contract, two or three crops for the same or different companies. They were treated as different respondents for different crops as their experiences varied across crops and companies. Thus, in all, 69 contract farmers were interviewed which covered three crops (tomato, potato, and chili) and three contracting companies: Hindustan Lever Limited (HLL––a subsidiary of Unilever) (24) and Nijjer Agro Foods Limited in tomato (15); and Pepsi Foods Limited (a subsidiary of Pepsico) in potato (19) and chili (11) in the state. The other methods of information collection included interviews with groups of farmers, and observation in the field. In addition, the local press, especially vernacular newspapers, was monitored closely for the happenings in the contract system in general.

Section 2 of the paper traces the logic of contract farming as a system before examining the implications of such an arrangement for the primary producers as reported in various strands of literature. Section 3 presents the rationale and the evolution of contract farming in the study area. The performance of contracts is analyzed in Section 4. Section 5 provides a contextual analysis of contract farming in terms of its long-term socioeconomic and development implications. The concluding section discusses major findings and possible alternatives within contracting to avoid its ill-effects and to maximize the benefits.