A closer look at the paddy value chain

Except for a very few farmers in the country, the majority of paddy farmers are small-scale 

operators

Introduction

The popular notion about rice millers is that they exploit the paddy farmers. They buy paddy at a very cheap price, store them during the harvesting season and then release the rice when the supply is low, inflating the rice price. In this particular line of thought the size of the miller is insignificant; big or small, all of them exploit the farmer. Therefore, Government intervention is necessary with price establishment and buying of paddy. 

However a second line of thought argues that the paddy value chain would not survive without the millers. Except for a handful of millers, the rest are in a strong competition and thus would not exploit the paddy farmers. Hence Government interventions are not needed and the paddy industry should be supply and demand driven. Further they argue that the existence of large-scale millers is essential since they account for close to 20% of the market share and they supply rice to all corners of the country with a higher quality.

In an ideal world we expect the industry to be strongly competitive with desirable features such as market-determined prices and quantities, large number of buyers and sellers of paddy, easy entry and exit to and from the market and symmetric or perfect information. However, I believe the paddy value chain, especially the relationships between the farmers and millers and millers and wholesalers, is a mix of strong competition and oligopolistic competition. The attempt of this article is to identify these market features in the paddy value chain of Sri Lanka.

Paddy farmers are price 

takers: Paddy farmers and collectors/millers

Except for a very few farmers in the country, the majority of paddy farmers are small-scale operators. They work on small paddy lands ranging from 0.5 acres to two acres. Only a handful of farmers cultivate beyond 10 acres of paddy in a given season. Because of the scale of the operation and the level of employment of productive factors, the paddy farmers are not in a position to enjoy economies of scale. Their production cost is very high, leaving them little chance to make profit. 

Small-scale production has limited their bargaining power. Financial commitments pushes farmers to sell their paddy harvest as soon as possible, often without drying. Farmers work with many informal credit agents during their cultivation. For example they get the harvesting machinery on credit basis. Sometimes fertiliser, seeds and other necessary inputs are also on loan basis. 

The credit suppliers will form in a line as soon as the paddy is harvested, leaving little room for farmers to delay the selling process. In addition, if the paddy to be sold at a significant price at a later stage, it must be dried. However, most farmers do not have drying capacities, especially the cost and the space. They do not have warehousing facilities.  

Though the Government institutions are committed in buying paddy from farmers at a higher rate, it only accounts for less than 2% of the total production of the season. Hence the majority of farmers have no option other than selling their paddy harvest to either paddy collectors or millers at a lower rate. For example, the Government buys paddy at a rate of Rs. 41/Kg while the milers and collectors would only pay around Rs. 32/Kg. If the farmers were to sell paddy at the time of the harvest on wet weight basis, the collectors and the millers would give them around Rs. 18-20 Kg, which does not cover the cost of production. Therefore either they sell the produce to the Government or to the collectors and millers.

Farmers are said to be price takers with little or no bargaining power. As mentioned before, the only place where farmers can have a bargaining power is when they are equipped with storage facilities and favourable weather for drying and only if they bargain as a large farmer group. However, the very nature of the farmers is that they work in isolation. Their collaborations are somewhat visible when they are cultivating and harvesting but they almost always sell their produce individually. This very nature and scale of production have always kept farmers as price takers and they need the support of the collectors and millers to push their produce to the consumers. Therefore, from this point of view, the millers and the collectors are “friends” of farmers.

However, the same “friend” can sometimes exploit the farmers. Paddy collection operation is very complicated and sometimes dominated by large collectors. Large collectors do operate individually but most of the time they work for large millers. The collection operation is so vast sometimes it involves more than 200 lorries. Once such large-scale collectors dominate the collection, the farmers have very little chance of bargaining on price. Large-scale collectors tend to buy paddy from the field directly on wet basis for a low price during the harvesting time. Therefore such operations are capable of “exploiting” the farmers when farmers try to sell the produce individually. 

When informal and formal debt collectors are constantly knocking on your door and, the opportunity cost of transporting, drying and storing is so high, most farmers are better off selling their harvest directly to these collectors and millers. Therefore, in a world where farmers can’t manage the harvest by themselves and the government does not have enough capacity to purchase at a guaranteed price, the private collectors and millers become the saviours of paddy farmers and farmers more or less become price takers. 

Strong and oligopolistic competition: Paddy millers and wholesalers 

Millers operate mainly 

at four levels:

(1) Boutique millers: These millers operate at village levels and would not store any paddy. They will mill whatever the paddy being brought to them either by farmers or consumers and would normally charge around Rs. 2-3/Kg for milling. Their milling capacity will vary but will be generally below 500Kg/day. 

(2) Small-scale millers: These millers will mill around 1,500-2,000 Kg/day. They usually distribute their produce to the local retail shops and most of the time do not carry a brand name. Their prices for paddy are very competitive; they usually buy at a higher price than large-scale millers and collectors in order to secure good quality grain and help out local farmers. 

(3) Middle-scale millers: Middle-scale millers have large storage capacity and can store around 60,000-300,000 Kg of paddy. They also give a competitive price for paddy farmers, but their biggest competitors are the large-scale millers. They mill around 10,000-30,000 Kg/day and always work with a brand name. In a given area they compete with other middle scale and larger scale millers to buy paddy. However, middle-scale millers in a given area would not compete for consumers. For example middle-scale millers in Kekirawa would sell their produce to niche markets to minimise the competition in areas such as Negombo and Moratuwa. 

(4) Large-scale millers: These millers would mill around 100,000-300,000 Kg/day. They have well-established brand names and well-established distributional networks and would sell their produce all over the country. The have achieved the economy of scale and make larger profits, charging at least Rs. 10/Kg more than the middle-scale millers. 

The small-scale millers would compete with each other and with middle-scale millers to a certain extent when buying paddy from farmers. For a variety like “Nadu”, a middle-scale miller would give around Rs. 35/Kg and a small-scale miller would give around Rs. 35.50/Kg or Rs. 36 /Kg. The main reason for the additional payment by the small-scale millers is to attract the local supply, which is of high quality and known to them. 

The middle-scale millers do compete heavily with each other in buying paddy but they have a set of 20-30 farmers that would supply them paddy every season. Sometimes the middle-scale millers have to compete with the large-scale millers to secure paddy supply in a given area especially when the large-scale miller operates with large collection network.

Though middle-scale millers compete for paddy, they do not and cannot compete with large-scale millers in selling rice. For example, a middle-scale miller would pay Rs. 35/Kg for “Nadu” and would sell that at Rs. 65/Kg. The large-scale miller would buy the same paddy at Rs. 32/kg and would sell at Rs. 75/kg. The large-scale miller uses his collectors to get paddy at a cheaper price, stores them for at least for four months and sells at a higher rate when the market is at a low supply of rice. They keep a margin of more than Rs .10/kg while the middle-scale miller only keeps around Rs. 3/Kg. 

The large-scale millers do have their own power generation facilities, efficient machinery and innovative production technologies. All these have contributed to production of rice that is of higher quality than what the middle-scale millers produce. Therefore, the price margin achieved by the large-scale millers is based on economies of scale, production technologies and quality. Perfect competition exists among the boutique millers, small-scale millers and middle-scale millers. However the large-scale millers shows an oligopolistic competitive structure. 

Way to support price taking farmers and small and medium scale millers

One might argue that in order to prevent farmers being exploited by the large-scale collectors and millers, there should be a guaranteed price for them. However, there is enough evidence that the Government’s efforts through the Paddy Marketing Board are not enough at all. Therefore it is important that alternative marketing models are explored. We can think of two basic models that could work instead of the Government subsidy model with the paddy marketing board and those are (1) Out-grower model and (2) Cooperative model. 

All these models have their own pros and cons. We need to figure out which model works better. For example, the out-grower model is popular among the fruit and vegetable growers. However, evidence shows that the model does not work without a “structured and streamlined incentive system”. 

For farmers to engage in the out-grower model the “small holder quality penalty” needs to be eliminated through an incentive system. Information has to be available with easy access, price signals should be not or less distorted and investments should be possible. The best example for the cooperative model is the Amul Milk production in India. A significant factor in such a model is the leadership in managing the larger cooperative. 

The larger buying power of collectors and large millers is result of economic and political advantages. In a way their large buying behaviour is essential to the continuation of the value chain. It allows farmers to push through their harvest quickly. Because millers are profit-oriented, it is silly to ask them to be ethical and give a fair price to farmers. Rather, it is possible to look for options of helping farmers in other ways. The large millers can accommodate the credit requirement of farmers. They could even look for market options such as forward contracts and deposit receipts that would help farmers to attract better prices. 

Boutiques as well as small-scale millers do need financial support if they were to expand and move up in the value chain. However, the majority is dependent on informal loans and they do not have necessary collateral to attract formal loans. Therefore what these two groups need is the financial support. The middle-scale millers are lacking the economy of scale. They need investments on the machinery. 

For example a colour separator that removes dark seeds costs around Rs. 700,000. Without this machine, the quality of the seeds is low. In addition middle scale millers spend a lot on electricity, labour and transportation compared to large-scale millers. They would spend around Rs. 7-10/Kg on these while large millers would only spent around Rs. 3/Kg. Therefore middle-scale millers need financial support to upgrade the machinery and tax reduction on the use of electricity. 

In order for these farmers to become less dependent on informal credit system, the formal system has to be strong and out-reaching. Formal sources require collaterals. They would require recommendation of two Government employees or title of a fixed asset. These conditions either have to be relaxed or there should be customised credit programs. Finally, agricultural issuance is also important that allows farmers to minimise the production and marketing risks. 

(Chatura Rodrigo, PhD,is an independent research economist interested in agriculture and environment economic research policy. This article is based on filed explorations. The author can be contacted through [email protected] and 77 986 7007.)