AGRICULTURAL ECOMONICS III. (PRODUCTION ECONOMICS)
PRODUCTION ECONOMICS, Economics.
Study of how man chooses to allocate scarce resources to produce goods and services.
Branch of economics that deal with allocation of resources (factors of production) to produce goods and services.
Parameters of measuring national income.
- National income.
- Per capital income.
- Level of technology.
- Literacy levels.
- Gender parity.
Study of economic activities at the individual level.
Study of economic activities at national level.
Total value of all goods and services produced by citizens of a country in a given year.
Household. Unit comprising of the farmer and members of his family.
Firm. Business unit involved in production.
The household as a producer and a consumer.
As a producer, the household produces raw materials e.g. sisal, tea and coffee to be used in the industries.
Income earned by the sale of the product is used to buy household goods and services. E.g. farm inputs. More household revenue leads to higher consumption of industrial goods and services.
The firm as a consumer and a producer.
As a consumer, it buys raw materials from the household.
As a producer, the firm processes the raw materials into finished goods. It also provides services for use by the household.
The role of the household and firms in a country’s economic development.
Interaction between households and firm leads to income generation.
The income is used in expansion of firms creating employment and revenue.
Government taxes incomes of households and firms to earn revenue used to finance national development and public services.
Gross domestic product
Total goods and services produced by a country within a period of one year.
Include goods and services from foreigners within the country.
Kenyans nationals and firms board also leads to income inflow.
Gross national product
Total output from resources owned by nationals of a country wherever the resources happen to be
GNP=GDP + (income inflow-income outflow)-gross national income
GNI (GNP) expressed in monetary terms
Per capita income
Average income of citizens of a country
Per capita income=GNI÷population
Developed countries have higher per capita income than developing countries
Why per capita income is not a good measure of economic wellbeing to the people
There is uneven distribution of income with most income being controlled by a few people
Better parameters of economic development
- Number of persons per doctor
- Number of pupils per teacher. iii. Number of people owning TV and radio
Contribution of agriculture to national development
- Food supply
- Provision of market for industrial goods
- Provision of foreign exchange earning
- Supply of raw materials
- Source of government taxes
Factors of production
Factor-anything that contribute directly to the output
Solid part of earth where capital can be placed
Land is viewed in forms of;
Ability to produce crops and livestock
Productivity is important than its size
Size is important when considering economies of scale in production.
Too small size of land may not be economically viable
Productivity is determined by soil fertility and climatic conditions
- Can be improved by
- Proper tillage
- Fertiliser application
- Water and soil conservation
The space for construction of farm buildings, agro-industries, intra structures
Which are important in agricultural production
Methods of land acquisition
Most common method of acquiring land ii. Settlement and resettlement by the government
Government settle land by buying the landless in government or idle land.
- Buying land
One may acquire land by buying from willing sellers
Traditional way of settling disputes
Human force employment to work.in a production process for a certain period of time
Types of labour
- Family labour
Consist of members of the family
Members are of different ages thus labour is assigned according to age and ability ii. Hired labour
Are of 2 types
- Casual labour
Supplement family and permanent labour when there is a lot of work i.e. during labour peak periods
- Permanent labour
Labour hired on monthly basis
Labour may also be;
Measurement of labour
Work output of labour is expressed in forms of amount of work done within a specific period of time
Methods of improving labour productivity
May be formal or informal
By training in schools, farmers training centres, field days, agricultural shows
Demonstration farms workshops ii. Farm mechanization
Incorporation machinery assist labour to perform work more efficiently
Br use of tractors, milking machines etc.
iii. Giving incentives and improving terms and conditions of services
Motivate the labour force to work hard and efficiently by provision of medical facilities, housing, and security iv. Labour supervision
Entails keeping proper and up to date records on time work commences, type and amount of work done, records of absenteeism.
Cases of theft and dishonesty
All man made assets used in production of desired goods by form machinery, tools, seeds, money
Types of capital
- Liquid capital
Money. Can be easily converted into other forms of capital.
- Working capital
Raw materials used for production
Consumed completely in the process of production
- Fuel v
- Feed stuffs.
Asset employed in the process of production but are not used up/diminished completely in the process.
- Farm machinery.
- Permanent crops.
- Irrigation systems.
Source of capital
Part of one’s income set aside over a period of time to accumulate. They become capital when they are withdrawn and used in production process
ii. Credit facilitates
Capital may be acquired by borrowing loans in kind or cash by private money lenders, commercial banks
Sponsorship from non-governmental organisation inform of money or assets
Use and quality of capital
The higher the level of capital the higher the output
Process of planning and decision making in organisation of other factors of production in a production process
Manager/entrepreneur is the vision bearer of the enterprise, acquires and plans for the other factors of production
Functions of a manager in the farm
- Short term planning
Involves taking quick decision. Quick decision making should be taken to avoid losses
By planting and weeding, pest and diseases control
ii. Long-term planning
Involves making decision linked to the future plans and operations
Should have enough time to study the plans before making decisions
iii. Information gathering
Collects information related to the enterprise by price trends, markets, production techniques, constrains
iv. Comparing standards on ones enterprise with the set standards
- Detecting weakness and constrains and finding ways and means of overcoming them
- Keeping farm records up-to-date and using them in day to day running of the farm
- Implementing farm decisions and taking responsibility
Qualities of a good farm manager
- Should have knowledge about specific agricultural principles, marketing and accounting
- Hardworking and time conscious iii. Should have practical farming skills Should be responsible, dynamic, prudent and ambitious
- Should be flexible in decision making in order to adjust to the changing social and economic trends in the society
THE PRODUCTION FUNCTION.
Physical relationship between inputs and outputs
Shows quantity that may be expected from a given combination of inputs
Types of inputs
- Variable inputs
- Fixed inputs
Inputs that vary with the level of production
Characteristics of variable inputs
- Changing in quantity required with level of production in a given time
- Being added to fixed inputs for production
- Their cost vary depending on kind and quantity used (variable cost)
- They are allocated to specific enterprises
- Their cost value is used to calculate gross margins of various farm enterprise i.e. value of TP less variable costs
Examples casual labour, fertilisers, seeds, feeds, fuels, pesticides, livestock and drugs
Inputs that do not vary with level of production of an enterprise
Characteristics of fixed inputs
- Constancy-once required their cost to the business are acquired whether they are used or not.
- They do not vary with the level of production in a given time
- Their cost are not allocated to specific enterprises or product
- Examples -farm machinery
- Permanent labour
|Land||Input(kg of seed)||Output
90 bags product
Land is fixed while maize seed is varied from 0-25kgs all other inputs applied as required Yield varies with respective seed rates
Land and seed rate on fixed 1ha and 25kg respectively
|Land hectare(ha)||Seed rate
- Land and seed are fixed at 1ha and 25kgs respectively
- CAN is varied at 20kgs units
- Maize yield increases as shown by TP and graph curve
- Marginal product is additional return realised above the above the previous TP as a result of the marginal input
- Marginal inputs are additional inputs above the previous inputs
Types of production functions
- increasing returns production function
- constant returns production function
- Decreasing returns production function
Increasing returns production function
Production in which each additional unit of inputs results in a longer increase in output than this proceeding unit of inputs
Shows that resources are underutilised..
Rare PF in agriculture
Occurs in initial low levels of inputs application e.g. application of fertilisers, seed rate application, labour inputs
Egg production with varying amounts of layers mash
|100 layers||Layers mash
|Total egg production per week||Marginal production per week|
The first few additional units of inputs resulted in layer increase in output up to 40kg/week
Constant returns production functions
Amount of product increases at the same rate (amount) for each additional unit of input I.e. returns are constant due to biological, economical, and human factors.
Common in industries
Table production of loaves of bread at varying quantities of wheat flour.
|Labour man-days||Wheat flour||Total number of loaves||Marginal product|
PF curve is a straight line
The slope of the curve remains the same
MP is constant at 25 loaves
Decreasing returns production function
Each additional unit or inputs results into a smaller increase in output than the proceeding unit input
Common in agriculture
Table; maize production in 90kgs at varying amounts of NPK fertiliser.
|Land 1ha||NPK fertiliser input
|Total maize production
At firs there is an increase in output (MP) at an increasing rate.ie each additional unit of input leads to a larger increase in output then the preceding one
This continues up to a point when total output start to increase at a decreasing rate (as evidenced by MP) and the low at diminishing returns set in at this stage
Thereafter maximum level of output is reached and any further addition at NPK results in decline in output
Marginal product diminish for each additional unit of input at the later high levels of input application
Slope of the curve on graph becomes less steep as from where MP starts decreasing with each additional unit of input
Decreasing returns gives rise to the low diminishing returns.
Economic laws and principles
1) THE LAW OF DIMINISHING RETURNS
It successive units of one inputs are added to fixed quantities of other inputs, a point is eventually reached when the additional (and average) produced per additional unit of input well decline
Table; production of maize at various level of NPK application
|Total product maize in 90 kg bag||Marginal product maize
|Average product maize
AP=TP/units of fertiliser used.in this case unit
E.g. 10/1unit, 24/2units, 42/3units, 36/4units, 63/5units
Zones of a production function curve
According to the law of diminishing returns if variable inputs of one resource are applied beyond a certain limit, a point is reached when TP begins to decline.
It is thus helpful in order to determine the most profitable point at which to produce.
Zone I (irrational zone)
End where MP=AP.
The resources are underutilised e.g. land and NPK fertiliser.
TP increases at an increasing rate up to where MP reaches its peak. Farmers should not produce at this zone as the resources available can yield more.
Zone II (rational zone of production) Starts at MP=AP to AP=0.
Resources are utilised to the maximum.
TP increases at a decreasing rate. Starts where MP starts declining and stops where MP=0.
TP is at its maximum. AP reaches maximum at the start of this zone that is, where MP=AP (at the intersection)
It is economical to produce at this zone.
Zone III (irrational zone of production)
MP becomes negative suggesting NPK fertiliser is excessively applied resulting in production decline. TP is also declining.
It is not economical to operate in this zone because it is a loss making zone.
2) THE LAW OF SUBSTITUTION.
If the output is constant, it is profitable to substitute one input factor for another, as long as it is cheaper than the one being substituted.
E.g. substituting dairy meal (less expensive) for dairy cubs (more expensive)
It is based on the concepts of input-input relationships and product-product relationships.
It enables the producer to substitute a less profitable enterprise for one which is more profitable.
The way the factor inputs are combined in production, to maximise profit and revenue.
Ways of combining inputs;
- Fixed proportions.
There is no substitution of inputs involved. For production to take place both inputs must be present in the same proportions.
ii. Constant rate of substitution.
Input factors substitute one another at a constant rate for each level of output regardless of the ratio of the two input factors used.
E.g. maize and sorghum as livestock feeds.
iii. Varying rate of substitution.
The factor inputs substitute each other at varying rates.
- Hay and grain in feeding livestock.
- Poultry manure and nitrogenous fertiliser.
- Use of homemade feed rations versus commercial feeds.
Combination of enterprises with the aim of maximising revenue.
- Joint products.
Situation where a farmer aims at producing one product but automatically ends in getting another product.
- Mutton and skin.
- Honey and wax.
- Milk and butter.
- Cotton and lint.
- Beef and hides.
- Competitive products.
Situation where the production of one is increased then production of another is reduced.
Occurs where the available resources are limited.
From example where land is fixed wheat and maize production. If the acreage under wheat is increased then the acreage under maize has to be reduced.
iii. Supplementary products.
Situation whereby one product may be increased without decreasing the other. Applicable where resources available are not fully utilised.
E.g. a poultry enterprise can be introduced to supplement other enterprises.
Growing an intercrop between rows of a main crop.
iv. Complementary products.
Situation whereby an increase in the production of one product means a simultaneous increase in production of the other.
E.g. introducing a pig enterprise to be maintained on the by-products of grains.
3) THE LAW OF EQUI-MARGINAL RETURNS.
States that: if the amount of productive resources are limited, they should be allocated in such a way that the marginal returns to those resources is the same in all alternative uses to which they are put.
THE PRINCIPLE OF PROFIT MAXIMISATION.
It is based on the concepts of cost and revenue.
The concept of cost.
Cost. Price paid for goods and services rendered in a production process.
Cost of production. Quantity of input factor used multiplied by price of each unit of input factor.
Production cost= QxX Px
Role of cost in production.
- Quantity of a product depends on amount of costs incurred during the production period.
- When costs are analysed and converted into monetary value, they help to indicate the most profitable level of production.
- Used to calculate gross margins.
Types of costs.
- Fixed costs (FC)
Inputs costs which do not vary with the level of production e.g. rent, depreciation of farm buildings and machinery and salaries of permanent labour.
- Variable costs (VC)
Input costs that vary with level of production. E.g. cost of feeds, fertilisers, fuel and wages of casual labour.
- Total cost (TC)
Sum of all fixed and variable costs used in production of a given quantity of product.
- Average cost (AC)
Total cost divided by the number of units of outputs.
Y= number of units of outputs.
- Average variable cost (AVC)
Total variable cost divided by total output.
- Average fixed cost (AFC) Total fixed cost divided by total output.
- Average total cost (ATC)
Sum of average variable coast and average fixed cost.
- Marginal cost (MC)
Extra cost incurred in production of an additional unit of output.
Where ∆ (delta) = change.
VC= variable cost.
Note that costs are defined in terms of units of outputs and not in terms of units of inputs.
THE CONCEPT OF REVENUE.
Revenue. Amount of money accruing from the sale of produce.
Types of revenue.
- Total revenue (TR)
Total physical product multiplied by the unit price of the product.
Q= quantity of commodity.
P= price per unit of commodity.
ii. Net revenue (NR) /profit.
The difference between total revenue and total cost of production.
iii. Marginal revenue (MR)
The extra income obtained from the sale of one additional unit of output.
THE CONCEPT OF PROFIT MAXIMIZATION.
The aim of a producer is to obtain as much profit as possible while attempting to minimise cost of production.
When maximum net revenue is obtained profit is maximised.
Profit is maximised when marginal revenue (MR) is equal to marginal cost (MC) at the point where NR is at its maximum.
In maize production project carried over a period of 8 seasons, a farmer uses 1ha of land each time and applies various quantities of DSP at a cost of Kshs 280 per 50KG bag. The produce is sold at 200 per 90Kg bag.
|Total revenue.||Total cost.||Marginal revenue.||Marginal cost.||Net revenue.|
In calculating profit fixed costs and other variable costs are ignored.
As more units of fertiliser are applied, the net revenue increases to reach a maximum at 12,880 Kshs at 4 bags of fertiliser.
At the level of four bags of fertiliser/ha, MR is almost equal to MC. This is the point of maximum profit.
Involves establishing the organisational objectives and defining the means of achieving them.
Factors to consider in drawing a farm plan.
- Size of the farm.
It determines the number of enterprises that can be established.
ii. Environmental factors.
Include aspects such as climate, soil type and topography. They determine the specific enterprises to be established on the farm.
iii. Current labour trends.
Determines availability of labour. It is important to put into consideration the cost and requirements of labour especially during labour peak periods.
iv. Farmer’s objectives and preferences.
The interests of a farmer should be put into consideration. It makes one to have a sense of ownership of the plan hence becomes motivated.
v. Possible production enterprises.
The requirements of each enterprise in relation to environmental factors, size of the farm, existing markets and price trends should be put into consideration.
vi. Existing market conditions and price trends.
Price trends in the market may discourage farmers from growing certain crops.
It affects production schedule (market synchronisation)
vii. Availability and cost of farm inputs.
Choose an enterprise that is easily affordable and whose inputs are readily available.
viii. Government regulations/policies.
Government regulations that controls establishment of enterprises on farms should be put into consideration. E.g. it is prohibited to cultivate near river banks.
Certain enterprises must be established near the farm house for security reasons and close supervision.
x. Communication and transport facilities.
Some enterprises require transport facilities to the market thus infrastructure should be considered.
Steps in making a farm plan.
- Determining the farm size by surveying and calculating out the acreage.
- Determining environmental situation by collecting information on climate, soils and vegetation. Analysing the data to establish feasible enterprises.
- Determining the farmer’s objectives and preference to eliminate production possibilities that are not desirable.
- Developing a tentative schedule that involves listing the selected enterprises and stating the types and cost of physical resources required. This leads to selection of one enterprise or a combination of enterprises and a farm layout.
- Determining the technical feasibility of the plan to make it realistic. Taking into consideration external influences.
- Determining the expected yields and returns of various enterprises.
- Determining a budget by translating the physical plan into monetary value.
- Developing a financial flow in order to ensure that it is consistent, workable and desirable.
- Observe and calculate the plan in course of the implementation.
Estimate of future income and expenses of a proposed farm plan.
Budgeting. Process of estimating the future results of a farm plan.
Importance of farm budgeting.
- Helps in decision making, helps to avoid over expenditure and impulse buying.
- Enables the farmer to predict future returns. Thus one can plan ahead. iii. Helps to avoid incurring losses by not investing in less profitable enterprises. iv. Enables the farmer to acquire loans from financial institutions.
- Enables periodic analysis of the farm business.
- Acts as a record that can be used for future reference. vii. Pinpoints efficiency or weakness in farm operations.
Types of farm budgets.
- Partial budget.
- Complete budget.
Represent financial effects of minor changes in a farm organisation.
Reasons for drawing up a partial budget.
- What would happen if a farmer expanded an enterprise?
- What would happen if a new technology is introduced?
- What would happen if a farmer replaced one enterprise with another?
Guiding questions in preparing partial budget.
- What extra cost is to be incurred as a result of the prosed change?
- What revenue is to be foregone as a result of the proposed change?
- What extra revenue is to be earned from the proposed change?
- What costs are to be saved as a result of the proposed change?
It is necessary when the farmer wants to start a new business where both the variable costs and fixed costs or semi-fixed costs are likely to be affected. It involves a major change in the farm.
It covers every item of expenditure and income.
- Formulation of farming goals.
State the reasons for setting up the farming business.
- Taking the farm inventory.
Items listed on the inventory includes; farm buildings, land improvement structures, such as fencing, funds available and farm equipments.
- Planning for resources.
Involves showing how various resources are utilised.
- Estimating production.
Find out the gross production and assets in the farm emanating from crops, livestock and other activities.
- Estimating income and expenditure.
Prepare a stamen of the income and expenditure based on existing prices and costs.
- Analysing the input-output relationship that exist on the farm.
- Analysing existing production weakness in the farm Determine the order in which weakness in the farm are to be eliminated.
- Making of alternative plans and choosing one for adoption.
- Putting the best chosen plan into operation and supervising its implementation.
AGRICULTURAL SUPPORT SERVICES AVAILABLE TO THE FARMER.
- Extension and training.
Extension. Giving informal education to farmers on production techniques.
- Field days.
- Seminars and short courses.
- Agricultural shows.
- Training and visits.
Bank account. Page in a ledger where financial transactions are systematically recorded.
Types of bank accounts.
- Current account.
- Saving account.
Bank account from which cheques are paid but money does not earn interest.
Bank account in which the customer accumulates some money and interest is allowed but cheques are not drawn on it.
Advantages of transacting using the bank.
- Money is safer in the bank than in the farm, office or house.
- In transacting involving large sums of money it is easier and quicker to write a cheque than count out large sums of money.
- A farmer with a bank account may get some credit from the bank in form of an overdraft or loan. Overdraft where the account holder of current account can withdraw, more money than what is in the account.
- The bank gives advice to farmers on how to use the credit given for maximum returns.
- A banker’s statement is necessary as evidence of a financial standing when a farmer wants to acquire or lease some property.
This is borrowed capital.
Loans are given against security such as; land title deed, machinery etc.
Types of credits.
- Short-term credit.
It is given as working capital such as seeds, feeds and fertiliser and is repayable within one year.
- Medium-term credit.
Used for farm development projects and is repayable within 2-5 years.
- Long-term credit.
It is repayable within a period of 15 years.
It is used to purchase land and effect major improvement on land.
- Credit could be hard or soft. Hard loan is offered against substantial security (immovable assets).
- Soft loan is offered without or with little security.
Sources of agricultural credit.
- Co-operative societies.
Their interest rates are lower than those from commercial banks.
- Crop boards.
Some crop boards gives credit to farmers. E.g. national irrigation board and pyrethrum board.
They recover their money through deductions made on farmer’s payout.
- Commercial banks.
They have higher interest rates and farmers are required to have security. Offers short-term and medium-term loans
- Agricultural Finance Corporation. (AFC)
Parastatal body set up by the government to give loans (short-long term) to farmers. The interest rates are reasonable.
- Settlement Fund Trustees.
They lend short-term to long-term credits to new settlers in settlement schemes.
Hire purchase companies, individuals, insurance companies and traders.
Problems associated with credits.
- Lack of collaterals. Most farmers lack adequate security to enable them to obtain loans.
- Loans are diverted to other uses for which they were not intended.
- The interest rates are usually high such that repayment becomes a problem since the investment made do not guarantee an equivalent amount.
- Non-payment of loan may lead to assets used as security being auctioned.
- Lack of knowledge and appropriate skills in the management of credits may lead to misappropriation or misuse of the funds.
- Lack of proper farm records may disqualify framers from getting and management of the funds.
- .Artificial insemination (AI) services.
AI services have being liberalised and private practioners are also providing these servicers to farmers.
- Agricultural research.
Objectives of agricultural research.
- To improve crop and livestock production techniques.
- To develop improved varieties and types of crops and livestock. iii. To improve pastures and fodder quality.
- To develop techniques for controlling diseases and pests of various crops and livestock.
- To determine suitable ecological zones for various crops. vi. To co-ordinate research in order to avoid duplication of work.
Examples of research stations.
- Coffee research station in Ruiru.
- Kenya Agricultural and Livestock Research Organisation. (KALRO).
- National Plant Breeding station at Njoro. Conducts research on wheat, barley, rye and oil seed crops.
- Pyrethrum Research station at Molo.
- Horticultural Research station at Thika. Conducts research on fruits, cut flowers and pulses/grain legumes.
- National Sugar Research station at Kibos. Conducts research on sugar-cane.
- Tea Research Foundation at Kericho.
- Dryland Farming Research station at Katumani in Machakos. Caries out research on soil moisture use, plant breeding, pest management and animal nutrition.
- Sunflower Research station at Wanguru near Embu.
- Nairobi and Mbita in south Nyanza.
- Coast Agricultural Research station at Mtwapa. Conducts research on maize and sugarcane.
- International Livestock Research Institute (ILRI) in Nairobi.
They assist farmers in marketing farmers’ .produce. They include:
- National Cereals and Produce Board. (NCPB). Helps in marketing cereals (maize and wheat.), pulses (beans, groundnuts, pigeon’s peas).
- Kenya Co-operative Creameries (New KCC). Markets milk.
- Pyrethrum Board of Kenya. Markets pyrethrum.
- Kenya Planters Co-operative Union (KPCU). Markets coffee.
Helps in treating and controlling livestock diseases and parasites.
- Farm inputs supplies.
Some organisations e.g. co-operatives and private companies bring farm inputs closer to farmers.
- Tractor hire services.
Involves hiring of tractors and implements that farmers do not have.
- Government Tractor hire services.
Falls under the ministry of agriculture. Available where large scale or intensive farming is practised.
It is cheaper than private hire services however, due to high demand the services are not available to all farmers.
- Private contractors.
Individual contractors or companies that own several tractors and equipments for hire.
Are available on demand but they charge slightly more than government tractor hire service.
- Individual farmers.
They may hire to neighbouring farms once they have finished preparing their farms.
E.g. some co-operatives societies own tractors that they hire to their members.
Advantages of tractor hire services.
- Farmers who cannot afford to buy a tractor can get access to tractor services.
- Farmers do not incur the cost of servicing and maintenance of tractor and its implements.
- The services are more efficient than hand tools.
Disadvantages of tractor hire services.
- They are not available to most farmers when they need it. ii. Some farmers may be overcharged especially by private and individual farmers.
RISKS AND UNCERTAINTIES IN FARMING.
Imperfect knowledge about future events or outcome.
Divergence between the expected and actual outcome/ difference between what is predicted and the actual outcome.
Types of Risks and Uncertainties.
- Fluctuation of commodity prices. The farmer may not predict the future market prices.
- Physical yield uncertainty. The farmer does not know how much to expect. Ownership uncertainty. The farmer may lose part or the whole of the produce through theft, change in government policy, fire, death, association with other business.
- Outbreak of pests and diseases. It will affect the expected outcome.
- Sickness and injury uncertainty. The farmer or a member of his family or an employee may be affected and loses the ability to work due to sickness and injury.
- New production technique uncertainty. The farmer may not be certain whether a new technology is as effective as the previous one.
- A farmer may invest in machinery that may be outdated within a short time.
- Natural calamities. E.g. floods, drought, earthquakes, storms and strong wind may destroy the crops or kill the animals.
Ways of Adjusting to Uncertainty.
Involves setting up several and different enterprises on the farm. This prevent total loss in case of a failure in one enterprise.
- Selecting more certain enterprises.
Under uncertain conditions, it is better to choose an enterprise which earns a more steady income though less profitable than choosing a more profitable enterprise which has a high degree of income variation.
This is entering into a contract to supply goods over a specified period of time at an agreed price.
It guarantees a constant fixed market. If prices in the market falls, the farmer reaps big from the contract.
- If market prices rise the farmer would not benefit.
- Contract prices are lower than the average market price.
Farmers pay premium as insurance cover to guarantee them compensation in the event of loss.
- Input rationing.
Use of less inputs for uncertain enterprise to lower the loss and the additional inputs are used in a more stable enterprise.
- Flexibility in production methods.
Enterprises should be designed such that if a change one enterprise to another is needed it can be done with minimum expenses.
- Adopting modern methods.
Used to reduce the amount of risk. E.g. spraying crops against diseases and pests, vaccinating livestock and irrigating crops.