Saturday, 19 April 2014

What do Mexican maize farmers do when maize prices are low?

My ECON100 and ECON110 students often raise their eyebrows at the idea that many suppliers will change what they produce in response to price signals. If producers are able to easily switch between one good and another, the idea is that when prices are low they will switch to producing alternative higher priced (and higher profit) goods. Obviously the key caveat here is that they must be able to easily switch. For instance, it's unlikely that soft drink makers can easily switch to making T-shirts, because their plant and equipment are not suited to T-shirt production. However, crop farmers are a good example of producers that can easily switch to alternative crops, since the major inputs into production of different crops are land and labour, and these inputs can easily be transferred to alternative crops.

Which brings us to the question - what do Mexican maize farmers do when maize prices are low? According to this CGD Working Paper by Oeindrula Dube, Omar Garcia-Ponce and Kevin Thom (all of New York University), maize farmers shift production to more lucrative marijuana cultivation when maize prices fall. The theoretical effect is explained as follows:
Maize price fluctuations will impact rural households in different ways depending on their production and labor supply choices. First and foremost, such changes directly impact households that initially produce and sell maize. These households must decide how much labor to allocate to crop cultivation, market labor, and leisure. Jointly with this time allocation problem, they must decide how much land and time to devote to each possible crop. A fall in the price of maize will tend to increase drug crop cultivation as the result of both a substitution and an income effect. It will provide agricultural households an incentive to substitute the production of other crops for the production of maize. At the same time, this will make households poorer, increasing their incentives to spend more time and effort on income-generating activities as the marginal value of wealth increases. As the price of maize falls, both forces will push maize-producing households in the direction of greater drug production.
The effect of the maize price changes on marijuana and opium poppy cultivation is large:

Our estimates imply that the 59% fall in maize prices between 1990 and 2005 resulted in 8 percent more marijuana eradication and 5 percent more poppy eradication in municipios at the 90th percentile of the maize suitability distribution, as compared to municipios at the 10th percentile of this distribution.

And there are flow-on effects on cartel activity and violence as well:
In addition, we estimate a negative relationship between maize prices and cartel presence, as well as killings perpetrated by these groups in connection with the drug war over 2007-2010.
The authors draw some interesting conclusions, particularly around the effects of free trade. In 1994, the North American Free Trade Agreement (NAFTA) opened up the North American economies (Canada, the U.S., and Mexico) to free trade, lowering tariffs and leading to substantially lower maize prices for Mexican crop farmers. This in turn may have directly contributed to increases in marijuana cultivation in Mexico (Mexico is now one of the top three marijuana producting countries, alongside Morocco and Afghanistan - see here (PDF)).

One of the gains of freer trade is that it encourages countries to specialise in the production of goods and services where they have a comparative advantage, and leads to firms and workers shifting increasingly into export-oriented sectors. What's more export-oriented than the Mexican marijuana industry?

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