Week 8 - Lecture A - ECON 4411A, Fall 2011 Development...

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Unformatted text preview: ECON 4411A, Fall 2011 Development Economics Summary Notes: Week Eight, Lesson 1 Markets in Agriculture an overview Quote of the day: Men are born to succeed, not fail. Henry David Thoreau (1817 - 1862) Introduction One of the major problems of markets in agricultural settings are the efficiency failures. These efficiency failures are caused by lack of information, the need to provide appropriate incentives, limits to contractual enforcement and so on. These efficiency failures are further exacerbated by inequalities in the income distribution. In this lesson, we are going to go through a few examples of these market failures and consider the land and labor markets in agricultural settings. Examples of Efficiency /Market Failures 1. Information: Unobserved action The problem of unobserved action leads to a problem mentioned frequently in economics, moral hazard. Moral Hazard is the name given to the in- creased risk of problematic (immoral) behavior, and thus a negative out- come (hazard), because the person who caused the problem doesnt suffer the full (or any) consequences, or may actually benefit. Such a concern typically arises in the context of a contract both in the modern sector as in insurance policy and in the agricultural setting (un-monitored tasks). 2. Information: Unobserved types This is a common problem in both the rural and urban settings. In the agricultural setting, the lack of information about people makes it difficult to setup enforceable contracts with people. For example an NGO want- ing to lend money to farmers but cannot figure out who are the credible borrowers and who are likely to default. In this case the NGO though not interested in making profit does not want to close down and needs some- way to deal with the incomplete information. There are several options: first, they could ask for collateral but this would only defeat their purpose for existing because the poor who they want to cater for lack adequate collateral. Second, they could lend at higher interest rates, but this would lead to a decrease demand by trustworthy credible borrowers while the bad type loses no incentive because they would default either way. This phenomenon is sometimes called the adverse selection problem. One way of dealing with the lack of information used by microfinance institutions is group lending ( refer to class explanation on why this works). 1 3. Incentives: Conflict with Insurance The situation of moral hazard and the possibility of shirking exists in agricultural settings with hired labor. The problem of limited informa- tion on an employees activities especially with unmonitored tasks leads to the design of contracts with incentives to eliminate the possibility to shirk. For example, employing labor for a long period of time and offeringshirk....
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This note was uploaded on 01/26/2012 for the course ECON 4411 taught by Professor Ruth during the Fall '11 term at Georgia Institute of Technology.

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Week 8 - Lecture A - ECON 4411A, Fall 2011 Development...

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