Is producing with credence attributes profitable for farmers?
In today's global marketplace, customer expectations of "quality" have shifted to more sustainable products. As producers and consumers have lost their direct links, final consumers rely on food labels, certificates, or other types of information signalling (e.g. nutritional value) to gain trust in the food they consume.
When determining the quality of a food product, each product we consider for purchase has several attributes. Features such as colour, shape and firmness can be evaluated before consumption and are often referred to as "search attributes". Some attributes cannot be ascertained until after consumption and are referred to as "experience attributes", for example, the food's taste.
However, there are some other attributes that we cannot assess even after consumption, which we refer to as credence attributes (CA). Fairtrade, eco-friendly, organic, carbon-neutral, grass-fed, and free of genetically modified organisms are all examples of credence attributes.
An important feature associated with credence attribute products is that consumers value such products when making their consumption choices and are increasingly willing to pay a premium for these additional qualities. Therefore, farmers are often encouraged to improve their farming system to increase the value of products and achieve higher profitability. The challenge associated with this notion is that retailers have strong bargaining power and dominate many agricultural supply chains. As a result, most of the economic value in the value chain is captured at the retail end, and farmers, who produce the products and sit at the upstream end of the value chain, only receive a small fraction of the total value created when the final product reaches end customers in the retail market.
Another disadvantage for farmers is that they give up their right to price their products as the supply chain is dominated by powerful retailers who snatch most of the benefits, leaving farmers to bear all the production costs.
In our research, we seek to understand the effect of CA production on supply chain members' profitability by incorporating both the value and cost of CA production in analysis to include both demand-side impacts and supply-side cost impacts. We try to shed some light on farmers' benefits from producing CA products by investigating whether the price premiums associated with CA agri-food products make them a promising investment for farmers.
According to our results, not all supply chain inefficiencies originate from the supply side. If the consumer's extra willingness to pay for the CA product is smaller than the CA price premium, it is not efficient for the supply chain to produce the CA product. In other words, the CA product is not allocative efficient, and this inefficiency originates from the demand side. In addition, a higher price premium does not necessarily translate to a higher supply chain profitability. Very low/high price premiums can be detrimental to the farmer's, the wholesaler's, and even the retailer's profit, depending on the competitive nature of demand volumes and production cost efficiency.
Moreover, most of the time, a higher price premium only increases the retailer's profitability and is detrimental to the farmer's and wholesaler's profit. We showed that when the production cost is inefficient, a higher price premium increases the farmer's and wholesaler's profitability even though the retailer's profitability increases with a higher rate. A retailer-led supply chain is able to benefit from growth in the consumer's willingness to pay by offering the CA product at a higher premium price. This could lead the retailer to promote the CA product through investment in advertising and other marketing tools. In addition, government and NGO's endeavours seeking to promote CA products for sustainable economic growth could also encourage consumers to spend more on CA products.
According to our study, if the lead retailer sets the CA market price, it will extract the extra value and push the cost to the upstream supply chain, which will not be visible to the end consumers and general public. Therefore, the poorest and most marginalised smallholder farmers who cannot meet the stringent requirements of CA production may be excluded and pushed out of business by buyers as private retail-led standards become de-facto standards of production.
The next step would be to understand whether powerful retailers benefit or exclude poor smallholder farmers in the supply chain. It is also worth investigating the implications of cutting intermediaries for the value remaining in the producing country, considering that retailers may exert greater direct control over producers.