Contract theory and agricultural policy analysis: a discussion and survey of recent developments*

Abstract

This paper surveys some recent developments in contract theory and illustrates how this theory might be useful for conceptualising policy issues related to vertical coordination and contracting in the agro-food industry. The article begins by surveying contract theory to identify key economic distortions that can potentially justify government involvement. Next, the general ingredients of agricultural contracts that are most likely to create inefficiencies are discussed. Finally, controversial aspects of real-world agricultural contracts are highlighted and lessons from the theory are used to determine whether government intervention is justified. Actual legislation that has been proposed in the USA is analysed where appropriate and topics that await further research are also discussed.

Holding All the Cards? Quality Management by Cooperatives in a Moroccan Dairy Value Chain

“…As in Singh (2002), its strong power vis-à-vis the cooperatives was mostly due the fact that it enjoyed almost complete monopsony. However, this hard stand reduced the farmers' willingness to improve milk quality (Wu, 2006) and many farmers continued to skim their milk.…”

“…This lack of transparency may be intentional, as it could prevent farmers from checking they receive adequate remuneration (Bijman, 2008). When agroindustries are in a position of monopsony (which is often the case), farmers have limited power to challenge the quality management systems designed and implemented by agro-industries (Singh, 2002;Wu, 2006).…”

Role, Usage and Motivation for Contracting in Agriculture

“…However, rapid structural changes of agri-food systems with corresponding increase in the use of contracts put contracting issues more and more under the spotlight. The choice of a role might be delicate as policy interventions typically create trade offs (see Wu, 2003Wu, , 2006. Contracts are agreements between private entities and hence policy intervention constraining private transactions may reduce efficiency and exacerbate market failures.…”

“…An incomplete contract does not specify all eventualities and contain clauses that are not enforceable by a third party. Wu (2006) and Schwartz (2002) suggest that in order to fill the gap or to make the contract more complete, governments could provide common vocabulary which would reduce the transaction costs of negotiating but also could supply common default rules for contracts.…”

Private Mechanisms, Informal Incentives, and Policy Intervention in Agricultural Contracts

“…Contracts can be incomplete for many reasons, including indescribable contingencies, prohibitive costs of writing complete contracts, and barriers to enforcement. When contracts are incomplete, an unspecified contingency might arise, creating the need for ex post renegotiation over the terms of trade and giving rise to economic distortions that may justify government intervention (Wu 2006). Thus, a central theme from the law and economics literature is that the government ought to "fill gaps" in ICs through legal rules that improve efficiency by making contracts "more complete."…”