What challenges must be overcome in order to develop a sustainable investment policy for agriculture? Coralie David: OECD
The latest contributor to our speaker interview series is Coralie David- Policy Analyst – Investment in Agriculture at OECD. Coralie has been working at OECD since 2010 and is now working on policies to promote sustainable private investment in agriculture, in particular in Indonesia, Tanzania and Myanmar. We put 5 questions to Coralie on the top issues in agriculture investment.
· What challenges must be overcome in order to develop a sustainable investment policy for agriculture?
While mature markets are confronted with constraints such as the lack of available arable land as well as stagnating yields and productivity, investment opportunities in frontier markets are often hampered by weak legal and regulatory frameworks. Insecure and complex land rights and a difficult and long process to access land feature among the main impediments to sustainable agricultural investment. Tenure insecurity is often associated with rapid resource depletion and low investment in land improvements, and thus dampens agricultural productivity growth. Furthermore, agricultural investors are often deterred by weak governance which creates uncertainty and raises transaction costs. In fact, weak governance is correlated with low levels and low growth rates of agricultural capital stock per worker. Heavy regulation and excessive red tape also undermine investment by increasing costs and delays for investors and result in higher corruption levels among public officials, as shown by the World Bank’s ‘Doing Business’ reports. Inefficient credit markets, unpredictable trade rules, high levels of taxation, and inadequate infrastructure and public services provision in rural areas, all undermine investment in agriculture.
· What questions should investors ask when making asset allocation decisions?
Asset allocation decisions rely on the potential for securing high returns which is determined not only by the ability to seize existing opportunities but also by the capacity to identify and mitigate political, social and environmental risks.
The investment climate is a key determinant of investment opportunities and the potential returns on investment. An attractive business climate relies in particular on: clear, transparent and accessible legislation and policies; secure and well-defined land and water rights that can incentivise land owners to promote investments enhancing land productivity; adequate agriculture-related infrastructure to connect investors to customers and suppliers and enhance value addition; open and reliable agricultural trade to facilitate sourcing, processing and distribution of goods and services within agricultural value chains; large and competitive financial markets with adequate prudential safeguards; enhanced agricultural research and development to stimulate innovation, increase productivity and address new challenges, such as climate change; efforts in human capital development, including through policies tailored to the needs of the agricultural sector; and efficient tax policy and administration, which strike an optimal balance between creating a business and investment-friendly tax regime and leveraging sufficient revenue for public service delivery.
Political, social and environmental risks in investing in agriculture can be particularly high, in particular in developing countries. Investors should thus clearly identify those risks and put in place mechanisms to prevent and mitigate them. Political risks, such as unpredictable policy changes, are often relatively high in developing countries and may alter the terms and conditions necessary for successful projects. In developing countries, social risks include the displacement and loss of livelihoods of local populations due to a lack of access to land and water resources, or increased food insecurity caused by exports of produced agricultural products. They can significantly increase reputational risks and are exacerbated by weak governance, a lack of transparency and inequity of power in investor-community relationships. Multi-stakeholder dialogue and consultations with affected local communities can help mitigate such risks by helping align different interests. However, they require time and thus patient capital. Finally, environmental risks in the agricultural sector are linked in particular to climate change. Agricultural production is quite vulnerable to climate change consequences, such as global warming, rising sea levels, changing precipitation patterns and extreme weather events. Carefully assessing these various types of risks is critical to secure profitable returns in the long term.
· What characteristics should investors look for in an agriculture fund manager?
First, an agriculture fund manager should have a deep knowledge of the agricultural sector to understand its opportunities and challenges. A good knowledge of the sector can help reduce social risks by facilitating the development of sustainable business models, such as contract farming or joint ventures, as alternatives to land acquisitions. It can also mitigate environmental risks, arising for example from poor agricultural practices, such as the cultivation of unsuitable land and the excessive use of chemicals, that may lead to the over-exploitation and degradation of natural resources, thereby reducing agricultural productivity. An agriculture fund manager should also be familiar with managing patient capital as profit from agricultural investments can often be harnessed only after several years.
Second, an agriculture fund manager should have experience in dealing with issues specific to the business climate which depends on a wide set of policies that go beyond agricultural policy, including macro-economic and sectoral policies. In particular, investment policy, infrastructure development, trade policy, financial sector development, human resources development, research and development and tax policy are key determinants of the business climate. A fund manager should be able to identify and mitigate the risks related to these various policies. In weak governance zones, complex and unsecure land tenure rights and corruption often constitute major risks undermining investment. If the host government does not have clear and well-enforced laws on transparency and anti-corruption, governance-related risks for investors are high. In fact, government bodies overseeing the land sector are among the public entities most affected by service-level bribery. A fund manager should know how to interact and work with various government levels, deal with situations of bribery, and work in an environment where contract enforcement remains weak.
Finally, an agriculture fund manager should have strong expertise in conducting multi-stakeholder consultations and designing contractual agreements between a range of various stakeholders. Working openly and collaboratively with local communities and civil society organisations can help mitigate social risks and thus improve financial outcomes. He/she should also be able to create partnerships between various investors with complementary skills and experiences.
· What area of agriculture offers the most potential for returns (e.g. commodities, picks and shovels or farmland)?
Investing in agricultural commodities may offer significant returns in the short and long term. Agricultural production needs to increase by 60% over the next 40 years to meet the rising demand for food. Additional production will also be necessary to provide feedstock for expanding biofuel production. Furthermore, rising incomes and urbanisation will lead to changes in diets that shift consumption to more processed foods, fats and animal protein. This will favour higher value meats and dairy products, and drive the indirect demand for coarse grains and oilseeds for livestock feed. Finally, fish production is one of the fastest growing sources of animal protein, with world fisheries and aquaculture production expected to grow by 15% by 2012. As a result, nominal prices of the main agricultural commodities are expected to trend upwards over the next ten years, and real prices are projected to average 10-30% above those of the previous decade (OECD-FAO Agricultural Outlook 2012-2021). Investments in food crop, biofuel, feedstock, meat, dairy and aquaculture production may thus offer significant returns.
However, investments in agricultural production should avoid acquiring land and rather develop business partnerships with local producers that may offer benefits over the longer term both to investors and host countries. Indeed, large-scale land investments may lead to the displacement, the loss of livelihoods, and more limited access to land for the local population, including indigenous and nomadic communities, and thus result in nutritional deprivation, social polarisation and political instability. Investors’ risks are particularly high where land use rights are not well defined in the legislation of the host state, governance is weak, or those affected lack voice. Inclusive business models, such as contract farming or joint ventures, as alternatives to land acquisitions, can effectively minimise investors’ risks.
· What regions offer the best responsible and profitable return on investment?
Developing countries, particularly in Sub-Saharan Africa, may offer the most profitable returns on investment. Based on their greater potential to increase land devoted to agriculture and to improve productivity, developing countries will provide the main source of global production growth to 2021. An additional 680 million people are expected to inhabit the planet by 2021 with the fastest population growth rates in Africa and India. Investments supplying growing domestic markets in developing countries may thus be quite profitable.
Despite weak governance frameworks resulting in higher risks for investors, countries of Sub-Saharan Africa often present, in addition to much labour, abundant and inexpensive natural resources, including land, water and favourable agro-ecological conditions, that have remained under-exploited as agriculture has been neglected both by African governments and large investors for almost thirty years. In fact, from 2001 to 2009, most growth in agricultural output in Africa originated from land development, while such growth relied on rising total factor productivity in the rest of the world. As a result, Sub-Saharan Africa has the lowest agricultural capital stock per worker which is a major determinant of labour productivity (SOFA, 2012). Consequently, the continent offers a large potential for increasing agricultural productivity, and thus for profitable returns on investment.
What do you think? Coralie will be taking part in a panel discussion on developing a sustainable agriculture policy framework at the Agriculture Investment Summit in June. Click the banner below to find out more about the event and attending. Thank you for your time Coralie!