Omamo, Steven Were

English

Research Papers in Economics

Agrekon, Vol 45, No 1 (March 2006)  Omamo 
 
 
  17
SIMON BRAND GEDENKLESING 
SIMON BRAND MEMORIAL LECTURE 
Die Simon Brand Gedenklesing is gelewer op 22 September 2005 te The Range, Polokwane. 
The Simon Brand Memorial Lecture was delivered on 22 September 2005 at The Range, Polokwane. 
 
Institutional economics as a theoretical framework for 
transformation in agriculture 
 
SW Omamo1 
 
 
 
1.  Introduction 
 
It is a great honour and privilege to have been invited to give the Simon Brand 
Memorial Address. I met Simon very briefly shortly before he passed away. 
He struck me as a man who seemed to be able to do something that very few 
of us can do, namely marry his personal convictions with his professional 
practice. I admired that greatly. He was also clearly a man of great vision. His 
memory is a humbling one. 
When I was a much younger man and the fight for democracy in South Africa 
was still raging, I remember making a list of things I wanted to do in my life. 
Very high on that list was “to visit a free South Africa”. It was a time when the 
fight for democracy in South Africa was at its height. Looking back, I realize 
that my admiration for this country stems from then. Most of my African heroes 
were and remain South African men and women. As a Kenyan, as an African, it 
is therefore deeply moving and humbling to have this opportunity to share my 
thoughts with the Agricultural Economics Association of South Africa. 
The topic you have asked me to address is, “Institutional Economics as a 
Theoretical Framework for Transformation in Agriculture”. When I first saw the 
topic I was very excited by it but also very challenged. For one can interpret it 
either very narrowly or very broadly. A narrow interpretation would entail a 
lecture on institutional economic theorizing accompanied by some theory on 
agricultural transformation. A broad interpretation would entail a lecture on 
agricultural development with some institutional economics thrown in. I 
decided to take the average. This is not a lecture on the theory of either 
institutional economics or agricultural transformation. Rather, I will argue that 
institutional economics provides a lens that is especially well suited to asking 
                                                 
1 International Food Policy Research Institute. Agrekon, Vol 45, No 1 (March 2006)  Omamo 
 
 
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and answering a set of questions that raises the relevance and potential impact 
of our profession in agricultural development policy design and implementation. 
2.  The puzzle, the problem 
Back in 1991, I was conducting field research in western Kenya and found 
myself confronted by a phenomenon that puzzled me then, puzzles me now, 
and encapsulates the fundamental problem facing agricultural policy makers 
in Africa today. I noted that in apparent disregard to opportunities forgone, 
smallholders in western Kenya were trying to provide the bulk of their food 
requirements from their own output. Specifically, they often choose to grow 
low-value food-crops rather than significantly more profitable cash-crops 
(Figures 1 and 2) below. 
 
 
 
 
 
 
 
 
 
 
 
 
 
Figure 1:  Returns to food-crops and cash-crops in Western Kenya – 1992 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Figure 2:  Typical cropping pattern in Western Kenya – 1992 
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A decade later, I returned to the same part of Kenya to do some field research 
and found that these seemingly irrational cropping patterns were still in 
evidence (Figure 3 and 4) below. 
 
 
 
 
 
 
 
 
 
 
 
 
 
Figure 3:  Returns to food-crops and cash-crops in Western Kenya – 2002 
 
 
 
 
 
 
 
 
 
 
 
 
 
Figure 4:  Typical cropping pattern in Western Kenya – 2002 
 
Standard neoclassical economic theory provides a full explanation for 
diversified subsistence oriented agriculture of this kind. An optimal response 
to high transaction costs in a market for a good in which a household is a net 
buyer, e.g., a staple, is greater production of the item. Conversely, high 
transaction costs imply reduced production of goods for which a household is 
a net seller, e.g., most cash-crops, where a “cash-crop” is any farm output that 
has a small share in household consumption expenditures and a high market 
value relative to marketing costs. The seemingly inefficient prominence of 
low-return food-crops in smallholder farming systems thus is wholly rational 
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)Agrekon, Vol 45, No 1 (March 2006)  Omamo 
 
 
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food import substitution by households facing high transaction costs in 
product markets (Omamo, 1998b). For given consumption preferences and 
endowments, increased specialization by definition implies that the range of 
production items declines while that of traded goods rises. The higher are unit 
transaction costs in markets, the more costly are strategies to specialize in 
production with a view to trading for items in the consumption bundle, and 
thus the greater is the pressure toward domestic production of some of these 
items. It is therefore quite feasible that yield- and income-increasing 
production technologies will be rejected if they raise specialization and trade 
to such a degree that total transaction costs exceed the sum of the net output 
revenue (net of input costs and accounting for consumption) and the value of 
the endowment (Omamo, 1998a). Agricultural production decisions generally 
reflect technical choices that facilitate or catalyze the substitution of relatively 
abundant (hence cheap) factors of production for relatively scarce (hence 
expensive) ones. Technological adjustments that ease these factor substitutions 
release constraints imposed by resource scarcity. Production decisions and 
technical choices in agriculture are behavioural responses to particular 
constraints that both determine and reflect resource intensities and 
specializations. Shifts in production patterns are driven by changes in farmers’ 
evaluations of the relative returns to resources employed in different pursuits, 
and on farmers’ assessments of the range of feasible resource substitutions. 
 
The policy implications that emerge from this brand of analysis are clear: 
improve functioning of factor markets, especially credit markets; increase 
farmer access to input and output markets; reduce farm-to-market transport 
costs; increase productivity of production systems; promote specialization and 
intensification; and so on. But the issue is, how? Standard neoclassical 
economic theory and practice have very little to offer by way of answers to 
how-questions. 
 
3.  Propositions 
 
I would like to argue that neoclassical economics is very good at identifying 
and explaining problems such as diversified subsistence oriented agriculture, 
and what needs to be done about those problems. But it is largely silent on 
how to go about it. I want to suggest that institutional economics is well-suited 
to framing and answering how-questions. 
 
4.  The institutional view 
 
Four concepts underpin the institutional view: institutions, institutional 
environments, institutional arrangements, transformation costs, and transaction Agrekon, Vol 45, No 1 (March 2006)  Omamo 
 
 
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costs. While this is not a lecture in institutional economics, it is worth defining 
these concepts briefly. 
Institutions are humanly devised constraints that structure human interaction. 
They include formal constraints (such as rules, laws, constitutions), informal 
constraints (such as norms of behaviour, conventions, self-imposed codes of 
conduct), and their enforcement characteristics. They thus comprise the formal 
and informal constraints through which knowledge is discovered and 
employed to facilitate coordination of economic activity, and, together with 
the technology employed, determine the costs of production and exchange, 
and thus total costs. Institutional environments refer to the fundamental 
political, social, and legal ground rules that establish the basis for production, 
exchange, and distribution. Examples include rules governing elections, 
property rights, and the right to contract. 
 
Institutional arrangements are defined by institutional environments. They 
refer to relations between economic units that define how these units can 
cooperate or compete. Examples: market arrangements (e.g., auctions and 
exchanges), collective action. 
 
Transformation costs refer to costs of producing, consuming, and exchanging 
goods and services over space (transport costs), time (storage costs), form 
(processing costs), and expectations (insurance costs). 
 
Transaction costs relate to increases in transformation costs associated with 
coordination, information, and strategic behaviour. Coordination costs are the 
sum of the costs of the time, capital, and personnel invested in negotiating, 
monitoring, and enforcing agreements among actors. Information costs are the 
sum of the costs of searching for and organizing information, and the costs of 
errors resulting from a lack, or an ineffective blend, of knowledge about time 
and place variables and general scientific principles. Strategic costs are the 
increased transformation costs produced when individuals use asymmetric 
distributions of information, power, or other resources to obtain benefits at the 
cost of others. The most frequent sources of strategic costs are free riding, rent 
seeking, and corruption.  
 
5.  A three-level framework 
 
Davis and North (1971)  and Williamson (1994) argue that the comparative 
efficacy of alternative institutional arrangements varies, on one hand, with the 
institutional environments within which economic activity takes place, and, on 
the other, with the attributes and behaviour of given agents (that is, Agrekon, Vol 45, No 1 (March 2006)  Omamo 
 
 
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individuals and organizations). Conditions and changes in institutional 
environments define and shift the comparative costs of institutions, which, in 
turn, influence and reflect behaviour at the micro-level (Figure 5) below. 
Understanding institutional arrangements and ascertaining scope for welfare-
enhancing institutional innovation, means understanding the driving forces 
behind the “larger” and “smaller” phenomena that those institutions condition 
and express. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Figure 5:  Policies, institutions, and micro-behaviour – A 3-level schema 
 
In this schema, diversified subsistence oriented agriculture springs from a 
fundamental incompatibility among institutional environments, institutional 
arrangements, and micro-conditions and micro-behaviour in agriculture. 
Institutional environments and institutional arrangements imply high 
transformation and transaction costs in agricultural sectors, leading to micro-
behaviour that affirms those cost structures. 
 
6.  The way forward 
 
The theoretical literature springing from this perspective is expanding rapidly 
(Williamson, 2000). But precious few contributions deal with the problems 
afflicting agricultural development in Africa. This association is remarkably 
well placed to help fill that gap. Again, the how-question is the key one. And 
institutional economics is a good way to ask and answer it. Taking institutions 
seriously means taking time seriously. There are no quick fixes. Taking 
institutions seriously also means paying attention to operational feasibility. 
That means tracking both techno-economic and organizational impacts of 
Policy Environment 
Institutional Arrangements 
Micro-behaviour Agrekon, Vol 45, No 1 (March 2006)  Omamo 
 
 
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changes in institutional environments and arrangements. The Ultimate Goal 
must be to paint the “big picture” in African agriculture and the details that 
make it up. 
 
Thank you for listening. 
 
References 
 
Davis L & North D (1971). Institutional change and American economic growth. 
Cambridge University Press, Cambridge, UK. 
 
Omamo SW (1998a). Farm-to-market transaction costs and specialization in 
small-scale agriculture: Explorations with a nonseparable household model. 
Journal of Development Studies 35(2):152–163. 
 
Omamo SW (1998b). Transport costs and smallholder cropping choices: An 
application to Siaya District, Kenya. American Journal of Agricultural Economics 
80:116–123. 
 
Williamson O (1994). Transaction costs economics and organization theory. In 
Smelser N & Swedberg R (eds), The Handbook of Economic Sociology. 
Princeton University Press, Princeton, NJ, USA. 
 
Williamson O (2000). The new institutional economics: Taking stock, looking 
ahead. Journal of Economic Literature 38(3):595-613. 
 
 
 

Farm-to-market transaction costs and specialization in small-scale agriculture: Explorations with a nonseparable household model.

Institutional economics as a theoretical framework for transformation in agriculture

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