the effect of foreign direct investment on the supply chain of central and eastern european...

The Effect of Foreign Direct Investment on the Supply Chain of Central and Eastern European Countries

Copyright © 2004 South-Western

Doc. Ing. Artan Qineti, PhD.Department of EconomicsFaculty of Economics and

Management Slovak University of Agriculture

in Nitra


„The existence of free markets sure does not exclude the role of government. To the contrary, the role of government is crucial as a forum for the definition of “the rules of the game”, as well as a referee for the interpretation and implementation of approved rules. Markets however, narrow the set of issues that have to be decided about, through political instruments, thus minimizing the scale of government direct participation in the game. “

Milton Friedman, Capitalism and Freedom


Introduction

One of the main problems of the agricultural sector and rural areas in CEEC and Central Asia during the transformation process was the disruption of relations and interlinkages between farmers on one side and input suppliers or wholesalers on the other. The consequent privatization and restructuring of farms and sectors in all segments of food chain caused serious deformations.


As a result (of this process), many farms and rural households have been exposed to restrictions and problems regarding input supplies (animal feed, fertilizers, varieties, capital, etc.) as well as selling their products. In addition to these problems, another negative factor has played an important role: inefficient (absenting) public institutions required to support market oriented transactions like for example respecting property rights and contracts.


With the absence of efficient public institutions, private contractual initiatives arise (often coming from large food and agro-food companies) with the objective to overcome mentioned obstacles. Large retailers, agro-food companies and food processors, often in the framework of their own restructuring or after the inflow of FDI start implementing contractual mechanisms with farms and rural households, as well as providing basic inputs in order to provide them with raw materials or supplies at the required quantity and quality. Such process of interlinked contracts has been growing fast in the agriculture sector and rural regions of CEEC and CA.


Objective

In this lecture we try to partially analyze certain issues related to vertical coordination in agro-food chain of CEEC and CA, as well as identify certain alternatives leading toward improvement of policies, institutions and investment that could be implemented by governments and supported by international institutions, in order to improve the links within agrarian marketing, processing chain as well as to increase farmers access to input and output markets.


Content

1. MODELS OF VERTICAL INTEGRATION AND COORDINATION

1.2.Theoretical and empirical models of vertical

integration of food supply chains.


1.2.Models of vertical integration of food supply chains.

Figure 1.2.1 Triangular structure VC

Wholesaler / Processor

Bank

Agricultural farm

Triangular chain of vertical contracting

Example: Retailer / processor guarantee for bank loans to the supplier

Source: Swinnen (2006)



Figure 1.2.2. Mechanism on Special Utility

Wholesaler / Processor

Bank

Agriculture farm

Mechanism on Special Utility

Example: FDI is specialized on financing and the mechanism on special utility is set up to distribute the risk between partners.

Example: Group of farmers found a cooperative as a MSU.

MSU

Input Supplier




Figure 1.2.3. Leasing of modern agriculture mechanization through Common leasing project

Processor

Provider of modern mechanization / techniques

Agriculture farm

Common Leasing Project with Processor

Source: Top Agrar, (2004)

Project



Figure 1.2.4. Borrowing from partner food processor.

SpBracovateľ

Agriculture farm

Source: Van Berkum (2004)

Input supplier

Processor

Bank

Processor as a financial institution



Figure 1.2.5. Four degree model of vertical coordination.

Brewery

Barley producer

Malting company

Vertical coordination in beer production

- Core business: beer production.- The need for vertical integration in order to secure high quality barley varieties from the seed provider.- The general strategy implemented differently in different countries according to local conditions.- Attracting foreign investors in order to increase the efficiency of non-core businesses of the firm, as well as setting up different programmes of assistance to farmers.- Programs for market interlinkages.

Provider of Variety




Table 1.1. The share of farms selling based on contracts.

Notes: RIF – registered individual farmers, NRIF – non-registered individual farmers.Source: Leuven ACE databases.

Czech Rep.

NRIF RIF Slov. Rep. Hungary Bulgaria

Individual farmers

Sales of plant production with contractsSales of animal production with contractsSales of live animals with contractsSales with contracts

Corporate farms

Sales of plant production with contractsSales of animal production with contractsSales of live animals with contractsSales with contracts

4125

3713746

79734996

294635

82837798

810-

17

8659-

94

53-7

4223-

43



Table 1.2. The share of Czech farms that receive inputs based on sales contracts (%)*.

Notes: * Share (%) of farms that used these inputs in 1999.Source: Leuven ACE database.

Individual Farmers

Input types Non-registered Registered Corporative farms

Varieties (seeds)Fodder cereals Grass forage or other animal feedIndustrial fertilizerChemicalsConcentrate fodderFuel for tractorsIrrigationOther inputs

0000000--

2200

21171700

15

62131666372442544



Figure 1.3. The share of farms selling with contracts.

Source: White a Gorton, 2004.

Relations 1997 1999 2001 2003

Spot markets

All farmersSmall farmersLarge farmers

Contracts

All farmersSmall farmersLarge farmers Own farmsOther agents

27,225,015,6

41,336,237,0 6,416,7

43,541,325,5

61,743,858,3 8,328,6

47,144,225,5

73,146,269,217,846,2

50,047,223,1

77,449,173,626,449,1


2. FDI AND RESTRUCTURING : DAIRY SECTOR IN CEEC

• vertical coordination has an increasing tendency in the whole CEEC region,

• its development is strongly determined by reform policies,

• vertical coordination starts in its early stage as forms of support in providing input supplies, extension services and simple loans, and later as the system of vertical coordination improves, it is realized in the forms of such instruments such as collaterals or provision of investment loans.

• vertical coordination plays a crucial role in the most developed CEEC and regarding other countries from the region, convergence is expected.



Figure 2.1. Dairy production in selected CEEC, % 1984-89 100%*

40

60

80

100

120

1984-88

1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Bulharsko

Maďarsko

Poľsko

ČR

SR

Rusko

Notes: * 1992 = 100 for Russia and 1984-88=1993 for SR and ČR. Source: : Swinnen, own calculation and FAOSTAT. data


2. FDI AND RESTRUCTURING : DAIRY SECTOR IN CEECFigure 2.2. Yields in selected CEEC, % 1984-89 = 100%*

60

80

100

120

140

160

180

1984-88

1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Bulharsko

Maďarsko

Poľsko

Albánsko

ČR

SR

Rusko


2. FDI AND RESTRUCTURING : DAIRY SECTOR IN CEECFigure 2.3. Farm structure according to size – market research in Poland

0

5

10

15

20

25

30

35

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26Veľkosť stáda

Po

če

t fa

rie

m

rok 1995

rok 2000

Notes: * 1992 = 100 for Russia and 1984-88=1993 for SR and ČR. Source: : Swinnen, own calculation and FAOSTAT. data



Figure 2.4. Effects of economic reforms on the development of retail in CEEC*

0

10

20

30

40

50

60

2 2,5 3 3,5 4 4,5Index reforiem EBRD

Po

die

l m

od

ern

éh

o v

eľk

ob

ch

od

u (

%)

1998

2002

Note: * 1992 = 100 for Russia and 1984-88=1993 for SR and ČR. Bulgaria, Croatia, Czech Republic, Hungary, Poland, Romania, Russia, Slovakia, UkraineSource: Swinnen ,own calculation FAOSTAT data.



Figure 2.5. Effects of economic reforms on support programs for farms in CEEC dairy sector*

0

10

20

30

40

50

60

70

80

90

2 2,5 3 3,5 4

Index reforiem EBRD

Po

dp

ora

zo

str

any

veľk

oo

bch

od

ov

(% r

esp

.)

Note: * 1992 = 100 for Russia and 1984-88=1993 for SR and ČR. Albania, Bulgaria, Poland, Slovakia

Source: Swinnen, own calculation from FAOSTAT data

Copyright©2003 Southwestern/Thomson Learning

Obrázok 2.6. Vývoj kvality mlieka vo východnej Európe. Top kvalita* Najhoršia kvalita 1. Poľsko 2. Bulharsko c) Rusko

0

20

40

60

80

100

1996 1998 2001

0

20

40

60

80

100

1996 1998 2001

0

20

40

60

80

100

1996 1998 2001

0

20

40

60

80

100

1996 1998 2001

0

20

40

60

80

100

1996 1998 2001

0

20

40

60

80

100

2000 2004


2. FDI AND RESTRUCTURING : DAIRY SECTOR IN CEECFigure 2.7. The share of suppliers owning cooling tanks

0

10

20

30

40

50

60

70

80

90

100

1995 1998 2001 2003

Po

die

l d

od

avate

ľov s

vla

stn

ým

i ch

lad

.zar.

(%

)

Mlekpol

Low icze

Mazow sze

Kurpie

Source: Swinnen, own calculation from FAOSTAT data.



Effects of introducing vertical coordination and restructuring in dairy sector:

• Payment delay

• Deliveries and productivity

• Quality

• Investment and access to loans


3. THE POSITION OF RETAILERS AND THEIR EFFECT ON AGRO-FOOD SECTOR

OF CEEC

Table 3.1: Main characteristics of each stage of retail transformation

Characteristics

Stage

Communism Transformation Globalization

Concentration in retail sectorMain source of capitalFDIShare of modern retail chainsShare of large multinational retail chainsLocation of modern chains

HighDometic

-LowLow

-

LowDomestic

Purchase of exist. subjectsLowLow

In the cities

HighForeign

GreenfieldHighHigh

Everywhere

Source: Dries a kol. , 2004



OF CEECRetail system during communism was organized in three phases:• since the 50-ies state retail chains owned regional distribution

centers, that sold mainly processed products,• Since the beginning of the 80-ies agro-combinats opened retail

sales centers, selling own products (Podravka, Voce a Dona – agro-combinats with processed vegetables),

• State retail chains had very few or did not have at all fresh vegetable products, mainly they were sold in private markets and small shops. Private subject and state storage centers provided fresh fruits and vegetables from non-formal traditional wholesale subjects, that transported supplies from rural areas directly from farmers, who produced and sold at market. Some suppliers provided some products (in limited quantities and variety) imported (tropical fruit) from other socialist countries.



OF CEECThe transition stage • In the first half of 90-ties state and collective subjects

of retail systems in region ceased to exist. This process was faster and more complete in the case of centralized retail systems in developed countries of the region (like Czechoslovakia). Privatization in this case meant immediate sale of centralized retail system to private wholesalers. At the same time it meant closure of state controlled retail. This process of system dismantling developed with a delay in countries of second and third wave. During this period private food wholesale subjects started to appear in the region, substituting for state or collective wholesale subjects.



OF CEECGlobalization stage • Retail sector transformation have been supported by deep

transformation of procurement systems in retail chains. Changes in procurement systems were determined by the motivation to succeed in the ever growing competition of larger supermarkets and foreign investors. For this purpose, it was necessary to reduce costs, trade with consistent amounts and standard products as well as with higher quality and differentiated assortment with the objective to gain trade advantage. On the other hand, the capacity for organizational change and technological opportunities of retail systems was increased based on the transportation of larger quantities and technological know-how transfer of foreign retailers.



OF CEECIn order to satisfy the needs of retailers looking for

alternatives to existing wholesale subjects and in line with achieving comparative advantages and reducing costs with increasing quality, leading retail in CEEC during last years tended to introduce new procurement systems characterized by 6 key pillars:

• Return to centralized procurement systems• Orientation toward cross-border system• Orientation on specialize wholesale subjects• Using globalized logistics of multinational companies

in order to improve rapidly procurement system• Orientation on systems of preferred suppliers• Orientation on private standards



OF CEECObrázok č. 3.1: Koncentrácia v sektore maloobchodu a dodávateľsko-odberateľských vzťahov

ČR/SR spracované

potr. výrobky

ČR/SR čerstvé potr. výrobky

Chorvátsko čerstvé

potr. výrobky

Chorvátsko spracované

potr. výrobky

D O D.

O D B.

V Z Ť A H Y

vysoká

vysoká

nízka

nízka SEKTOR MALOOBCHODU




OF CEECFigure. 3.2: Development of modern retail market share

0

10

20

30

40

50

60

1998 1999 2000 2001 2002 2003

rok

%

ČR

SR

Chorvátsko

*Modern retail sector includes hypermarkets and supermarkets.



OF CEECFigure 3.3: Retail chain share on the total retail turnover

0

10

20

30

40

50

60

ČR Maďarsko Poľsko SR Chorvátsko Rumunsko Bulharsko

%

rok 1999

rok 2002




OF CEECFigure 3.4: Number of foreign supermarkets in CEEC, in 2002

0

50

100

150

200

250

300

350

400

Ahold Spar Rewe Delhaize Cora JuliusMeinl

Reitan IGA Carrefour Tesco Iné



OF CEECFigure 3.5: Number of foreign hypermarket in CEEC, in 2002

0

10

20

30

40

50

60

70

80

Tesco Ahold Carrefour Metro Auchan Globus Lidl Casino Leclerc Rewe Iné




OF CEECFigure 3.6: FDI share in top 50 retail chains (%)

0

10

20

30

40

50

60

70

80

90

1993 1994 1995 1996 1997 1998 1999 2000 2001

rok

%

ČR

SR




OF CEECFigure 3.7: FDI share on total retail turnover (%)

0

5

10

15

20

25

30

35

40

1993 1994 1995 1996 1997 1998 1999 2000 2001

rok

%

ČR

SR




OF CEECFigure 3.8: Development of the number of hypermarkets in Czech Republic

Počet hypermarketov

0

20

40

60

80

100

120

IV1996

I1997

II1997

III1997

IV1997

I1998

II1998

III1998

IV1998

I1999

II1999

III1999

IV1999

I2000

II2000

III2000

IV2000

I2001

II2001

III2001

IV2001

I2002




OF CEECFigure 3.9: The hypermarkets share in modern retail sector

05

101520253035404550

1998 1999 2000 2001 2002 2003

rok

%

ČR

SR




OF CEECFigure 3.10: Modern retail share on total retail turnover and GDP per capita .

0

10

20

30

40

50

60

0 1000 2000 3000 4000 5000 6000 7000 8000

HDP/obyv. v USD

po

die

l re

ťazco

v

Source: Dries et. al. , 2004, Bulgaria, Croatia, Czech Republic, Hungary, Poland, Romania, Russia,Slovakia, Ukraine



OF CEECFigure 3.11: Modern retail share on total retail turnover and the reform index in CEEC.

-10

0

10

20

30

40

50

60

2 2,5 3 3,5 4

index reforiem EBRD

po

die

l re

ťazc

ov

Source: Dries a kol. , 2004, Bulgaria, Croatia, Czech Republic, Hungary, Poland, Romania, Russia,Slovakia, Ukraine


Conclusion

Our analysis and other studies show that modern retail invest in the enlargement f local capacities especially in sub-sectors like fresh fruit and vegetable. Similar support packages are offered mainly multinational chains. Competition among retailers for high quality suppliers forces other retailers (including domestic ones) to follow the attitude of modern multinational chains in order to secure sufficient supply basis.


Conclusion

Many specialists emphasized the weak side of food supply chain in CEEC that affected the worsening trade balance between EU and CEEC in the last 20 years. Retailers investment and their induced changes within food supply chain can play a very important role in improving the competitiveness of agro-food sector in CEEC within EU.


Conclusion

Modern retail investment can and will have an effect not only on agriculture producers but also in a broader context on rural development. This includes better access to food products of higher quality and other product for rural households, as well as creation of job opportunities out of agriculture sector or indirectly linked to food supply chain. Investment in packaging, quality control, extension services probably will lead to creation of new job opportunities, but on the other hand tougher competition from retailer chains may lead to the exclusion of traditional sales subjects from the market.

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