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| Value Chains and their Significance for Addressing the Rural Finance Challenge, ACDI/VOCA, USAID AMAP, 2004 |
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| Implementing agency(ies) | ACDI/VOCA |
| Funding agency(ies) | USAID |
| Date completed | December 2004 |
| Geographic setting(s) | Rural |
| Target Group(s) | Farmers, Micro, Small |
| Sub-sector(s) | Agribusiness, Agriculture (general) |
| Issues/challenges | finance for small farmers and rural micro/small enterprises in a value chain framework |
| Contact person(s) | Mr. Olaf Kula |
| Web site | http://www.microLINKS.org |
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Description
This paper argues that one answer to the challenge of rural finance lies in our ability to complement a financial market orientation—one that focuses on financial institutions, the products they deliver, and the constraints and distortions they confront—with a product market orientation—one that focuses on rural enterprises, the value chains they participate in, the opportunities and constraints they face, and the most critical financial services they demand. The paper demonstrates USAID’s emerging strategy of viewing FS and BDS under a common framework.
In pursuing the innovations needed to expand access to rural finance, it is important to build on existing relationships and services. The literature shows that a significant percentage of financial services reaching small farmers and rural residents occurs through the value chain. This paper explores three such products: 1) Trader Credit; 2) Contract Farming/Outgrower Schemes; and 3) Warehouse Receipts.
The benefits and limitations of value chain financing, as illustrated by these products, are the basis for this paper’s argument to develop and implement rural finance interventions with attention to value chains as well as financial markets. Drawing from cases presented in existing literature and cited in the description of the three products, the paper provides examples of specific objectives and interventions that can be considered in designing programs, improving the enabling environment, building the capacity of promising actors and institutions, and promoting a range of financial products and services.
Summary of results
These three products are promising. They all demonstrate cost-effective ways to screen potential clients while tapping new assets for securing loans. At the same time, these products help to increase yields and prices, lower costs and even change the way those products are sold. Each product offers different types of benefits, to varying degrees. Trader credit offers working capital to smallholders, allowing them to participate in promising value chains by expanding product sales both through better yields and more secure market channels. Contract farming and outgrower schemes allow producers to gain access to high-value markets, as well as to increase their productivity by offering them loans with embedded services, such as technical and marketing assistance. Warehouse Receipt Systems extend the sales season of grains while providing small farmers access to higher average prices, and the economies of scale that derive from upgrading the marketing process with consistent standards and grades.
At the same time, each product faces a range of limitations. None of these products is conducive to long-term loans needed for investment capital. Value chain lenders bundle loans with other services, are more interested in profits from products than from loans, and tend to be less transparent in pricing and efficient in accounting than financial institutions. Trader credit is constrained in its ability to expand rapidly, and is most vulnerable to borrowers who sell their product to traders competing with those who lent them money. Contract farming and outgrower schemes have more of a built-in bias toward larger farmers due to their tendency to work with high-value crop. Warehouse receipts systems require significant changes to laws and regulations in order to clarify and protect the rights of all participants.
The paper concludes with a number of lessons that could prove useful to donors and practitioners interested in the relationship between value chains and rural finance:
- Financial institutions and donors that are interested in expanding rural financial services, but intimidated by the perceived risks, can identify opportunities and prioritize interventions through value chain analysis.
- Neither a value chain orientation nor a financial market orientation is sufficient for designing and prioritizing interventions to expand sustainable rural financial services.
- Value chain financing is useful in addressing working capital demands, but not investment capital.
- Actors who create linkages between small producers and downstream players are key to expanding the access of small rural enterprises to both markets and financial services.
- Captive governance structures within value chains are not inherently exploitative, as the relationships and embedded services they create can derive mutual benefit to chain leaders and captives alike.
- Competition and access to information are critical deterrents to exploitative relationships. Sustainable services and relationships depend on mechanisms that reinforce the mutual benefits to buyer and seller, lender and borrower.
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