Kenyan coffee sector outlook : a framework for policy analysis

DWC-8703 Kenyan Coffee Sector Outlook: A Framework for Policy Analysis Takamasa Akiyama Division Working Paper No. 1987-3 May 1987 Commodity Studies; and Projections Division Economic Analysis and Projections Department Economics and Research Staff The World Bank Division Working Papers report on work in progress and are circulated to stimulate discussion and comment.   KENYAN COFFEE SUB-SECTOR OUTLOOK: A FRAMEWORK FOR POLICY ANALYSIS Takamasa Akiyama May 1987 The World Bank does not accept responsibility for the views expressed herein which are those of the authors and should not be attributed to the World Bank or to its affiliated organizations. The findings, interpretations, and conclusions are the results of research supported by the Bank; they do not necessarily represent official policy of the Bank. The designations employed, the presentation of material, and any maps used in this document are solely for the convenience of the reader and do not imply the expression of any opinion whatsoever on the part of the World Bank or its affiliates concerning the legal status of any country, territory, city, area, or of its authorities, or concerning the delimitation of its boundaries, or national affiliation.   TABLE OF CONTENTS Page No. I. INTRODUCTION AND SUMMARY .. ................................ 1 II. RECENT TRENDS IN KENYA'S COFFEE SUB-SECTOR . . 3 III. SALIENT FEATURES OF KENYA'S COFFEE SUB-SECTOR . . 8 IV. ANALYSIS OF KENYAN COFFEE PRODUCTION . . 22 V. PRODUCTION PROSPECTS .... . 28 VI. PROSPECTS FOR KENYA'S COFFEE SUPPLY/DEMAND BALANCE ........ 44 VIII. POLICY IMPLICATIONS ....... . . ................ . 48 LIST OF TABLES Table 1: KENYA COFFEE: STOCKS, PRODUCTION, AVAILABILITY AND EXPORTS--1969 TO 1984/85 .............................. 4 Table 2: KENYA COFFEE: AREA, PRODUCTION AND YIELD-- 1963/64-1984/85 ....... ... ........ .... 5 Table 3: KENYA COFFEE: PRODUCER PRICES, 1965-84 ........... ..... 7 Table 4: KENYA COFFEE--NUMBER OF SMALLHOLDER FARMS BY CATEGORY AND BY PROVINCE AND THEIR PROPORTIONAL DISTRIBUTION BY SIZE (1979) ........................... 9 Table 5: KENYA COFFEE--PERCENTAGE OF SMALLHOLDERS GROWING SELECTED CROPS BY PROVINCE (1974/75) .......... 10 Table 6: KENYA COFFEE: AVERAGE UTILIZATION OF LAND AMONG SMALLHOLDERS .. 11 Table 7: KENYA COFFEE: PRODUCTION COSTS OF CLEAN COFFEE (PER HECTARE AND PER KILOGRAM) ON SMALLHOLDINGS AND ESTATES UNDER VARIOUS ECOLOGICAL CIRCUMSTANCES (1981/81) 12 Table 8: KENYA COFFEE--COST/BENEFITS OF ADOPTING PROPOSED INPUT PACKAGES RECOMMENDED BY CRF ...................... 13 Table 9: KENYA COFFEE: GROSS MARGIN PER MANHOUR OF THE MAIN ENTERPRISES WITHIN EACH SMALLHOLDER ZONE .......... 14 Table 10: PRODUCTION COSTS PER HECTARE OF GREEN COFFEE IN SELECTED COUNTRIES (1982) ........................ .. 16  - ii - Table 11: KENYA COFFEE: NET PAYMENT BY CBK TO KPCU BY "CLASSES" OF COFFEE--1983/84 .......................... 18 Table 12: KENYA COFFEE: NET PAYMENT BY CBK TO KPCU BY AGGREGATE "CLASSES"--1976/77-1983/84 .................. 19 Table 13: KENYA COFFEE: EXPORT TAX AND COUNTY CESS--1977/78-1984/85 ................................. 21 Table 14: EXPECTED YIELD INCREASE FOR 1985-2000 . . 31 Table 15: KENYA COFFEE: "BASE CASE" COFFEE PRODUCTION PROJECTIONS--1985/86-1999/2000 ........................ 35 Table 16: KENYA COFFEE: SENSITIVITY ANALYSIS ON KENYA COFFEE PRODUCTION, BY PRODUCER PRICES ................. 36 Table 17: PROJECTED PRODUCTION GROWTH RATES WITH DIFFE RENT R EAL PRODUCER PRICES ......................... 38 Table 18: KENYA COFFEE: SENSITIVITY ANALYSIS ON KENYA COFFEE PRODUCTION, BY RUIRU 11 YIELDS ........... 39 Table 19: KENYA COFFEE: PROJECTIONS OF KENYA'S COFFEE SUPPLY/ DEMAND BALANCE--1985/86-1999-2000 ..................... 45  I. INTRODUCTION AND SUMMARY 1. Long-term production prospects, as well as the outlook for domestic and export demand are indispensable in forming sectoral and macroeconomic policies, especially those related to pricing. This paper examines recent trends in the Kenyan coffee sub-sector and evaluates production and export prospects for Kenyan coffee under several scenarios. The analysis was done to provide background for an assessment of policies relating to the coffee sector in Kenya. Statistical and econometric tools were used in carrying out the analysis. 1/ 2. In evaluating the long-term prospects for the Kenyan coffee sub- sector, scenarios with respect to important factors such as the potential yields and adoption rates of a new high-yielding variety and forecasts of international coffee prices have been considered. The analysis shows that under the assumption that future world coffee prices develop more or less as projected by the World Bank and that a price-supporting international export quota system is maintained, Kenya's coffee production would increase at about 2.8% p.a. during the period 1985/86-2000. 3. An important policy issue is whether Kenya should support the International Coffee Agreement (ICA) export quota system. Analysis indicates that Kenya's future coffee export revenues will not differ much whether the quota sytem continues or not, provided that Kenya obtains quota levels 1/ The results of this analysis were incorporated in a model on the Lotus spreadsheet program to facilitate simulation exercises.  - 2 - increasing at 2% p.a. However, if Kenya is to expand its robusta production substantially or if adoption of the new high-yielding variety (Ruiru 11) increases arabica production substantially, Kenya's coffee export revenues could be larger in the absence of the quota system. Another problem with the quota system is the possibility of Kenya accumulating large stocks. 4. The paper is structured as follows. Section I describes recent trends in Kenyan coffee production, consumption, exports, stocks, yields and prices. The performances of the estate and smallholder sectors are compared. Section II describes the characteristics of coffee production in the estate and smallholder sectors, covering topics such as costs of production, quality differentials and government policies. In Section III, coffee production in the estate and smallholder sectors is modelled econometrically using the vintage capital approach. Section IV describes projections of Kenyan coffee production using these models. The assumptions underlying the projections are outlined. Sensitivity of the projections to changes in real producer prices and to differing assumptions about the potential yields from the new coffee variety (Ruiru 11) is examined. The prospects for Kenya's coffee exports are described in Section V. The focus here is the International Coffee Agreement and, in particular, the outlook for the Agreement's export quota system and Kenya's likely quota allotment. The results of Section IV and V are brought together in Section VI in an examination of Kenya's future coffee demand/supply balance. Major points of interest are Kenya's export revenues from coffee and likely stocks under the various scenarios. Section VII draws together the various policy implications resulting from this analysis.  -3 - II. RECENT TRENDS IN KENYA'S COFFEE SUB-SECTOR 5. Table 1 presents a balance sheet for Kenya's coffee production, exports, domestic consumption, and stocks since the late 1960s. Production has been increasing on average at a rate of 4.7% p.a. since 1968 and exports have increased at 3.9% p.a. during the corresponding period. As production has increased faster than exports, and given the low domestic consumption, stocks have accumulated. The stock level reached 1 million bags at the end of the 1980/81 season, following the imposition of ICA export quotas. As production continued to increase after the quotas were adopted stocks reached over 70% of Kenya's production in the last three years. Since the quotas were suspended in February 1986, Kenya has sold a large portion of its stocks. Had the ICA quota system continuied during the 1985/86 season, stocks could have gone as high as 1.7 million bags (instead of the actual level of 1.2 million bags in October 1986). 6. Table 2 gives area, 1/ production and yield of coffee estates and smallholders combined. Several important features of the sector can be observed from the table: (i) There are no clear long-term trends in the estates' area and production. Estates' mature areas declined slowly from the early 1960s until the mid-1970s--just before the "coffee boom"--and increased thereafter; 1/ "Mature area" in Table 2 signifies area under coffee trees of more than two years old.  Table 1: KENYA COFFEE: STOCKS, PRODUCTION, AVAILABILITY AND EXPORTS--1969 TO 1984/85 ('000 bags) -----------------------------------------------------------------__----------__---------------------------------------------- Opening Stocks Net ZL Exports Crop Total Domestic Exportable Gross Avallability To ICA To Year Gross Net ZA Production Consumption Production Availability For Export Total Members Non-Members (1) (2) (3) (4) (5) (6) (7) (8) (9) (10) STARTING I OCTOBER 1968 127 -73 821 19 802 929 729 777 731 46 1969 152 -48 954 21 933 1,085 885 799 784 15 1970 286 86 1,036 23 1,013 1,299 1,099 953 783 170 1971 346 146 990 22 968 1,314 1,114 1,079 941 138 1972 235 35 1,261 20 1,241 1,476 1,276 1,200 1,153 47 1973 276 76 1,244 20 1,224 1,500 1,300 1,224 1,161 63 1974 276 76 1,171 20 1,151 1,427 1,227 1,088 1,014 74 1975 339 139 1,225 21 1,204 1,543 1,343 1,343 1,317 26 1976 200 0 1,699 20 1,679 1,879 1,679 1,428 1,364 64 1977 451 251 1,356 43 1,313 1,764 1,564 1,391 1,300 91 1978 373 173 1,232 40 1,192 1,565 1,365 1,231 i,195 36 1979 334 134 1,651 50 1,601 1,935 1,735 1,366 1,317 49 1980 569 369 1,715 68 1,647 2,216 2,016 1,205 1,110 95 1981 1,011 811 1,474 36 1,438 2,449 2,249 1,702 1,301 401 1982 747 547 1,551 50 1,501 2,248 2,048 1,427 1,291 136 1983 821 621 1,992 51 1,941 2,762 2,562 1,516 1,391 125 1984 1,246 1,006 1,558 50 1,508 2,754 2,514 1,604 1,330 274 1985 1,130 800 2,167 50 2,117 3,247 2,917 2,023 1,796 227 1986 1,224 L& Working stocks were 200,000 bags for the period 1968 to 1983; 240,000 bags thereafter. Source: ICO  Table 2: KENYA COFFEE: AREA, PRODUCTION AND YIELD--1963/64-1984/85 ------------------------------------------------------__---------------------__-----------------------------------------------------__---- Estates SmalIholders Total Coffee Mature Production Yield Mature Production Yield Mature Production Yield Year Area Area Area (ha) (tonnes) ('000 bags) (kg/ha) (ha) (tonnes) ('000 bags) (kg/ha) (ha) (tonnes) (i000 bags) (kg/ha) -------------------------------------------------------------------------__--__----------------------------------------------------------- 1963/64 32,538 28,405 473 873 13,000 15,373 256 1,183 45,538 43,778 730 961 1964/65 32,423 22,393 373 691 16,900 14,774 246 874 49,323 37,167 619 754 1965/66 32,267 25,683 428 796 27,400 25,523 425 931 59,667 51,206 853 858 1966/67 31,964 25,231 421 789 42,900 27,558 459 642 74,864 52,789 880 705 1967/68 31,188 13,246 221 425 49,900 20,515 342 411 81,088 33,761 563 416 1968/69 30,690 22,342 372 728 52,300 23,264 388 445 82,990 45,606 760 550 1969/70 29,903 26,521 442 887 54,057 26,275 438 486 83,960 52,796 880 629 1970/71 29,900 28,600 477 957 54,057 26,302 438 487 83,957 54,902 915 654 1971/72 29,535 29,984 500 1,015 55,555 28,362 473 511 85,090 58,346 972 686 1972/73 29,535 38,956 649 1,319 55,555 33,783 563 608 85,090 72,739 1,212 855 1973/74 29,129 31,152 519 1,069 55,600 36,767 613 661 84,729 67,919 1,132 802 1974/75 28,603 29,985 500 1,048 57,786 35,464 591 614 86,389 65,449 1,091 758 1975/76 28,603 37,675 628 1,317 57,786 36,135 602 625 86,389 73,810 1,230 854 1976/77 27,821 49,685 828 1,786 57,786 47,660 794 825 85,607 97,345 1,622 1,137 1977/78 29,402 33,685 561 1,146 59,206 47,744 796 806 88,608 81,429 1,357 919. 1978/79 29,102 26,809 447 921 62,574 46,079 768 736 91,676 72,888 1,215 795 1979/80 31,232 39,109 652 1,252 71,172 51,900 865 729 102,404 91,009 1,517 889 1980/81 32,861 34,744 579 1,057 84,710 6A,007 1,067 756 117,571 98,751 1,646 840 1981/82 33,635 34,392 573 1,023 97,423 52,531 876 539 131,058 86,923 1,449 663 1982/83 33,605 32,981 550 981 100,967 52,469 874 520 134,572 85,450 1,424 635 1983/84 35,711 54,258 904 1,519 114,235 74,683 1,245 654 149,946 128,941 2,149 860 1984/85 35,711 28,922 482 810 116,328 64,717 1,079 556 152,039 93,639 1,561 616 Source: Coffee Board of Kenya.  - 6 - (ii) Smallholders' area and production have increased at very rapid rates of 7.6% p.a. and 6.7% p.a., respectively, since the early 1960s; (iii) Yield has fluctuated fairly widely from one year to the next, but on average the estates' average yield has been considerably higher than that of smallholders.' Average yields for the last 15 years for estates and smallholders are 1019 kg/ha and 664 kg/ha, respectively i.e., over 50% difference between the two sectors; (iv) There are no statistically significant trends in the yields of either the estates or the smallholders; and (v) After stagnating during the preceding 10 years, both area and production of the estate and smallholder sectors increased substantially in the last 6-7 years following the 1976-78 "coffee boom". 7. A key economic variable affecting production is the producer price. As noted elsewhere in the report, payments to smallholders vary substantially from one "society" to another and even among factories in a society. Factors that affect payments to farmers include: (i) quality of coffee produced; (ii) management skill of factory operators; and (iii) financial structure of societies. It is estimated that on average a smallholder coffee farmer receives about 86% of the amount paid by the Coffee Board (CBK) to the Kenya Planters Co-operative Union (KPCU). 1/ The smallholder payment share varies between 76% and 94%. 2/ Payments to the estates, on the other hand, depend only on the quality of coffee as they are paid directly by the KPCU. 1/ The payment channel goes from CBK to KPCU and then to societies and estates. Societies pay farmers after deducting expenses. 2/ KPCU unpublished paper "Payment to farms" Nairobi, March 1982.  - 7 - 8. Table 3 shows average net payments by the CBK to the KPCU for 1 kg of clean coffee. The payments are shown in terms of nominal Kenya Shillings, in real terms with the consumer price index as deflator and relative to maize prices. Even excluding the "coffee boom" years of 1975-78, long-term real producer prices have shown an increasing trend. Table 3: KENYA COFFEE: PRODUCER PRICES, /a 1965-84 Year Nominal Prices Real Prices /b (K. sh/kg of (Deflated (Deflated by clean coffee) by CPI) maize price /c) 1965 5.960 20.001 14.863 1966 5.300 17.099 15.014 1967 5.850 18.581 18.994 1968 5.580 17.632 20.217 1969 7.440 23.549 27.055 1970 5.680 17.615 17.057 1971 7.020 20.957 .18.046 1972 8.740 24.652 22.468 1973 9.820 25.364 21.164 1974 9.400 20.579 13.429 1975 22.310 41.028 28.974 1976 39.520 65.240 44.404 1977 26.070 37.455 33.639 1978 26.600 32.699 29.888 1979 24.830 28.256 26.027 1980 21.330 21.330 21.330 1981 27.800 24.866 25.812 1982 34.890 25.903 22.656 1983 36.530 24.322 20.874 1984 46.600 28.070 n.a. /a Net CBK payment to KPCU. 7i CPI 1980=]00. T7 Maize proclucer price in Kenya, FAO data. Source: CBK, FAO.   - 8 - III. SALIENT FEATURES OF KENYA'S COFFEE SUB-SECTOR 9. The discussion in this section is provided as background to the analysis that follows on the long-term production prospects. (i) Production System 10. In Kenya, coffee is produced both by estates and smallholders. Before Independence in 1963, almost all Kenya's coffee was produced ,by estates owned by expatriate farmers. Before 1952, when the Swynnerton Plan was implemented, it was illegal for smallholders to grow coffee except for small trial areas in the Meru and Kisii districts. After Independence, legislation was enacted which requirecl all estates to be registered for the purposes of the control of returns on capital and the remittance of profits abroad. The expatriates have gradually been selling the estates since that time. Some of the estates sold have been subdivided and distributed to smallholders. As a result, the small- holder sector expanded rapidly in the 1960s and again in the late 1970s. Its share increased from less than 50% of output in the 1960s to about 70% in the early 1980s. 11. Estate farming is different from smallholder farming in a number of aspects. The estates specialize in coffee growing; they are considerably larger (the mijority being between 8 ha and 200 ha); they hire permanent staff and are capital intensive. Many of the estate farms are irrigated (67%) and use large amounts of chemical inputs. They also own their own factories for pulping coffee and often hire management and farming specialists to evaluate and improve performance. 12. Smallholder farms, on the other hand, are mostly very small. According to the Central Bureau of Statistics (see Table 4), 67% of them are less than 2  - 9 - Table 4: KENYA COFFEE--NUMBER OF SMALLHOLDER FARMS BY CATEGORY AND BY PROVINCE AND THEIR PROPORTIONAL DISTRIBUTION BY SIZE (1979) Farm size Province Total area (Ha) Western Nyanza Rift Central Eastern Coast Total (1000 ha) Valley SmalIholdings less than 2 63 74 66 69 60 58 67 2-4 32 23 20 27 33 31 26 more than 4 5 3 14 4 7 il 7 number (x 1000) 342 708 527 501 456 160 2694 (3216) Intermediate farms number (x 1000) 8-50 4 5 29 4 10 1 53 (1040) Large Farms 50-200 36 78 44 75 46 49 54 112 200-2000 45 18 51 22 23 35 40 895 more than 2000 19 4 5 3 31 16 6 1652 number (x 1000) 0.011 0.116 2.327 1.067 0.163 0.051 3.735 .(2569) All farms number (x 1000) 346 714 558 506 466 161 2751 (6915) Source: Central Bureau of Statistics (1981, 1982); J. de Graaff, "The Economics of Coffee," Pudoc Wageningen, 1986. ha and 93% are less than 4 ha. They do not specialize in coffee but normally have other enterprises such as maize/beans, English potatoes and/or cattle. A typical smallholder farm with 1.5 ha of land in the Central region has 0.5 to 0.6 ha for coffee, 0.4 ha for maize and beans intercropped, 0.1 to 0.2 ha each for English and sweet potatoes and 0.2 to 0.3 ha for pasture (see Tables 5 and 6). In some high altitude areas, tea is also grown as a cash crop. Most of the required labor is provided by the family and chemical input use and yield per  - 10 - Table 5: KENYA COFFEE--PERCENTAGE OF SMALLHOLDERS GROWING SELECTED CROPS BY PROVINCE (1974/75) ----------------------------------------------------------__-----------------_ Western Nyanza Rift Central Eastern Coast Kenya Valley ----------------------------------------------------------------__-----------_ Coffee 5 21 5 45 44 1 27 Tea 4 - 15 18 11 - 12 Local Maize 74 80 59 95 99 94 86 Hybrid maize 73 36 92 67 30 19 50 Beans 79 39 22 98 86 28 69 English potatoes - 1 8 86 52 2 32 Sorghum 37 75 1 1 16 2 30 Pyrethrum - 18 16 8 7 - 9 Cotton 20 17 5 - 2 5 9 Source: Central Bureau of Statistics (1977); J. de Graaff, op. cit. unit of land are substantially lower than on the estates. Almost none of the smallholders use irrigation. (ii) Cost of Production and Profitability 13. Cost of production per hectare or per kilogram varies substantially from one estate to another and from one smallholder farm to another. A key parameter affecting production cost is yield; the higher the yield the lower the cost of production and thus the higher the profitability (see Table 7). Due to their much higher overhead costs, the production costs of estates are considerably higher than those of smallholders. A recent study of the smallholder sector done by the Coffee Research Foundation (CRF) indicates 1/ that the yield is strongly correlated with input expenditures. The study also 1/ J.D.M. Roe and J.K. Nyoro, "Towards Improving Coffee Productivity in the Smallholder Sector," CRF.  Table 6: KENYA COFFEE: AVERAGE UTILIZATION OF LAND AMONG SMALLHOLDERS (Hectares) Area of Land (hectares) Farm Crop Coffee Maize & English Millet Sweet Pasture /a Size Zone Beans Potatoes Potatoes -----------------------------------------------------------__----------------_ 1.5 ha. Central UMI /b 0.5 0.4 0.2 - 0.1 0.3 Central UM2 7r 0.6 0.4 0.2 - 0.1 0.2 Central UM3 7i 0.5 0.6 0.1 - 0.1 0.2 Kisii 0.4 0.4 - 0.15 0.15 0.5 Machakos 0.4 0.5 - - 0.1 0.5 3.0 ha. Central UM1 /b 1.0 0.8 0.4 - 0.2 0.6 Central UM2 /b 1.2 0.8 0.4 - 0.2 0.4 Central UM3 7r 1.0 1.2 0.2 - 0.2 0.4 Kisii 0.8 0.8 - 0.3 0.3 0.8 Machakos 0.8 1.0 - - 0.2 1.0 /a Pasture area includes homestead and fallow land. /b UM1, UM2 and UM3 refer to marginal coffee growing areas, major coffee growing areas and coffee and tea growing areas, respectively. Source: J.K. Nyoro and J.D.M. Roe "Economics of Agricultural Production on Smallholder Coffee Farms in Kenya," CRF. shows that smallholders' profitability would increase with yield, and that the percentage profitability increase would be largest for the farmers with very low yields (see Table 8). 14. Among inputs, fertilizer (C.A.N. and 20:20:0 are most commonly used) and fungicides (mainly copper) are most important; the latter often costing more than the former. In Kenya, these inputs constitute an important part of the production cost of coffee. Their share in total smallholders' production costs varies between 20 and 30% and the corresponding range for the estates is 30 to 40% (see Table 7). Fungicide is the largest cost component in the material inputs; it is required for the control of Coffee Berry Disease (CBD).  - 12 - Table! 7: KENYA COFFEE: PRODUCTION COSTS OF CLEAN COFFEE (PER HECTARE AND PER KILOGRAM) ON SMALLHOLDINGS DAND ESTATES UNDER VARIOUS ECOLOGICAL CIRCUMSTANCES (1981/82) -----------------------------------------------------__----------------------__------------------ SmaIlholdings (coffee zone) Estates UM2 UMI UM3 Non- Irrigated irrigated ---------------------------------------------------------__------------------__------------------ Yield (kg/ha) 700 600 400 950 1250 Plant density (plants/ha) 1200 1300 1300 1300 - 1700 Area in coffee (ha) 0.3 0.2 0.15 90 110 Wage rate (Ksh/man-day) 11.70 11.70 11.70 11.70 11.70 Total costs per ha (Ksh '000) 8.1 7.5 6.0 19.3 23.6 Costs per kilogram (Ksh) 11.5 12.5 15.0 20.3 18.9 (USS) 1.21 1.32 1.58 2.14 1.99 -------------------------------------------------------------------__--------__------------------ Sources: Updated information from Ruthenberg (1980) (UM2 & non-irrigated estates), Jaetzold & Schmidt (1983) (UMI1), Schall & Schmidt (1976) (UM3), Magogoni estate records (pers, communication 1974) (irrigated estates), J. de Graaff, op. cit. 15. According to a CRF study, coffee is the most profitable enterprise in the smallholdter sector in most of the coffee growing areas (see Table 9). In most areas, coffee is closely followed in profitability by maize and beans. 16. Some mention should be made, however, of the interpretation of the data comparing the profitability of coffee and other crops. Coffee is a cash- crop; meaning that a well-established marketing system exists for farmers to sell it and obtain cash in return. Maize/beans and other crops in the coffee- growing areas are mainly grown for on-farm consumption and marketing systems for these crops are either poorly organized or do not exist. In fact, it is generally illegal to transport maize from one district to another unless special permits are obtained. Farmers thus do not decide whether to grow coffee or maize solely in terms of the relative profitability of the two crops  - 13 - Table 8: KENYA COFFEE--COST/BENEFITS OF ADOPTING PROPOSED a!' INPUT PACKAGES RECOMMENDED BY CRF ----------------------------------------------------------------------__-----__------------------ Yield Group (from low to high) 1 2 3 4 5 6 Current Input Inputs: Fertilizers 271 517 479 634 749 1,065 Expenditure Fungicide 186 272 480 795 943 1,178 (Ksh) Insecticide 74 111 111 148 148 259 Sub-total 531 9000 1,070 1,577 1,838 2,502 Knapsack Sprayer (hired e 55/round) 55 110 165 275 275 330 Total 586 1,010 1,235 1,852 2,113 2,832 Proposed Input Fertilizer 271 377 494 681 864 1,153 Expenditure Fungicide 529 847 1,147 1,297 1,448 2,048 (Ksh) Insecticide 37 37 37 37 37 37 Sub-total 837 1,261 1,678 2,015 2,349 3,238 Knapsack Sprayer 250 350 350 350 350 350 Total 1,087 1,611 2,028 2.355 2,699 3,588 Additional Fertilizer - (140) 15 47 117 88 Expenditure Fungicide 343 575 667 502 505 870 (Ksh) Insecticide (37) (74) (74) (111) (111) (222) (including hired labor) Sub-total 306 361 608 438 511 736 Knapsack Sprayer 195 240 135 75 75 20 Hired labor - 1,065 1,901 1,666 1,288 1,214 Total 501 1,666 2,694 2j179 1,874 1,970 Current Revenue (Ksh) Q4.30/kg cherry 1,806 4,440 7,600 11,965 18,135 25,585 Expected Revenue (Ksh) 6,020 9,783 13,921 18,060 22,575 30,100 Additional Revenue (Ksh) 4,214 5,343 6,321 6,095 4,440 4,515 Net Benefit (Ksh) of adopting input package 3,713 3,677 3,627 3,916 2,566 2,545 a/ The table shows how typical farmers in six yield level groups can increase their net revenues by switching to "proposed input expenditure" from "current input expenditure", farming practice. Source: J.D.M. Roe and J.K. Nyoro, ibid.  - 14 - Table 9: KENYA COFFEE: GROSS MARGIN PER MANHOUR OF THE MAIN ENTERPRISES WITHIN EACH SMALLHOLDER ZONE (KSH) Zone Central Central Central Kisii Machakos Enterprise UMi UM2 UM3 Coffee 7.6 7.0 6.4 5.9 5.4 Maize & Beans 7.4 6.2 5.6 7.4 4.4 English Potatoes 4.4 3.8 3.2 - - Dairy 5.4 5.3 5.0 16.5 4.0 Source: J.K. Nyoro and J.D.M. Roe "Economics of Agricultural Production on Smallholder Coffee Farms in Kenya--Supplementary Analysis," CRF. calculated from their market prices but also on the basis of the cash-food requirements of the family. A smallholder farmer would be hesitant to grow only coffee, even if coffee prices were high, because with the present payment system he would not be sure when and how much he would be paid for his coffee and thus planning for basic living would be very difficult. On the other hand, as a farmer ne!eds cash to pay for school fees, clothes, etc., he would also be hesitant to grow only maize/beans. 1/ Other factors to be taken into account in analyzing competition for land between coffee and maize/beans are: (i) coffee is a perennial crop with a lengthy gestation period; and (ii) in Kenya it is illegal to uproot coffee trees. 2/ 1/ The very high real maize prices in the mid-1970s encouraged farmers to allot at least some portion of their land for growing maize. 2/ Although illegal, it is difficult to enforce this law. Uprootings of live coffee trees are known to take place when coffee prices are low.  - 15 - (iii) Cross-Country Cost Comparisons 17. A comparison of production costs among major coffee producing countries was undertaken recently. The data are shown in Table 10. The figures under "cost per kg coffee" are slightly misleading as they do not take quality price premiums into account. To take quality price premiums into account, these cost figures were adjusted by adding 17% to Brazil, 10% to other arabica producers, 25% to robusta producers except Indonesia and 30% to Indonesia. These adjustment percentages correspond to the price differentials in international markets between Kenya's arabica coffee and other coffees. Kenya's relative production cost compares favorably in the column under "Comparable cost per kg coffee." 18. Cost comparisons with Brazil and robusta-producing countries are not directly relevant because coffee grown in these countries does not directly compete with Kenya's and because their production costs are lower due to the sun-drying process used (instead of washing). Among the washed arabicas, Kenya's production costs compare favorably with those of Colombia but not with Costa Rica. Part of the reason for the adverse comparison with Costa Rica is the higher labor requirement needed to produce high-quality coffee; but the figures suggest scope for increasing efficiency of labor in Kenya, especially in harvesting. (iv) Quality 19. Kenya produces the finest coffee in the world in large quantities. On average, Kenya's coffee fetches a 10% premium over standard arabica coffees of Central America and Colombia. Creat care is taken in picking, processing,  - 16 - Table 10: PRODUCTION COSTS PER HECTARE OF GREEN COFFEE IN SELECTED COUNTRIES (1982) ------------------------------------------------------------__---------------__----------------------- Costs of Labor Costs of Overhead & Total Yield Cost Comparable (man- Wage per Costs Material Establish- Costs (kg/ha) per kg Cost per kg days) Worker (US$) Inputs Costs (USS/ Coffee Coffee /a (USS/day) (USS) ha) (USS/kg) (US$/kg) Arabicas Brazil 75 3.0 220 220 280 720 600 1.20 1.40 Colombia 150 4.0 620 200 520 1,340 800 1.70 1.87 Costa Rica 150 2.4 360 380 580 1,320 1,200 1.10 1.21 Kenya Estates 400 1.5 600 750 800 2,150 1,100 1.95 1.95 Smalgholders 220 1.2 270 220 280 770 600 1.30 1.30 Rwanda 275 1.2 340 190 290 820 700 1.20 1.32 Cameroon Arabica 90 2.0 180 70 90 340 200 1.70 1.87 Robustas Robusta 110 2.0 220 50 100 370 400 0.90 1.13 Cote d'lvoire 70 2.5 180 20 60 260 300 0.90 1.13 Indonesia 120 1.7 210 60 120 390 500 0.80 1.04 /a Adjusted to take quality price premiums into account. Source: J. de Graaff, op. cit. sorting, grading and classifying. 1/ Strict guidelines are observed at each stage. Coffee cherries are picked one-by-one and sorted depending on ripeness (classified to Cherry I, Cherry II and Mbunis) before pulping at co-operative factories. Co-operative factory washing and drying processes are carefully 1/ "Grading" in Kenya refers to sorting green coffee beans by size. This operation is carried out by KPCU. In general the larger the size, the higher the price fetched at the Nairobi auction. "Classifying" refers to labelling coffee on the basis of liquoring tests done by the Coffee Board of Kenya.  - 17 - monitored by factory managers. Estates have their own factories, so they wash and dry coffee themselves and deliver it to KPCU. When delivered to KPCU, parchment coffee is hulled and the resulting coffee beans are milled and graded. Before auctioning the coffee at the Nairobi Auction, the Coffee Board liquors and classifies them into ten "classes." This "classification" forms the base to determine how much a particular lot and thus factory should be paid for coffee delivered. However, at auctions only "grades" are disclosed to traders. Traders undertake liquor tests to decide how much they are willing to pay for lots offered at the auction. The Coffee Board keeps track of the prices each "class" of coffee fetches at the auction and calculates payment schedules to factories and estates. Table 11 shows the CBK's payments for all "classes" of coffee for 1983/84. Table 12 shows CBK's payments for some aggregate "classes" of coffee in recent years. As these tables show, there are large price differentials among "classes." Thus payments to factories and estates also can vary widely. 20. Two points should be clarified here on the quality-payment relation- ship. First, no detailed analysis on "classes"-"grades"-"prices at auction" relationships have been made in Kenya. Such analysis would be helpful to capture the impact of trends in demand and prices on quality, which, in turn, would help Kenyan authorities in making future policy on payment of quality premiums in a dynamic world coffee market. Another point is that although Kenya's coffee marketing system is very quality conscious, there are very limited incentives for a smallholder to improve quality. "Average" prices are paid to factories and not to individual smallholders. Thus, a quality improvement made by a smallholder is rewarded only to the extent that his improvement raises the average quality of coffee his factory delivers to KPCU.  - 18 - Table 11: KENYA COFFEE: NET PAYMENT BY CBK TO KPCU BY "CLASSES" OF COFFEE--1983/84 -------------_.-------------------------------------------__------------- Ksh/kg Ksh/50 kg -------------_.----------------------------------------------------__---- Clean Coffee 1 42.45 2,122.50 2 42.15 2,107.50 3 41.95 2,097.50 4 41.50 2,075.00 5 40.80 2,040.00 1-5 41.40 2,069.95 6 37.80 1,890.00 7 16.40 820.00 8 15.35 767.50 9 14.30 715.00 10 13.25 662.50 ----------_.----------------------------------------------------_ 6-10 29.00 1,450.04 ----------_.--------------------------------------------------__- 1-10 38.06 1,903.09 ----------_.--------------------------------------------------__- Hulled MBUNI I 32.55 1,627.50 II 13.95 609.50 III 13.15 657.50 ----------_.----------------------------------------------------_ 1-III 25.03 1,251.41 ----------_.--------------------------------------------------__- AVERAGE 36.65 1,832.68 -------------_.-----------------------------------------------__--------- SOURCE: CBK. 21. The "acid" taste of Kenyan coffee is much preferred by West Germans and Scandinavians. Due to its altitude and climate, Kenyan coffee is a unique kind with limited direct competition from other coffees, such as from Ethiopia, Tanzania and Papua New Guinea. It should be noted, however, that although some countries such as West Germany, Sweden, Finland and Austria  - 19 - Table 12: KENYA COFFEE: NET PAYMENT BY CBK TO KPCU BY AGGREGATE "CLASSES"---1976/77-1983/84 Classes 1976/77 1977/78 1978/79 1979/80 1980/81 1981/82 1982/83 1983/84 1-5 Quantity (mt) 63,995 62,669 60,248 66,854 63,653 53,832 55,608 84,068 Price (Ksh/50 kg) 2,205 1,447 1,369 1,322 1,285 1,666 1,903 2,070 6-10 Quantity (mt) 28,921 13,268 7,506 17,192 23,911 22,690 19,340 30,945 Price (Ksh/50 kg) 1,684 987 1,208 1,035 692 1,023 1,500 1,450 MBUNIS Quantity (mt) 4,430 5,492 5,134 6,963 11,186 10,400 10,504 13,931 Price (Ksh/50 kg) 1,266 707 1,056 973 622 764 1,354 1,251 -----------------------------------------------------------------__----------__----------------- Source: CBK. prefer Kenyan coffee and pay high premiums for it, traders/roasters of other countries such as the United States or Japan do not value "acidity" much and are not willing to pay premiums for Kenyan coffee. 22. The premium Kenyan coffee enjoys over other coffees-depends on supply and demand. A statistical analysis shows that the premium has been strongly related to Kenya's export quantities. The larger the exports, the lower the premium. In elasticity terms, a 10% increase in Kenya's exports reduces its premium over the "ICO Other Milds Indicator" by 1.7%. 1/ 1/ The following regression equation was estimated to evaluate the impact of Kenya's exports on the premiums paid: log XUV/ICO = 1.20 - 0.17 log XKEN - 0.13 DMNQ (3.63) (2.77) R2 = 0.61 D.W. = 1.29 Period of Estimation: 1968-1984 where XUV/ICO = Kenya's coffee export unit value over ICO Other Milds Indicator Price. XKEN = Kenya's export quantity ('000 bags) DMNQ = Kenya's export quantity to non-quota markets ('000 bags).  - 20 - (v) Government Policies 23. The government intervenes in the coffee sector in the following major areas: (a) gazetting of land, (b) control of planting materials, and (c) imposition of export taxes. Some details of each intervention are given below: 24. Gazetting of Land. Coffee is allowed to be grown in Kenya only in areas specified or gazetted by the government. The gazetting is a means to control quality and, to some extent, quantity. Although the gazetting makes it illegal to grow coffee in other areas, this law is not strictly enforced. Following the "coffee boom" in the late 1970s, coffee was planted in a number of "ungazetted" areas. 25. Control of Planting Materials. The government attempts to control production through its control over the availability of seedlings. A policy of restricting area expansion, and thus production, by this means was adopted during the period 1966 to 1972 and 1980 to the present when Kenya had to restrain production due to the imposition of the ICA quotas. 26. This measure, like the gazetting regulation, has not been very effective--especially in recent years. Even during years of tight control, farmers were able to obtain seedlings for infilling purposes which many farmers used to expand coffee acreage. 27. Export Tax. As shown in Table 13, the coffee export tax in Kenya is low in absolute terms; it is especially low compared with other coffee- exporting courntries. As the export tax schedule is progressive, the effective tax rate increases with coffee prices. Thus tax rates were 6-7% during the years 1978/79-1979/80 and over 9% in 1984/85. The high rate in 1984/85 was due to the high coffee prices in terms of Kenyan shillings which in turn was due to the substantial depreciation of the Kenyan currency against the US dollar.  - 21 - Table 13: KENYA COFFEE: EXPORT TAX AND COUNTY CESS--1977/78-1984/85 1977/78 1978/79 1979/80 1980/81 1981/82 1982/83 1983/84 1984/85 --- -- --- -- --- -- --- -- --- -- --- -- --- -- -- I-------T- - - - - -----------------------__ _ _ _ _ _ _ _ _ _