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COMPARISON OF COORDINATION MECHANISMS AND PERFORMANCE
BETWEEN THE SUGARBEET AND NAVY BEAN SUBSECTORS

presented by

James Albert Jacobs

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MASTERS OF SCIENCE AGRICULTURAL ECONOMICS

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COMPARISON OF COORDINATION MECHANISMS AND PERFORMANCE
BETWEEN THE SUGARBEET AND NAVY BEAN SUBSECTORS

By

James Albert Jacobs

A THESIS

Submitted to
Michigan State University
in partial fulfillment of the requirements
for the degree of

MASTERS OF SCIENCE

Department of Agricultural Economics

1988

ABSTRACT

COMPARISON OF COORDINATION MECHANISMS AND PERFORMANCE
BETWEEN THE SUGARBEET AND NAVY BEAN SUBSECTORS

BY

James Albert Jacobs

Sugarbeets and navy beans, though often grown in the
same crop rotation, utilize different mechanisms to
coordinate economic activity in the production-value adding-
distribution sequences for those commodities. This study is
interested in the performance of those coordination
mechanisms. The differences in the evolution of sugarbeet
and navy bean coordination mechanisms were found to not be
randomn, but rather systematically related to the relative
degrees of inherent uncertainty and specificity of assets
committed to their production and marketing. Sugarbeets,
facing more inherent uncertainty in terms of product
perishability and asset specificity, are produced solely
under forward contracts. Sugarbeets were found to exhibit
more stability and better coordination than navy beans
produced under a mix of spot markets and forward contracts,
with the spot market being the predominant mechanism.
Contracting was found to have many benefits over the spot
market as a coordination mechanism, and based on the case of
sugarbeets, expanded use of forward contracts is recommended

for navy beans.

ACKNOWLEDGEMENTS

I wish to express my sincere appreciation ix) those
who have made my graduate studies possible. I am grateful
to Dr. Jim Shaffer for his guidance and patience during my
studies and the course of this thesis. I also wish to thank
Dr. Jim Hilker and Dr. Joe Saunders for their contributions
and advice during my thesis research. I would also like to
thank my fellow students who through their friendship and
encouragement helped keep my endeavors in perspective.

I am also grateful to the members of the sugarbeet
and navy bean industries for their cooperation, for without
it this study would not have been possible. In addition, I
would like to thank the Agricultural Marketing Service of
the United States Department of Agriculture and the Michigan
Agricultural Experiment Station for their support of this
thesis research.

Most of all” II would like to thank my parents and
family for their continued support, understanding, and faith
in my pursuits and interests. And I especially dedicate
this to my grandmother, who through her quiet courage and

ba31c faith in people, is a constant source of inspiration.

ii

1.

TABLE OF CONTENTS

Introduction

1.1 A question of coordination
1.2 Coordination and subsector organization
1.2.1 Coordination and subsector analysis: Individual
policies for individual problems
1 3 Instability and coordination
1.4 Uncertainty as a source of instability
1 5 Isolating coordination performance
1.5.1 Orderly marketing: The result of good
coordination?

. Overview of the mechanisms of exchange for sugarbeets

2.1 Introduction

2.2 Overview of the sugarbeet production system
2.2.1 U.S. sugarbeet production
2.2.2 Sucrose. Critical component of sugarbeets
2.2.3 Sugarbeet harvesting and handling
L L 4 Determining the value of the sugarbeet
2. L 5 Sugarbeet storage and the maintenance of

sucrose levels

2.3 Sugarbeet forward contracts
2.3.1 Sugarbeet contract provisions
2.3.2 The Eastern sugarbeet contract
2.3.3 The Western "sliding scale" sugarbeet contract
2.3.4 The MinnDak grower cooperatives

ower bargaining associations

e sugarbeet processor

e market for sugar: A ”sweeteners" market

S. sugar policy

7.1 World sugar markets and sugar price volatility
7. 2 U.S. sugar price supports

7. 3 The U.S. sugar program and domestic

7.

c

2.4 G
2.5 T
2 6 T
2 7 U.

sugar production
4 Summary of the U.S. sugar program

r
h
h
L
2.
L
L
2.8 Con lusion

Page

3. Comparison of coordination of sugarbeet
and navy bean subsectors

3.1
3.2
3.3

3.4

3.5

3.6
3.7

3.8

Introduction
The navy bean subsector as compared to sugarbeets
3.2.1 U.S. navy bean production

3.2.2 Navy bean public policy

Navy bean exchange mechanisms

3.3.1 The navy bean spot market

3.3.2 Navy bean forward contracts

Comparison of product characteristics and potential
uncertainty

3.4.1 Reducing potential uncertainty through forward

contracts
4.2 Asset specificity
4. 3 Site specificity
4. 4 Physical asset specificity
4.5 Asset specificity and its influence on market

formation

4.6 Uncertainty as a possible source of stability
su uring instability in the sugarbeet and navy bean
se ectors

5.1 Applying the INS method to sugarbeets

and navy beans

5.2 Public policy programs as a source of stability
5.3 Exchange mechanism functions and the INS data
R gional sugarbeet production and the INS data

3.6.1 Regional navy bean production and the INS data
Assessment of subsector coordination: More than the
INS measure

3.7.1 Forward contracts and improved information
3.7.2 1986 Michigan floods case study

Conclusions

3.
3.
3.
3.
3.
Mea
sub
3.
3.
3.
e

iv

4. Summary of coordination in sugarbeet and navy bean subsectors

4.1
4.2

4.3
4.4
4.5
4.6

Introduction

The U.S. sugar program stabilizes sugar demand

in the short run

4.2.1 The sugar program encourages the adoption
of substitutes in the long run

4.2.2 Navy bean public policy does not encourage the
adoption of substitutes in the long run

Contracts promote a more orderly market than

the spot market

Bargaining associations can promote more

orderly markets

Sugarbeet growers enjoy a higher degree

of market power

Expanded use of contracts to improve navy bean

to coordination

4.6.1 Impediments to Act of God clauses in Michigan
bean contracts

4.6.2 Navy bean fixed price versus formula price
contracts

4.6.3 Conclusions on increased use of navy bean
forward contracts

4.6.4 Suggestions for the navy bean spot market

4.7 What can the sugarbeet subsector learn from the

4.8

navy bean?
Future research

Appendix A: Sources of information

Bibliography

113
113
113
115
118
119
123
125
128
129
132

134
136

140
142

145
148

Table

Table

Table

Table
Table

3.1

3.2

3.3

4.1
4.2

LIST OF TABLES

INS Measure of Instability for U.S. Sugarbeets
and Navy Beans

INS Measure of Instability by Region for U.S
Sugarbeets

INS Measure of Instability by Region for U.S.
Navy Beans

U.S. Per Capita Caloric Sweetener Consumption

U.S. HFCS and Sugar Prices

vi

Page

82

92

96
116
117

Figure 3.1:
Figure 3.1:
Figure 3.3:

Figure 3.4:

LIST OF FIGURES

Page

Graph of U.S. Navy Bean Prices, Nominal 62
Graph of U.S. and World Sugar Prices, Nominal 85

Graph of U.S. Raw Sugarbeet Production, Tons
Per Acre 102

Graph of U.S. Sugar Extraction Rate Percentage
For Sliced Sugarbeets(Processed) 103

vii

Chapter 1
INTRODUCTION

1.1 A QUESTION OF COORDINATION

This study is primarily concerned with the fundamental activity of
agricultural markets: the coordination of economic activity involved in
the production-value adding-distribution sequences responsible for
bringing an agricultural commodity from the field to final consumer.
The concept is known as ”vertical coordination", described by Mighell
and Jones(1963) as : ”All ways of harmonizing the vertical stages of
production and marketing. The market—price system, vertical
integration, contracting, and cooperation singly or in combination are
some of the alternative means of coordination." Marion(1986) describes
a vertical arrangement for agriculture as a "subsector”, viewed as an
interdependent array of organizations, resources, laws, and
institutions involved in producing, processing, and distributing an
agricultural commodity. A number of industries are usually included in
a subsector, and this study will focus on the coordination mechanisms

at work in the sugarbeet production and processing industries.

The chief objectives to be addressed are embodied in these
questions: "what institutions and mechanisms are currently coordinating
the production and exchange of the commodity?', ”How well are they
working and what factors influence their performance?", and "What
changes, if any, can and should be effected to improve coordination?".

1

2
The goal is to build upon a detailed examination of the coordination
process for a specific commodity to not only draw some conclusions on
the implications for that commodity subsector, but also to add further

information to theories of coordination in general.

Coordination has been noted to refer to both a process and a
state(Marion 1986), where the state is an ideal of performance
evidenced by perfect harmonization of economic stages(Lang 1978). The
concern is with an assessment of the coordination process tempered by
the understanding that determining the optimal level of coordination,
let alone recommending ways to achieve it, is limited by the need to
reconcile the multiple goals of market participants as well as multiple
dimensions of performance. The objective of identifying an ideal state
of coordination is replaced by a more pragmatic goal of first gaining
insight into the coordination processes of sugarbeet markets, assessing
the resulting performance, and then giving recommendations, if any,
that will improve coordination in a manner that best meets the
perceived interests of the market participants. Each agricultural
commodity market is affected by a number of unique factors, and a
possible outcome of the identification and analysis of those factors is
that the market is coordinated as best as can be given the present

circumstances, or environment.

A topic meriting consideration is "What are the implications of
either the current state of coordination or recommended changes on the

macro-economy or general welfare of the public?‘I Establishing clear

3
causal relations between institutions and events at a single interface
is very difficult. Identifying causations and impacts across the
entire economy is beyond the practical scope of the study. However, it
could be argued that improvements in the coordinating efficiency of a
vertical system should benefit almost everyone. This study examines
mechanisms and associatied policies at a single interface and must give
chief consideration to the interests of only those individuals or
organizations directly involved in the production-value adding-
distribution sequence for sugarbeets, not social welfare in general,
though a case can be made that since it includes the consumer, the

publics welfare is considered.

Implicit in the statement of the objectives in the opening
paragraph is that coordination does not flow automatically in the
neoclassical economic sense from the workings of price in the
marketplace. True, market price is the chief signaller of economic
activity in the market, but cannot be assumed the sole director of
transactions because of the unrealistic assumptions upon which the
theory is based, especially those of perfect competition and perfect
information. Government programs, contracts, and vertical integration
are a few of the arrangements that often work in conjunction or in
complete replacement of the spot market price in coordinating activity.
It is recognized that real world conditions, especially uncertainty
both in the price discovery process and over future outcomes, can
inhibit the ability of price alone to coordinate activity. Mechanisms

and institutions then arise in response to the inability of price alone

4
to coordinate in a manner acceptable to market participants, which
ideally create the proper incentives or restraints to economic behavior
that ultimately improve coordination. These actions are a response by
individuals to obtain a greater amount of control over events and
decisions occuring in an uncertain environment, but greater control
does not guarantee better coordination, and in fact excessive control
at the expense of others may be a detriment. The role of uncertainty
is accorded much validity in the impetus to create alternative
mechanisms to the market for transactions, and an entire chapter will

be devoted to uncertainty’s impact on coordination.

Vertical integration removing an economic transaction from the
marketplace is one such mechanism where the price system no longer is
involved in the coordination of that transaction, often because the
level of uncertainty in the market is such that the cost of that
transaction in the marketplace is greater than the cost of
internalizing the transaction. It is assumed that there are costs
beyond those incurred in the physical production of a product, namely
the costs of using the market, or ''transactions costs". Costs of
using the market can warrant the rise of alternative structures to
facilitate a transaction, such as contracts or total integration within
a firm. Nilliamson(1981), Coase(l952), and others have presented
plausible cases for the impact of transactions costs on market
organization, and transaction cost theory will be explored further in

explaining coordination behavior in sugarbeet markets.

5
1.2 COORDINATION AND SUBSECTOR ORGANIZATION

In recent years, the organization and coordination of many
agricultural subsectors have undergone significant changes, especially
the demise of markets being the only link to a number of small firms to
the rise of systems with medium and large firms linked by contracts,
vertical ownership, and joint ventures. Reflecting the changes in
agriculture over the past 50 years, this phenomena led to an increased
interest in the organization and coordination of agricultural
industries. One of the earliest and most ambitious endeavors examining
changes in the organization of the U.S. food system was undertaken by a
group known as the NC 117 Research Project, a mechanism for
coordinating research among participants from land grant universities
and the U.S.D.A. A principal area of focus by NC 117 was on
subsector organization and coordination, recognizing one, that there
was inadequate information on the organization of various commodity
subsectors, and two, analysis of coordination by subsector beyond the
individual firm or market was a relatively recent undertaking for
economists. Although there were a variety of theories about firm and
market behavior, there were no well-developed theories of subsector

organization and performance.

Seen as a compelling challenge, NC 117 researchers undertook
studies on a number of commodity subsectors utilizing an adapted
analytical framework of industrial organization theory to guide the

case studies. Henderson(l975) and Marion(1976) adapted the structure-

6
conduct-performance paridigm(S-C-P) to subsector analysis, positing
that basic conditions plus subsector structure strongly influence
conduct in the subsector, which in turn has an important effect on
subsector performance. The resulting subsector studies did well to
describe in detail the workings of a particular subsector and when
possible, identified problems, but did not test the causal
relationships implied in the S-C-P framework. This study hopes to
build on the earlier studies and concepts put forth by the NC 117
project in two ways. First, the organization of a commodity subsector
not examined in the original studies, sugarbeets, will be described,
adding to the data base on agricultural subsectors. Second, the
analytical framework will be extended beyond the S-C-P paradigm to a
framework based on adaptation by Shaffer(l980) of the S-C-P paradigm

known as E-B-P.

E-B-P stands for environment-behavior-performance, and goes beyond
the S-C-P approach of a one way causation in that given a specific
structure, one can expect a certain set of conduct and performance
characteristics to be exhibited. The environment is seen as a more
dynamic setting of overlapping opportunity sets based on an individuals
position in the economy and constrained the organization to which he
belongs and its’ internal operations, market factors, and the ‘
prevailing uncertainty. Behavior is the response of individuals to
their environment, and performance is the outcome of the collective

behavior of all relevant participants.

7

The critical difference of E-B-P and S-C-P is that performance
acts in a ”loop“ relationship in that performance impacts the
environment, creating a new environment of opportunity sets. Like the
S-C-P paradigm, E-B-P allows the consideration of multiple performance
measures and the option to choose ones that are appropriate to the
analytical purpose. However, E-B-P goes further in allowing behavior
to be examined in its particular environment as opposed to what should
be based on the expectations attached to a given structure.
Redesigning the environment is seen as key to addressing a policy
approach to coordination problems, where the proper incentives must be
created to induce a desired change, or performance. Explicit to the
study will be a detailed examination of the environment and its impact

on coordination performance.

The environment of a subsector is made up of a complex
interworking of individuals, firms, government organizations, property
rights, and prevailing uncertainty. Addressing the environment of an
entire subsector from grower to consumer is a cumbersome task, and
attempting an even treatment of all stages and interfaces can cloud the
analysis of a specific interface. Therefore, in building on the
original NC 117 interest in vertical coordination through subsector
studies, this work will be a "Sub" subsector study, focusing the
coordination of a single commodity interface, the exchange of
sugarbeets from grower to first handler, in this case, a sugarbeet

processor.

8

From the single interface of raw sugarbeet exchange, the study
will be extended to the examination of a second agricultural market,
that of navy beans, to act as a reference point for comparison of
similar interfaces to hopefully gain insight into causations of
coordinating activity across different markets. One of the
recommendations for further research coming from the NC 117 project was
for the extension of subsector analysis into the causal links across
markets. This study will attempt it in a conservative manner in that

only two specific interfaces will be analyzed.

Navy beans were selected as a comparison commodity because in many
regions they are grown in the same rotation as sugarbeets, but are
marketed and exchanged under dramatically different mechanisms. The
use of contracting specifically will be the focal point, since it is
the dominant exchange mechanism for sugarbeets and though used somewhat
less, an important tool for navy bean marketing. Sugarbeets will be
considered the primary commodity of the study, with navy beans
introduced as a secondary commodity for comparison. Chapter Two offers

a detailed description of both commodities.

1.2.1 COORDINATION AND SUBSECTOR ANALYIS: INDIVIDUAL POLICIES FOR
INDIVIDUAL PROBLEMS

Agriculture has been receiving considerable media attention over
the past year, and deservedly so, given the severe decline of the farm
economy. The attention has come in the form of broad "brush strokes"

of generalizations however, and though not the intent, have lumped all

9
commodities and their subsectors into a single industry, farmers.
Policy decisions come to be based on emotions, with calls for sweeping
reforms such as those advocating a more "free market” or supply
controls aimed at helping the farm economy overall. My purpose is not
to debate farm policy and the cure to the farm economy’s current state,
but rather to point out that there are hundreds of unique agricultural
subsectors, each with a different environment, structure, and demand
curve allowing some to be faring better than others. Though there is a
need for setting broader, general farm policies as a direction or
mission statement, of equal or greater importance to actually
addressing the ”farm crisis" is policy addressing the needs of each
subsector or industry individually in terms of the environment that
each operates in. This study can be thought of a policy support paper
in that in addition to assessing current policy, it should provide
policymakers a better understanding of the workings of the individual

commodities examined.

1.3 INSTABILITY AND COORDINATION

Related to the above discussion on the farm crisis is the notion
that the root of the problem is one of coordination, not production.
Not that they operate separately, and excessive production can be both
a cause and evidence of poor coordination, but shortfalls of supply is
rarely mentioned as problem in agriculture. Rather, in "so many
words", coordination of supply with demand is seen as the culprit.

Whatever the reasons, be it weather, government policies, or demand

IO
shifts, there is evidence across many agricultural commodities that
markets are not coordinated as best they can be. Though admittably a
simplification, and the markets may be coordinated the best they can
given the environment, poor coordination as exhibited by excessive

supply and price instability is the real problem in agriculture.

Price changes alone as dictated by changes in supply and demand is
not instability, but rather evidence of the market working according to
economic realities. Instability instead is a negative term associated
with the degree of predictability afforded to market participants over
future market conditions, or rather, a lack of predictability.
Excessive instability is such that there is a high degree of
uncertainty over future results of decisions. In agriculture, the
consequences of a decision, such as how much to produce, is generally
lagged many months. Planning becomes difficult under high degrees of
uncertainty, with errors in decision making being both a cause and
effect of excessive instability. Excessive instability and resultant
unpredictability is generally pointed to as evidence of poor
coordination, or at the very least, its’ existance should warrant an
examination of the coordinating mechanisms at work. Uncertainty and
instability are seen as closely linked, and the next section will
overview further uncertainty and coordination, and Chapter Three will

expand further on the role of instability in agricultural markets.

11
1.4 UNCERTAINTY AS A SOURCE OF INSTABILITY

Compared to most industries in our economy, agriculture is
generally agreed to exhibit substantially more instability. With most
industries, there can be a reasonable amount of certainty in the
quantitiy of output from a known quantity of inputs such as raw
material, labor, and capital. Hhile the agriculture producer can have
just as accurate an idea of the quantity of inputs they are employing,
the resultant quantity of output can be far more uncertain, primarily
due to the exogenous effects of weather and disease. Other industries
can and do experience various types of uncertainty, such as demand and
the supply of raw materials, but these are uncertainties also faced by
agriculture producers. Heather and disease effects on yields create an
added measure of uncertainty not seen in most other industries, and is
felt to be relatively uncontrollable beyond agronomic advances in
disease prevention and irrigation techniques that minimize their
effects. For the purpose of this study, weather and disease still play
a significant role in the production of most agricultural commodities

and are assumed largely uncontrollable.

If weather and disease were the only factors felt to be creating
the instability problem in agriculture, little could be done to improve
the stability of agricultural markets aside from agronomic advances.
However, there is another reason for the instability found in
agriculture not seen in other industries. While all industries,

including agriculture, have a system in place facilitating the transfer

12
of product from one stage to the next, most non-agricultural industries
have a better coordinated mix of contractual and vertical integration
mechanisms of exchange less inhibited by the uncertainty of supply
either from the preceeding stages or of its own processes. What is
needed at the next stage is generally what is produced in the preceding
stage. This is not the case in the food system, with uncertainty of
supply creating a system of exchange mechanisms not only for the
exchange of a product, but also an array of mechanisms and institutions
whose primary purpose is to deal with the potential uncertainty of the
market, or at the very least are functionally affected by the
uncertainty. Coordination of supply with demand, especially at the
producer level, is perceived as a significant problem in agriculture,
and our interest is in deficiencies in coordination beyond those
instigated by weather and disease factors. Deficiencies in
coordination beyond weather and disease factors adding to the
instability present, be it price or supply instability, is assumed

controllable.

1.5 ISOLATING COORDINATION PERFORMANCE

Coordination mechanisms operating poorly, or those that could
improve coordination but are not employed also contribute to the
coordination problem. Failures in coordination mechanisms can then be
both a cause and a result of the coordination problems present in an

agricultural system.

13

Hhat constitutes poor coordination in an industry is not always a
consensus opinion, though identifying a result of poor coordination is
likely to be easier than isolating the causation(s). Evidence of poor
coordination can be fairly overt, such as in the existance of gluts and
shortages or wildly unpredictable price fluctuations, or it can be
labeled in more “slippery” economic terms, such as inequitable returns
to production, product characteristics not meeting buyer preferences,
or inefficient allocation of resources. In either case, matching the
evidence of poor coordination to the explicit and conclusive cause of
its’ existance is a difficult task. For instance, are persistant gluts
and shortages the result of intentional guile on the part of other
system members, impacted or inefficient flows of information to
producers, U.S. trade policy, or are they merely rooted in the
biological characteristics of the commodity itself. Data on
production, price, and demand will be examined for evidence of possible
coordination problems, such as in the form of gluts and shortages or
random and erratic price changes. Quantitative analysis will serve as
a framework in classifying sgme of the effects of poor coordination,
but the ultimate assessment will lie in the real world case study of

the mechanisms and environment of the sugarbeet and navy bean markets.

Given the dynamics of the economy in general, a combination of
factors is likely, often with one acting as a catalyst for another,
creating blurred boundaries to the neatly separated textbook economic
causes. A logical beginning approach to assessing causations and

effects of instability would then seem to be starting with a single

14
transaction point, getting a detailed understanding of the mechanisms
at work there, and then working out to broader indirect or third party
effects. This study emphasizes the role of the individual environment
in understanding instability, recognizing that straight mathematical
comparisons across markets can only be a signal if at all that
coordination problems exist, but never a proxy for the degree of
coordination effectiveness. Coordination effectiveness must be
assessed according to each institutional setting of a transaction and
the forces impacting their performance, especially the degree of
uncertainty. Markets are not freely flowing ”animals”, but rather,
operate according to the institutional structure in which the exchange
takes place. Changes in market institutions, gjygn the environment,

are assumed to potentially change market performance.

Hith mechanisms and institutions impacting coordination assumed to
be potentially controllable, the intent of public policy aimed at
improving market coordination should be on what institutional change or
conditions are necessary to achieve that goal in an individual market.
Lowe(l969) characterized this form of analysis as "instrumental
economics“, first identifying policy goals and then ”working back” from
the goals to identify preconditions of their achievement.
Heilbroner(l970) expanded on this by suggesting economics become a
"policy-oriented instrument whose major theoretical purpose is to
discover what ‘premises’-what behavioral forces, what technological
constraints, what instituitions-would be necessary to attain targets or

goals.” Heilbroner contrasted this economic philosophy with the

15
neoclassical application of economics as a science, that 'deduces its
conclusions or predictions from secure premises of behavior and
technology." Lang(1980) rightly interpreted Lowe’s policy approach as
a major, long-term goal of the economic profession. For this study the
concept of instrumental economics serves as a philosophical
underpinning, supporting the belief that overt efforts for

institutional and behavioral change can achieve a desired policy goal.

1.5.1 ORDERLY MARKETING: THE RESULT OF GOOD COORDINATION?

In addition to the basic interests of the study in creating a
better understanding of market coordination and coordination analysis
theories, another goal is that of assessing alternatives and changes in
public policy that may improve market coordination at the grower/first
handler exchange for sugarbeets navy beans. Public policy aimed at
market coordination often uses the term ”orderly marketing" as the goal
of a specific policy, especially those initiated or overseen by the
U.S.D.A.’s Agricultural Marketing Service. Programs such as price
reporting and marketing orders are instituted because of a perceived
desire by market participants for a more orderly market. Certain
factors exist, such as excessive supply fluctations or product
perishability, that if left to "free market” forces, many grower/first
handler markets would regress to states of poorer coordination. A more
orderly market is then the desired state of improved coordination over
the existing levels of coordination that triggered the policy

initiative. If a desire to improve coordination is embodied in the

I6
concept of orderly marketing, I would like to broaden the concept to
apply to all analysis of market coordination. First, there is a need

to explore further just what orderly marketing means.

Though often stated as a desire by agricultural market
participants and reiterated as a policy goal, the meaning of orderly
marketing has long been left to be inferred from the context of
legislation in which it was written and is not a well defined concept.
Orderly marketing implied a stable market with a measure of certainty,
but was not a term used in traditional economics and for the most part
a vague terminolgy left to individual interpretation. Shaffer(1986),
as part of an analysis of marketing orders that frequently stated
orderly marketing as goal, put forth a "workable definition" of orderly
marketing. Based on the pragmatic notions of market participants and
inferences from the marketing order legislation, Shaffer stated the
following definition: ”Orderly marketing refers to a process of
economic coordination by transactions among buyers and sellers which
consistently matches supply with potential effective demand at prices
consistent with the cost of producing and marketing the commodity."
Potential effective demand is added to simply demand to reflect that
good coordination should involve product characteristics matched to
buyer preferences not revealed through a purchase decision, and also to
include demand expansion for the better of the industry and to meet

future changes in demand.

17

The ability to adjust is seen as a critical element of properly
working coordinating mechanisms. A value judgement is attached to the
market performance in that it is more or less orderly, and not a
precise concept or an absolute performance criterian. Shaffer’s
analysis further states that supply will seldom exactly match demand at
prices exactly equal to the cost of production of the average firm in
the industry, nor that the definition will be consistent with other
criteria for market performance. However, since this study is
expressly concerned with coordination performance, orderly marketing as
defined above seems to embody the performance criteria that should flow
from improved coordination. Criteria put forth by Shaffer(1986) and
others that define orderly marketing will serve as the main performance
guidelines against which coordination of sugarbeet markets will be

assessed.

In addition to the above description, the process or state of

orderly marketing is characterized by the following:
' -Avoids gluts and shortages

-Facilitates the matching of supply with demand at prices

constitent with costs, including a reasonable profit.

-Minimizes unpredictable fluctuations in supplies leading to

larger fluctuations in price and thus unpredictable profits and

losses.

-Avoids situations where the actions of a few "spoil"

the market.

18

-Results in rewards going to suppliers who produce products
with characteristics most preferred by buyers.

-Facilitates the capture of benefits produced by investments to
improve quality, expand demand, or reduce costs for the industry
as a whole.

-Differences in prices generally reflect differences in costs and

are not random and unpredictable.

Other factors that should be considered but not mentioned in the
orderly marketing discussion include ease of entry/exit and quality of
information, though a number of the above criteria hinge on the quality

and availability of information in the decision process.

It is recognized that all of the above criteria may not be given
equal weight in the analysis due to varying amounts of information, and
not all criteria may be relevant. Those determined to be most relevant
will be based on the unique characteristics of the sugarbeet and the

mechanisms of exchange framed by environment in which they operate.

The notion of orderly marketing will serve two purposes: as a
guideline to information collection, and as a definition of performance
measures against which the information gathered can be analyzed.

First, since this is essentailly a case study, a good portion of the
information gathered is qualitative in nature, primarily through
interviewing industry participants and reviewing trade literature. The

orderly marketing criteria helps in determining which information is

19
the most relevant. Secondly, once the information is gathered, the
orderly marketing criteria allow it to be "catalogued" and assessed to

determine the level of coordination present.

So with the concept of orderly marketing in hand, the remaining
chapters will take the following course. First, a generalization of
the structure and and basic activities of the sugarbeet subsector will
be introduced, emphasizing the grower/first handler exchange. Second,
the existing institutions and mechanisms will be analyzed in terms of
why they have evolved given the environment they operate in, especially
in comparing specific arrangements and mechanisms across regions. What
has evolved will be related to theories and concepts of coordination
and behavior that will assist in explaining their functions and
evolution, especially theories of transactions costs and those
recognizing the role of uncertainty. And lastly, utilizing the
information gathered on sugarbeets, coordination of the grower/first
handler exchange will be assessed, using the applicable orderly
marketing criteria. Comparisons will be made to the similar
transaction node for navy beans, and alternatives to improve

coordination for sugarbeets will analyzed.

Chapter 2

OVERVIEW OF THE MECHANISMS OF EXCHANGE FOR SUGARBEETS

2.1 INTRODUCTION

The previous chapter posited the problem in agriculture as being
the coordination of supply with demand in the face of inherent
uncertainties created by weather, disease, and imperfect information.
The coordinating process in the production and marketing of sugarbeets
is felt to operate under similar constraints. This chapter will
describe the sugarbeet subsector and its mechanisms of coordination.
The generalizations on the sugarbeet system is a composite drawn from

industry interviews and reviews of trade literature and reports.

The stage will then be set for the next chapter on the "why’s" of
the coordination mechanisms that evolved expanding on the realities of
the environment and resultant behavior, and where possible, relate to
existing theories on coordination and behavior for explanations. The
following is a descriptive sugarbeet system reference guide, allowing
for subsequent detailed discussions on coordination to be unencumbered

by the to need clarify terminology at every turn.

21

22
2.2 OVERVIEH OF THE SUGARBEET PRODUCTION SYSTEM

The sugarbeet(also referred to as 'beet') is a cool weather
annual crop produced widely in the more temperate climates of the
world. Sugarbeets, along with sugarcane, constitute the only sources
of the the basic food staple, sugar. Though sugar has been produced
for hundreds of years, up until the early 19th century sugarcane, a
tropical plant, was the only source. With the development in Europe
during the early 19th century of sugar extraction capabilities from
what is now commonly called the ”sugarbeet“, sugar production expanded
beyond traditional tropical growing regions to the temperate climates
of Europe, the Soviet Union, and the United States. Beet sugar now
accounts for approximately 40% of annual world sugar production.
Refined sugar can be from either cane or beet sources, and on the world
market these are considered an identical product. There are over 130

countries producing and marketing sugar.

2.2.1 U.S. SUGARBEET PRODUCTION

U.S. sugarbeet production is currently spread among twelve states,
down from 16 states a decade ago. Overall acreage has decreased as
well since a peak in 1975, though not in direct proportion to the loss
of acreage from states exiting sugarbeet production. Other states
responded with expanded acreage to where acreage planted has stayed
fairly level into the 1980’s. Most of the production is in the more
temperate nothern half of the U.S., though the use of irrigation has

23
allowed production in more dry climates such as the Imperial Valley of
California and eastern Colorado. Commercial production of sugarbeets
is solely for refinement into sugar, with beet pulp and molasses the
primary byproducts of economic value. There is no known direct
consumption of raw beets by humans on a commercial scale. All sugarbeet

use is derived from processing.

Sugarbeets are grown annually in a multi-crop, 3-to 5-year
rotation by independent growers and harvested mechanically each fall.
Yields are higher and disease is reduced if beets are rotated with
other crops, especially in highly fertile soils, since beets respond
better to fertile soils than many other crops. Rotations vary somewhat
by region, with corn, wheat, soybeans, potatoes, and dry beans being
the chief competitors overall for ground in the individual grower’s
enterprise. Prior to each spring’s planting, the individual sugarbeet
grower must decide among a mix of crops which ones to plant and in what
quantities. The decision to plant sugarbeets is then not only a
function of the expected returns of sugarbeets, but also the expected
returns from other potential crops in the growing enterprise. The
ability to substitute one for the other is not easy, however, and as
will be seen in the next chapter on specific enterprises, is a function
of more than just price. For now, the salient point is that sugarbeet
production is always part of a larger, multi-crop farming enterprise,
and the decision to plant sugarbeets is framed within a broader crop

mix decision.

24

No processor directly owns the acreage on which sugarbeets are
grown, though as we shall see in detail later, some growers do own the
processing operation through a cooperative arrangement in which they
are shareholders. In all cases, all beets are produced under
production contracts, written prior to planting, between the grower and
the processor. Payment provisions are based on a percentage formula
that, though slightly different by region in terms of profit and cost
sharing, is directly tied to the amount of sucrose delivered per ton of
beets. Returns from the sale of by-products may also be included in
the payment provisions, though in some regions the growers do not share

in the sales of byproducts.

2.2.2 SUCROSE: CRITICAL ECONOMIC COMPONENT OF SUGARBEETS

The sucrose content of the raw sugarbeet, about 16% of the beet,
is the critical variable in the returns to both the grower and
protessor given a fixed tonnage(tons is the standard unit for raw
beets). The economies of scale in processing are such that the costs
of extracting that extra percentage of sucrose present in a beet is
minimal when compared to costs of processing the beet itself regardless
of the sucrose percentage. Thus the higher quantity of sucrose per ton
of beets is the most important measure of yield. Production, handling,
and storage practices in addition to weather conditions can radically
alter the sucrose content of the raw beet. Foremost is the phenomena
of the harvested beet burning up sucrose once it is harvested.

Reproductively, sugarbeets are biennials harvested after the first year

25
of vegetative growth, and upon harvest, try to regenerate and continue
growing, all at the expense of the critical sucrose content. After
harvest the sucrose level steadily diminishes, meaning the sooner the
beet is processed, the higher level of raw sugar obtained from a ton of

beets.

2.2.3 SUGARBEET HARVESTING AND HANDLING

Sugarbeets are harvested in the fall, except in certain areas of
California where beets are harvested in the spring after a fall
planting. In all regions, there are fairly standard procedures for the
harvesting and delivery of raw beets. Beets are mechanically
harvested, and have been for at least the past 30 years. Hand
harvesting is not considered an economical substitute to mechanical
harvesting. The harvesters are large, efficient machines pulled behind
a standard sized farm tractor, and can cover 4 rows at speeds up to 5
miles per hour, allowing the individual grower with a few employees to
service the average operation of approximately 106 acres with a single
harvester. The harvest procedure begins with the removal of the beet
tops with a separate cutting machine, topping the beet and initiating
the respiratory burning of sucrose. The beet tops are removed as near
the planned harvest date as possible, and harvest commences thereafter,
with daily beet harvest constrained not only by limitations of man and
machine, but also the ability of the next stage, the transporting and

receiving of beets, to handle the raw beets.

26

Depending on where the grower is located, beets are delivered
either directly to the processing plant or to a receiving station
amidst the growing areas. Receiving stations assemble the beets from
local growers into larger loads that are shipped more economically,
either by rail or truck, to the processor. Some larger processors have
a system of receiving stations surrounding the plant, with
transportation economics determining the placing of the receiving
stations in relation to beet production and the processing plant. The
costs of transporting the raw beets from the receiving stations is
included in the cost sharing portion of the contract, with variations
in formulas evident across regions. Examples of different

transportation arrangements are given in further detail in Chapter III.

2.2.4 DETERMINING THE VALUE OF THE SUGARBEET

Hhether beets are delivered to a receiving station or a
processing facility, the same handling and assembling functions are
performed at each. Once harvested, beets are hauled from the fields on
large trucks arranged for by the grower, either through direct
ownership or contract carrier. Upon entry to the receiving station,
the load of beets, including the truck, are weighed and recorded into
an account for the individual grower. The truck then takes the beets
to a conveyer system that unloads the beets and removes any dirt,
stones, or tops, collectively called ”tare", from the load, and returns
the tare to the truck. As the beets are unloaded, samples are taken

for the purpose of establishing an average sucrose level for that load

27
of beets. The sample is taken to a tare room located at the receiving
station, the beet later tested, and a sucrose level for that load is
later credited to the growers account. The truck is then weighed again
on the way out, including the tare removed from the load of beets, and
this weight is subtracted from the original load weight yielding a net
tonnage of raw beets delivered. The net tonnage is applied to the
sucrose level delivered to determine the amount of sugar that that load
will produce, or raw sugar equivalant, and the grower’s account

credited for the raw sugar equivalant delivered.

The above process forms the basic building block for all sugarbeet
contracts, with differences in grower payments related to the unique
cost and profit sharing arrangements of specific regions. In all
cases, grower returns are directly tied to not only the net tonnage of
beets delivered, but also the amount of raw sugar derived from the

sucrose content of a specific load of beets.

2.2.5 SUGARBEET STORAGE AND THE MAINTAINANCE OF SUCROSE
LEVELS

When the raw sugarbeets are unloaded, they are stored in large
piles, up to a quarter of a mile long, until they are processed.
Limitations of processing plant capacity generally dictates that the
processing period of beets, called a campaign, extends well beyond the
harvest period. Therefore, beets are stored in piles for up to 5
months or longer while awaiting processing. During the storage period

the sucrose level of the piled beets steadily decreases, and is called

28
pile ”shrink", with certain conditions, such as unseasonably warm

temperatures or moisture, accelerating the loss of sucrose.

Various storage and handling practices can minimize the burning of
sucrose, such as covering or forcing air through the piles to take off
heat. These practices can be costly however, and the investment in the
storage and handling must be weighed against the benefits of increased
sucrose levels maintained until processing. Therefore, there is a
premium on not only attaining a higher sucrose level, but also on
maintaining the level or minimizing its decrease until the beet can be

processed, both of which must be compared with the required investment.

Uhile all sugarbeet growers and processors have some interest in
the sucrose level, the degree of investment necessary to maintain
sucrose levels is varied as evidenced by differences in storage
practices among regions. Heather conditions endemic to a region during
the harvest and storage of raw beets appear to be the significant
factor in the adoption of specific storage practices. In any case,
there are certain production and storage practices that optimize the
sucrose levels in the raw beet, and a detailed examination of the
specific practices and their impact on coordination will be discussed

in Chapter III.

29
2.3 SUGARBEET FORHARD CONTRACTS

As mentioned, sugarbeets are produced under a annual production
contract between the individual grower and the processor. Some
contracts do ask the grower to specify the acreage they are willing to
produce on over a two or three year period, mostly in the case of a
newly started processing operations. It is a kind of non-binding
indication to the grower that the processor is committed to being in
operation for at least the next few years, and if the grower agrees to
produce this year, he can expect the same acreage offering for two or
three more years. The processor, by asking about long range plans,
gets a feel for the growers’ desire to grow beets on an annual basis as
well as expected acreage. In all cases, however, the only binding
portion is the upcoming year, and even then there are ask-out

provisions right up to planting time.

When a contract is signed for the coming year, there is a mutual
agreement on the rights and obligations related to the sugarbeets grown
on a specified number of acres. The grower must deliver all beets
grown on the contracted acreage, meeting minimum quality requirements
spelled out in the contract, to the processor. Loads may be rejected
if they contain over a certain percentage of rotten beets. This
provision is supported by grower associations where pile losses are
shared between the grower and processor. Since rotted or spoiled beets,
when piled with ”good” beets, can increase the sucrose burning of the

entire pile, lowering the returns of all parties. Also, the processor

30
agrees to take delivery on all beets grown on the specified acreage
regardless of yields. Hith the contract the grower is guaranteed a
market, and the processor is given some parameters of expected supply.
An extremely rare occurence is either a grower producing beets without

a contract or processors purchasing non-contracted beets.

2.3.1 SUGARBEET CONTRACT PROVISIONS

While the actual contract is between the grower and processor,
there are annual negotiations, prior to planting, between the
processor and a bargaining association representing the grower. The
contract resulting from those negotiations is the standard terms
offered to all growers for that processing company. The contract terms
typically spell out the percentage payout based on the raw sugar
equivalant of the amount of sucrose delivered, though regionally, the
percentages vary. Contracts are not on a cost plus basis, but are
contingency contracts, where no one party is guaranteed a specific
dollar return, only a percentage of the profits from the sales of the
raw sugar. The grower is basically paid for his ability to deliver the
highest quantity of potential sugar, or sucrose, from a given number of
acres. The processor is basically paid on their ability to remove the
sucrose from the raw beet and transform it into sugar. The more
efficiently the processor can process the beets, the more the processor

can net from the sales of the sugar.

31

Though sugarbeet contracts are the same in that costs and returns
are shared between grower and processor in a predetermined formula,
these formulas vary across regions. Fortunately for the study, these
contracts can be categorized by region into three distinct types:
Eastern, Hestern “Sliding Scale", and the cooperative arrangements of
Minnesota and North Dakota. The following sections will briefly
examine the important differences in sugarbeet contracts across

regions.

2.3.2 THE EASTERN SUGARBEET CONTRACT

The Eastern contract is the type used for sugarbeet production in
Michigan and Ohio. The contract is characterized by a fixed percentage
formula for sharing costs and returns from the delivery, processing,
and sales of raw sugar and byproducts produced from the sugarbeets
delivered under contract. The following represents how costs and
returns are shared in the Eastern contract:

AI. Growers receive 52% of the gross sales of the raw sugar and

byproducts from the processing of beets they deliver.

A2. Subtracted from the growers gross returns are: 52% of the
costs associated with marketing and delivering the sugar, including
bagging, sales commission, advertising, storage of the refined product;
52% of the recoverable sugar lost in storage called pile "shrink", and

all of the costs from transporting the raw beets to the receiving

32
station or plant in a freight pooling arrangement for the individual

plant.

A3. The remaining profits are pooled and returned to the
individual grower on the basis of the raw sugar equivalants per ton of
beets determined by tests on each load delivered. All costs associated

with the production of the beets are borne by the individual grower.

Bl. The processor receives 48% of the gross returns from the sales

of raw sugar and byproducts from the beets they process.

82. Subtracted from the processors’ gross returns are: 48% of the
costs associated with marketing the sugar, including bagging, sale
commission, advertising, and storage of the refined product; 48% of the

pile shrink; and all of the costs of processing the beets.

B3. The remaining net returns are profits to the processing

company.

Note that the costs shared are fairly well defined, with growers
bearing all production costs and raw beet delivery costs, processors
bearing all the processing costs, and all other costs are shared on the

same percentage for each cost.

Since the returns to the growers are based on the sales of the

raw sugar and byproducts, the exact amount of the returns is often not

33
known for almost a year after the beets were initially harvested and
processed. Therefore, sugarbeet growers are paid on a calendar

schedule of periodic payments as the sugar and byproducts are sold.

The above arrangement is identical for the two processing
companies in the Eastern region, and the arrangement has changed little
over the past fifty years. Growers can sign contracts for up to five
years, but are not binding beyond one year in length, and even with a
one year contract, the grower is not obligated to grow at all. Field
men for the processor verify all acreage prior to and during planting,
and if a grower decides not to grow, the field man’s only recourse is
to shop the contract around to other growers. Conversely, if the
grower signs a contract, the processor must take delivery of all beets

of suitable quality from the acreage specified in the contract.
2.3.3 THE WESTERN "SLIDING SCALE" SUGARBEET CONTRACT

The Western sliding scale contract basically represents most of
the production west of the MinnDak region. Costs and profits are
shared between grower and processor in a formula, but differs from the
Eastern contract in the costs shared and the determination of returns.
Where the Eastern contract has a 52% grower and 48% processor
cost/profit sharing arrangement, the Western sliding scale contract
typically works out to where the grower receives about 62% of the net

returns and the processor 38%.

34

In the Western sliding scale contract, the grower is paid on the
sucrose delivered whereas the Eastern grower is paid on the basis of
the processed raw sugar equivalant of the sucrose delivered. The
sliding scale contract is called that because when the growers’ beets
are tested at delivery, the contract contains a scale that relates the
average sugar content of beets delivered with a per ton payment based
on the average net returns for the sugar. The higher the net returns
and the higher the average sugar content delivered, the more the grower
is paid. The scale differs from the Eastern contract in that a fixed
extraction rate is used to determine the scale payments, and the
average net return is the gross returns minus the the costs of
marketing and distributing the sugar. Any gains in processing
efficiency in terms of sugar extraction accrue directly to the
processor, while in the East the gains in processing efficiency are
shared with the grower because of their formula sharing in the gross
returns. Also, while the processor pays all the processing, storage,
and pile shrink costs, the processor does not share the sales of
byproducts such as molasses and beet pulp with the grower. Better
weather allowing for better storage conditions is one reason cited as
why Western beet processors are willing to bear the risks of pile loss

in exchange for keeping the returns from byproduct sales.

Based on the differences in contract formulas alone, it is not
possible to tell whether the Eastern contract or Western sliding scale
generally offers a better return. The Eastern contract does seem to

offer the better potential for sharing in increased efficiencies in

35
sugar processing and sugar sales. However, the Eastern grower also
shares more of the risk from poor storage conditions and a reduction in

processing efficiency.
2.3.4 THE MINNDAK GROWER COOPERATIVES

The MinnDak grower cooperatives differ from the other arrangements
in that the sugarbeet growers supplying the processor are also the sole
stockholders owning the processing company. There are three such
arrangements in the MinnDak region, and each are essentially identical

in arrangement.

One share of stock allows the grower to plant one acre of
sugarbeets from which the coop must take all the production. There is
an active market for the sale of stock, or the right to grow sugarbeets
for the coop, with the individual shareholder setting the offer price.
Share prices move in response to the demand by local farmers to grow
sugarbeets. The sale of stock must be approved by the coup’s board of
directors based on location and fit with the piling station-
transportation grid. Growers pay dues on a per share of stock basis to
the growers association, with voting rights "one man, one vote”

regardless of the amount of stock holdings.

The actual agreement between the grower owned processing company
and the individual stock holding grower is a two phase contract. The

first phaSe is a one-year binding agreement where the grower must

36
deliver all beets grown on a specified acreage. The second phase is a
longer term contract of 5 years to give the coop some idea of future
plantings, and is binding only under certain conditions. For instance,
if the farmer decides not to grow in any year of the five year
agreement, the coop has the right to buy back the contract from the
grower at the original purchase price and offer that contract to other
farmers. A penalty of sorts occurs when the market value of the stock
has risen since the original purchase price because the difference
accrues to the coop. The executive director of the largest coop stated
that this was not a common occurence for them, and usually happened
when poor soils or bad management caused beet production to be

uneconomical for some growers.

The coop grower returns are based on the returns from the sales of
sugar and all byproducts, from which the costs of processing,
marketing, administration, pile shrink, and tranportation is
subtracted. The remaining pool is returned to the grower on the basis
of recoverable sugar delivered. The payout arrangement is like that of
the Eastern contract, except the grower is a stockholder as well in the

company and shares in the net profits of the company.

The cooperative processing arrangement is fairly new to the
industry, with the first one adopted in the early 1970’s. They are
fast growing in terms of acreage expansion, and now collectively
process almost 30% of U.S. sugarbeet production. Processing plant

closings was the primary reason for growers, facing the loss of their

37
only market outlet, to organize and forward integrate into processing.
The stock ownership system is somewhat more long-term than the other
contract arrangements, but like those arrangements, growers are still

held to deliver production for only the upcoming harvest.

2.4 SUGARBEET GROWER BARGAINING ASSOCIATIONS

Generally, the basic contract is changed little from year to year,
and instead the negotiations appear to be more of a fine tuning process
aimed at improving the efficiency and productivity of beet production
and processing versus radical changes in payment provisions. The
bargaining association acts as the grower representative in
negotiations with the processor, and is funded through dues paid by the
grower. There are no commitments between the bargaining association
and the grower in terms of acreage or guaranteed returns, and again,
all contracts are directly between the grower and the processor.
Between the grower and the association is a signed marketing agreement
in that the association agrees to represent the grower in dealings with
the processor, and the grower agrees to market all beets under the
agreement reached between the association and the processor. Growers
are generally not even required to join the bargaining association, and
growers can have dues collected by the processor for the association

refunded at the end of the year.

Growers requesting refunds are quite small, and membership was

never mentioned as a problem and is close to 100% of production across

38
the country. Reasons for this are mainly that the dues are fairly
small and there is some peer pressure from the fact that "everyone
else" belongs. The individual bargaining association is part of a
national organization, the American Sugarbeet Growers Association,
based in Washington D.C., to represent grower interests. All U.S.
processors negotiate contracts with a bargaining association

representing the growers.

Beyond contract negotiations, the individual bargaining
association’s relationship with the processor is to assist in mediating
grievances or discrepancies for an individual grower or the membership
in general, especially in the area of assuring proper payments to the
members. The association can, at its’ expense, hire accountants to
review the processors books or a qualified technician to be present in
the tare room to monitor sucrose testing. All those interviewed, when
asked, stressed the importance of the grower association/processor
relationship, and that it was not a common practice to hire third
parties to adjudicate an issue. Records of processor operations
affecting grower returns are usually considered open to the
association, and the association itself can generally ascertain the

propriety of those records.

2.5 THE SUGARBEET PROCESSOR

Mentioned often till now, but given limited exposure, are the

operations and role of the sugarbeet processor. The typical processing

39
operation is dedicated to processing only sugarbeets into refined
sugar, with saleable byproducts in the form of beet pulp and molasses,
with the bulk of its’ returns derived from the sales of refined sugar.
The processing company is predominantly a large, proprietary company,
with some foreign ownership, though the conversion of the three
companies in Minnesota and North Dakota to grower cooperative ownership
since the mid 70’s has put almost 30 percent of U.S. beet processing

under direct grower ownership.

Since sugarbeets must be grown in a multi-crop rotation, it is not
possible for the processor to raise its’ own beets, and instead rely on
local farmers to supply their beets. Sugarbeet processing plants are
located in the hearts of the production areas, often in large farming
communities where they have long been one of the major employers and
politically important institutions of that town. To economically
transport both the coal and limestone needed in processing and the
refined sugar to market, the plants must be located along rail sidings,

hence the further need to be located in towns with rail service.

Sugarbeet processing was one of the first agricultural industries
to move from small, atomistic operations to large scale, capital
intensive operations. Today, the investment required for a new
processing facility is still quite large, especially for the complex
processing machinery required to achieve economies of scale needed to
be competitive. Many of today’s plants were originally built in the

earlier part of this century, and continual upgrading of equipment has

40
been necessary to maintain or improve a competitive position in the
market. Those that did not found themselves at a disadvantage, and
though maybe not the sole reason, likely went out of business as a
result. The number of processing plants has declined from 97 in 1920
to 36 in 1986. There are currently eleven companies owning the 36
plants. In 1982 the four largest companies operated 27 facilities and
accounted for 67 percent of beet sugar produced. The increased
concentration in sugarbeet processing generally parallels the changes
in most other agricultural businesses. Total U.S. beet sugar
production is limited by the industry’s capacity to slice beets, and
though production has declined somewhat since the 1970’s, slicing

capacity per plant has steadily increased over the same period.

The processor’s relationship with the grower extends beyond
providing processing expertise and facilitating a market for the
grower’s product, raw sugarbeets. The processor also provides
assistance in the production of sugarbeets through an agricultural
relations office, represented to the grower by a 'field man”. The
field man provides advice to individual growers on production
practices, choosing the optimal fields and soil types, and recommending
the best seed stocks to plant. In fact, each processor/bargaining
association relationship involves the mutual support of a research unit
for seed stock testing operations that develops unbiased
recommendations to growers on the varieties that work best in their
local region. Other research is also done on all facets of production,

from fertilizers to better methods of storage and handling. The

41
research unit is generally supported by grower dues and matching
processor payments, since again, any improvements in sucrose levels

benefits both.

The field man also is the primary mechanism to monitor grower
practices, from planting through to harvest and delivery for contract
compliance. If needed, the field man also solicits new acreage in an
expansion period or when a contracted grower is unable to meet his
acreage obligation under the contract or chooses to quit sugarbeet
production altogether. The field man in this case relies on personal
knowledge of the local area to seek out interested growers and evaluate
their abilities on the basis of soil types to be planted and the
perceived expertise of the operator. The company may choose not to
extend a contract to a new grower, or even an existing grower, based on
the recommendations of the field man. Even in cooperative arrangements
there are mechanisms where poorly performing growers or land parcels
may be voted out. This is a standard practice by all processors when
contracting new acreage, and no real mechanism beyond local relations
and a field man is known to exist. The field man appears to play the

key role for processing interests in grower/processor relations.

In summary, the processor plays the critical role of transforming
the raw sugarbeet into refined sugar. There is no forward integration
of sugarbeet processors into finished food product manufacturing, nor
is there much backward integration by food manufacturers into ownership

of sugarbeet processors, though some of the parent companies of sugar

42
processors do count food manufacturing operations among their holdings.
In short, the sugarbeet processor is a fairly singular entity, unique
in its’ purpose to strictly process raw sugarbeets. The individual
processing company must then market the refined sugar and byproducts in
competition with fairly similar entities. The market for sugarbeet
products and the pertinent factors effecting its operation are

discussed next.
2.6 THE MARKET FOR SUGAR: A 'SWEETENERS" MARKET

The market for refined sugar, the primary product of sugarbeet
processing, is actually part of a broader category called the sweetener
market. Either in granular form or liquid for further food
manufacturers, there are other types of sweeteners competing with beet
sugar products. For the U.S., in addition to cane sugar products,
identical to sugarbeet, there are starch-based sweeteners, especially
high- fructose corn sweeteners, and low-calorie sweeteners, such as
aspartame, that compete directly with beet sugar in varying degrees in

all its’ product forms.

Over the past ten years, total sweetener usage has risen from 125
lbs per capita to almost 147 lbs per capita. However, for sugar over
the same period, per capita consumption has declined steadily from
almost 100 lbs per capita to under 64 lbs per capita in 1985. The loss
of market for sugar is primarily due to increased competition from non-

caloric and starch-based sweeteners. Increased interest in diet and

43
nutrition, combined with a perceived negative label attached to sugar,
fueled a substantial rise in the use of non-caloric sweeteners such as
nutrisweet. Total non-caloric consumption rose from 6 lbs per capita
in 1975 to over 17 lbs per capita in 1986. As new varieties of
proposed non-caloric sweeteners are approved by the Food and Drug
Administration, the beet sugar industry will see even more competition

in the sweetener market.

Increased competition from starch-based sweeteners, especially
high fructose corn sweeteners(HFCS), has taken even greater portions of
the sweetener market from sugar. HFCS per capita consumption alone
rose from a minimal 1.3 lbs in 1972 to over 43 lbs in 1985. Usage of
HFCS increased almost as much as the decline in market share for sugar,
and has almost completely replaced sugar in the beverage industry, as
recently as 1978 was 25 percent of U.S. sugar usage. It should not be
construed as direct substitution, for the sweetener market did expand
over that time and a number of other sweeteners also expanded usage.
However, HFCS does represent the most formidable competitor in the
sweetener market, especially if a granular "table sugar” is developed,

a process currently being tested by a number of corn refiners.

The question to be asked here is how did HCFS and non- caloric
sweeteners come to gain such a large share of the sweetener market,
much of it at the expense of sugar. In addition to health and diet
concerns, and probably more significantly, is the role of the U.S.

Sugar Program in the sweetener market. The next section will explore

44
the role of world markets, trade policies, and specifically the U.S.
Sugar Program, in the production and marketing of beet sugar and in the
broader context of sweetener markets. Without question, U.S. sugar
policy plays a critical role in the ability of the sugarbeet industry

to operate as it currently does.

2.7 U.S. SUGAR POLICY

Sugar prices are among the most volatile in international trade,
rising sharply one year and falling abruptly a season or two later.
Most sugar producing countries have enacted policies protecting their
sugar producers and consumers from price instability, even though the
effect of the collective sugar policies is felt to heighten the
instability by distorting true supply and demand conditions for sugar.
The United States has long had a policy of protecting its sugar

producers, and the current sugar program reflects that desire.

Sugarbeet production and processing, in a program including
sugarcane as well, is currently covered under a sugar price-support
component of the present farm legislation, the 1985 Farm Bill. The
price-support program allows U.S. processors to use their sugar stocks
as collateral for federal loans at the government established support
price. Growers contracted with the processor are then elgible to
receive operating loans from the processor from the price-support
loans. Market prices must remain higher than the loan support price to

avoid government acquisitions of sugar due to loan forfeitures. The

45
U.S. has a policy of assuring that the market price for domestic sugar
producers never falls below the loan rate through a system of import

fees, duties, and quotas.

Price is actually supported above the loan rate by a few pennies
per pound at a market stabilization price, or MSP. The MSP is a price
objective established to minimize the risk of domestic prices reaching
the loan rate, and can be adjusted periodically by the U.S.D.A. to
account for changes in production and transportation costs for domestic
sugar as well as the world price. The MSP, since 1981, has been well
above the world price, and its maintainance is the primary impact of
the sugar program. By avoiding taking possession of sugar in lieu of
loan repayments, the sugar program is essentially run at ng_cg§t to the

U.S. Treasury, unlike most other price support programs.

The fact that the U.S. must import sugar, where most other program
crops are net exporters, is the key factor in keeping prices above the
loan rate. By restricting imports, the government can control price,
transfering the costs of the program to the users of sugar, ultimately
the consumer. In contrast is the case of a program crop such as wheat
where direct treasury outlays, either through CCC storage program costs

or deficiency payments, are required to support domestic production.

The fact that the sugar program has been run at no cost to the
treasury has not been lost on proponents of the program, namely sugar

producers and processors and their associations. The "no cost” aspect

46
is a major point in their efforts to inform the policy process, and
when compared to other direct treasury outlay support programs, appears
to have much appeal in the farm legislation process. More discussion
on this policy setting process of the program will be pursued in the

section on the sugarbeet industry’s role in the sugar policy process.

The primary impact of the sugar program in terms of this study is
that domestic sugar producers are protected from foreign competition
and assured a price through government policy that, though not stated
specifically, does allow them to continue production. Before going
further into just how the domestic sugar producer is protected, a
little more light will be shed on exactly why the sugar program come to

be.
2.7.1 WORLD SUGAR MARKETS AND SUGAR PRICE VOLATILITY

The United States role in world sugar markets is one of
importation. The U.S., with approximately half the production from
cane sources and the other half from beet, produces around 70 percent
of domestic sugar use. The other 30 percent must be imported. There
are over 160 countries trading sugar, and it is one of the most
volatile international commodity markets. The world price of raw sugar
generally follows a pattern of high prices for 1 or 2 years followed by
a long period of low prices. World sugar price ”spikes" have occurred

five times since 1950, the latest in 1980-81. For instance, world

47
price was 8 cents a pound in 1978, 42 cents in October of 1980, and
dropped off to 4 cents in early 1985.

Instability of the world sugar market is rooted in the basic
characteristics of supply and demand for sugar. Increases in
production capacity during the high-price phases of the sugar cycle
take several seasons to be absorbed by relatively steady, but slow,
growth in total consumption. Processing facilities are expensive to
construct and must be large to capture scale economies. Consequently,
there is a strong incentive for processing plants to be fully utilized
once operational to spread out fixed costs. World sugar production
typically catches up with processing capacity after 5-10 years of low
prices and slow growth in consumption. At this point, a disruption to
production triggers an explosive price rise and the sugar cycle begins
anew. The inability of sugar producers to adjust production rapidly in
respone to changing conditions is another source of instability. While
beet sugar production can be increased fairly rapidly when world price
is rising, since the delay between planting and harvest is about 8
months, sugarcane is much slower. A two-year wait may be required
before a new crop of sugarcane is ready to be harvested. Since
sugarcane is about two—thirds of world production, this lag dominates

in the world sugar market.

In response to the above scenario, most sugar-producing countries
have enacted policies to protect their producers and consumers from

price swings. In addition to the cyclical aspect of sugar prices, the

48
volatility of the world sugar market arises from three additional
factors. First, both short-term demand and supply of sugar is
traditionally insensitive to movements in the price of sugar, or is
price inelastic. This means that sometimes quite large price movements
are necessary to clear the market of temporary surpluses or deficits.
Second, the market is a residual one: over 70 percent of the sugar is
consumed in the country of production, usually at government set
prices. If bilateral long-term agreements and the U.S. program is
taken into account, only about 10 percent is available to be traded in
the world ”free market". Finally, most major producing/consuming
countries have protective policies to insulate their domestic sugar
industries from international forces. This means most of the
adjustments necessary to clear the market at the global level get
transmitted to the small portion of the market that is freely traded.
World crop changes and shifts in government sugar policies tend to have
disproportionate and erratic effects. In periods of crop failure,
governments may temporarily restrict exports, thus intensifying upward
pressure on world price. Similarly, in periods of bumper harvests when
output exceeds domestic needs, supplying nations may attempt to sell or
"dump" their surpluses on the world market, exerting downward pressure

on price.

Since the U.S. is a net importer of sugar, the latter case of
dumping would hard press domestic producers to compete with a world
sugar market that has become a residual market for sugar produced at or

below its cost of production, especially since the U.S. is far from the

49
lowest cost producer. In fact, most countries that produce sugar and
still must import have policies to protect their domeStic suppliers
from the vagaries of the world market regardless of their relative
costs of production. A 1986 average world price of approximately 6
cents per pound is well below the cost of production for most sugar

producing nations.

With protectionist policies and subsidized production combined
with good growing conditions stimulating production in excess of needs,
overhanging stock levels is the primary reason for world price dropping
below 6 cents per pound. With a loan rate of 18 cents per pound, it is
easy to see why the U.S. in its’ sugar program must enact policies to

restrict imports if it is to support the domestic price.

2.7.2 U.S. SUGAR PRICE SUPPORTS

Quotas are the most significant mechanism in supporting domestic
price. As overall domestic sugar demand has declined, the size of the
quotas has declined in almost the same amount, compensating for the
fact that domestic sugar production has not declined as fast as
consumption. Therefore, domestic sugar producers have had their share

of the U.S. sugar market protected at the expense of foreign suppliers.

Quotas are a controversial part of the sugar program, and a
detailed discussion on their merits are beyond the scope of this study.

Briefly, quotas are granted to sugar producing countries, meaning that

50
the grantee can export to the U.S. an amount of sugar up to the quota
limit for that country. Import fees and duties are then added to the
price paid by the U.S. buyer, and the supplying country gets a price at
least equal or greater than the world price. The U.S., by using quotas
to protect domestic producers, buys less sugar on the world market
than they would without the policy to protect producers, and the result
is less demand for the "free market” sugar, meaning a lower world
market price. Quotas can become a foreign policy tool, with countries
in good standing with the U.S. receiving larger quotas at the expense
of countries falling in disfavor, with Cuba in the early 1960’s being a
prime example. Countries without a significant U.S. quota and which
must trade on the world sugar market are likely hurt by the presence of

the U.S. sugar program.

Much to the chagrin of U.S food manufacturers and consumers, the
U.S. sugar program provides no protection against world prices rising
above supported domestic price. In years of price I'spikes" in the
sugar market, domestic price follows world price on its upward spiral.
By not storing sugar under the program, no mechansism is available to
dampen price rises, though the sugar industry is probably correct in
stating that maintainance of domestic production through a sugar
program does minimize the full effects of a world price "spike”.
Consumers do ultimately bear the cost of the sugar program through a
basic tranferrence of income to sugar producers and processors when

purchasing sugar or products containing sugar.

51
Though sugarbeet producers are directly effected by it, analysis
of the merits of the sugar program is beyond the scope of the study.
The important point is that the sugarbeet industry has been protected
by a specific policy, and changes in that policy can effect the
operations of the industry. Also, the program is the major mechanism

for coordinating aggregate domestic supply with demand for sugar.

2.7.3 THE U.S. SUGAR PROGRAM AND DOMESTIC SUGAR PRODUCTION

In the case of the most drastic change in sugar policy, total
elimination of the program, one thing is certain, some of the current
producers would be forced out of operation because their costs of
production are not competitive with foreign producers. In fact, almost
all of U.S. sugar production costs are well above both the
current(1986) world price and the foreign costs of production. In a
1976 study, Gemmill estimated that without the government program,
mainland cane production would be reduced by 34 percent and beet
production reduced by 23 percent. The major adjustment in beet
production would be in California and the Northwest where production
costs are higher. Though Gemmill’s work is now dated, the main results
likely still apply, and in the case of reduced production, it would
probably be greater given the lower prices of today versus the world

price of when his study was done.

Further speculation on what areas of sugarbeet production might be

forced out if the sugar program was eliminated today is a valid issue

52
and of much concern to the sugar industry, but is not within the scope
of this study. The point here is the recognition that the sugar
industry operates under the notion that with the program as it is, the
current levels of domestic production are likely to be maintained, and
in the worse case scenario of total elimination of the sugar program,

much disruption would occur in the sugar industry.

2.7.4 SUMMARY OF THE U.S. SUGAR PROGRAM

In summary, the highlights of the U.S. sugar program are that the
domestic sugar price is supported above market levels at no cost to the
government, with the costs of the program transferred to users of sugar
and sugar containing products. Without the current sugar program, some
producers would be hard pressed to compete. With the sugar program,
lower cost sugar substitutes, especially starch based sweeteners such
as High Fructose Corn Sweeteners, have made inroads into the sweetener
market under the price umbrella for sugar created by the program.

Sugar likely has lost sizeable market share because of the market
opportunities created for lower cost substitutes by the price

supporting effects of the program on sugar.

Without question, the sugar program has played, and will continue
to do so, a critical role in determining the current structure of the
sugar industry in the U.S. There appears to be a desire at the policy
setting level to maintain a domestic sugar industry. Much more could

be said on the sugar program, but this study has a narrower focus on

53

the operations of a single commodity exchange point, the grower/first
handler, and will not debate the merits of a sugar program. Instead,
the author recognizes the program as a part of the environment in which
the sugarbeet industry operates. The industry’s role in the policy
process will be examined, primarily in the context of how the level of
coordination present in the industry effects the policy process, and
not how the program, or lack of one, will impact the future structure

of the sugarbeet industry.

2.8 CONCLUSION

In this chapter I have described in general the participants,
mechanisms, and their functions in the system producing and marketing
sugarbeets, focusing on the grower/first handler exchange. A summary
of the functions in the production-distribution sequence is as follows:
an individual grower chooses to plant sugarbeets among a variety of
crops and markets them to a sugarbeet processor through a production
contract. No sugarbeets are sold outside of a production contract, and
the contract is the primary coordinating mechanism for sugarbeets.

Most growers are represented in contract negotiations by a bargaining
association, with the individual grower signing the contract directly
with the processor. The processor is the purchasing party under the
contract, processing the sugarbeets to raw sugar and providing a market
to sugarbeet producers. Both processor and grower are paid on the
basis of raw sugar sold, and each shares in predetermined percentages a

portion of the profits and costs associated with tranforming sugarbeets

54
into raw sugar and and delivering it to market. Much of the critical
activity centers around the harvesting, storing, and processing of the
raw beets. Sugar, the primary saleable product of sugarbeets, is sold
in a broader sweetener market, and is facing increasing competition
from alternate forms of sweeteners, especially non-caloric and starch
based. The primary involvement of public policy in the sugarbeet
industry is the protection the industry receives from foreign

competition through the U.S. sugar program.

The above synopsis are generalities that can be applied to all
grower and processing arrangements in U.S. sugarbeet production, with
the contract being the primary mechanism throughout. What does vary
are the specific contract contingencies and resulting activities, and
those aspects were purposely left out of the discussion because the
main purpose was to provide a framework of the basic functions. This
chapter explained what the sugarbeet system did in facilitating the
general issue of matching supply with demand and what mechanisms are
used to do so. The next chapter will explore the environment for
reasons that the specific activities and contract arrangements
mechanisms in the sugarbeet subsector evolved as they did, introducing
the navy bean subsector as a contrast to better explain and understand
the forces affecting the evolution of coordination mechanisms not only

for sugarbeets, but for all agricultural commodities in general.

Chapter 3

COMPARISON OF COORDINATION OF SUGARBEET
AND NAVY BEAN SUBSECTORS

3.1 INTRODUCTION

The previous chapter described the institutions present in the
production and exchange of sugarbeets, detailing their workings
without exploring causes for their existance. This chapter will
look to the environment in which the sugarbeet subsector operates
for possible reasons it evolved as it did. Certain theories of
market formation and coordination will be applied, especially the
role of transactions costs and uncertainty. The comparison between
production and exchange of sugarbeets and navy beans will be used to

better understand economic coordination.

Navy beans offer an interesting comparison to sugarbeets in
that while they are often produced in the same crop rotation, the
structure of exchange mechanisms used for each are significantly
different. These differences are viewed as more than a randomn
occurence, with the environment of the sugarbeet and navy bean
subsectors a dominant factor in the systematic development of their

coordination mechanisms.

The following sections will first give a brief description of
the navy bean industry, mentioning the similar mechanism or activity
in the sugarbeet industry. The comparison of those mechanisms will

56

57
then be made in a case study. The case study will emphasize the
levels of potential uncertainty each faces and its’ role in market
formation, the policy environment and its’ role in market
performance, and finally an assessment of coordination performance

via an index as a proxy for measuring market instability.
3.2 THE NAVY BEAN SUBSECTOR AS COMPARED TO SUGARBEETS

Navy beans(referred to as "beans” or ”navies') are a type of
dry bean consumed directly by humans. Almost 80% are consumed as a "
canned pork and bean product. Thus most navy beans retain to final
usage much of their original appearance. Navies are not perishable x”
like the sugarbeet, and can be stored for up to two years after
harvest with little loss of quality. Quality in terms of texture r”
and appearance is important to the bean processor and retailer, and
navies are priced on quality factors relating to appearance. For
sugarbeets, quality of the beet is also important but in a
differenet manner. The value of sugarbeets are based on amount of
sugar they can be processed into, with the end product bearing no

resemblance at all to the original sugarbeet.
3.2.1 U.S. NAVY BEAN PRODUCTION

U.S. production of navy beans is centered in two regions, the //
”Thumb" area of Michigan and the Red River Valley area of Minnesota

and North Dakota, or MinnDak. Since navy beans and sugarbeets do

58
best in cooler climates, these regions are also the heart of
sugarbeet production in each state, with beans often grown in the r”
same crop rotation as beets. U.S. navy production was primarily in
Michigan before the 1970’s, having almost 90% of U.S. production.
From the early 70’s, navy bean production in MinnDak has risen to
where it annually produces over one-third of the U.S. crop. Though
on a national scale navy beans and sugarbeets are relatively minor
crops compared to "mainstream" agriculture crops such as corn or
wheat, beans and beets are important cash crops in Michigan and
MinnDak. With practically 100% of domestic navy bean production and
just over 40% of sugarbeet production between them, there is
sufficient production in Michigan and MinnDak for a meaningful

comparison of each industry.

The typical navy bean farm is also a typical sugarbeet farm, a L/”/
multi-crop enterprise that also produces corn, wheat, or soybeans in
addition to sugarbeets. In the planting and maintainance of the
bean crop, much of the same equipment used for other rotation crops
such as corn or soybeans is also used for navy beans. However, like
the sugarbeet, crop specific machinery is used to harvest navy
beans. Where corn, soybeans, or wheat can be harvested with the
same combine given a few adjustments, most navy beans are harvested
by machinery suited only for navies or other dry beans. A combine
can be adapted to navy bean harvesting at a lower cost than the
specialized harvester, but the farmer loses much in efficiency in

terms of recovery rate and quality maintainance. While the bulk of

59
navy beans are harvested by a special bean harvester, the ability to
adapt a combine does offer the new or "casual“ bean producer the

option of a lower initial investment.

3.2.2 NAVY BEAN PUBLIC POLICY

Public policy towards navy bean production and processing is
characterized by a so called “free market” approach. The are no
government support programs for navy beans like that for corn or
wheat, and certainly no protection like that afforded sugarbeet
producers through the U.S. Sugar Program. Other than a Crop
Insurance program for navy beans, the most significant government
involvement with navy beans is the U.S.D.A.’s Bean Market News, a
price report published on a weekly basis containing grower and
shipper bean prices and a smattering of market tone information.
More on the use of the Bean Market News will be discussed in Section
3.3.1. For now the important point is that navy beans have little
overt government involvement, and feel the full impact of both

domestic and world supply and demand conditions.

3.3 NAVY BEAN EXCHANGE MECHANISMS

Though often grown by the same farmer, the mechanisms employed
to market navy beans are significantly different than those for
sugarbeets. Sugarbeets are exchanged under an acreage based

production contract, with each party’s returns based on a formula

//,

60
dividing up the costs of getting the sugarbeet products to market
and the returns from the sale of those products. No spot market
exists for sugarbeets. In contrast, navy beans are exchanged eitherv//v
by a fixed price contract or the spot market, and involves a third

party, the bean ”shipper, between the grower and the processor. .

J v—a

'i—u-r-w‘”

Unlike sugarbeets,_there is no integration of bean growers into

the processing function, and thereis limited integration into bean

~uul’.’"
.tflwjmwa.h~ a...

shipplgg. The grower integration into bean shipping is either
through cooperative membership in an elevator or on-farm grading and
shipping by an individual grower. Grower-shippers usually ship less

Vthan 1% of annual navy bean production.1

The navy bean processor, or 'canner“, typically does not deal
directly with the grower, and instead uses the services of the bean
shipper to purchase, grade, and deliver navy beans. The bean
shipper is a bean merchandising business using a system of local
elevators to obtain beans, pooling beans into larger shipments of
specific grades desired by the canner. The local elevator, the
market outlet as well to the bean grower for their corn or soybean
crops, is in a natural position to handle navy beans since they are
somewhat similar in storing and handling practices. The shipper
serves as the canner’s representative to the bean grower, providing
an assembly function and source of information to the bean grower in

facilitating the transfer of beans from the field to the canner.

 

1 Conversation with Michigan Bean Shippers Association

61
Shippers sell navy beans to the canner by either the spot

market or forward contract. Though the exact percentages vary and
are based on rough judgements of industry members, canners usually
do not contract for all of their anticipated needs. Canners
speculate on the bean markets, a situation facilitated by the fact
that navy bean growers appear quite willing to grow beans for the
spot market in quantities sufficient to meet canner needs in normal
yielding years, as found by Hebert and Jacobs (1988). In fact, the
majority of all bean exchanges in a typical year occur on the spot

market.
3.3.1 THE NAVY BEAN SPOT MARKET

The navy bean spot market is a sizeable one, generally

facilitating the exchange of almost 70% of the nations production,

6

and can be one of the most volatile prices in agriculture as shown

in Figure 3.1. There is no futures market mechanism available like ;

“ct—Wan"

 

that for corn or wheat to minimize the risks of volatile prices
through hedging future transactions. Since beans are storeable.

,mq~.-_-.4.. .

exchange of navy beans on the spot market occurs year round. Bean

__.~

growers can opt to store their beans in hopes of achieving a better
fireturn later on, and in fact, the majority of beans are priced after

harvest.

62

PI ure 3.1 _
U.S. NAVY BEAN PRICES, DOLLARS PER CWTiNoninal)

 

 

1912 1986

63
Also, the canner as well does not have to buy all their beans’”/'
at harvest, and like the grower, is speculating on which price,
current or future, when evaluated against storage costs, offers the
better deal. In between is the shipper, and they too can speculate
by purchasing beans and holding them without locking in a price with
the canner. However, most shippers interviewed implied that the “/
shipper’s primary business is in the facilitating of bean trading
and the returns to that service, and not in speculating on bean
markets. As a spot market trader, the bean shipper is less
sensitive to market price than either the grower or canner. To the
extent shippers store or contract taking a long or short position

they also speculate on prices and their margins reflect the

volatility in price.

For the navy bean grower, the primary source of price and
market information is the local elevator as the bean shipper’s .
representative. By being the grower’s major link to market, thev/
bean shipper is the grower’s most timely source of market
information. Often, the grower’s beans are stored at the local
elevator, and the grower either leaves a sell price or interacts
with the elevator regularly to determine when to sell. Therefore,
most beans are sold by the grower are priced on quotes by the local

elevator.

p/ls

64

As mentioned in Section 3.3.1., there is a price reporting
service by the U.S.D.A. called the Bean Market News. Industry
members interviewed felt very little trading of beans is done based
on Bean Market News market information. The prices quotes have a
lag of over a week, and "the market has moved already" is the
primary drawback of Market News information. The reports are also
voluntary with no volume information affixed, limiting both the
reliability and value of the prices reported. The main value of the
Bean Market News appears to be in the validating of local elevator
price quotes in comparison to those reported regionally by Market
News, and acts more as a monitor of price behavior rather than the
primary disseminator. This is a valuable function, and is the sole

source of published weekly price information.

Exchanging beans on the spot market requires timely and
accurate information, especially given the erratic swings navy bean
prices can take. Since the canner by definition is in closest
contact with the retail markets for navy beans, they possess the
best information on both immediate and long-term directions of navy
bean demand. With the canner in the best position to gauge consumer
demand, when contracts are used for navy bean exchanges, they are
said to be "canner driven". Their role in the process of forward
contracting for navy beans is discussed in the next section on the

overall use of forward contracts.

65
3.3.2 NAVY BEAN FORWARD CONTRACTS

Navy bean foward contracts typically occur in two sets.
The first is the contract between the canner and shipper, and the
second is between the shipper and grower. The reason the canner-
shipper contract is listed first is because the contract process is
said to be canner driven. The process typically first starts with
shippers and canners negotiating over terms of forward contracts.
Based on this price and other demand information, the shipper then
offers the growers a forward contract price. Though not strictly a
one-way process, and the shipper can and does go back to the canner
to renogiate if the growers are not responding to the initial
offering, rarely does the process involve the shipper first getting
a grower offer to take to the canner. The canner is usually the
proactive party in the contract process, with the grower acting in a

reactive mode to a set of contract price offerings.

The shipper usually covers a canner contract with a grower
contract. When they do not, they are going either long or short in
the market and are speculating. The recent contract problems in the
aftermath of the 1986 Michigan floods indicated that the shipper

does not always cover a selling contract with a purchase contract.

With the shipper acting primarily as an intermediary, the
question of relative bargaining power is actually the relationship

of the grower and canner. Bean canners are typically medium to v/'

66
large sized multi-crop processing firms, and because of their
superior resources and knowledge of the market, it is little wonder
the canner is believed to have the better position in the contract
process. Adding to the situation is the farmers general willingness
to grow beans without a forward contract. The willingness to
produce beans for the spot market is based on both the farmers

decision making process and the nature of the contract itself.

Industry observers note two primary reasons inhibiting navy
bean growers from using the forward contract more. The first
relates to the desire of bean growers to speculate and especially
the fear of missing out on an up market. With most of the other
crop prices in the rotation such as corn or soybeans in effect
nearly fixed by government support programs, navy beans remain a
crop in which the farmer can take a chance to realize a
significantly higher price by speculating on the spot market. Also,
as Hebert and Jacobs(l988) found, growers view contract prices as
'low', and not far above the cost of production. The aftermath of
the flooding in Michigan’s major bean producing area is a good
example, where if the farmer had navy beans, he could realize a
price almost 300% higher than the contract offerings for that year.

Due to the concentration of production and the effects of the “/

volatile export market, navy beans are prone to wide price swings.

67
There is the chance for substantial gains if the grower can guess

the market correctly, a possible but not easily predictable event.2

The second factor inhibiting the use of contracts by navy bean
growers is the penalty provisions of many of the contracts. All
navy bean contracts are fairly basic, containing only a delivery
date, minimum and maximum amounts to be delivered, minimum grade,
and price. In Michigan, where over 70% of the nations production
occurs, all contracts carry an additional penalty provision for non-
delivery by the grower. If a grower cannot supply the minimum
amount of navy beans specified in the contract, no matter what the
reason, the contracts specifiy that the growers compensate the
shipper for the difference between the contract price and the spot
market price on the delivery due date. Since the most likely cause
of a production shortfall is adverse weather conditions, given the
geographic concentration of production, the spot market price is
almost always above the contract price when a farmer has a crop
failure. One of the reasons Michigan growers usually contract less
than one—third of the state’s production is to avoid the risk of
non-compliance. Even in MinnDak, where contracts usually have an
Act of God clause allowing growers out of their contracts in the
case of adverse weather, growers still contract for no more than 50%

of production.

 

2 Hebert and Jacobs found that navy bean prices do fluctuate
intrannually, but in an evaluation of different selling
strategies, found a lack of predictability in when to sell
during the year.

68
More on navy bean contracts will be discussed in the final
chapter, but for now the important point is that the spot market is
the dominant form of exchange. The next section will look to basic
reasons why there is the dichotomy of spot market dominance for the

exchange of navy beans while contracting dominates for sugarbeets.
3.4 COMPARISON OF PRODUCT CHARACTERISTICS AND POTENTIAL UNCERTAINTY

Most significant in the comparison of sugarbeets and navy beans
is that sugarbeet exchange between growers and processors is
coordinated solely by contracts while navy beans utilize a mix of V//
spot markets and contracts, with the spot market predominating.
Though not the sole reason, the physical characteristics of each
crop play an important role in the evolution of their respective
exchange mechanisms. The different set of product characteristics
for each crop result in different levels of risk in the production,
handling, and marketing of each crop. The next sections will look
into the sources of the risk and its’ associated uncertainty and how
each subsector may have adopted exchange mechanisms in reaction to

the uncertainty.
3.4.1 REDUCING POTENTIAL UNCERTAINTY THROUGH FORWARD CONTRACTS
Forward contracting changes the transactions costs of buying

and selling a commodity. Production costs are the physical,

tangible costs associated with producing, shipping, and handling of

69
a good or service. Transaction costs are those arising from the
transference of a good or service across a technologically separable
interface. Costs are incurred by economic agents for search or
information processing costs in finding the optimal source of a good
or service. Also, a transaction cost may occur from a missed
opportunity from a sub-optimal choice when the optimal choice is
unknown or unavailable because of uncertainty or bounded
rationality3 on the part of the agent. As a result, economic agents
react by “assigning transactions in discriminating ways to economize
on transaction costs'(Williamson, 1981). By discriminating ways,
Williamson means that the agent has a choice in assigning the
transaction to a spectrum of mechanisms, ranging from the spot
market to total integration within the firm. This mix of firms and
markets is called "governance structures" by Williamson. Firms or
agents choice of alternative governance structures can be traced to
the transaction costs associated with using that governance
structure to acquire a good or service. Generally, the more
specific or unique the good is, the costs of transacting on the open
market for that good are higher. A firm has more to lose when
relying on the open market for an infrequently produced good that is
integral to its’ organization than on a widely available, less

crucial item.

 

3 Bounded rationality is Williamson’s notion of economic man
having limited abilities to obtain and assess all the information
necessary to always make the optimal decision. Less than optimal
decisions occur because man by nature cannot have perfect foresight.

70

Ronald Coase wrote in 1952 that the cost of using the market
are the "costs of using the price system...and firms arise to
minimize these costs". Coase went on to state that internal
organization was no panacea, and that an equilibrium of sorts is
reached when ”the costs of organizing an extra transaction within
the firm become equal to the costs of carrying out the same
transaction in the open market”. Firms minimize the loss, or
transaction cost, by substituting administrative coordination for
market coordination to where the firm operates in a mix of

governance structures dictated by relative transaction costs.

Kenneth Arrow recognized that markets are limited in power by
transaction costs, and that "market failure is not absolute; it is
better to consider a broader category, that of transaction costs,
which in general impede and in particular cases block the formation
of markets" (1969, p.48). Arrow’s statement is a clue to look
further to the role of transanctions costs in the dichotomy of a
lack of spot markets for sugarbeets and the dominance of spot
markets for navy beans. Especially powerful is one of Williamson’s
attributes of transactions costs known as asset specificity, and is

discussed next.

3.4.2 ASSET SPECIFICITY

There are three attributes of transactions that influence the

economics of organization: (1) the frequency of the transaction, (2)

71
the uncertainty to which transactions are subject, and (3) the
degree to which transactions are supported by transaction-specific
investments(Williamson, 1979). The latter, known as asset
specificity, is especially significant in explaining the formation

of markets, or lack of, for agricultural products.

Asset specificity can arise in any of three ways: site
specificity, when transportation costs or product perishability
limit the distance a good or service can travel; physical asset
specificity, where specialized equipment is used to harvest or
process a good; and human asset specificity arising from knowledge
gained only through experience in producing the good. The first
two, site specificity and physical asset specificity, are especially
influential in the evolution of sugarbeet and navy bean exchange

mechanisms.

3.4.3 SITE SPECIFICITY

Probably the most powerful factor in the difference in the
evolution of sugarbeet and navy bean exchange mechanisms relates to
the degree of site specificity created by two characteristics of
each crop: foremost being the relative perishability of each, and
secondary the relative size or 'bulkiness' of the commodity.
Perishability limits both temporally and spatially the economic
value of the crop, especially when that commodity is extremely bulky

as well.

72

Sugarbeets are a highly perishable product, and once harvested,
the sucrose level steadily decreases, meaning the sooner they are
processed, the more raw sugar they produce. Certain storage
practices can slow the burning of sucrose, but none can completely
inhibit the burning in an economic manner. Conversely, the navy
bean can be stored for up to two years without a loss of quality,
meaning the market views week old or year old beans as essentially
the same value in use. Therefore, the sugarbeet grower needs to
find a market as soon as possible at harvest while navy bean growers
can store their beans and market them at their discretion on a year

round basis.

Compounding the effects of perishability is the secondary
effect of the relative size of the beets and beans, or bulkiness.
The raw beet is a large, bulky product, with the national average
yield approximately 20 tons per acre. Also, only about 15% of the
beet is recoverable sugar, meaning that much of the beet, though
often made into byproducts, is of much less value than the raw
sugar. In contrast, the navy bean, which is consumed whole, has a
per acre average yield of 1,400 pounds, less than 5% of the total

product weight per acre than sugarbeets.

Shipping distance for sugarbeets is limited by the high cost of
transportation, and along with the temporal effects of
perishability, explains why beet acreage is rarely more than 30

miles from a processors receiving station. 0n the other hand, navy

73
beans, being of much less bulk and perishability, are shipped around
the world to be further processed. A case in point is the fact that
while Michigan produces over two-thirds of the country’s navy beans,
only insignificant amounts are canned in Michigan. Obviously,
factors other than site specificity dominate in plant location

decisions.

Though often grown on the same farm, site specific factors
limit the marketing options for beets to not only a much tighter
market area than for beans, but also a much tighter time frame in
which to market them. Before we go into the influence of site
specificity on coordination, physical asset specificity, impacted to

a large degree by site specificity, will be discussed next.

3.4.4 PHYISICAL ASSET SPECIFICITY

Physical asset specificity relates to the degree of specialized
usage for equipment in harvesting, processing, and handling a crop.
By specialized usage, it is meant the equipment has limited

alternative usage in other enterprises.

For the production and harvesting of beets and beans, each
generally involves the usage of specialized equipment, though the
navy bean harvester can be applied to other types of dry beans, and
hence somewhat less specific. A strong case cannot be made for

significant differences in the specificity of equipment committed to

74
bean and beet production and harvesting. We will assume each
enterprise involves about the same degree of physical asset

specificity.

It is in the processing of beets and beans that the most
significant impact of physical asset specificity occurs. Sugarbeet
processing requires an investment in large multi-million dollar
complexes that process only sugarbeets. There is absolutely no
alternative use to processing beets once the plant is in place. Due
to the site specific factors of perishability and bulkiness, these
plants must locate in the heart of beet production areas, making the
physical assets involved in sugarbeet processing useless without

local beet production.

Conversely, the plants built to process navy beans are less
specific to processing beans than the plants for sugarbeet
processing. Navy bean processors typically process a wide variety
of dry beans and vegetables, often using the same equipment. Also,
though the local elevator that assembles and stores navy beans
utilizes equipment specific to beans such as an electric eye for
grading, the bulk of the elevators storage and handling equipment is
also used for corn, wheat and soybeans. Sugarbeet receiving
stations on the other hand are for sugarbeets only, and much of the
equipment such as the conveyor loaders and testing equipment can
only be used for sugarbeets. Therefore, plants and equipment

committed to navy bean processing have easily adopted alternatives

75
in use, meaning the navy bean processor can shift to other
enterprises easier than the sugarbeet processor to capture the value

of the asset if economic conditions dictate a change.

The effects of site specificity and physical asset specificity
are not neatly seperable. In the comparison of sugarbeets to navy
beans, the sugarbeet’s perishability and bulkiness make the assets
committed to processing them highly specific to where beets are
produced in addition to the singular use of the plant for beet
processing. Site specificity in this case compounds the physical
asset specificity for sugarbeets, and the effect of the higher
degree of asset specificity for sugarbeets has influenced the
evolution of a different mix of coordination mechanisms for beet
exchange as compared to those for navy beans. The next section will
look at how asset specificity and each industries reaction to it has
influenced the development of their respective coordination

mechanisms.

3.4.5 ASSET SPECIFICITY AND ITS INFLUENCE ON MARKET FORMATION

In comparing sugarbeets to navy beans, a case has been made
that the levels of asset specificity is much higher for sugarbeet
production-processing than for navy beans, both in terms of the
perishability of the product and the transaction specific assets
committed to its’ processing. In short, the transaction costs of

using the open market to exchange sugarbeets is higher than for navy

76
beans. Based on our understanding of Williamson’s(1979) theory of
transaction costs, it follows that one would see the exchange
mechanisms for sugarbeets of a more administrative nature than those
for navy beans, and is in fact the case with sugarbeet contracts
versus the navy bean spot market/contract mix. What the subsector
participants are doing is reacting to the inherent levels of risk
and uncertainty involved in the production and processing of their
respective crops. This section will look at the effects of risk and

uncertainty on the adoption of certain coordination mechanisms.

Much of the higher degree of risk involved in the production
and processing of sugarbeets stems directly from the perishability
and bulkiness of the beet itself. Producing beets for the spot
market carries a significant amount of risk. Since perishability
and bulkiness limit the time and distance in which they can ship
their beets, once the beet is harvested, finding a local home for
the beets in a timely manner is critical. With the only market
option for the beet grower being the local processor, there would be
high levels of uncertainty in relying on the spot market.
Conversely, since navy beans can be stored and transported long
distances, the spot market carries much less risk for the bean
grower. The bean grower can opt to sell their beans at anytime to
any buyer in the world, and hence does not have to secure a home for

their crop at harvest.

77

On the buying side, the sugarbeet processor also faces greater
risk than their bean processing counterparts in using the spot
market to acquire raw product. Being the sole market option, the
sugarbeet processor at harvest could adopt an opportunistic 'take it
or leave it" stance on price offerings to growers. However, since
the processor has large amounts of money invested in assets useful
only for processing sugarbeets, they too face a high level of
uncertainty in using the spot market. While the navy bean processor
does not have to locate in the production areas, and also have
plants processing a number of different crops, the sugarbeet
processor must rely on the local farmers for the only crop they
process, raw beets. Therefore, from both the beet processors and
growers standpoint, there is mutual interest in substituting a more
administrative governance structure for the spot market to ensure

consistent production of sugarbeets.

Not only is the value of the perishable and bulky beet highly
specific to a time and place, the production and processing of those
beets involve highly specific assets. With both parties committing
to highly specific assets, Williamson notes "the buyer and seller
are effectively operating in a bilateral exchange relation for a
considerable period thereafter". It is not practical for either the
grower or processor to adopt an opportunistic stance in trying to
capture most or all of the value of their assets in a short time.
Since each party’s assets are rendered useless with the loss of the

others services, there is a real incentive to fashion cooperative

78
agreements. Beet growers, with investments in specialized beet
harvesting equipment having no alternate use, need the stability of
long—term production to make the investment profitable. With the
processor having large amounts of capital invested in beet
processing, they especially must take steps to ensure that their
local beets growers feel they are being treated fairly. Through the
repeated use of forward contracts since the early part of this
century, relations between the sugarbeet processor and grower have

evolved to a routine, stable exchange of sugarbeets.

3.4.6 UNCERTAINTY AS A POSSIBLE SOURCE OF STABILITY

In reaction to higher levels of potential uncertainty, the
sugarbeet subsector contracts nearly 100% of the crop whereas their
navy bean counterparts rely on the spot market and forward
contracting. Behavior is more automatic for sugarbeets growers and
processors in the routine use of contracting or cooperative
ownership, adopted as standard operating procedures in the face of
high potential levels of spot market uncertainty. Behavior then is
more predictable for sugarbeets than for navy beans, partly because
behavior is more constrained by the uncertainty. Conversely, with
less potential uncertainty, navy bean growers and processors have
more options available to them, and therefore typical behavior is

less predictable.

79

At first glance, one might think the greater the uncertainty,
the more unstable and unpredictable the observed behavior would be
because of increased chances of decision error. On the contrary,
excessive amounts of uncertainty can lead to more stable and
predictable behavior because as in Heiner’s(1983) theory on the
origins of predictable behavior, ”greater uncertainty will cause
rule-governed behavior to exhibit increasingly predictable
regularities, so that uncertainty becomes the basic source of
predictable behavior". Heiner’s basic assumption is that in the
face of genuine uncertainty, the difficulty in making the optimum
selection is increased, in turn increasing the liklihood of errors
in decisions, and the agents instead adopt a more rigid, satisficing

behavior to minimize the consequences_of poor decisions.

In adapting Heiner’s theory to sugarbeets and navy beans,
though not a literal application, the greater potential uncertainty
for sugarbeets does appear to be one important reason that more
rigid behavior is evident in the form of production contracts. The
spot market as used for navy beans allows more flexibility, in turn
allowing for optimizing behavior in the form of speculation rather
than risk averse behavior in the form of routine contracting. In
keeping with Heiner’s theory, the informal hypothesis flowing from
these assumptions is that sugarbeets will exhibit more stability
than navy beans. The next task is to the test the hypothesis on
stability for sugarbeets and navy beans, with the expectation that

sugarbeets will be shown to be more stable than navy beans.

80

3.5 MEASURING INSTABILITY IN THE SUGARBEET AND NAVY BEAN
SUBSECTORS

Measures of instability can be as vague and varied as the
definition of instability itself. Just as there is no consensus on
what constitutes instability in the economy, there is no generally
accepted method of measuring instability. The intent of this study
is to assess coordination in selected agricultural subsectors given
the levels of instability present, and is partially an expansion of
the basic work by Dalziell(1985) on sources of instability in

agriculture.

Dalziell found that existing measures each had advantages and
disadvantages, and their application depended on matching the
correct one with the purpose at hand. Dalziell recognized that no
one method would meet his purpose of isolating both variability and
instability, and created another measure called INS. The measure is
defined as the variance of annual percentage changes, and
mathmatically is Var(100*dQ/Q), making the INS dimensionless,
meaning data of different units can be compared on equal terms. By
using the midpoint of the change as the base has two advantages: it
gives symmetrical treatment to increases and decreases, and allows
decomposition of a variable such as quantity into yield and area
components with less residual error than would occur from using the
intitial point as the base. Another advantage to INS is that it
exponentially detrends the series, meaning if a series increases by

a constant percentage each year, there would be a zero variance.

81
Dalziell rightly interprets the economic implications of this type
of measure in that while market participants can readily adjust to
constant percentage changes each year, they will have difficulties
if period to period changes are highly variable. Therefore, the INS
has some of the qualities of an index of unpredictability as well as
variability. Since our definition of instability in this study is
one based on the randomn and volatile movements of the market versus
gradual and predictable adjustments to changes in supply and demand,
the INS measure will serve our purpose in the initial assessment of

instability in the sugarbeet and navy bean subsectors.

3.5.1 APPLYING THE INS METHOD TO SUGARBEETS AND NAVY BEANS

Since the interest of this study is with the grower/first
handler interface, the analysis will center on production and price
related data for raw sugarbeets and navy beans. The first set of
data is on aggregate production and price data for the United

States, exhibited below.

82
Table 3.1
INSTABILITY IN U.S. SUGARBEETS AND NAVY BEANS/1

CROP ACRES HARVESTED YIELD QUANTITY PRICE
SUGARBEETS 103 35 185 773
(1968-1985)

NAVY BEANS 242 201 560 2015

(1965-1985)

RETURNS

395

864

1/ Numbers in each category are the INS calculated for annual data.
”Returns” are price times quantity. Source: U.S.D.A. Sugar and
Sweetener Outlook and Situation; Agriculture Statistics; Bean Market

News; and various regional navy bean publications.

The numbers in each category represent an index of the

variability in the annual percentage changes. For example, the navy

bean acreage INS value of 242 means that for over the entire period

measured, navy bean acreage changes exhibited roughly double the

variability of sugarbeet acreage with an INS value of 103.

In fact,

for all categories navy bean indexes are higher, and though the

ratios in each category vary, are at least double those for

sugarbeets. It appears that based on the raw data presented, the

differences in stability as measured by the INS index are

significant enough to support the assumption stated in section 3.3

that navy beans would have a higher degree of instability than

sugarbeets.

B3

The INS indexes are interesting, but are not intended to be a
proxy for coordination effectiveness. Many factors act together to
influence the magnitudes of the INS index, and the index needs to be
evaluated against the total picture of the operations of sugarbeet
and navy bean coordination mechanisms, recognizing that the INS
index is limited in explanatory power. Also, the INS figures are
national aggregates, and need to be broken down regionally for a
more accurate reflection of individual production regions. The
remainder of this chapter will explore the sugarbeet and navy bean
coordination mechanisms to look not only at why the INS indexes are
as they are, but also to complete the overall case study on

coordination.
3.5.2 PUBLIC POLICY PROGRAMS AS A SOURCE OF STABILITY

If the levels of instability exhibited by the INS indexes were
entirely the cause of the biological characteristics of the
sugarbeet and navy bean themselves, little more would need to be
said. However, while the INS index partially reflects the
bioligical nature of the crops, it also reflects the results of the
policy environment in which they operate. The U.S. Sugar Program
has contributed to at least the price stability of sugarbeets while
navy beans has no formal government program. This section will
examine the public policy environment for their impact on the INS
index, recognizing the INS index is a reflection of both supply and

demand factors.

84

The U.S. is a net importer of sugar, and the sugar program
restricts imports via quotas and tariffs to maintain a minimum level
of demand for domestic sugar production. Conversely, the U.S. is a
net exporter of navy beans, and even if desired, could not protect
the navy bean industry in the same manner as the sugar industry
because import quotas are not feasible for net export commodities.
Therefore, the navy bean industry feels the full effect of an often
volatile world navy bean market while the sugar industry is
insulated from an equally volatile world sugar market. The impacts
of the net import/net export difference are reflected in the INS
data of Table 3.1, discussed next.

While a number of factors influence price volatility,
especially contract usage to be discussed later, the demand
stabilizing effects of the sugar program is evident in Table 3.1.
Since the sugar program protects domestic sugar producers from much
of the vagaries of the world sugar markets, the INS indexes for
returns, quantity, and acreage reflect the net result of producing
for an insulated domestic market. Though domestic sugar consumption
has been declining, import quotas have been reduced as well, meaning
domestic producers have maintained much of their market share at the
expense of overseas producers. Also, while the price INS index for
sugarbeets is much higher than the other beet categories, the index
reflects the fact the sugar program only maintains a minimum price.
When the world price moves above the domestic support price,

domestic price moves with it, as shown in Figure 3.2. to occur

85

3:2 '
35 DOMESTIC unnsus WORLISRRR sucan PRICES, CENTS/LB
m

  

 

 

 

 

30" ' ' ' - - - - . ' - - - ' 1
25‘, a x . I.‘ . . . . . 1
a -U.S. DONESIIC PRICE
ze<p i + - ' «
H n
15‘- *
i : -RORLI) PRICE
IM‘i a. * .
x u
5 , a *
fi-Period when there were i
O ,* no sugar inport quotas- *
i ‘ 1 Lu} 1 i i E
1971 1994 I981 1996

Source: USDA Sugar and Sweetener Outlook and Situation

86
rather sharply in 1974 and 1980. Since sugar is considered fairly
price inelastic, and supply response is limited by processing plant
capacity, the price INS for sugarbeets reflects more the occasional
movements of domestic price with the world price rather than shifts

in domestic supply or demand.

On the other hand, navy beans INS indexes reflect the effects
of being a net exporter. Where the sugar program limits domestic
price volatility via quotas, navy beans have no such luxury. The
navy bean export market is a volatile one because not only do navy
beans substitute on the world market for other types of small white
beans, navies also experience heightened demand in times of
worldwide protein shortages as occured in the early 1970’s. Navy
bean prices increased rapidly during this time, and U.S. navy bean
production expanded sharply. However, these exports were of a
stopgap nature in meeting basic food needs, and did not represent a
long-term stable market. Consequently, when the short-term protein
shortages diminished, navy beans experienced market gluts and prices
plummeted. Similar situations also occured after the Mexican bean
boom when Mexico, a large colored bean producer and consumer,
experienced production shortfalls, temporarily increasing prices for
all dry beans including navies. The INS measure as defined reflects
the effects of this type of instability since the price changes were
rapid and unpredictable, causing erratic changes in acreage, and the

navy bean INS numbers in Table 3.1 bear this out.

87

~ While both sugarbeets and navy bean price INS numbers reflect
the effects of the world market, navy beans also reflected the
volatility of the world market in quantity, acreage, and returns INS
indexes as well. By being a net exporter, short periods of high
world prices induced significant production responses because the
demand for U.S. navy beans changed significantly. On the other
hand, short periods of high world prices had less to do with demand
for U.S. sugar, so consequently while sugar prices more than
doubled, sugar production changed little, and the INS numbers
reflect this.

The U.S. sugar program has been shown to have a significant
impact on the relative stability of the sugarbeet subsector in
comparison to navy beans. However, the effects of the public policy
environment on the INS index is not just the results of having a
demand stabilization program versus not having one. Also to be
considered is the operation of the exchange mechanisms under the
umbrella of their respective government programs, or in the case of
navy beans, lack of one. The operation of these mechanisms is due
not only to the inherent risks discussed in Section 3.33, but also
to the amount of protection the industry receives from the vagaries
of the world market place. How the sugarbeet and navy bean
industries and their mechanisms react to their respective markets

are also a part of the INS index, and is discussed next.

88
3.5.3 EXCHANGE MECHANISM FUNCTIONS AND THE INS DATA

The differences in the INS data of Table 3.1 also reflect the
differences in the coordinating abilities of the exchange mechanisms
used for sugarbeets and navy beans. Contracts, while used in both
industries, plays a major role in coordinating production for
sugarbeets and only a minor one for beans. The INS numbers reflect
the stabilizing effects of a full participation contract system for
beets. The navy bean INS data reflects an industry coordinated
primarily by a spot market bearing the full impact of vagaries in
the world bean markets. This section will look at the functions of
the different exchange mechanisms and their impact on subsector

stability.

With demand stabilized and competition from foreign producers
buffered by the sugar program, sugarbeet processors can schedule
beet production through forward contracts for a fairly insulated and
predictable marketplace. Since there is no spot market, the
offering of contracts by the beet processor results in a fairly
precise scheduling of acreage to meet market needs. In effect, the
total acreage planted is not determined by individual decisions of
beet farmers, eliminating the impact of grower decision error on
supply response. The supply response of the beet industry is
elevated to processor decisions on contract offerings, and with the
stability of sugar program combined with the limitations of

processing capacity, erratic short run aggregate supply responses by

89
the beet growing industry are mitigated. Since the INS measure’s
definition of instability stems from erratic short run fluctuations,
the sugarbeet INS measures of Table 3.1 reflect the stabilizing
effects of the ability to contract directly for the needs the

market.

The navy bean INS measures on the other hand exhibit far more
instability than sugarbeets because of the combined effects of spot
market coordination of supply impacted by an erratic world bean
market. Though for the individual grower the contract price may be
the primary determinant of acres planted, in aggregate, the spot
market drives the acreage response. The individual bean grower,
possessing limited abilities to gauge the supply responses of their
fellow growers, are more likely to misjudge the aggregate market
needs for navy beans since their behavior is not guided by the
availability of contracts. The highly volatile spot market price
compounds the errors, and the errors in grower decisions likely
exacerbate the volatility. Navy beans can be overplanted, and
Hebert and Jacobs(1988) found that bean farmers will react as they
did in the aftermath of the flood of 1986 by increasing acreage the
following year even though demand had not increased and contract
price offerings were quite low. The individual bean grower was
reacting to a high spot market price caused by short run shortages
and not a shift in demand. The spot market in this case sends a
signal to increase production even though demand for the following

year is not increasing. The navy bean INS numbers do little to

9O
dispel the notion that a highly volatile spot market price leads to
instability in supply unrelated to demand changes.

In comparing the exchange mechanism effects on the INS data,
the primary cause of the disparity between sugarbeets and navy beans
lies in the relative abilities of the grower to unilaterally decide
on how many acres to plant. Sugarbeet acreage stability reflects
the control of acreage through contracts by beet processors versus
the net result of thousands of individual bean growers predicting
market needs based on an often volatile spot market price. A case
in point would be if demand were held constant and there was a
similar shortfall due to weather in each subsector. Though returns
may rise for beet growers, processors still limit the next year’s
acreage expansion, if any, to their projected needs. Conversely,
higher returns for bean production may mean acreage expansion well
above that needed to meet market needs because of the ability of
farmers to expand acreage in any amount they please. By not knowing
the aggregate response of other growers, there is a good chance of
overproduction occuring. Note that in this case, which is more
common than under production, the bean grower is the party bearing

the consequence of overproduction.

The INS data of Table 3.1 represents aggregate U.S. data, and
misses some important regional differences for sugarbeets and navy

beans. In dissaggregating the INS data by region, unique aspects of

91
coordinating behavior are better understood, and the following

seetions examine INS measures recalculated for regional analysis.
3.6 REGIONAL SUGARBEET PRODUCTION AND THE INS DATA

U.S. sugarbeet production is best divided by the different
contract types seen for each region. Though all the contracts are
basically standard in function, there are unique aspects of
contracts seperating them into a Eastern, Western "Sliding Scale",
and the cooperative arrangements of MinnDak classification. The
individual contract types arose in part because of endogenous
regional factors and also shifts of production within the region.
The following INS measures are broken down by region to better
understand some of the root causes for the unique contract
contingencies as well as the differences in instability across

regions.

92

TABLE 3.2
INSTABILITY BY REGION FOR SUGARBEETS/1
REGION ACRES YIELD QUANTITY PRICE REVENUE
Michigan 39 164 233 1063 730
Minnesota 171 340 337 1077 1090
North Dakota 231 374 305 1014 898
Far West 308 33 411 735 423
U.S. 103 35 185 733 395

/1 Data annual, 1968-1985. Yields calculated from acres harvested.
Minnesota and North Dakota are grouped to represent MinnDak, and
note that their INS measures are fairly similar.

Since U.S. beet production is well spread out across the U.S.,
it is expected that regional INS yield numbers would be much higher
than the U.S. yield value. The reason the Far West yield INS is
even more stable than the national value is that irrigation is used
for almost all of the Far West production while little is used
elsewhere. Also, the Far West region encompasses a much wider
production area, from Colorado to California, meaning isolated bad
weather effects less the total yield numbers than either Michigan or

MinnDak.

93

Why beet yields are more stable for Michigan than for Minn Oak
is less clearcut. One likely cause is that Michigan experiences
better growing conditions for beets, primarily because of higher
annual rainfall and the moderating effects of the Great Lakes on
early and late season freezes. Another reason is that the yield
data is calculated on acres harvested. Excessively wet weather at
harvest is more likely reason to not harvest beets than excessively
dry. Too much water in the field rots the beets and makes it
impossible to operate harvesting machinery. Conversely, while dry
weather may reduce the size of the beet at harvest, dry weather at
harvest is not a problem in terms of harvesting. Therefore, since
Michigan is more prone to excessive wet weather than MinnDak because
of the moisturizing effects of the Great Lakes, Michigan is likely
to leave more beet fields unharvested than MinnDak, especially since

the contracts in both areas carry no penalty for not harvesting.

The differences in acreage INS measures represent more the
structural changes within the region and less an annual fluctuation
of acreage. Following from the discussion in Section 3.5.3 on
sugarbeet processors controlling acreage via contracts, the regional
INS acreage values are a reflection of changes in processing
capacity within a region, especially in the form of plant closings
or new plants coming on line. Though the sugar program has offered
protection from the competition of foreign sugar suppliers,
competition within the U.S. sugar industry has caused some plants to

close. Plants close because they are allowed to become obsolete or

94

the owning company no longer sees them as profitable. While beet
acreage has declined since the early 1970’s, and plant numbers have
fallen from 58 in 1970 to 36 in 1986, the average annual tonnage of
beets per plant has risen from 445,000 in 1970 to 650,000 in 1986.
In short, some of the beet production from the closed plants has
shifted to the expanded capacity of another plant. However, the
real impact on the regional INS numbers has been the shifting of

processing capacity among regions.

Note in Table 3.2 that the acreage INS for Michigan is lower
than the U.S. acreage INS, and much lower than the Minndak and Far
West INS figures. Over the time period measured, the number of
processing plants in Michigan have been constant, and recalling that
economies of scale cause plants to run near full capacity, the
stability of acreage in Michigan is as expected. In the Far West,
just the opposite has occured. With processing plants closing in
California and the complete elimination of Washington and Arizona
acreage, changes in acreage were rather sharp. The acreage
decreases comining in large chunks with each plant closing is
reflected in the Far West acreage INS because the INS gives weight
to sudden changes and not constant changes, or trends. The MinnDak
acreage INS, also above the U.S. value, represents a shifting of
acreage from the Far West to MinnDak. Plant closings also occured
in MinnDak, though not in the same magnitude as the Far West. These
plant closings are what prompted beet growers in MinnDak to forward

integrate into processing, and in fact, the last three processing

95
plants built in the U.S. were by MinnDak cooperatives. New
processing plants mean a one time increase in acreage from zero to
the initial contracted production, again reflecting the type of
acreage changes captured by the INS measure. Also, the MinnDak
cooperatives added storeage practices lengthening the processing
campaign, meaning more acreage of beets could be processed in a
single year. The initial adoption of a storeage practice
lengthening the processing campaign is also reflected in the MinnDak

acreage INS.

3.6.1 REGIONAL NAVY BEAN PRODUCTION AND THE INS DATA

The differences between regional navy bean production are less
clear cut than those for sugarbeets. The opening and closing of a
bean processor to no relevance regional bean production like there
is for sugarbeets. However, there are some significant regional
differences explained in the INS data, and Table 3.3 presented below
represents the total disaggregation of the navy bean data of Table

3.1.

96
TABLE 3.3

REGIONAL INS DATA FOR NAVY BEANS/l

REGION ACRES YIELD QUANTITY PRICE REVENUE
Michigan 220 348 713 2015 840
MinnDak 897 236 1157 2015 4803
U.S. 242 201 560 2015 864

/1 Data annual, 1965-1985. MinnDak data as of 1972.

Due to the concentration of production in two regions that do
not use irrigation, yield instability is inevietable. As in the
case of sugarbeets, growing conditions in Michigan are thought to be
better than MinnDak, but the navy bean INS yield numbers show more
instability in Michigan. Since yield is calculated on acres
harvested, possible reasons for this disparity relate to the nature
of the contracts used in each region and the relative amount of
production each region has. Michigan contracts have no Act of God
clause, and in the case of inclement weather causing poor yields,
the penalty provisions of the contract create an incentive for the
Michigan grower to harvest more acres regardless of the yields.

Also, since Michigan usually has over two-thirds of the nations navy

97
bean production, poor yields from weather cause prices to rise much
higher than similar poor weather in MinnDak. The higher prices make
it profitable to harvest beans from poor yielding fields, and
combined with the penalty provisions of Michigan contracts, likely
prompt Michigan to harvest more poor yielding acreage than their

MinnDak counterparts.

The INS acreage disparity between regions is even more
pronounced than yield, and is primarily due to the shifting of
production from Michigan to MinnDak. Michigan at one time had over
90% of the nations navy bean production, and until 1972, MinnDak had
little to none. Led by canner desire to spread production to new
areas, increased contract offerings in the MinnDak led to sudden
increases in navy bean production in MinnDak. Since the region went
from basically zero to 35% of the nations production in only 12
years, the INS measure captures these "lumpy" changes as unstable.
Mixed in that time was the export driven booms of the early 1970’s
and the 1980’s Mexican bonanza. These booms masked the direct
substitution of MinnDak acreage for Michigan acreage, and slowed

Michigan’s acreage decline to a more gradual pace.

The tremendously high INS revenue value for MinnDak stems from
a number of causes. First, by having less than a third of
production and the remainder in Michigan, poor weather is Michigan
has a much larger effect on price than the same occurence in

MinnDak. Therefore, MinnDak growers experience significantly higher

98
revenue gains than there Michigan counterparts when the situation is
reversed. The fact that the U.S. INS yield is lower than either
region is evidence that poor yields usually do not occur at the same
time in both regions. The second reason is that the MinnDak INS
revenue is calculated over a shorter period of time, and more fully
reflects the high revenues of the boom periods than the Michigan INS

revenue value dampened by the more stable years prior to 1972.

The regional breakdown of the INS data has helped to better
understand some signficant phenomena not evident in the INS data of
Table 3.1. First, regional sugarbeet acreage variability was found
to be rooted in the opening and closing of processing plants, a fact
not seen in the U.S. acreage INS because the production lost in one
region was picked up in another. Second, the comparison of the
Michigan and MinnDak regions pointed out the effects of the export
market because the MinnDak data was primarily over the boom and bust
periods of the 70’s and early 80’s. Overall, the regional breakdown
showed that while there are areas of higher instability within a
subsector, the understanding of the reasons supports the hypothesis
that sugarbeets are more stable than navy beans. The next section
will look at reasons why the sugarbeet subsector is more stable than

navy beans in ways not addressed by the INS measure.

99
3.7 ASSESSMENT OF SUBSECTOR COORDINATON: MORE THAN THE INS MEASURE

The INS measure is interesting, but does not tell the whole
story in terms of coordination. Coordination is not measured simply
by indicators of instabiltity. Differences in volatility exhibited
by the INS measure may be due to weather as well as differences in
coordination effectiveness. The analysis of the previous sections
only attempted to explain where the operations of the coordination
mechanisms may have lead to the magnitudes of the INS measures
presented, recognizing there are exogenous effects beyond the

subsectors control.
3.7.1 FORWARD CONTRACTS AND IMPROVED INFORMATION

In impersonal spot markets like that for navy beans, price is
expected to result in a match of supply with demand in the current
period and also reveal the quantities and product characteristics
most preferred by buyers in future periods. While navy beans do
have a grading system in terms of channeling already produced
products to buyers desiring the set of characteristics embodied by
the grade, the spot market does not offer a mechanism to the buyer
allowing them to communicate back to the grower the desire for a set
of characteristics not delineated by grade. The lack of two-way
communication is especially important for long-term coordination,
for one cause of the decline in navy bean consumption is that the

growers may be unaware that buyers are leaving the market because a

100
certain product the grower is capable of producing is not available.
Hirchman’s(l970) concept of preferences being articulated either
through exit or entry into the market versus a ”voice" option is

relevant to this analysis.

The navy bean spot market is an entry/exit preference
articulation mechanism, with information not available to the canner
as to why a farmer quit growing beans or to the grower for why a
canner chose not to buy. Superior to the spot market in preference
articulation is the forward contract. One of the benefits of
forward contracting is the two-way communication mechanism between
the buyer and seller, as is the case in the tightly knit contracting
process of the sugarbeet industry. Not only does the contract offer
a means to communicate each party’s needs, but also acts as a
mechanism to efficiently effect a desired change in a timely manner.
The following is an example of how the sugarbeet contracting process
improved the performance of the industry by better communicating how

to achieve a desired set of product characteristics.

Through the joint funding of U.S. sugarbeet processors, the
Beet Sugar Development Foundation provides broad based research
aimed at increasing the overall profitability of the industry. From
these efforts have come significant advances in the production and
processing of sugarbeets that acrue to both the grower and processor
since the contracts provide for sharing of costs and benefits.

Through the contract, new advances in production and processing

101
technologies can be quickly adopted by writing them into the
contract. Since the contract is fairly standard, in a fell swoop
all production can be brought in line with system needs. The
following is one such example of the adoption through contracts of

advances in sugarbeet production technology.

At one time, the emphasis of the industry was on tons of beets
produced per acre. Logic at the time was that the more tons of
beets, the more raw sugar, and nitrogen fertilizer was an effective
means to increase raw tonnage. As Figure 3.3 shows, tonnage per
acre steadily increased from the 1960’s, a time when nitrogen
application increased for most field crops, including sugarbeets.
However, as Figure 3.4 points out, while tonnage per acre was
increasing, the sugar extraction rate was declining sharply, causing
some consternation in the industry. What it meant was the
percentage of sugar being recovered from the raw beets was
declining, meaning somewhere in the handling and processing
function, sugar was being "lost" at an increasing rate. Eventually,
in the early 1980’s, research supported by the Beet Sugar
Development Foundation isolated the cause of declining extraction
rates as the increasing use of nitrogen. They found that in the
processing of sugarbeets, nitrogen fixed itself to the raw sugar,
causing both the nitrogen and the sugar to be "washed out" into the
byproduct molasses. So while tonnage per acre was increasing with
the use of nitrogen, the net amount of sugar produced per acre was

actually declining. Given the existing method of valuing the beets,

102

Pi ure 3.3
RAW SUGARBEETS PER ACRE, U.S.(IONS PER ACRE)

 

 

 

23M - a”: “l
221* i - . s
21v . . . l
m C
19“ - - - 1
It'r

l? - ' - - - ' - ~ - - - - - - - ' - ' - l
15 : . A -

 

1954 ' ' 7 i934

103

Pi ure 3.4
SUGAR EXTRACTION RATE FROM BEETS SLICEDIPERCENTAGEI

 

1964 1984

104
the excessive application of nitrogen benefited the individual
grower since they were given credit on the sugar content tested at
delivery. The individual grower did not bear the consequences of
the reduced yield in processing since the total pool of sugar
returns were reduced, meaning all growers and the processor shared

in the costs of excessive nitrogen use.

The industry then changed its emphasis from tons of beets per
acre to "net recovery rates of sugar" per ton of beets, and in doing
so took steps to limit the deleterious effects of nitrogen. Soon
contracts between the processor and grower adopted clauses
recommending or expressly forbidding nitrogen application after a
certain date in the growing season, and the result was that sugar
recovery rates began to increase. By mandatory contract
requirements and the monitoring of field staff, the industry could
fairly well police nitrogen use, and is a good example of where the
individual grower was not only advised on the optimal production
practice, but also was prevented from spoiling the amount of net
returns for all growers. In terms of coordination performance, the
industry sponsored research not only identified a significant
problem, but via contracting was also able to have an almost

immediate adoption of the better technologies.

In contrast, if a similar situation were true in the navy bean
industry, the spot market would be limited in its’ ability to

encourage the adoption of the new production practice. While there

105
is both grower and shipper sponsored research, and new technologies
are adopted, the navy bean subsector appears to have less effective
mechanisms to either create the incentive for grower adoption or
conversely, impose a penalty for individual behavior spoiling the
market for all growers. If price is the only means of dictating
behavior, communicating the need for a set of product
characteristics not produced is difficult, and often there is a
price incentive for dysfunctional behavior, as the case would be for
sugarbeets if the spot market policed the use of nitrogen.
It is not presumed that the navy bean subsector is incapable of
adjusting to market needs, but it does appear in terms of improved
communication alone, sugarbeet contracting is superior to the navy
bean spot market for coordinating behavior in response to

technological change.

3.7.2 1986 MICHIGAN FLOODS CASE STUDY

In the fall of 1986, severe flooding occured just prior to
harvest in the primary sugarbeet and navy bean production areas of
Michigan. Yields were substantially reduced and in some cases,
indundated fields rendered the entire crop unharvestable. Many
sugarbeet and navy bean growers, often the same farmer, experienced
significant crop losses. However, the sugarbeet industry suffered
much less stress than the navy bean industry because the sugarbeet
coordination mechanisms were better able to cope with the effects of

the floods than the navy bean mechanisms. The sugarbeet industry

106
exhibited tighter coordination and a "smoother" handling of the
situation than the navy bean, and the case of the 1986 Michigan
floods is a good example of how the coordination mechanisms in place
for sugarbeets are more adaptable to adverse circumstances than the
navy bean. This section will look at the 1986 Michigan floods as a
case study example of coordination in the sugarbeet industry versus

the navy bean.

Both the sugarbeet and navy bean industries experienced the
general stress of lost revenues associated with severe reductions in
yields. The navy bean industry, however, experienced additional
problems and controversey over the fulfillment of contracts. The
short crop caused many bean growers and shippers to be unable to
deliver on their contracts. Many sugarbeet growers as well could
not deliver on the acreage specified in their contracts, but because
of Act of God clauses in sugarbeet contracts, beet growers are
obligated to deliver only what they can harvest. There are no
minimium delivery requirements in sugarbeet contracts, only the
stipulation that all production of acceptable beets is received by
the processor. Navy bean contracts between Michigan growers and
shippers and all shipper and canners have minimum delivery
requirements and do not contain Act of God clauses. Bean contracts
state that if the minimum delivery requirement is not met, the
seller compenstates the buyer by purchasing beans on the spot market

to make up the shortfall in delivery. Since the spot market price

107
rose considerably after the flooding, the seller faced a substantial

penalty in making up for their shortfall in delivery.

Shortly after the full effects of the floods were known, navy
bean prices jumped from around $15.00 per hundredweight to over
$50.00/cwt. Canners, uncertain over the quantities of good quality
beans, changed traditional harvest time buying patterns to buy as
many of the remaining good quality beans as possible. The fortunate
growers with good quality beans in excess of contract obligations
experienced a bonanza, especially those in MinnDak where harvest
conditions were excellent. As an aside to prior discussions on
contract use, MinnDak’s good fortune shows that though not usually
as drastic, poor Michigan yields are a boon to MinnDak growers not
contracted, reinforcing the decision of MinnDak growers to not

contract for more than half their crop.

Navy bean growers and shippers without beans, yet needing to
make deliveries because of contract obligations, had to make
purchases from Minnesota and North Dakota, where the $50.00-60.00
per hundredweight price was approximately three to four times the
prices specified in most contracts. This situation happened one of
two ways: one with the many shippers who had contracts with canners
not covered with contracts to growers, and the other with growers
who had a contract with the shipper, but were short the minimum
production specified in the contract. Facing significant losses in

meeting contract obligations, many shippers and growers tried to

108
renegotiate the minimum delivery requirements. In some cases, the
canners allowed the shipper to make up the contract the following
year, and some shippers allowed the same for their growers.
However, since canners do not offer Act of God clauses, many forced
the shippers to meet contract obligations. Shippers in turn
attempted to force growers to make the minimum delivery or
compensate them for their losses.' Lawsuits ensued, particularly
between the grower and the shipper, over the minimum delivery

stipulations and the issue of Act of God clauses.

Though Michigan navy bean contracts do not contain Act of God
clauses, the occurence of a weather related disaster prompted law
suits to clarify what recourse is available to growers and shippers
who faced substantial losses if required to meet contract
obligations. The most significant findings from the lawsuits was
that a Michigan law concerning Act of God clauses in agricultural
based contracts did cover the navy bean industry in particular
instances. The distinction of a broker versus acreage contract
decided if the state Act of God law applied to a contract dispute.
If the grower contract with the shipper specified the number of
acres from which a minimum amount of delivery was required, the
grower could forego contract obligations by citing the state Act of
God law. If the grower contract only specified a minimum number of
beans to be delivered, the grower was deemed a broker, and the Act
of God law did not cover them, meaning they could be held to their

contracts in the eyes of the court. The net result was confusion in

109
the industry over Act of God clauses and a heightened realization
that a change was needed in the Michigan navy bean contracts to
better cope with Act of God situations. In the final chapter, some

solutions to the Act of God clause issue will be discussed.

Some of the problems created by the contract situation were
solved jointly by canners, shippers and growers. One of these was
in determining the minimum grade of beans available that the canners
felt they could work with. Since the rains came after the crop was
mature, some fields experience near normal yields in terms of sheer
quantity but with severely reduced quality from the sun hitting the
wet beans, causing them to blacken and become spongy, reducing their
value to canners. The Michigan Bean Shippers in conjunction with
the canners sampled the beans to see what quality they could achieve
once they were “cooked up”. Once a minimum quality was determined,
canners sought to buy beans of at least the minimum grade. Though
the navy bean industry did show cohesion in establishing a minimum
grade, the problem came in disseminating the minimum grade
information to the individual grower. Without a bargaining
association or field staff relationship, there was a lag time in the
information reaching some growers, if it did at all. Needing to
make a decision on whether it was profitable to harvest a field, the
grower faced a considerable problem in making the proper decision in
a timely manner. Admittably a difficult situation for any industry
to deal with, navy beans, by not having a tightly organized system

110
like sugarbeets, problems in information dissemination posed a

serious short term coordination problem.

The Michigan sugarbeet industry as well faced the prospects of
flood caused reductions in both yields and quality. While some
fields were indundated and rendered the beets useless, there was
also a significant amount of marginal quality beets that could be
economically processed. However, the marginal beets when piled pose
the problem of accelerated sucrose burning of the entire pile
because the marginal beets are partially deteriorated.

Deteriorating beets generate more heat than good quality beets,
increasing the normal rate of sucrose burning in storage. To
minimized sucrose burning, the marginal beets were stored in

separate piles.

Through the close ties between the processor field staff and
the growers, marginal beets were identified in the field to the
point that the individual fields were 'disected', leaving sections
of less than acceptable beets in the fields. The marginal beets,
though deteriorating, still tested fairly close in sucrose levels to
the better quality beets. Growers who delivered marginal beets
received returns comparable to deliveries of good beets, primarily
because the processors and bargaining association got together after
the processing campaign and assessed the net results of the floods.

Losses from the flooding were partially shared among the growers,

111
meaning no one grower bore an exceptional hardship if they could

only deliver marginal beets.

By being able to separate out the marginal beets, the effects
on pile loss were minimized, and the representative of the largest
Michigan sugarbeet bargaining association commented that their
industry did not suffer as much damage from the flooding as
originally estimated. A major reason attributed to the Michigan
sugarbeet industry’s successful coping with the flooding was the

longstanding good relations between grower and processor.

In conclusion, thehigher level of stress in the navy bean
industry from the flooding stemmed more from the controversy over
contract obligations than from lost revenues. The penalty
provisions for non-delivery meant some bean growers were committed
to pay more in compensating shippers than the total revenue from the
beans they were able to sell. The navy bean grower bears an
inordinate amount of risk in contracting as compared to their
sugarbeet counterparts, who by having an Act of God clause, shared
more of the risk of adverse weather with the processor. The 1986
Michigan floods case study is a graphic example of just how large
the differences in risk can be, and more importantly, how a
mechanism such as contracting can reduce the risk in one industry
while actually increasing the risk in another. Inordinate amounts
of risk born by one party does not promote good performance. The

the controversey following the 1986 floods suggest the Michigan navy

112
bean industry may have deficiencies in their current set of

coordination mechanisms.
3.8 CONCLUSIONS

After describing the navy bean subsector as compared to the
sugarbeet, two main differences were discussed. First, the
sugarbeet industry receives significant protection through public
policy from the vagaries of the world market while the navy bean
industry does not. Second, the nature of the commodities themselves
led to a different mix of exchange mechanisms for each subsector.
Product perishability severely limits the realistic market options
for sugarbeets as compared to those for navy beans, and has led to
the adoption of contracting or more cooperative arrangements.

Though not weighted, the combination of the sugar program and
contracting are the primary reasons the sugarbeet subsector is more
stable than the navy bean as measured by the INS index. The INS
index did well in pointing out the levels of instability in the
pertinent variables, and the operations of the coordination
mechanisms offered a number of plausible explanations for the
magnitudes of the INS index. However, assessment of coordination is
more than measures of instability, and involves a number of

qualitative factors not captured by an index.

The last chapter will look at the whole coordination picture,

summarizing the major findings, recognizing the major findings must

113
be further qualified with case study examples. The impact of the
sugar program on encouraging substitute production, the role of the
bargaining association, and the behavior of navy bean growers if
they had a contract similar to the sugarbeet growers are some of the

matters to be discussed.

Chapter 4
SUMMARY OF COORDINATION IN SUGARBEET AND NAVY BEAN SUBSECTORS

4.1 INTRODUCTION

The goal of this final chapter is to summarize the assessment
of coordination for sugarbeets and navy beans by discussing the
major findings for each subsector and their implications for
possible improvements in coordination. Alternatives to existing
coordination mechanisms will be discussed, with suggestions for

future research.
4.2 THE SUGAR PROGRAM STABILIZES SUGAR DEMAND IN THE SHORT RUN

The stability of the U.S. sugarbeet industry without question
is due in part to the protection it receives from foreign
competition through the U.S. Sugar Program. For many decades, the
sugar program in one form or another has reduced the risks of
committing assets to domestic sugarbeet production by virtually
guaranteeing a minimum market for the output of those assets, sugar.
The value of those assets are undoubtably higher with a sugar
program than without one, and likely reflect the premium domestic

sugar producers enjoy from the sugar price support.1 Since the

 

1 Based on the findings of Schnittker Associates in a 1983
report called ”Sweetener Markets and Policies--The 1980’s".
The report was commissioned by the Sugar Users Group.

114

115
elimination of the program would certainly result in a lower
domestic sugar price, the short run risk to owners of assets
committed to sugar production is reduced by the amount of protection

from the vagaries of the world market provided by the sugar program.

The U.S. sugar program, however, poses a threat to the long-
term stability of the domestic sugar industry. While the sugar
program of the 1980’s contributes to the short run stability of the
sugarbeet industry, the net impact of the program may be negative in
the long run. The sugar price umbrella created by the sugar program
has encouraged the producers of sweetening products from non-

traditional sources, such as corn, to expand production.

4.2.1 THE SUGAR PROGRAM ENCOURAGES THE ADOPTION OF SUBSTITUTES
IN THE LONG RUN

The sugar market is part of a broader sweetener market. As
processing technologies improved, new sweetener products were
created from non-cane or beet sources such as corn that compete
directly with many of sugar’s uses, often at a lower cost than
sugar. While per capita consumption of all caloric sweeteners rose
slightly since 1975, sugar consumption steadily declined as seen in

Table 4.1 on the next page.

High Fructose Corn Sweeteners(HFCS) were the major substitutes
for sugar. HFCS can achieve almost the same sweetening equivelant

as sugar at a lower cost than sugar, and in cases such as soda pop

116
where HFCS can be directly substituted, sugar has virtually
dissappeared from use. Although granulated table sugar, the last
bastion of the sugar industry, has not been penetrated by HFCS, the
sugar price support umbrella is stimulating intensive research into
granulated forms of HFCS. If a comparable granulated HFCS product
is developed at a competitive price, the domestic sugar industy

faces the reduction to a minor supplier of the sweetener market.

Table 4.1

U.S. Per Capita Caloric Sweetener Consumption

1975 1985
Sugar 75.5% 48.8%
HFCS 4.2% 33.5%
Glucose Corn Sirup 14.9% 13.9%
Dextrose 4.2% 2.7%
Other 1.2% 1.1%

Source: 1986 U.S.D.A. Sugar and Sweetener Outlook and Situation

Evidence of the price umbrella for HFCS created by the sugar
program can be seen in the domestic price differentials between
sugar and HFCS. Table 4.2 shows the HFCS prices, price of refined

sugar, and the HFCS price discount to sugar.

117
Table 4.2
U.S. HFCS and Sugar Prices, Dollars per 100 pounds

Year HFCS-55 Refined Sugar HFCS Price Discount to Sugar
1982 18.81 27.62 31.9%
1983 21.60 26.10 17.2%
1984 22.70 25.66 11.5%
1985 20.03 23.18 13.6%
1986 19.96 23.42 15.6%
1987 17.46 23.60 26.0%

Source: 1988 U.S.D.A. Sugar and Sweetener Outlook and Situation

HFCS-55 is used primarily for soft drinks, and has almost completely

replaced sugar as the sweetening agent for soft drinks.

The sugar program then is something of a double edged sword in
that on one hand it protects domestic sugar producers from foreign
competition, and on the other it encourages domestic competition in
the sweetener market from other forms of sweeteners. In fact, the
corn grower and processor organizations are one of the Sugar
Program’s most ardent supporters, recogniizing the benefits of a
sugar price umbrella for corn sweeteners in the marketplace. While
quotas on sugar imports have been reduced to compensate for downward
price protection from declining sugar consumption, the long-term

impact has been the sacrificing of market share to achieve a

118
stabilized sugar price. The INS data from the last chapter showed
sugarbeet production to be fairly stable, and did not pick up the
long term implications of the sugar program on sugarbeet
coordination. The INS is a measure of year to year instability and

not an indicator of long run coordination effectiveness.

4.2.2 NAVY BEAN PUBLIC POLICY DOES NOT ENCOURAGE THE ADOPTION
OF SUBSTITUTES IN THE LONG RUN

With no formal public policy to mitigate the impacts of a
volatile world bean market, in addition to adverse weather, the
often unstable domestic navy bean price in part owes its’s
volatility to the sometimes unstable export market. Changing prices
in itself is not evidence of poor coordination, but unstable and
unpredictable prices by definition tend to contribute to a less
orderly market, and hence poorer coordination. Compared to
sugarbeets, with its sugar program, navy beans at least in the short
run experience more instability by not having a public policy aimed
at stabilizing navy bean markets. However, though in the long run
continued instability may be of a negative impact to the navy bean
industry, of some consolation from not having protectionist public
policies is that competition from substitute products is not
encouraged as in the case of the sugar program. Granted, domestic
navy bean consumption is declining, but it is primarily due to
changing consumer tastes and not from an overt public policy
altering prices and the market structure. Declining market share

due to changing consumer tastes is better coordination than a

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declining market share due to artificially high prices, and in
matching consumer preferences with production, in this instance the
public policy towards navy beans may promote a more orderly market

than the sugar program in the long run.

4.3 CONTRACTS PROMOTE A MORE ORDERLY MARKET THAN THE SPOT MARKET

Sugarbeet forward contracts better coordinate production with
demand than the navy bean spot market. The INS data presented in
Chapter 3 showed sugarbeets to be more stable than navy beans in all
categories. The sugar program is posited as one stabilizing
influence, but is not the sole reason. The exclusive use of
contracts also contributes to the stability of the sugarbeet
industry, and the dominance of the spot market contributes to the

instability in the navy bean industry.

With sugarbeet grower decision error significantly reduced by
the exclusive use of contracts, supply instability is much less than
navy bean supply which is the result of the aggregate supply
response of individual growers based on their interpretations of
expected demand. Navy bean farmers primarily make acreage decisions
based on expectations of the coming years spot market price while
their sugarbeet counterparts have acreage decisions in effect made
for them by processor contract offerings. Given the unstable nature
of navy bean prices, grower decision error is more likely for navy

bean growers than sugarbeet. Since each is the dominant coordinator

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of production in their industry, in terms of the orderly market
characteristic of supply matching potential effective demand, the
sugarbeet contract promotes a more orderly market than the navy bean

spot market.

The evolution of the forward contract as the dominant exchange
mechanism for sugarbeets and the spot market for navy beans was not
a randomnly occuring phenomena. The following are reasons found for

the differences in exchange mechanisms.

1. Sugarbeet production and marketing is inherently more risky
than navy bean production due to greater product perishability. The
significant degree of potential risk associated with spot market
transactions for sugarbeets is one reason growers will only produce
beets under a forward contract. Conversely, the navy bean grower
faces less risk in using the spot market due to product
storeability, and is one reason the spot market is still the

dominant exchange mechanism.

2. Assets committed to sugarbeet production and especially
processing are more specific than navy bean production and
processing. Williamson’s(l981) theory on the effect of transaction
specific assets on market formation discussed in Section 3.4 is
supported by differences in exchange mechanisms used for sugarbeets
and navy beans. The analysis adapted Williamson’s notion of asset

specificity to the characteristics of the products themselves, and

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found that relative perishability and bulkiness impeded the
effectiveness of the spot market for sugarbeet transactions.
Contracting likely arose in response to the high level of

transaction costs associated with the spot market.

The large investments required for singular purpose sugarbeet
processing plants places a premium on maintaining a steady supply of
sugarbeets. Since beets cannot be transported very far, beet
production must occur in a close proximity to the processing plant.
Therefore, sugarbeet processors must rely on local farmers as their
sole source of sugarbeets, and use forward contracts to coordinate
supply and develop a good working relationship with the farmer.

Navy bean processors on the other hand build plants to process a
variety of crops, and more importantly do not have to locate in navy
bean production areas. Bean processors can purchase beans from
around the world, and are not tied to a specific group of farmers.
Combined with the fact that farmers tend to produce enough navy
beans anyway, there is less incentive for the bean processor to

contract for more of their needs.

3. U.S. navy bean production is geographically concentrated,
making beans subject to significant yield variability. Contracting
in itself does not lessen yield variability, meaning with the
existing concentration of bean production there will always be some

supply instability for the bean processor.

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4. Sugarbeet contracts spread the risks of producing and
processing beets for the sugar market rather equitably between
grower and processor. Costs are share by a predetermined formula,
and if the price of sugar rises after harvest, both party’s benefit.
Conversely, navy bean contracts contain a fixed price, often not
very far above the average cost of production, and by locking in a
price, bean growers forego the opportunity to partake in a "bull"
market at harvest. Also, sugarbeet contracts contain Act of God
clauses while most navy bean contracts do not, meaning in the event
of yields reduced by severe weather, the bean grower bears most of
the risk. The case study on the 1986 Michigan floods presented in
Section 3.8 gave a clear example of the high degree of grower risk

associated with the Michigan bean contract at that time.

5. If navy bean growers were offered a contract similar to the
sugarbeet, navy bean contracting would likely increase. The
comparison of the forces effecting the adoption of contracts must be
tempered with knowledge that the nature of the contract itself

influences its’ degree of use.

6. The navy bean spot market, in essence created by the above
mentioned inhibitions to contracting, is often volatile. With a
structure of a small number of shippers selling to a smaller number
of canners, part of the volatility may be due to the ability of
large shippers or canners to influence the market unilaterally. The

bean market may experience sudden price fluctuations unrelated to a

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change in underlying supply or demand.2 Speculation by shippers or
canners based on their interpretations of market information may
cause significant price movements. The individual grower does not
have the ability to influence spot market prices, and having limited
ability to collect and interpret market information, is at a
disadvantage to the shipper or canner possessing greater market
information. In terms of coordination, the shipper and canner seem
to have a greater ability to influence the market, and the
individual grower ends up bearing considerable risk of a volatile

spot market.

4.4 BARGAINING ASSOCIATIONS CAN PROMOTE MORE ORDERLY MARKETS

The sugarbeet grower bargaining association promotes a more
orderly market by consolidating grower-processor contract
negotiations to the interactions between a single body representing
all growers and the processor representatives. Search time and
costs to the individual beet grower in determining the optimal
arrangement is reduced. Reducing search costs reduces the chance of
grower error and risk they bear from the consequences of a bad
decision. The bargaining association then is a means by which
sugarbeet growers reduce the risk of sugarbeet production by pooling
their resourcs to ensure their contract is the best one available.

Also, since the contract resulting from the negotiations is standard

 

2 From conversations with industry participants and observations of
market data.

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for all growers, there is a more equitable treatment of beet growers
and reduces the need to wonder if other growers are receiving a

better deal.

The individual bean grower, by not having bargaining
association representation, when they do contract face a higher
degree of risk and search costs than the sugarbeet grower. Bean
growers negotiate individually with the shipper, and do not have a
mechanism other than word of mouth to determine which shipper is
offering the better contract. Two bean growers signing contracts on
the same day with the same contigencies, but at a different price,
is not orderly marketing. A bargaining association is one way to

ensure that the bean grower is receiving the best deal they can.

Another benefit of bargaining associations for sugarbeet
growers is its ability to monitor the profits and losses of the
processor and the factors causing them. The bargaining association
is in a position then to assess whether grower integration into
processing is feasible in the event of a plant closing. There have
been three recent cases of grower integration into beet processing,
and in all the bargaining association played a significant role in
pooling grower resources needed to purchase the processor’s assets3.
Conversely, the navy bean grower does not have a mechanism to

monitor the operations of either the shipper or canner. Though

 

3 Discussion with Richard Fitzimmons of the Red River Valley
Growers Cooperative.

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there is less incentive for forward integration because bean
production is not tied to the existance of a particular operation
like sugarbeets, the availability of a bargaining association would

make the evaluation of any contemplated forward integration easier.

4.5 SUGARBEET GROWERS ENJOY A HIGHER DEGREE OF MARKET POWER

The close sugarbeet grower/processor relationship allows the
sugarbeet grower to have a higher degree of influence over their
affairs, or market "power“, than their navy bean counterparts. Via
contracts and bargaining associations, sugarbeet processors pass
through to their growers some of the benefits of being part of what
Galbraith(1973) described as the planning sector. The planning
sector, as compared to the market sector, is characterized by
influence over prices it receives and it’s major costs. The market
sector is characterized by most agricultural producers, that of

price taker whose fate is mostly in control of the market place.

Sugarbeet processing companies are typically large, well
capitalized firms with a singular interest in the sugar market.
The sugar industry in general exhibits tight cohesiveness among
processors as evidenced by the full participation of every company
save one in the U.S. Beet Sugar Association. The Beet Sugar
Association wields a considerable amount of influence over their
affairs, and the routine passage of protective trade legislation is

a good example. Another example is the intensive research

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activities supported by sugarbeet processors aimed at enhancing the
profitability of the entire industry, as was seen in the case study
in Section 3.7.

Since the sugarbeet contract shares costs and profits via a
predetermined formula, the beet grower shares in the benefits of the
sugar industry’s ability to exert influence over the market.
Sugarbeet processors value a good working relationship with their
growers since they are limited in supply alternatives(Section
3.4.5). Therefore, the national beet processor association works
closely with the national beet growers associations, and combined is
a formidable influence in the food and farm legislation process.
Since maintainance of the sugar program is critical at least in the
short run to maintaining current levels of production, the tight
grower/processor relations is of necessity in an ”us versus them”
philosophy. The net result is the beet grower enjoys the benefits
of planning sector “membership“ through higher prices and stabilized

markets.

The navy bean grower on the other hand is a member of
Galbraith’s(1973) market sector, acting as a price taker with much
less control over political and market activities than their
sugarbeet counterparts. Since the bean shipper is the market
channel intermediary between bean grower and processor, there are
essentially no ties between them beyond the simple exchange of

beans. In fact, though not necessarily adversarial, the grower and

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canner do not have the same type of common goals the sugarbeet

grower and processor have.

The major bean canner such as Campbell’s or Quaker Oats may
have the same type of planning sector capabilities as the sugarbeet
processor, but the bean canner has less incentive to pass the
benefits of planning sector membership back to their growers. Bean
canners are typically mult-commodity processors, and are not as
dependent on the navy bean as the sugar processor on sugarbeets.
The bean canner is looking for good supplies of quality beans at the
lowest cost, and since the spot market appears adequate for this
purpose, limits the relations with growers to the purchase of beans
passed through the shipper. Often, bean growers and canners are on
the opposite side of the issue, such as the contract disputes after
the 1986 Michigan floods and canner support of Farm Bill provisions
allowing navy beans to be planted on set aside acreage, a policy

with which the existing growers were vehemently opposed.

Though both the bean shipper and grower have organizations for
lobbying and research, they are of a much smaller scale than the
sugarbeet organizations, primarily because they are not co-funded by
canners whereas the sugarbeet organizations are by processors.

There is less incentive for the canner to work more closely with the
bean grower, and the greater degree of risk bean growers bear is in

part due to the canner having less need to contract with growers,

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and hence canners enjoy planning sector capabilities without sharing

the benefits with the grower, who remains a market sector member.

The next section considers some possible ways to improve
coordination for navy beans, especially those focusing on improving
the performance of the contract and the spot market. The
suggestions center on ways the industry itself, with some possible

cooperation with government agencies, can improve coordination.
4.6 EXPANDED USE OF CONTRACTS TO IMPROVE NAVY BEAN COORDINATION

A lesson from the comparisons of the subsectors is that a
contract system can be an effective means to improve coordination.
The 1986 Michigan floods case study graphically showed the problems
associated with existing navy bean contracts and the high degree of
potential risk facing the contracted grower. Much of the risk is
due to a lack of Act of God clauses, like those seen in sugarbeet
contracts, where in the case of catastrophic weather conditions the
bean grower is still expected to meet minimum delivery requirements.
It follows then that including Act of God clauses in navy bean
contracts should increase grower willingness to contract. Certainly
it only seems fair that if a grower is left without a crop due to
circumstances completely beyond their control, they should not bear
additional costs by compensating the shipper for falling short of
delivery requirements. Other commodities such as sugarbeets and

processed vegetables routinely offer Act of God clauses in forward

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contracts. Even navy bean growers in MinndDak have Act of God
clauses in their contracts. The question is then why Michigan bean

growers are not offered Act of God as well.
4.6.1 IMPEDIMENTS TO ACT OF GOD CLAUSES IN MICHIGAN BEAN CONTRACTS

Michigan bean shippers say the reason they do not offer Act of
God clauses in their grower contracts is that the canner does not
offer Act of God to the shipper. Why then do MinnDak shippers offer
Act of God in their contracts with growers without canners offering
Act of God to them. First, historically MinnDak contracts for a
number of crops such as pinto beans have included Act of God. When
efforts were made to stimulate MinnDak navy bean production, farmers

would not contract unless Act of God clauses were included‘.

Second, because MinnDak has less than a third of North American
production, adverse weather conditions causing crop shortfalls has
much less upward pressure on spot market prices than a similar
situation in Michigan. The MinnDak shipper can afford the risk of
Act of God because they can meet canner contract obligations by
buying beans at a profitable price in Michigan. Also, since the
spot market price rises much less in the event of adverse MinnDak
growing conditions causing production shortfalls than a similar

situation in Michigan, there is less incentive for MinnDak growers

 

4 Conversation with Tim Cornyea of the Northharvest Bean
Growers Association of Minnesota.

130
to falsely cite Act of God to market beans on the spot market. It
is not implied here that the bean grower does try to renege on
contract requirements in MinnDak where Act of God clause are used,
or would in Michigan if they were used. This possibility is instead
brought up as one reason why Act of God is not more widely used,
especially since the incentives to wrongly invoke Act of God are
greater in Michigan because of the potentially higher spot market

price.

One of the problems then inhibiting the incorporation of Act of
God clauses in Michigan bean contracts is the monitoring of Act of
God citations used in lieu of delivery. Improved monitoring of
grower contracts might ease some of the uncertainty over Act of God
for both the shipper and canner. The canner, better assured that
the shipper is limited in their abilities to meet contract
obligations because of grower inabilities to meet contract
obligations, might be more willing to offer Act of God to shippers.
Sugarbeet processors with sizeable field staffs do not have the
problem of monitoring Act of God citations since there is no
sugarbeet spot market, and perishability and bulkiness effectively
limit grower market alternatives to the local processor. With a
base of almost 5,000 navy bean growers, Michigan bean shippers
cannot employ the same type of extensive field monitoring like the
sugarbeet industry to determine the exact effects and breadth of Act
of God situations. One possible means for reducing the need for

extensive field monitoring has been proposed by Hebert and

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Jacobs(1988) that offers a regional solution to wide-spread

occurences of adverse weather.

In the event of region or country-wide bad weather growers
under contracts would be required to deliver beans, but the required
deliveries would be reduced from that specified in their contracts
by the percentage decline in total production that is the result of
the bad weather. For instance, a 40% decline in production from
some specified level from some specified region would mean that each
grower’s required deliveries would be reduced by 40%. A combined
task force of the U.S. Crop Reporting Service and bean shipper and
grower organizations could develop the consensus on regional
production. The industry itself would have to jointly decide on the
regional definitions, on what constitutes extensive bad weather or
other catastrophic circumstances, and on what is the specified level
of base production from which the percentage changes would be
calculated. The canners and shippers might find this arrangement
acceptable since there are equitable and legally grounded assurances

that they are receiving all the beans that a grower can supply.

This variable delivery Act of God arrangement would still leave
the individual contracted grower exposed to the risk of localized
weather induced poor yields. Shippers and canners would likely
still hold to their contracts the individual grower experiencing
reduced yields from isolated circumstances. Although the incentive

to sell on the spot market is greatly reduced because localized bad

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weather does not mean increases in market prices, shippers would
still have to be concerned about sales of contracted beans on the
spot market since only small differences between the contract and

market price would make it profitable to renege on the contract.

Growers might be willing to accept this variable delivery Act
of God allowance even if shippers and canners do not let the
individual grower cite Act of God clauses in localized instances of
adverse weather. Localized bad weather would increase the spot
market price little, meaning the penalty for non-delivery would be
much less than those occuring during the 1986 Michigan floods.
Also, Michigan growers already contract to a significant extent
without Act of God clauses, and therefore might agree to an
arrangement whereby they are equitably protected from region-wide

reductions in yield from adverse weather.
4.6.2 NAVY BEAN FIXED PRICE VERSUS FORMULA PRICE CONTRACTS

Certainly another lesson learned from sugarbeets is the
attractiveness of a formula price contract to the sugarbeet grower.
With a formula price based on the net returns to the sugarbeets
delivered and processed, the returns to the grower move in
accordance to the returns to the sales of the finished product,
meaning the grower would benefit from higher sugar prices. The

ability of the grower to share in the benefits of higher sugar

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prices is one reason why all sugarbeets are grown under a contract.

Conversely, with a fixed price contract, the contracted navy
bean grower does not share in the benefits of short crop years and
the ineveitable price increases they bring. A formula price bean
contract would be attractive to the bean grower in that the grower
could share in an up market, depending on how the formula is
determined. A formula price contract for navy beans would address
one of the impediments cited to further use of contracting, the

desire by many growers to speculate.

At least in theory, a navy bean contract formula price could be
pegged to the returns from the sales of the finished navy bean
product in the same manner as sugarbeets. However, since the
canners buy from shippers who in turn buy from growers, and navy
beans are differentiated more than sugar in the finished product,
formula pricing for navy beans would be more complicated than for
sugarbeets. Also, with sugar price supported at a minimum level,
there is really no downside risk for either party in the sugarbeet
contract. A more practical approach would be to take advantage of
the relatively small number of actors in the navy bean industry in a
combination bargaining/formula price arrangement. The price could
be pegged to the spot market, or if contract use rises to the point
that the spot market becomes too "thin”, a more administrative
arrangement where grower groups, shippers, and canners get together

to set price according to estimated supply and demand. Contracts

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then would be offered to growers based on the estimated acreage.
Instead of a fixed price, the contract would contain a formula where
the grower would receive a fixed percentage of a navy bean price
jointly determined by a grower/shipper/canner board estimate of
supply just prior to harvest. The shipper/canner contract would be

of a similar arrangement.

Since returns are based on a percentage versus a fixed price,
as tighter supplies move price up, grower and shipper would both
share in the benefits. Conversely, as prices move down in big crop
years, the effects of lower prices are shared as well._ While the
grower and shipper both benefit from a contract offering the ability
to speculate, in moving from a fixed price to a formula price, in
short crop years the contracted grower would receive a higher than
usual return and the shipper a less than usual. However, since the
formula price contract has the spot market attribute of a moving
price, and if formula price contracting replaced a significant
portion of spot market transactions, the shipper may in fact pay
less overall for a quantity of beans that used to be purchased
primarily on the spot market. Formula price contracting offers the
ability to both better coordinate production and maintain the
desired speculative aspects of the spot market. Though a simplified
solution to a complex issue, the sugarbeet lesson of formula pricing

is one the navy bean industry should consider looking into.

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4.6.3 CONCLUSIONS ON INCREASED USE OF NAVY BEAN FORWARD CONTRACTS

From the lesson of the sugarbeet industry, the benefits of
contracts in disseminating information and coordinating supply would
seem of value to the navy bean industry. Depending on how much more
contracting is used, acreage variability could be reduced,
potentially stabilizing revenues in the process. If expansion of
contracting is accompanied by the widespread adoption of Act of God
clauses, expanded use of forward contracts would likely result in a
more equitable and even distribution of risk in the production of
navy beans. With the current situation in Michigan, contracting
without Act of God can create a greater risk to the grower than the

spot market.

Increased use of contracting, while possibly stabilizing
supplies, would likely lead to increased volatility in the remaining
trades on the spot market. The effects of weather variability and
vagaries in the world market would be squeezed into the more thinly
traded spot market, causing heightened volatility in price from the
spot market adjusting to those conditions. Depending on just how
much contracting does increase, if at all, the effects of heightened
spot market volatility on overall revenue stability cannot be

readily projected.

It is not presumed that contracts will ever completely replace

the spot market for navy beans, especially since there would always

 

136
be a group of canners, shippers, and growers who feel confident in
their ability to profitably play the spot market. Contracts in
their view would prevent them from exercising their ability to
profit from the spot market. The desire to speculate has been
cited as an inhibition to further use of forward contracts, and the

inclusion of Act of God clauses will not change this desire.

In terms of most pressing problems in navy bean coordination,
it is not the variability of the spot market in itself, but rather
the nature of the contracts and the requirements to utilize a
volatile spot market to meet minimum deliveries in the event of
production shortfalls. From a long-term coordination standpoint, a
few more situations like that of the 1986 Michigan floods where the
grower was expected to bear most of the consequences and the canner
may indeed begin to experience chronic shortfalls in production
rather than overproduction. The risk to Michigan bean growers may
be realized to be too great in contracting any production, and
overall production may drop as a result, even if contract prices are
bid up. Including Act of God clause in all bean contracts has the
potential then to improve the long-term stability of the industry by

keeping farmers in navy bean production.
4.6.4 SUGGESTIONS FOR THE NAVY BEAN SPOT MARKET

Since contracting is never expected to completely replace the

spot market, the navy bean industry can take steps to improve the

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performance of the spot market in coordinating economic activity.
From the standpoint of the grower, they especially have an interest
in a spot market that better serves their interest because of the
disadvantage they have in terms of risk and information compared to
the shippers and canners. Grower based initiatives to improve
reliability and timeliness of spot market information is one way to

improve the ability of the individual grower to use the spot market.

Though the sugarbeet grower does not utilize the spot market, a
lesson in terms of grower cohesiveness and the pooling of resources
for a mutual interest can be learned. Navy bean growers in Michigan
and MinnDak do have grower organizations supported by either
voluntary or mandatory "check-off“ grower dues, but are less
effective than the sugarbeet organizations in improving their
positions in the marketplace. Bean grower organizations tend to
focus their efforts on production research, with some recent
attention to market development activities. Missing from their
efforts seems to be research into the operations and effectiveness
of their coordination mechanisms as well. Certainly, a united
growers effort into the reshaping of contracts would have an effect
in getting shippers and canners to negotiate on contract changes.
Concentrated grower efforts can also improve the ability of the spot
market to serve grower interests in a more equitable manner. The
grower organizations are in place to at least study a few mechanisms
to improve the spot market, and the following will discuss some of

these.

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Section 3.3.1 pointed out the deficiencies in the U.S.D.A. Bean
Market News reporting service in providing timely and accurate
information to bean growers. Bean grower organizations such as the
Michigan Bean Commission(MBC) is a mechanism that could fill the
void of timely bean market information being provided only by word
of mouth. The Michigan Bean Commission as a service to its’ growers
could provide the same type of commodity news service as offered by
private firms for crops such as corn or soybeans. Many farmers,
including bean growers, subscribe to a private commodity news
service, with electronic services over a teletype or computer being
the most effective. Though not all growers would initially have the
ability to receive electronic bean market reports, the age of low-
cost computer information dissemination via modems has arrived to

make it an etonomical process.

The information provided would not have to be complex, and the
Michigan Bean Commission or similar organization could employ the
same simple techniques as the U.S.D.A. market news reporter, phone
calls to shippers. Claiming a good relationship with the Michigan
Bean Shippers, the NBC could utilize the relationship with Michigan
shippers to obtain up-to-date price information, and via a modem,
transmit the information to bean growers. The industry generated
market news service could be paid for by user fees or a combination
of user fees and funds from the mandatory check-off funds received
from all growers. With many U.S.D.A. market news services being

curtailed or eliminated in light of budget constraints, many

139
industries face the possibility of providing their own market news
service. Navy beans, given their declining importance in domestic
markets and current thread bare Bean Market News staffing, would
seem a candidate for removal from the federal market news program if

further cuts are made.

Grower initiated market news services combined with today’s
low-cost computer technologies offer a real alternative to navy bean
growers in receiving more timely price information. By pooling
their resources, growers can survey more completely shipper and
canner activity, offering the grower information useful in timing
marketings. While there might be an incentive for canners and
shippers to manipulate the information, the organized growers would
be in a position to monitor the system and interpret it to grower

members.

Another benefit of a grower supported news service is that
contract offerings can be better monitored as well. Each day,
growers could receive information on contract offerings from a
number of shippers, allowing growers the opportunity to make more
informed decisions of forward contracting. It is possible that such
a service could evolve to system where buyer and seller get together
electronically, allowing the grower and shipper to react quickly to
each others contract offerings. Electronic contract marketing is
believed to hold much promise for agriculture, and given the

disparities in information between grower and the shipper or canner,

 

140
the navy bean grower in particular would have a tool to minimize the
inherent risks of producing and marketing navy beans for a volatile

spot market.
4.7 WHAT CAN THE SUGARBEET SUBSECTOR LEARN FROM THE NAVY BEAN?

Throughout the study, the underlying theme has consistently
been that the sugarbeet subsector is better coordinated than the
navy bean. In such a scenario, what could the sugarbeet subsector
learn from the navy bean is not quite as clear as the opposite
situation. One issue already touched on was how the sugar program
poses a long term coordination problem by encouraging the use
substitutes whereas the navy bean industry without a formal program
does not encourage substitutes. One lesson learned from navy beans,
and is something the sugar industry is increasingly aware of, is
that artificial adjustments of the market price can accelerate the
decline in domestic use of sugarbeet products the public program had
originally meant to forestall. The sugarbeet industry then needs to
examine further the actual benefits of the sugar program, and
whether if not the complete elimination, at least a partial
reduction in the support price would slow down the conversion of the

sweetener market to non-sugar sources.

An issue not really mentioned overtly till now but discernable
from previous discussions is the question of market tranparency and

ease of entry for sugarbeet production. By using only contracts for

141
exchange, and since the terms of those contracts are not publicly
reported, farmers not producing sugarbeets and interested in doing
so seem to have a problem in determining what the potential
profitability of the sugarbeet growing enterprise would be. More of'
a theoretical notion of barriers to entry from impacted information,
because of the tight concentration of sugarbeet production, in
practice there does not seem to be a serious problem of a barrier to
entry. Given the specificity of the assets involved and their high
costs, it is not feasible for farmers to routinely move in and out
of beet production. Once the investment is made, the farmer needs
the assurances of not only a beet contract for the coming year, but
also for the next few years. Though contracts are usually not for
more than one year, in practice, farmers doing a good job of
producing beets can expect the same contract for the next year.
Industry participants interviewed basically felt that most every
farmer in the areas surrounding the beet processing plant, whether a
beet grower or not, knew about the terms of the relationship between
the grower and the processor via word of mouth. Navy bean prices
are more visible than sugarbeet, but based on the indications from
members of each industry, there does not appear to be a coordination

problem for either in terms of entry.

Some problems in general mentioned by sugarbeet industry
participants related to the development of isolated instances of bad
relations between a group of growers and the local processor. In

one case involving the now defunct Great Western Sugar Company,

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lawsuits were filed by growers over disputes in profits returned to
the growers. Part of the problem was the deteriorating economic
health of the company and the allowing of plants to become
technically obsolete. After Great Western’s demise, some plants
were reopened by new owners, but some remain idle today. Allowing
plants to become obsolete was also behind the grower integration
into the purchasing of American Crystal Sugar Company’s assets, a
situation prompted by the desire of American Crystal to exit
sugarbeet processing. Companies allowing plants to slowly decline
with the knowledge that the company will eventually close the plant
or exit the sugar industry completely may be evidence that there are
too many assets committed to sugarbeet production. Regardless of
the protection of the sugar program, sugar consumption is declining
while world sugar production has been slightly increasing, meaning
domestic sugar production is not needed at the levels it once was.
The sugar program as a coordintion mechanism in this case may be
prompting an over investment in sugarbeet production, and if the
sugar program is eliminated, owners of the assets face considerable

losses.

4.8 FUTURE RESEARCH

The present study has focused on instability and coordination
for two commodity subsectors, with a broad based approach to the
entire range of coordination mechanisms. Forward contracts were

found to be one of the most important mechanisms, and of interest

143
would be to extend the analysis to the role of forward contracts
across a range of commodities. Using sugarbeets as a reference, a
good question to be addressed is "Do other predominantly contracted
commodity subsectors experience the same type of stability as
sugarbeets?’I The answer to that question may in turn shed more

light on the effects of the sugar program on market stability.

In the aftermath of the 1986 Michigan floods, there was a call
by some industry participants for changes in the navy bean
contracts, primarily centering on the inclusion of Act of God
clauses. More complete analysis is needed over a number of years on
the costs of ensuring contract compliance and transactions costs to
shipper and canners from the adoption of Act of God clauses. If a
commodity could be identified that has a spot market option to
contracts like navy beans, but also offers Act of God clauses in its
contracts, an interesting comparison could be made on the issue of

monitoring contract compliance.

Sugarbeet contracts, though fairly standard in make-up, were
found to have slight differences in contract contigencies along
regional boundaries. A more complete analysis of specific types of
sugarbeet contracts would be useful in understanding more fully the
potential bf contracting systems for coordination of economic
activity. Understanding further why sugarbeets are coordinated as
they are would be helpful in similar analysis of other commodity

subsectors.

144
Sugarbeet grower owned processing cooperatives are an
interesting case of forward integration by growers to maintain a
market for their crops. .More in-depth treatment of the operations
of sugarbeet processing cooperatives could be formulated into a

model for growers in other subsectors if they are considering

forward integration.

APPENDIX

Appendix A
SOURCES OF INFORMATION

In addition to the sources sited in the bibliography, a good
portion of the analysis and findings of this study were based on
interactions with sugarbeet and navy bean industry participants and
observers. From formal interviews to brief phone conversations,
information was gathered and corroberated. Often, the author based
a statement or finding on the consensus developed from a number of
interviews and conversations versus a single statement. The author
also understands that certain views or findings presented may be
contrary to the particular beliefs of some industry members, but all
views expressed are based as closely as possible on the insights of
an industry member or observer. The author, of course, accepts full

responsibility for the information presented.

The following are the sugarbeet and navy bean industry members
and observers with which the author interviewed or had conversations
with in the course of compiling the information for this study. Not

included are those briefly encountered such as growers.

145

146
SUGARBEET INDUSTRY SOURCES

Luther Markwart, Executive Vice President, American Sugarbeet
Growers Association

Jim Fisher, Manager, Beet Sugar Development Foundation

Steven Reynolds, Assistant Manager, Beet Sugar Development
Foundation

Robert Young, Executive Vice President, Great Lakes Sugarbeet
Growers Association(Supply Michigan Sugar Company)

Wayne Caruthers, President, Monitor Sugarbeet Growers, Inc. (Supply
Monitor Sugar Company)

Ruth Vaas, Mountain States Beet Growers Association(Supply Western
Sugar Company)

Richard Fitzsimons, Executive Director, Red River Valley Sugarbeet
Growers Association(Supply American Crystal Sugar Company
cooperative)

George Grant, President, Idaho Sugarbeet Growers Association (Supply
Amalgamated Sugar Company)

Davis Sutherland, Vice President-Agriculture, Michigan Sugar Company
Robert Sanborn, Vice President-Agriculture, Monitor Sugar Company
Hugh Winn, Marketing Extension, Colorado State University

Don Lybecker, Marketing Extension, Colorado State University

David Harvey, Situation Coordinator, USDA, Economic Research
Service, Sugar and Sweetener Unit

Luigi Angelo, USDA, Economic Research Service, Sugar and Sweetener
Unit

Greg Varner, Bean and Beet Farm, Michigan State University

Dr. Vern Sorenson, Professor of Agricultural Economics, Michigan
State University

147
NAVY BEAN INDUSTRY SOURCES

John Magill, Executive Director, Michigan Bean Shippers Association
James Byrum, Executive Director, Michigan Bean Commission

Tim Cornyea, Vice President, Northharvest Bean Growers Association
of Minnesota

Duane Mergner, MinnDak navy bean grower

Jerry Theil, Coordinator, Michigan Department of Agriculture Bean
Inspection Unit

F. Dale Kuenzli, President, Valley Marketing Cooperative, Inc.
Jim Ostrowski, Valley Marketing Cooperative

Larry Sprague, Northern States Bean Company

Carol Lenhard, Star of the West Milling Company

Keith Padgett, Market Reporter, Bean Market News

Neil Conklin, USDA, Economic Research Service, Vegetable Outlook and
Situation

Greg Varner, Bean and Beet Farm, Michigan State University

Dr. Larry Hamm, Professor of Agricultural Economics, Michigan State
University

Dr. James Hilker, Professor of Agricultural Economics, Michigan
State University

 

BIBLIOGRAPHY

 

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