Assessing World Competition   Kirby Moulton January 1996   KEYWORDS: costs, supply environment, demand environment

Farmers and ranchers in the West have been hearing a lot about international trade lately. The results of the GATT and NAFTA negotiations have raised all sorts of questions about our abilities to compete with reduced subsidies and lower tariffs. We are concerned about trade liberalization because it affects prices and profits. The results for some are positive and for others are negative. But the basic fact is that trade rules are but one of an enormous number of factors affecting profitability. This article discusses some of these, drawing on trade research that I've conducted over the past ten years.

Costs

Most farmers focus on cost differences when evaluating competition. My observation is that most Western farmers have competed for many years against low cost producers and have survived satisfactorily. There are some exceptions, but Western agriculture in general has done pretty well.

Why is this so? An important reason is that some cost differences are inaccurate because costs are often not comparable. I obtained very low cost figures for the canned fruit industry. After more investigation, it became clear that the cost figures omitted overhead and financing charges. The lesson learned is that it takes careful investigation to obtain accurate cost information in the first place. It's foolish to run with the first estimate received.

In other instances, the costs being compared are not for identical products or are for different delivery points. In comparing costs for producing plums in Taiwan and in the United States, I found that they were two distinctive products, available at different times of the year and appealing to different consumer tastes. In each of these cases, cost comparisons were not a valid measure of competitive potentials. In comparing product costs for wine produced in Italy and in California, I found that the Italian costs had been quoted f.o.b. the port of exit (the same practice was used in Chile), while the California costs were f.o.b. factory.

Currency exchange rates can have a major impact on cost comparisons. There were large differences in the costs of producing wheat in France and in the United States in 1984 when the dollar's value was very high relative to the French Franc. The economic advantage of some French producers arose from a weak Franc rather than from superior efficiency. When the exchange rate turned to more "normal" levels the cost difference changed significantly. Similar examples can be cited for beef, apples, cotton and numerous Western products.

The Supply Environment

Cost differences tell only part of the competitive story. It is important to determine if low cost competitors can exploit favorable cost differences. Their ability to expand production depends on the availability of more land, water, labor, management, finance

and infrastructure. When I studied the processed tomato industry in Mexico several years ago, I found a low cost industry with significant over-capacity and with no apparent constraints on growth. Yet the industry didn't expand because investment capital was restricted by the government. The opposite of this occurred in Turkey where the government targeted the industry for expansion and provided access to ample low cost investment capital. Expansion of production and productivity in Spain has been hampered by inadequate water supplies. In northern Mexico, some farm labor is in short supply as workers pass by on their way to the United States or to more attractive industry jobs.

Continued access to production and processing technology is extremely important in maintaining a competitive cost advantage. A comparison of the frozen broccoli and the frozen strawberry industries in Mexico illustrates the point. The frozen broccoli industry in Mexico was pioneered by the Birds Eye division of General Foods. It provided continual training and technological assistance to growers over a long period to assure a consistent supply of high quality product. The success of this venture attracted additional Mexican and U.S. entrants and resulted in a robust and competitive industry. The frozen strawberry industry was developed about the same time with considerable American capital. State-of-the-art technology was used initially but the industry never developed the capacity to continually transfer and adopt newer technologies. As a result, it fell behind the US which had embarked on an aggressive new product development program. In another case, Chilean tomato processors have become successful relative to those in Argentina and Brazil because they provide training and technological assistance to growers on a continuing basis.

The Demand Environment

Our tendency is to think of products as perfectly substitutable with the choice between two sources being dictated by price differences. This is true for certain specifications of wheat, soybeans, or rice. But it is misleading for many products. Consumers are willing to pay more for Washington apples, Idaho potatoes, or Del Monte canned vegetables because they are perceived to be superior to the competition. Producers that can successfully separate their product from the competition through quality standards, better packaging, branding or improved services can remain profitable even with higher costs.

I interviewed wholesalers in Hong Kong that were consistently getting 2 dollars per case more for product from one California shipper rather than another. The favored shipper always packed above the minimum grade specification, selected fruit of a consistent size, and serviced accounts regularly and fairly. Consumers liked the quality and consistency of product, this moved the product more quickly than others and made vendors happy. The net result was a profitable situation for the shipper that had successfully differentiated its product.

Consumer preferences need to be considered in evaluating competition. Preferences for green plums in Taiwan, white asparagus in Germany, short grain rice in Puerto Rico, lean meat in the United States, and soft citrus in the United Kingdom favor certain sources over others. Income growth in developed countries increases the demand for fresh foods but in developing countries it leads to more processed foods. Competitors capable of adapting to these changes will survive longer than those that cannot.

Management

Management makes a difference in competitive results and needs to be accounted for. Costs, supply and demand conditions, and government policies all set the environment in which competition occurs. Those managements that can focus clearly on objectives, that know what's needed to achieve them, and that are fully committed to competing in a world market tend to be successful. These are the characteristics that have enabled Chilean processors, Washington apple growers, and Mexican vegetable freezers to expand.

Conclusions

Measuring competition is not an easy task. It is clear, however, that comparing production costs tells only part of the story. Western agriculture has competed well against low cost producers and most can do so in the future. The keys lie in careful competitive analysis, continued technological improvement, and successful differentiation of products to meet buyer needs. Reducing trade barriers will put many Western farmers to a stern competitive test--some will benefit and some will lose. But those that heed the lessons of successful competitors will have a better chance than those who do not.

Kirby Moulton is with the Department of Agricultural and Resource Economics, University of California, Berkeley, CA. This article was published by the Farmer-Stockman Magazines in 1991 and has been updated.

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