Understanding Linkages Between Public Expenditure Analysis and Incentive/Disincentive Analysis in Policy Development

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This article explores the interconnections between public expenditure analysis, incentive/disincentive analysis, and performance and development indicators in the context of agricultural price policies. It examines how policy environments impact commodity markets and different stakeholder groups, such as producers, consumers, and government budgets. Through examples and visual illustrations, it highlights the importance of considering various factors like taxes, subsidies, international trade restrictions, and factor price policies in policy formulation and review.

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Linkages between the Public Expenditure Analysis, Incentive/disincentive Analysis and Performance and Development Indicators Bill Melinda Gates Foundation

Incentive/disincentive Analysis This analysis will not consider specific commodity policies in estimating the indicators but examine the impact of overall policy environment on commodity markets. To explain and analyze the indicators, we use: The policy review The PE analysis results Performance and development indicators To demonstrate these linkages, we present few examples

Impacts of Agricultural Price Policies Agricultural price policies will affect producers, consumers, and the government budget. Depending on the type of policy, there will be transfers between two or all three groups. This means in all cases one group loses and at least one other group benefits. Commodity and sector-specific transfers will come from the PE analysis Bill Melinda Gates Foundation

(Producers) Taxes and subsidies For agricultural commodities such policies result in transfers between the public budget and producers and consumers. Taxes transfer resources to the government, whereas subsidies transfer resources away from the government. Example of fixed producer price policy (higher than the international prices): gain for producers; loss for consumers; increase in budget outlay that should be compensated by higher taxes. Again, these transfers will appear as an output of the PE analysis Bill Melinda Gates Foundation

International trade restrictions Taxes (tariffs) or quotas that limit either imports or exports changes domestic price levels and has impacts on both producers and consumers depending on the policy. Import restrictions, for example, raise domestic prices above relative to world prices, while export restrictions lower domestic prices compare to world price. These needs to emerge from the policy review Bill Melinda Gates Foundation

Factor price policies: traded and non-traded These policies directly affect agricultural costs of production. The case of traded inputs such as fertilizer use is straight forward i.e. domestic prices are compared with international prices to estimate taxes/subsidies. The non-traded inputs include land, labor, and capital. Land and labor costs, in general, account for a large share of the production costs of most agricultural commodities. Policies that can influence such costs include: land rental rates, minimum wage, interest rates, control of land use, and water use/cost policies. These are especially relevant for the analysis of non-tradeables and needs to be described in the policy review. Bill Melinda Gates Foundation

Question and discussion 1. Question: what are the key policy goals in Kenya? 2. Question: what are the key constraints in agricultural production in Kenya? 3. Question: what are the key recent agricultural policy initiatives in Kenya? 4. Question: what are the main policy tradeoffs? Bill Melinda Gates Foundation

Macro-economic Policies Three categories of macro-economic policies affect agriculture: Monetary policies Fiscal policies Exchange rate policies Bill Melinda Gates Foundation

Monetary and fiscal policies These policies influence all sectors of the economy. The key is their impacts on the rate of price inflation (consumer or producer prices). Monetary policies leading to increase supply of money leads to faster demand growth for goods thus puts pressure on inflation. Similarly, inflation increases when government deficits are covered by expanding supply of money. These policies, when directed to agriculture, appear clearly from the PE analysis as increased spending in the sector for certain expenditure and also in the performance and development indicators. Bill Melinda Gates Foundation

Exchange rate policies Exchange rates affect agricultural prices and costs of tradable goods (imports and exports) and in the estimations of price incentives, exchange rate misalignment needs to be estimated. The exchange rate influences the price of an agricultural commodity because the domestic price (in local currency) of a tradable commodity is equal to the world price (in foreign currency) times the exchange rate (the ratio of domestic to foreign currency). If relevant to the incentive/disincentive analysis, this needs to be included in the policy review and development and performance indicators. May result in higher cost of imported inputs subsidies and thus reflected in PE analysis if these inputs are subsidized Bill Melinda Gates Foundation

Public Expenditure Policies Influencing Agriculture Government budgetary resources can be spent on agriculture directly or indirectly to improve incomes, increase productivity and to reduce transaction costs. The most common direct expenditures include production and input subsidies, direct payments, investments in infrastructure (on and off farm), investment in human capital (agricultural education and training, etc.), and in agriculture research and technology (and extension) while indirect expenditures include rural development measures (rural infrastructure, education, health). Bill Melinda Gates Foundation

Public expenditures on input subsidies Input subsidies are implemented to enable farmers to use inputs and technologies that are known to be effective and intend to address in relatively simple manner otherwise difficult problems of developing input markets and associated financial services to small farmers. But inputs subsidies treat the symptoms rather than origins of market failures, distort resource allocation and are often costly and difficult to sustain without cutting expenditures on important public goods. Bill Melinda Gates Foundation

Public investments in research and technology (R&D) Such investments benefit both producers and consumers (reflected in the PE analysis). These investments are very important for production growth shifting the supply curve rightward They tend to have strong long-term impacts although difficult to measure in terms of return to specific commodity in a given year. Lower marginal factor costs resulting from technological change leads to low domestic prices. Therefore, some commodities may become cheaper than the price parity Bill Melinda Gates Foundation

Public investments in infrastructure Infrastructure investment improves returns to producers or lowers costs of production. Infrastructure investment includes investment in roads, ports, and irrigation networks (and can be on and off farm). Such investments tend to be targeted and benefit mostly the producers and consumers who live in those regions. While clearly reflected in the PE analysis and supported by development indicators, these are taken into account in incentive/disincentive analysis through access costs at various points in the value chain. Bill Melinda Gates Foundation

Public investments in human capital These include wide variations of policies and include investment to improve the skill levels and health of producers and consumers. Investments in formal schools, training and extension centers, public health facilities, and clinics and hospitals are examples of such investment. These investments are very important for long-term development, but their short-terms impacts on prices difficult to measure. These expenditures are taken into account in the PE analysis and many development indicators including the UNDP human capital index. Bill Melinda Gates Foundation

Discussion on Policy Tradeoffs Often gains for one policy goal result in losses for another (example of price subsidy and budget deficit or consumer and producer price subsidy). Assigning weights to objectives of government policies are value judgments but the goal of analysis is to identify the appropriate tradeoffs between policies. Quantitative analyses are critical for policymakers to examine the impacts of their policies (producers, consumers, budget, efficiency, equity, etc.). Bill Melinda Gates Foundation

Outlines of the country report Part 1: Background Description of the economy, and the agricultural economy F&A policy environment & political economy Part 2: Findings based on in-depth analysis of agricultural and food policies and public investment in agriculture Analysis of price incentives and disincentives in agriculture and degree of market development. Analysis of public expenditures and aid directed to agriculture Analysis of development and performance indicators and linkages Part 4: Specific policy issues of interest to the country Conclusions Policy implications and elements for an evidence-based policy dialogue Lessons learned and way forward 18

THE STEPS AHEAD

Finalizing commodity selection Update and examine the data in the list with data from national data sources (particularly diet composition ) for the 2006-2010. Are the lists the same? How can we explain differences? Repeat the methodology for the commodity selection Does the country want to include a specific commodity? why? Add the commodities of national interests to the list and classify the commodities according to tradability OUTPUT: Final product list Estimated time: 2 weeks. Bill Melinda Gates Foundation

Data Management For the import substitutes and exports, review value chains (marketing channels) from available studies or ad hoc surveys including estimates of access costs and determine the relevant point of competition For each commodity, determine the relevant markets or production region when multiple markets/production regions exist for the commodity. Using the data template, collect and document the data required for the estimation of the price incentive/disincentive. Determine whether there are quality/quantity differences between domestic and foreign commodities and determine conversion factors (literature).

Incentive/disincentive analysis Using the data template provided estimate the first layer indicators. Consulting the literature, determine and document if adjustments needs to be performed on: Exchange rate during the period of analysis Access costs If so, determine the alternative relevant adjustments and perform the second layer analysis.