The opportunity cost phenomenon

April 2010

Dr Kobus Laubscher, Hoofbestuurder/CEO

John Stuart Mill, the 17th century economist and philosopher’s explanatory application of the cost of not choosing the right decision from amongst various mutually excluding alternatives finds application in the government’s implementation of the biofuel strategy.

Drury (1996:45) defines opportunity cost as a cost that measures the lost or sacrificed opportunity when the execution of a choice requires that an alternative be abandoned. The current surplus situation in the maize industry is a perfect illustration of this principle in that maize, as a preferred input, is excluded from the expected advantages of the market expansionary opportunities that bio-energy could realise.

Grain SA was sharply criticised in 2007 for their viewpoint that the exclusion of maize as an input for bio-fuel manufacturing, and where preferred inputs could qualify for special benefits, would impair food security. In fact, the then Minister of Agriculture appealed to the industry to produce surpluses! Indisputable proof that South Africa was more than capable of meeting the requirement of sufficient supplies of maize, was plainly and for the sake of short term political gains, ignored.

Looking back, the political errors are clear, whilst the implications thereof are least applicable there where the mistakes were made. Producers are now paying the price for crude policy resolutions. They are the victims of their own efficiency by, with the obvious help of new technology, doing more with less.

The current low producer price is, on the one hand, discouraging production but on the other, it is also demoralising in as much as that the lower producer prices are not nearly proportionally or timeously passed on to the consumer. The fact that politicians are maintaining their popular declarations that still more should be produced, adds oil to the fire.

South Africa’s absence of a vision regarding the broadening of the market for grains like maize through a modern biofuel policy that could utilise maize as a preferred input and the active support of such an initiative by way of focused subsidies, now has clear and measurable cost implications. The current surplus and the inability of the market to export the surplus has serious prosperity losses as a consequence.

Prices are so low that profitability is out of the question. Producers will increasingly be unable to service debts properly and availability of credit for the next season will certainly be a challenge. The settling of beginner producers, who were able to produce on their own during the pas few seasons, is undone, because at current price levels their sums just won’t gel, with the result that carry-over debts will have to be written off.

What is further and conveniently ignored is the opportunity costs applicable, with unprocessed maize being exported. What was lost in the process, is the energy that could have been produced, the byproducts of such processes and obviously the direct and indirect economic linkage effects of the further processing of exportable surplus maize. The industry has just plainly been stripped of its ability to make an important contribution to the economy.

Corrective actions are not singular. A proper, multi-dimensional turnaround strategy is the only permanent solution. The current supply is a given and the focus must now be to expand the market. Herein lie different possibilities, but the most important is that a start must be made now. Grain SA therefore is taking the lead in an investigation into the establishment of an export pool for approximately 4 million tons of maize that will have to be technically so isolated that it can have no further effect on the local market.

For this purpose all possible policy instruments have been investigated but the most feasible remains getting the voluntary participation of all role-players in the value chain. The key to the successful operation of such a pool would be the voluntary participation of producers who would have to commit a portion of their crop and then keep to their resolution when prices, as the result of the success of the pool, begin to increase. The object is to, through recognised economic principles like price discrimination, technically create two markets where the price elasticity of demand between the two separable markets differ.

The proposed export pool is, however, the beginning of a turnaround strategy wherein the sustainability will remain bedded in the expansion of the market for maize with the revision of the current biofuel policy of the government and import replacement as non negotiable. The donkey must just not bump its head against the same rock more than once…

Publication: April 2010

Section: Editorial