It is a term often used in conversations about the farm problem, but rarely do we see empirical evidence to back up the claim in the agriculture sector. Yet, producers know all too well that input prices have increased at a faster rate than commodity prices. This is one of the reasons, according to Lombard and Brits, why we are seeing fewer but larger farming units in the country; they must benefit from economies of scale to survive the so-called cost-price squeeze.
It is important to first define the cost-price squeeze and then apply it to agriculture. The cost-price squeeze is not a term exclusively used for agriculture, but has found its importance in this sector over the years. It relates to a similar concept, called margin squeeze, present in up and downstream operations. In its most simplistic form, the cost-price squeeze is defined as a scenario where the prices of inputs are rising at a faster rate than the prices of outputs. In agriculture, it is agreed that this scenario is present because farmers are price-takers and have no direct means to pass shift higher input costs to their outputs.
Research, however, has not yet been able to support the cost-price theory within agriculture conclusively. One of the reasons for not being able to conclusively support the theory is the complexity of macroeconomics and farming operations. Factors like efficiency gains, which are present in the data, skew the results. If you are receiving relatively less per output unit, but producing more units with the same amount of inputs, it would look like you are making more profit each year. Although total profits might increase, the profit per unit is decreasing, but subtracting this from the available data is impossible. We will, however, use two measures to make an argument that the cost-price squeeze is present in the sector.
Real Price of Gross Value Added and Total Expenditure in South African Agriculture
Using StatsSA data, we consider the real price of total gross value added in the country and total expenditure in the agricultural sector. The difference between real prices and nominal prices is the accounting for inflation. Nominal prices refer to the actual prices faced in a year, whereas real prices refer to the prices faced if we exclude the effects of inflation. This is done using the Producer Price Index to discount for inflation in total expenditure and the Farm Price Index to discount inflation in the gross value added of the agriculture sector. Figure 1 illustrates the real values of total farm expenditure and gross value added from 1980 to 2024. The positive from the figure is that value added, in real terms, has increased over the period from 1980 to 2024, but it is evident that the total costs have increased at a faster rate.
This supports the theory of the cost-price squeeze. Looking at the equation of the linear trend line for total expenditure, we conclude that each year, the expenditure of the whole farming sector increases by R2Â 816Â million in real terms. Interestingly, the regression for total expenditure shows a very strong positive trend, showcasing that increases in costs are a certainty. The gross value added trendline looks completely different. If a polynomial regression is used, we see that the trend decreases from 1980 to 2000 and then starts to increase from 2001 to 2024, yet it would seem to do so at a slower rate than that of total expenditure. The regression of gross value added is close to zero, highlighting that there is no certainty each year if prices are to increase or decrease. If we consider the trendlines of total expenditure and gross value added, we see that the green trend line (total expenditure) is getting closer to the orange trend line (gross value added), showcasing where the theory gets its name, as there is a squeeze in the gap between value added and costs.
Using the Natural Log of Real Prices
Using a log function on the real values of expenditure and value added, we can remove skew data points and create a more normally distributed figure. This reduces heteroscedasticity, stabilising the variance and making interpretation of the results easier. Figure 2 illustrates the log of the real values of expenditure and value added. An additional line, in black, calculates the difference of the log of gross value added and total expenditure.
The positive from the figure is that the log of gross value added is moving in an upward direction. The negative, however, is that the difference between gross value added and expenditure is getting smaller, as expressed by the black line. If a linear trend is calculated for the difference line, we see that it is getting smaller by 0.0142 log points a year. It also has a relatively strong regression of 0.69, highlighting that this trend is expected to follow in the future.
These two figures make the argument for the presence of the cost-price squeeze in agriculture in South Africa. If such a scenario is true, it is not good news for farmers. Commercial farmers in the country have, however, been able to keep the negative effects at bay with great efficiency improvements. It is therefore important for farmers to follow sound farming practices, with efficiency and yield gains prioritised. Policy-makers should also be aware of the possible presence of the cost-price squeeze and ensure that farmers are protected from rising input costs. A combined effort from all role-players is needed to maintain an environment in which farming can thrive and be financially viable for farmers.
