Lotze, Hermann: Integration and Transition on European Agricultural and Food Markets: Policy Reform, European Union Enlargement, and Foreign Direct Investment - Four Essays in Applied Partial and General Equilibrium Modeling -

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Chapter 6. Foreign Direct Investment in the Polish Sugar Industry: Do Trade Policies and Imperfect Competition Matter?

6.1. Introduction

Food processing was generally one of the least competitive industrial activities in centrally-planned economies (OECD 1991). It was characterized by permanent under-investment compared to primary agriculture and other industrial sectors. Even now, after several years of transition in the Central and East European countries (CEEC), restructuring of the food processing sector has been particularly slow and many industries are still controlled by the state. This is even more serious as the processing stage often acts as a bottleneck to agricultural production. The downstream linkages are crucial in the process of developing an efficient agriculture and food sector (Walkenhorst 1997, p.1).

Foreign direct investment (FDI) is expected to contribute significantly to the improvement of agriculture and food sector performance during the transition from centrally planned to market economies. Capital and modern technology are especially scarce factors in CEEC, and policy-makers are trying to create favorable conditions in order to capture some of the positive welfare effects from FDI. Primary impacts include output expansion and increased local employment due to foreign capital inflow and new access to foreign markets. Secondary benefits are related to technology transfer from foreign to local firms as well as improved competition on domestic markets.<83> However, from a recipient country's perspective there might also arise some costs from foreign activities. First, after an initial set-up phase of a project, eventually any foreign investor wants to make profits and repatriate at least part of them back to the home country. The local government might try to capture some of these profits through taxation, but there are limits to the tax level, as high taxes will deter foreign investors entirely from entering the country. Second, if there are trade policies in place which protect local industries from foreign competition, the rents that are created by these policies will also accrue to foreign entrants. Under certain conditions foreign firms might only be attracted by the rents and not necessarily by other favorable production conditions like low labor costs or domestic market size.


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The net welfare effects of FDI very much depend on the interaction between the level of investment, profit taxation, trade policy distortions and local competition. In this paper, the Polish sugar industry is taken as a case study for analyzing these interactions in an empirical model. In the next section, the current situation in the Polish sugar industry is described. Section 6.3 provides the theoretical background for the empirical model implemented in Section 6.4 . The policy scenarios and some model results are presented in Section 6.5 which is followed by some concluding remarks.

6.2. The Polish Sugar Industry

Poland has a high potential for sugar production and exports and still belongs to the biggest sugar producing countries in Europe (Bartens and Mosolff 1996). Table 6.1 shows the overall development of sugar production and consumption in recent years.

Table 6.1: Sugar production and consumption in Poland in recent yearsa

 

 

1992 1993 1994 1995

1996

Area harvested 1000 ha 374 374 399 396

378

Total production 1000 t 1 865 1 567 2 170 1 492

1 714

Total consumption 1000 t 1 623 1 600 1 600 1 652

1 762

Export 1000 t 221 87 313 65

4

Import 1000 t 25 48 16 166

59

a Sugar quantities measured in raw sugar value (RSV); total sugar balances are not zero due to statistical errors.

Source: Bartens and Mosolff (1996; 1998).

The total area of sugar beets has been relatively stable over recent years at a little less than 400 000 ha. Total sugar production has been between 1.5 and 2.2 million tons of raw sugar value (RSV).<84> Sugar consumption is estimated between 1.6 and 1.8 million tons which gives Poland some potential for sugar exports in average years. If productivity could be increased to Western European standards, Poland would certainly become a major sugar exporter. This is even more likely, as current sugar consumption per capita in Poland is still about 14 percent above the European Union (EU) average, and this might fall over the next years (Bartens and Mosolff 1998).


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Due to low labor costs and favorable agro-climatic conditions, sugar beet farming in Poland is very competitive by international standards. However, the situation in the processing stage is quite different. The average plant size of sugar factories is small, production costs are high and overall productivity in the sector is low compared to Western European standards (Walkenhorst 1997, p.4). Pure processing costs are estimated about 25 percent higher than EU average, not to mention the most efficient processing plants in sugar surplus regions in France and Germany (Sommer 1998, p.37).

Table 6.2 compares several indicators on productivity and input use for the sugar industries in Poland and Germany.

Table 6.2: Key indicators for sugar processing in Poland and Germany (1994/95)

 

 

Poland

Germany

Sugar beet yield (1993-95) t beet / ha 30.5

50.4

Sugar yield (1993-95) t RSVa / ha 4.4

8.4

Number of factories

 

76

38

Average factory capacity t beet / day 2 255

7 730

Sugar extraction rate percent 80.4

86.9

Input use:

 

 

 

Energy consumption kg coal / t beet 52.1

20.0

Limestone consumption kg / t beet 50.9

33.0

Coke consumption kg / t beet 4.4

2.6

a RSV = raw sugar value

Source: Lomza (1996); Walkenhorst (1997).

Sugar beet yields are about 65 percent higher in Germany, while total production of sugar, measured in RSV per hectare, is even 90 percent higher. Low productivity in the processing stage in Poland is partly due to small plant sizes and a low level of automation (Lomza 1996). Currently there are 76 sugar factories in operation in Poland with an average potential of 2 255 tons of sugar beet per day. The average German sugar plant processes more than three times this amount per day. The use of energy and material input like limestone and coke in Poland is between 54 and 160 percent higher than in Germany. Moreover, the average Polish sugar plant employs about three times as many people as a comparable Western factory (Walkenhorst 1997, p.11).


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Like in the EU, the sugar sector in Poland is characterized by strong government intervention. As Poland belongs to the first five CEEC candidates for EU integration, domestic policy measures will have to be harmonized with EU regulations over the next few years. In 1994, the Polish Sugar Act established a sugar regime very similar to the EU system. A production quota (A) as well as an export quota (B) were distributed among processors. The A-quota was fixed at about 1.5 million tons of sugar. The minimum domestic price for sugar was set about 60 to 70 percent above world market prices, but still below Western European intervention prices (European Commission 1995; OECD 1996; Walkenhorst 1997).

In contrast to other industries in Poland, the privatization process in the food processing sector in general has been very slow. This is especially true for the sugar industry, where state involvement is still high, decision-making is centralized, and hence competitive pressure is low (Lomza 1996). It can be assumed that raw input suppliers, like sugar beet farmers, receive significantly lower prices for their products than in a competitive market environment. In order to improve the situation, the privatization ministry created 4 sugar holdings that should be privatized in the near future. Western sugar companies are expected to play an important role in this process (Nicom Consulting 1996; Bartens and Mosolff 1998, p.297).

The prospective EU integration as well as the domestic policy environment determine the investment climate for Western sugar companies in Poland. As early as 1989, the company British Sugar established the first joint venture with two Polish sugar factories (SugarPol 1996), and recently several German sugar processors started to purchase shares in Polish enterprises (Anonymous 1997a; 1997b). The question arises of how beneficial FDI will be in the Polish sugar industry, i.e. in a situation where a distorting policy regulation like the current quota system is in place. It must be expected that, apart from obvious cost advantages, some companies invest in Poland only for rent-seeking motivations, assuming that the EU quota system will be fully extended to the new member countries. Some authors even argue that, without extension of the quota system, it might be more profitable for Western sugar companies to serve the Polish market through exports from Western European production plants (Sommer 1998, p.37). However, if the EU would not extend the sugar quota to the new members, the sugar regime would have to be modified in other directions. Guaranteed domestic prices highly above world market levels would not be sustainable, as several countries in


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Central Europe have already reached their tariff bindings and limits on subsidized exports for sugar under the regulations by the World Trade Organization (Twesten 1998).<85> For these reasons, an analysis of the interaction between FDI and various trade policies is relevant also in a long-term perspective.

6.3. A Theoretical Model of Foreign Direct Investment

In this section, the theoretical background is laid out for the following empirical analysis of FDI in the Polish sugar industry. FDI is modeled as an exogenous increase in the domestic capital stock which increases the local production capacity and shifts the domestic supply curve to the right. Simultaneously, output changes in the sugar market are translated into demand for sugar beets. Moreover, local competition effects due to FDI are implemented on the sugar beet market.


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Production effects

Figure 6.1 provides a graphical description of the model (Casson and Pearce 1986).

Figure 6.1: FDI without quantitative restrictions

Source: Casson and Pearce (1986).

There are two groups of suppliers, i.e. foreigners and locals. In the initial situation, local supply, depicted by curve L, is at . This equals local demand, depicted by curve D, at a domestic price pd, which is significantly above the world market price pw. The difference between pd and pw is caused by the current protectionist policy regime. If, in a free trade scenario, the Polish sugar policy would be abolished, local supplies would fall to and consumption would increase to . It is assumed that the world market price would not be affected by Polish sugar imports. The standard welfare gains from removed protection would be obtained, i.e. a gain in consumer surplus which exceeds the loss in producer surplus.

FDI can occur either by building new plants and establishing foreign subsidiaries, or by purchasing shares of existing factories. In the model, these forms are treated uniformly. Any production with use of foreign capital is depicted by a sector supply curve F. Horizontal summation of curves F and L provides the total domestic supply curve G. If domestic price pd would be guaranteed by a policy of import tariffs and export subsidies, combined production of foreign and local suppliers would be at , and a


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certain amount could be exported, albeit at the expense of export subsidies. In a free trade scenario with FDI, total domestic supply would be at , and import demand would be reduced to compared to free trade without FDI.

As already mentioned, the Polish sugar policy consists mainly of a quota system. With incoming FDI, the situation can be described as in Figure 6.2 . Again, in the initial situation, local production and consumption are balanced at . With inflowing FDI and total output being limited by the quota, marginal costs are falling. Local suppliers earn a quota rent of , while foreign suppliers earn a quota rent of . Part of the total quantity produced is shifted from local to foreign producers.

Figure 6.2: FDI with an output quota

Source: Adapted from Casson and Pearce (1986).


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Competition effects

In addition to the production effects, the competitive environment in the food industry of former centrally-planned economies is likely to improve in the presence of FDI.<86> Figure 6.3 shows how output and input markets are linked in the model, and how competition effects are implemented on the input market for sugar beets.

Figure 6.3: Linking output and input markets

Source: Own extension based on Casson and Pearce (1986).

In the Northeastern quadrant of Figure 6.3 , the output market for sugar is shown as before, where q is the quantity of sugar and p the sugar price. To keep things simple,


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there are no foreign suppliers in this diagram. The amount of sugar beets necessary for producing one ton of sugar can be expressed by a sugar beet transformation factor. In Figure 6.3 , the slope of the line in the Northwestern quadrant corresponds to the size of the transformation factor. It can be different for local and foreign suppliers. The transformation factor is used for translating any output quantity of sugar into the corresponding input demand for sugar beets qsb. The price for sugar beets is then determined at the level where input demand equals input supply which is given by curve S. If, for example in a free trade situation, the domestic sugar price drops from pd to pw , local sugar production will be reduced from to , and this will in turn lead to a decrease in the demand for sugar beets from to . How much the price for sugar beets will fall, depends on the slope of the supply curve S. In this case it drops from to .

In order to model imperfect competition in transition countries, certain simplifying assumptions have to be made. Therefore, the Polish sugar industry in the current situation is assumed to reveal oligopsonistic behavior, where processing firms have some market power over sugar beet suppliers. The degree of oligopsony power in an empirical model can be measured by the so-called Lerner index (Lerner 1934). The Lerner index in this case defines the difference between the value of marginal product and the market price of an input caused by imperfectly competitive behavior of firms on the demand side of the input market. This is to say that Polish sugar suppliers in an oligopsony receive a lower price for their sugar beets than under perfect competition. In Figure 6.3 , curve S' represents the relevant input supply curve in an oligopsonistic market. Curve S would represent the case of perfect competition with no difference between psb and the value of marginal product for sugar beets. The Lerner index can be defined as: <87>

(1)

with:

H = Herfindahl measure of processing firm concentration (0 le H le 1)

epsilon = sugar beet supply elasticity (epsilon > 0)

beta = degree of collusion between processing firms (0 le beta le 1).


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It is implemented into the model as follows:

(2)

with:

p_ fX = value of marginal product of sugar beets

psb = price for sugar beets

L = Lerner index.

In Appendix A-6.1 it is shown that L is equal to zero under perfect competition and to under complete collusion. Thus, the logical range of L is ge L ge 0. If beta = 0, the case of a Cournot-type oligopsony applies. This will be assumed throughout the analysis in this paper (Chen and Lent 1992, p.975). Hence, with a given input supply elasticity epsilon the Lerner index will change with the number of processing firms in the sector. If the number of firms increases, e.g. because additional foreign firms enter the market, H decreases and the difference between the value of marginal product and the input price is reduced. The Lerner index provides a simple way to implement competition effects in the empirical model described in Section 6.4 .

Optimal taxation and welfare effects

Now the total welfare effect of FDI in the model has to be determined. Therefore, it is assumed that local policy-makers have the objective to maximize domestic welfare which can be defined as:<88>

(3) Domestic Welfare = Local consumer surplus

+ local producer surplus

+ tax revenue from foreign profit taxation

+ tariff revenue.

Tax and tariff revenues accrue to the government budget. Tariff revenue is positive in an import situation and negative in an export situation. Local consumer and producer surplus as well as tariff revenue automatically contribute to domestic welfare. However, the existence of foreign suppliers adds another aspect to the total welfare calculation. If it is assumed, for simplicity, that foreign firms are completely owned by foreign shareholders, it is also straightforward to assume that they would usually try to


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repatriate all profits related to FDI activities back to their home country. Although the local government is able to capture part of the foreign profits through taxation, it cannot increase the tax level too much, as this would deter foreign investors entirely from entering the domestic market.

In the presented model, the local government and the potential foreign investors are assumed to interact strategically in a decision sequence that involves the following steps shown in Figure 6.4 .<89>

Figure 6.4: Sequence of decisions by foreign investor and local government

Source: Adapted from Brander and Spencer (1987, p.261).

In the first stage, the foreign firm decides whether to supply a foreign market through FDI or exports. Here it is assumed that this first decision is always made in favor of FDI. This can be justified in the case where prohibitive import restrictions are in place, like in the Polish sugar market. Second, the foreign firm decides about the amount of capital to be invested, i.e. the level of investment. Third, the host country government chooses a tax rate that maximizes domestic welfare as defined in equation (3). In the final stage, given the tax rate, the foreign firm determines its profit maximizing output.

For modeling purposes it is important to specify the tax instrument. In this case a specific output tax is used. As pointed out by Brander and Spencer (1987, p.264), this is more appropriate than a profit tax due to credibility constraints in sequenced decision-making process. If a pure profit tax were used, the local government could tax away 100


209

percent of foreign profits once the investment were in place. No firm would undertake an investment under these conditions. Hence, it is assumed that the local government can confirm itself to the tax instrument, but the actual level is dependent on the policy regime and the level of investment. Under most circumstances, the optimal tax level is increasing in the amount of capital invested (Brander and Spencer 1987, p.268).

Unlike the case where only local suppliers are on a domestic market, the optimal tax rate in this model is usually greater than zero. If there are foreign suppliers on the market, the local government can always tax away a certain share of the foreign producer surplus which otherwise would be repatriated abroad. On the other hand, output taxes act as a disincentive to production and reduce producer surplus and, hence, tax revenues. The problem for the local government is to find the optimal tax rate such as to maximize domestic welfare.<90>

6.4. Structure and Calibration of the Empirical Model

Based on the theoretical model described in the last section, a partial equilibrium model is calibrated to the 1996 reference situation in the Polish sugar industry ( Table 6.1 ). The empirical model is based on reduced-form Cobb-Douglas functions which are defined as follows:

(4)

(Sugar demand)

(5)

(Sugar supply)<91>

(6)

(Sugar beet demand)<92>

(7)

(Sugar beet supply)

with:

qd, qs = sugar demand, supply

= sugar beet demand, supply

ps = sugar price


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psb = sugar beet price

t = tax rate

L = Lerner index of firm concentration

eta = own-price elasticity of sugar demand

epsilons = own-price elasticity of sugar supply

epsilons,sb = cross-price elasticity of sugar supply with respect to sugar beet price

epsilonsb = own-price elasticity of sugar beet supply

lambda = sugar beet transformation factor

a, b, c = constant parameters.

In the calibration procedure, equations (4), (5), and (7) are solved for the constant terms by using initial values of prices, quantities, and the Lerner index as well as the given elasticities. Once the equations are calibrated, they can be used in further analyses for deriving price and quantity effects as well as welfare changes.<93>

Table 6.3 provides the initial data needed for calibrating the supply and demand functions.

Table 6.3: Initial data on the Polish sugar industry in 1996

Quantities in t

 

Parameters

 

Local sugar demand: 1 700 000 Price elasticity of sugar demand:

- 0.2

Local sugar supply: 1 700 000 Price elasticity of sugar supply:

0.6

Sugar beet supply: 14 212 000 Price elasticity of sugar beet supply:

2

Prices in US$/t

 

Cross price elasticity of sugar supplywith respect to beet price:


- 0.1

Domestic sugar price: 545.0
World market sugar price: 333.0 Number of local sugar firms:

4

Sugar beet price: 25.4

 

 

Sources: Roningen et al. (1991); Bartens and Mosolff (1996); Devadoss and Kropf (1996); Walkenhorst (1997); Sommer (1998).

Local production and consumption of sugar is set at 1.7 million tons. The amount of sugar beets necessary for producing this quantity of sugar is derived with the sugar beet transformation factor. For Polish sugar factories in the current situation the


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transformation factor is 8.36 (Walkenhorst 1997, p.10). The domestic sugar price in Poland is about 64 percent above the world market price. The import tariff rate is set at 212 US$ per ton.

Supply and demand elasticities for sugar in market economies can be found in Roningen et al. (1991) and Devadoss and Kropf (1996). However, there is considerable uncertainty about the size of these elasticities in transition countries. The initial values given in Table 6.3 are rather high compared to average elasticities e.g. for the EU. This can be justified by the fact that the structure of consumption as well as production is constantly changing in the process of transition. Sugar demand might be more elastic than in mature market economies as new substitutes for sugar become available. The restructuring process on the supply side might also justify slightly higher elasticities than can be found in the literature. The supply elasticity for sugar beets is taken from Walkenhorst (1997). All elasticity parameters should be subject to profound sensitivity analysis, which has been done by lowering all the parameters with the exception of the demand elasticity. Parameter values and model results for this case are provided in Appendix A-6.3.

A supply function also has to be specified for foreign firms which are not in the market in the initial situation. The supply elasticity of foreign suppliers is initially also set at 0.6. In Table 6.2 it has been shown that productivity in Western European sugar industries is considerably higher than in Poland. Hence, for calibrating the foreign supply function it is assumed that, using the same amount of inputs, foreign supply at the initial domestic price would be 150 percent of current local supply. The sugar beet transformation factor for foreign firms is assumed to be 7.5 (Walkenhorst 1997, p.10).

In order to model the competition effect of FDI, the number of firms on the market has to be specified. As already mentioned, in the 1994 Sugar Act the 76 sugar factories currently operating in Poland were grouped into 4 holdings to be privatized in the near future. For simplicity, this is taken as the initial number of identical local firms in the model. Hence, the Herfindahl measure of firm concentration takes the value of 0.25.<94> Assuming Cournot-type behavior, i.e. the parameter beta in equation (2) is equal to zero, and taking a supply elasticity for sugar beets of 2, the initial value of the Lerner index is


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0.125. This is to say that the current price of sugar beets received by farmers is 12.5 percent lower than it would be under perfect competition. The pro-competitive effect of FDI is then introduced by 4 additional foreign firms entering the industry.<95>

Finally, the decision of foreign firms about the level of investment has to be specified. Since capital input is not explicitly considered in the model, the level of FDI is defined in terms of the relative share of foreign assets in the local production capacity. To reflect the general investment climate in the Polish sugar industry, two different risk scenarios are defined. In the high-risk scenario, the ratio of FDI to the local capital stock is assumed to be low at 0.1. This means the current capital stock in the Polish sugar industry is increased by 10 percent through FDI by Western sugar companies. In the low-risk scenario, the ratio of FDI to the local capital stock is increased to 0.5. This is equivalent to the assumption that a third of all sugar factories would be wholly owned by foreign investors. Alternatively, and probably more realistically, this is to say that in two thirds of the Polish sugar factories foreign firms would have a 50 percent share.<96>

6.5. Policy Scenarios and Selected Results

The major objective of the empirical analysis is to model the interaction between FDI, various types of trade policy intervention, and imperfect competition. For this purpose, four policy scenarios are defined under which FDI may occur in the Polish sugar industry. The scenarios range from a very restrictive domestic production quota to free trade. In addition, a free trade scenario without FDI is also simulated which serves as a benchmark with respect to the welfare effects of the FDI scenarios.

  1. No FDI (free trade): all policy interventions in the Polish sugar sector are removed; no FDI occurs.
  2. FDI with output quota : this is the current policy regime where the overall quantity of sugar remains fixed at initial levels, thus keeping the domestic price 64 percent above the world market level.

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  3. FDI with fixed domestic price : the domestic sugar price is held fixed at the current level through variable import levies and export subsidies; local producers are protected from imports.
  4. FDI with deficiency payment : producers receive the difference between world market price and guaranteed domestic price from the government, while consumers pay the lower world market price; local producers are protected from imports.
  5. FDI with free trade : this is the same as in scenario 1, but here FDI is introduced.

In order to capture competition effects, all the scenarios where FDI actually occurs are calculated with and without a reduction in the Lerner index on the sugar beet market. Furthermore, all FDI scenarios are calculated under the high-risk as well as the low-risk assumption.<97>

In each scenario, the interaction in decision-making between the host country government and the foreign investor works as follows. First, the decision on the level of investment is made according to risk assumptions. Second, the government chooses a tax rate that maximizes domestic welfare. Finally, the foreign firm decides on the optimal output given the tax rate. An equilibrium is obtained when there is neither an incentive for the government to increase the tax nor an incentive for the foreign firm to change output. The model results are then compared with the status quo in 1996 as the reference situation.

Table 6.4 shows model results for the high-risk case with a foreign capital share of 0.1 and no competition effects through FDI, i.e. the Lerner index stays at the initial rate of 0.125. In the free trade scenario without FDI, the local sugar price drops by 39 percent and, hence, consumption rises by about 10 percent. Sugar production by local firms is sharply reduced, and about a third of local sugar consumption has to be imported. Lower domestic sugar production also causes the demand for sugar beets to fall, which in turn leads to lower beet prices for farmers. If FDI occurs under free trade, local sugar production falls even more, by about a third compared to the reference situation. Imports are even slightly higher than in the scenario without FDI, since the government imposes a tax which has an output reducing effect. In the three protectionist scenarios,


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the fall in local sugar production is less severe. About 13 percent of total domestic output is provided by foreign firms. Since these firms have a lower beet transformation factor, sugar beet production is slightly reduced in the quota and fixed price scenario, even though total sugar production remains unchanged.

Table 6.4: Price and quantity effects of FDI in the Polish sugar industry under various policy scenariosa (FDI share = 0.1; no competition effects; Lerner index = 0.125)

 

Reference 1996

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Sugar price 545

333

545

545

545

333

% change

 

- 38.9

 

 

 

- 38.9

Sugar demand 1 700

1 876

1 700

1 700

1 876

1 876

% change

 

10.4

 

 

10.4

10.4

Local supply 1 700

1 283

1 478

1 478

1 631

1 091

% change

 

- 24.5

- 13.1

- 13.0

- 4.0

- 35.8

Foreign supply

 

 

222

222

245

164

Tradeb

 

- 593

0

0

0

- 621

Sugar beet price 25.4

22.1

25.2

25.2

26.5

21.7

% change

 

- 13.1

- 0.7

- 0.7

4.3

- 14.7

Sugar beet supply 14 212

10 725

14 020

14 021

15 473

10 352

% change

 

- 24.5

- 1.4

- 1.3

8.9

- 27.2

a Prices are in US$/t, quantities are in 1000 t.
b Negative values indicate imports.

Source: Own calculations.

Table 6.5 presents the welfare effects related to the changes just discussed. Consumers clearly gain from lower prices in the free trade scenarios as well as under the deficiency payment scheme. The most favorable scenario for sugar producers as well as sugar beet farmers is the deficiency payment system. However, this is only achieved by considerable budget expenditures for compensating the price difference between world and domestic markets. Total domestic welfare improves by 72 million US$ in the case of free trade with FDI, which is equivalent to about 8 percent of the total consumer expenditure on sugar. These maximum welfare gains are relatively small which is due to the high-risk assumption with an FDI share of only 10 percent. However, the quota system as the most restrictive policy scenario achieves only gains of 10 million US$, and under a deficiency payment system domestic welfare is even slightly reduced by 12


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million US$.<98> The optimum tax rate is lowest in the deficiency payment case and highest with about 24 percent in the free trade scenario with FDI. Sugar beet producers' surplus falls by about 9 percent of their initial revenue in both free trade scenarios, but remains almost unchanged in the scenarios with high sugar prices.

Table 6.5: Welfare effects of FDI in the Polish sugar industry under various policy scenarios, in million US$ (FDI share = 0.1; no competition effects; Lerner index = 0.125)

 

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Consumer surplus

379

 

 

379

379

Local producer surplus

- 316

- 140

- 181

- 54

- 407

Foreign producer surplus

 

52

46

60

20

Sum of domestic welfare

63

10

13

- 12

72

% of total sugar expenditure

6.8

1.1

1.4

- 1.3

7.8

Beet producer surplus

- 31

- 2

- 2

12

- 34

% of total revenue

- 8.6

- 0.5

- 0.5

3.4

- 9.5

Tax level (% of sugar price)

 

16.1

20.9

6.0

23.8

Source: Own calculations.

In the next set of calculations, positive competition effects through FDI are taken into account. This means, with given elasticity parameters, the Lerner index is reduced to 0.0625, i.e. the gap between the value of marginal product and the producer price for sugar beets is reduced from 12.5 to 6.25 percent. The quantity effects on the sugar market are generally very similar to the scenarios without increased competition.<99> Similarly, the overall welfare effects as shown in Figure 6.5 are not much affected by the changes in the competitive behavior of the sugar companies. In both cases, FDI under the deficiency payment scheme causes a slight welfare loss. This is due to the fact that the optimal tax rate is comparatively low, i.e. a higher share of foreign producer surplus is transferred abroad and, hence, does not accrue to the local budget.


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Figure 6.5: Total domestic welfare effects of FDI with and without changes in competition (FDI share = 0.1)

Source: Own calculations.

Figure 6.6: Changes in sugar beet producer surplus due to FDI with and without competition effects (FDI share = 0.1)

Source: Own calculations.


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Despite the fact that overall domestic welfare effects from improved competition are negligible, sugar beet producers gain remarkably from higher beet prices. While their surplus still falls by 21 million US$ in the free trade case with FDI, it increases by 19 million US$ under the quota and the fixed-price regime, and even by 36 million US$ in the deficiency-payment scenario ( Figure 6.6 ). This additional gain does not change the total welfare effect, because the reduction in the oligopsony rent is mainly a reallocation of income from sugar producers to sugar beet farmers.<100> While the deficiency payment system is the least desirable scenario from the host country's point of view, it is the welfare maximizing option for sugar processors as well as sugar beet farmers.<101>

All results presented so far have dealt with scenarios under the high-risk assumption where the foreign investment share is rather low. In order to compare the high-risk with the more optimistic low-risk case, Figure 6.7 shows the total domestic welfare effects for both FDI shares of 0.1 as well as 0.5.<102> Only the scenarios with positive competition effects are considered, as total domestic welfare is again hardly affected by changes in competition.

Figure 6.7: Total domestic welfare effects of FDI under high and low-risk scenarios, with positive competition effects

Source: Own calculations.


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In the low-risk case, domestic welfare strongly increases in all policy scenarios. However, the ranking of the policy instruments from the host country's perspective changes. With a higher FDI share, the less restrictive policy options become more attractive. The deficiency payment system now yields about 86 percent of the welfare gain under free trade. The quota system leads to only half the gains compared to the other policy options.<103>

Local sugar processors lose considerably in all scenarios, as they are partly driven out of the market by their foreign competitors. Figure 6.8 shows the corresponding changes in producer surplus. As mentioned above, the ranking of the policy scenarios from their point of view is reversed as compared to the overall host country's perspective. With a low level of FDI, the deficiency payment scheme is the most favorable option for local sugar processors, while the quota causes the smallest losses when foreign involvement in the sector is strong. In this case, the quota rent accounts for a much bigger share in producer surplus.

Figure 6.8: Changes in producer surplus of local sugar processors due to FDI under high and low-risk scenarios, with positive competition effects

Source: Own calculations.


219

The quota system is also the most preferred option for foreign sugar processors. While the three protectionist scenarios lead to similar gains for foreign companies in the high-risk scenarios, the gains under the quota regime more than triple in the low-risk case ( Figure 6.9 ). This makes the most restrictive policy measure with the related quota rents the most attractive option for foreign producers who invest in the Polish sugar market. The results support the view discussed earlier that some Western companies might only have started to buy shares in Polish sugar factories in order to secure market shares under a future quota system in an enlarged EU.

Figure 6.9: Producer surplus of foreign sugar processors from FDI under high and low-risk scenarios, with positive competition effects

Source: Own calculations.

Finally, the optimal tax rates are provided for the high as well as low-risk scenarios ( Figure 6.10 ). The optimum tax rate more than doubles in all scenarios with a high level of FDI. Due to higher foreign participation in the sector, the government is able to capture a bigger share of producer income through taxation. In addition to the gains in consumer welfare from lower sugar prices, i.e. in the case of deficiency payments and free trade, the tax revenue accounts for the positive domestic welfare effects as shown in Figure 6.7 . In the model, so far only a simple output tax has been considered due to credibility constraints in the decision-making process. More realistic tax instruments


220

might change the ability of the local government to capture parts of the foreign producer surplus.<104>

Figure 6.10: Optimal tax rate under high and low-risk scenarios, with positive competition effects

Source: Own calculations.

The model results for the sensitivity analysis with lower supply elasticity parameters are provided in Appendix A-6.3. The quantity effects are similar to the results already discussed, with the exception of local sugar supply, which is, due to lower elasticity values, much less reduced in the free trade scenarios. The ranking of the scenarios with respect to local and foreign producer surplus as well as total domestic welfare remains the same. The range of domestic welfare effects is wider in the sensitivity analysis, as the highest total gains under free trade are only 55 million US$ in the high-risk case, while they are more than 190 million US$ in the low-risk scenarios. Sugar beet farmers are generally better off in the sensitivity analysis with lower parameter values.

6.6. Conclusions

Inefficient processing industries in Central European transition countries in many cases act as bottlenecks for the development of competitive agricultural and food sectors.


221

State involvement often is still high, privatization procedures are slow, and in some countries protectionist trade policies have been implemented in order to increase the profitability of inefficient local food processors (OECD 1996). On the other hand, expectations are high that FDI activities will contribute significantly to privatization and restructuring of these industries. Therefore, all transition countries try to establish a stable institutional framework and favorable investment conditions in order to attract foreign firms.

In this paper, a simple agricultural sector model has been developed for analyzing the effects of FDI in the presence of protectionist trade policies as well as market imperfections. The interaction between a potential foreign investor and the local government is represented by a decision sequence, in which output taxes and the level of investment are crucial variables. It is also taken into account that processing firms in transition countries often have some market power over their input suppliers in the farm sector. Market entrance of foreign firms is likely to change the competitive environment to the favor of local agriculture. The model is applied to the Polish sugar sector where a quota system similar to EU regulations was introduced in 1994.

The model simulations show that the policy environment matters very much with respect to the potential impact of FDI in the Polish sugar industry, while the pro-competitive effect of foreign entrants seems to be less important. It is not the case that the same positive welfare effect of FDI occurs regardless of any trade policy distortions on the local market. While significant welfare gains can be derived if FDI occurs in a free trade scenario, under more restrictive policies domestic welfare might even decrease, if investment risk is high and FDI inflows are small. A quota system is certainly one of the least desirable policy options from the host country's perspective. If FDI occurs under quantitative restrictions, foreign firms capture a significant share of the quota rent, which can be only partly taxed away by the government. On the other hand, sugar producers are better off in the quota scenario than under any other policy regime, if the share of FDI in the local industry is relatively high. For sugar beet farmers, a deficiency payment scheme is the most favorable option in which the highest overall output of sugar occurs. The model results clearly show that the potential positive impact of FDI on the host country's economy is considerably reduced in the presence of distorting trade policies.


222

The pro-competitive effect of FDI on the input market for sugar beets only accounts for a small additional gain in domestic welfare. Although the price increase for sugar beets contributes to a higher producer surplus for farmers, this is primarily a reallocation of income from the processing firms. However, in some cases the change in sugar beet producers' surplus more than doubles due to increased competition. In other cases a slight loss is converted into a significant gain.

The model developed in this paper should be applicable to other industries in transition countries, as it is fairly simple and not too demanding in terms of data requirements. The results are straightforward and may be easy to communicate to policy-makers. However, there is certainly scope for further improvements. First, elasticity parameters are not very reliable during the transition process and further sensitivity analysis is required. Second, the implementation of imperfect competition in the current model might be over-simplified in a situation in which market imperfections are rather caused by strong government involvement than by oligopsonistic behavior of processing firms. This needs further refinement. Third, instead of setting the amount of FDI exogenously, the decision by foreign firms between FDI in or exports to a certain country should be endogenized in the model. This also implies an explicit decision with respect to the level and the actual type of investment, i.e. the choice between wholly-owned subsidiaries and joint-venture agreements. Moreover, a dynamic version of the model would probably be more appropriate for the analysis of FDI in a rapidly changing transition economy. Finally, issues like technology transfer and local employment effects have been neglected so far. Nevertheless, the present model may still provide some valuable insights into the interaction between FDI, distorting trade policies and imperfect competition.

6.7. References

Anonymous (1997a): Pfeifer & Langen baut auf Europa. In: Süddeutsche Zeitung, 05.07.97.

Anonymous (1997b): Swing bei Schöller versüßt den Zuckergewinn. In: Handelsblatt, 15.07.97.


223

Bartens and Mosolff: Sugar Economy - Zuckerwirtschaft. Various issues, Berlin.

Brander, J.A., Spencer, B.J. (1987): "Foreign Direct Investment with Unemployment and Endogenous Taxes and Tariffs. " In: Journal of International Economics 22, p.257-279.

Casson, M., Pearce, R.D. (1986): The Welfare Effects of Foreign Enterprise: A Diagrammatic Analysis. University of Reading Discussion Paper in International Investment and Business Studies No. 98. Reading, UK.

Caves, R.E. (1982): Multinational Enterprise and Economic Analysis. Cambridge, Massachusetts.

Chen, Zh., Lent, R. (1992): "Supply Analysis in an Oligopsony Model. " In: American Journal of Agricultural Economics 74 (4), p.973-979.

Devadoss, S., Kropf, J. (1996): "Impacts of trade liberalization under the Uruguay Round on the world sugar market. " In: Agricultural Economics 15 , p.83-96.

European Commission (1995): Agricultural Situation and Prospects in the Central and East European Countries - Poland. Working Document. Brussels.

Lerner, A.P. (1934): "The Concept of Monopoly and the Measurement of Monopoly Power. " In: Review of Economic Studies 1 , p.157-175.

Lomza, J. (1996): "Polish Sugar Industry. " In: Polish Food (Autumn), p.48-49.

OECD (Organization for Economic Co-Operation and Development) (1991): The Soviet Agro-Food System and Agricultural Trade - Prospects for Reform. Paris.

OECD (Organization for Economic Co-Operation and Development) (1996): Agricultural Policies, Markets, and Trade in Transition Economies - Monitoring and Evaluation. Paris.

Nicom Consulting (1996): Nicom Bulletin No. 12 (December). Warsaw.

Roningen, V., Sullivan, F., Dixit, P. (1991): Documentation of the Static World Policy Simulation (SWOPSIM) Modeling Framework. United States Department of Agriculture ERS Staff Report No. AGES 9151. Washington D.C.

Sommer, U. (1998): "Der Markt für Zucker. " In: Agrarwirtschaft 47 (1), p.34-38.

SugarPol (1996): Company reports. Peterborough.


224

Twesten, H. (1998): Implikationen der WTO-Verpflichtungen der Visegrad-Staaten für den Beitritt zur Europäischen Union. In: Heißenhuber, A.; Hoffmann, H.; von Urff, W. (eds.): Land- und Ernährungswirtschaft in einer erweiterten EU. Münster-Hiltrup, p.125-133.

Walkenhorst, P. (1997): Agro-Industrial Restructuring in East-Central Europe: The Case of Sugarbeet Processing in Poland. Paper presented at the 54th EAAE Seminar "Food Processing and Distribution in Transition Economies: Problems and Perspectives", December 7-9, Halle/Saale.


225

Appendix A-6.1 Derivation of the Lerner Index for the Case of an Oligopsony

The derivation of the Lerner index for this paper is adopted from Chen and Lent (1992). It starts with a single processing firm's profit function:

(1) ,

with:

\|[Pgr ]\|i = profit of firms i

p = price of output, e.g. sugar

qi = output quantity

wx = input price for raw input x, e.g. sugar beets

xi = quantity of raw input used by firm i

wm = price for other inputs

mi = quantity of other inputs.

One of the first order conditions of profit maximization for each firm is

(2) .

Setting this expression equal to zero and rearranging yields

(3) ,

with fx as the first derivative of qi with respect to xi. Any processing firm i faces an inverse input market supply function

(4) ,

with , i.e. the sum of raw inputs purchased by all processing firms.

The first derivative of wx with respect to xi yields

(5) .

This can be rearranged to


226

(6) ,

which is equivalent to

(7) ,

with epsilon being the price elasticity of market supply for input x.

Now (3) and (7) can be combined and wx can be factored out to get

(8) .

The derivative of X with respect to a single firm's quantity xi is equivalent to 1 minus the sum of derivatives of all other firms' quantities xj with respect to xi :

(9) ,

where betai is the conjectural variation parameter reflecting the degree of collusion between firms. It can take values between 0 and 1. Then, equation (8) is multiplied by :

(10) ,

sum up over i and substitute in (1-betai) from equation (9):

(11) .

The term is factored out in the last part of equation (11) which can be rewritten as

(12) ,


227

where p_ fX is now the weighted average of marginal products of raw input in the market. Two expressions in equation (12) can now be redefined. First, the Herfindahl index H as a measure of market concentration is (Chen and Lent 1992, p.974). Second, the weighted average of conjectural variations reflects the degree of collusion in the market. Using H and beta, equation (12) can be simplified to

(13) .

The degree of market power in a certain industry can be stated as a composite Lerner index:

(14) ,

which simplifies equation (13) even further to

(15) .

Thus L defines the difference between the value of marginal product and the market price for the raw input which is due to concentration of oligopsonistic processing firms. Depending on the values for H and betai, several cases of market power can be distinguished:

  1. Under perfect competition L = 0, as firms' concentration H approaches zero and/or the supply elasticity epsilon becomes infinitely high.
  2. In the monopoly case, H = 1 and betai = 0, hence L takes the value of .
  3. Alternatively, several firms can act like a monopoly which is the case of complete collusion. L again is equal to , but it can be shown that in this case betai is proportional to firms' relative market share , which yields (Chen and Lent 1992, p.978).

    228

  4. Finally, there is the case of a Cournot-type oligopsony where betai = 0 and H < 1. This is the case applied in the simulations for this paper. The Lerner index L is determined by the measure of concentration H and the supply elasticity for raw inputs epsilon. If all firms in the market have the same market share, H is equal to the inverse of the number of firms.


229

Appendix A-6.2 Further Model Results with Initial Parameters

Table A-6.2.1: Price and quantity effects of FDI in the Polish sugar industry under various policy scenariosa (FDI share = 0.1; positive competition effects; Lerner index = 0.0625)

 

Reference 1996

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Sugar price 545

333

545

545

545

333

% change

 

- 38.9

 

 

 

- 38.9

Sugar demand 1 700

1 876

1 700

1 700

1 876

1 876

% change

 

10.4

 

 

10.4

10.4

Local supply 1 700

1 269

1 478

1 478

1 631

1 089

% change

 

- 25.4

- 13.0

- 13.0

- 4.0

- 35.9

Foreign supply

 

0

222

222

245

163

Tradeb

 

- 607

 

0

0

- 623

Sugar beet price 25.4

24.7

26.7

26.7

28.1

22.9

% change

 

- 2.8

5.2

5.2

10.5

- 9.7

Sugar beet supply 14 212

10 606

14 021

14 021

15 473

10 331

% change

 

- 25.4

- 1.3

- 1.3

8.9

- 27.3

a Prices are in US$/t, quantities are in 1000 t.
b Negative values indicate imports.

Source: Own calculations.

Table A-6.2.2: Welfare effects of FDI in the Polish sugar industry under various policy scenarios in million US$ (FDI share = 0.1; positive competition effects; Lerner index = 0.0625)

 

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Consumer surplus

379

 

 

379

379

Local producer surplus

- 315

- 140

- 174

- 46

- 404

Foreign producer surplus

0

51

46

60

20

Sum of domestic welfare

64

10

12

- 13

72

% of total sugar expenditure

6.9

1.1

1.3

- 1.4

7.8

Beet producer surplus

- 3

19

19

36

- 21

% of total revenue

- 0.8

5.3

5.3

10.1

- 5.9

Tax level (% of sugar price)

 

16.1

20.1

5.1

23.4

Source: Own calculations.


230

Table A-6.2.3: Price and quantity effects of FDI in the Polish sugar industry under various policy scenariosa (FDI share = 0.5; no competition effects; Lerner index = 0.125)

 

Reference 1996

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Sugar price 545

333

545

545

545

333

% change

 

- 38.9

 

 

 

- 38.9

Sugar demand 1 700

1 876

1 700

1 700

1 876

1 876

% change

 

10.4

 

 

10.4

10.4

Local supply 1 700

1 283

971

971

1 072

881

% change

 

- 24.5

- 42.9

- 42.9

- 36.9

- 48.2

Foreign supply

 

0

729

729

804

660

Tradeb

 

- 593

 

0

0

- 335

Sugar beet price 25.4

22.1

24.8

24.8

26.1

23.6

% change

 

- 13.1

- 2.2

- 2.2

2.7

- 6.9

Sugar beet supply 14 212

10 725

13 585

13 585

14 992

12 316

% change

 

- 24.5

- 4.4

- 4.4

5.5

- 13.3

a Prices are in US$/t, quantities are in 1000 t.
b Negative values indicate imports.

Source: Own calculations.

Table A-6.2.4: Welfare effects of FDI in the Polish sugar industry under various policy scenarios in million US$ (FDI share = 0.5; no competition effects; Lerner index = 0.125)

 

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Consumer surplus

379

 

 

379

379

Local producer surplus

- 316

- 243

- 443

- 404

- 471

Foreign producer surplus

0

184

75

98

58

Sum of domestic welfare

63

66

121

124

144

% of total sugar expenditure

6.8

7.1

13.0

13.4

15.5

Beet producer surplus

- 31

- 6

- 6

8

- 17

% of total revenue

- 8.6

- 1.6

- 1.6

2.1

- 4.8

Tax level (% of sugar price)

 

33.3

60.8

53.4

46.0

Source: Own calculations.


231

Table A-6.2.5: Price and quantity effects of FDI in the Polish sugar industry under various policy scenariosa (FDI share = 0.5; positive competition effects; Lerner index = 0.0625)

 

Reference 1996

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Sugar price 545

333

545

545

545

333

% change

 

- 38.9

 

 

 

- 38.9

Sugar demand 1 700

1 876

1 700

1 700

1 876

1 876

% change

 

10.4

 

 

10.4

10.4

Local supply 1 700

1 269

971

971

1 072

876

% change

 

- 25.4

- 42.9

- 42.9

- 36.9

- 48.5

Foreign supply

 

0

729

729

804

657

Tradeb

 

- 607

 

0

0

- 344

Sugar beet price 25.4

24.7

26.3

26.3

27.6

25.0

% change

 

- 2.8

3.5

3.5

8.7

- 1.7

Sugar beet supply 14 212

10 606

13 585

13 585

14 992

12 244

% change

 

- 25.4

- 4.4

- 4.4

5.5

- 13.8

a Prices are in US$/t, quantities are in 1000 t.
b Negative values indicate imports.

Source: Own calculations.

Table A-6.2.6: Welfare effects of FDI in the Polish sugar industry under various policy scenarios in million US$ (FDI share = 0.5; positive competition effects; Lerner index = 0.0625)

 

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Consumer surplus

379

 

 

379

379

Local producer surplus

- 315

- 243

- 440

- 400

- 470

Foreign producer surplus

0

183

75

98

57

Sum of domestic welfare

64

66

120

123

143

% of total sugar expenditure

6.9

7.1

12.9

13.3

15.5

Beet producer surplus

- 3

14

14

31

- 1

% of total revenue

- 0.8

3.9

3.9

8.5

- 0.3

Tax level (% of sugar price)

 

33.3

60.4

53.0

46.0

Source: Own calculations.


232

Appendix A-6.3 Sensitivity Analysis with Modified Parameters

Table A-6.3.1: Data for model calibration in the sensitivity analysis

Quantities in t

 

Parameters

 

Local sugar demand: 1 700 000 Price elasticity of sugar demand:

- 0.20

Local sugar supply: 1 700 000 Price elasticity of sugar supply (local):

0.15

Sugar beet supply: 14 212 000 Price elasticity of sugar supply (foreign):

0.30

Prices in US$/t

 

Price elasticity of sugar beet supply:

1

Domestic sugar price: 545.0 Cross price elasticity of sugar supplywith respect to beet price:


- 0.05

World market sugar price: 333.0
Sugar beet price: 25.4 Number of local sugar firms:

4

Sources: Roningen et al. (1991); Bartens and Mosolff (1996); Devadoss and Kropf (1996); Walkenhorst (1997); Sommer (1998).


233

Sensitivity analysis results for the high-risk case

Table A-6.3.2: Price and quantity effects of FDI in the Polish sugar industry under various policy scenarios (Sensitivity analysis)a (FDI share = 0.1; no competition effects; Lerner index = 0.25)

 

Reference 1996

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Sugar price 545

333

545

545

545

333

% change

 

- 38.9

 

 

 

- 38.9

Sugar demand 1 700

1 876

1 700

1 700

1 876

1 876

% change

 

10.4

 

 

10.4

10.4

Local supply 1 700

1 585

1 501

1 501

1 638

1 420

% change

 

- 6.8

- 11.7

- 11.7

- 3.6

- 16.5

Foreign supply

 

0

199

199

238

177

Tradeb

 

- 291

0

 

 

- 279

Sugar beet price 25.4

23.7

25.1

25.1

27.7

23.6

% change

 

- 6.8

- 1.2

- 1.2

8.9

- 7.1

Sugar beet supply 14 212

13 249

14 041

14 041

15 479

13 198

% change

 

- 6.8

- 1.2

- 1.2

8.9

- 7.1

a Prices are in US$/t, quantities are in 1000 t.
b Negative values indicate imports.

Source: Own calculations.

Table A-6.3.3: Welfare effects of FDI in the Polish sugar industry under various policy scenarios in million US$ (Sensitivity analysis) (FDI share = 0.1; no competition effects; Lerner index = 0.25)

 

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Consumer surplus

379

 

 

379

379

Local producer surplus

- 348

- 319

- 493

- 178

- 601

Foreign producer surplus

0

56

34

76

21

Sum of domestic welfare

31

20

31

3

55

% of total sugar expenditure

3.3

2.1

3.3

0.4

5.9

Beet producer surplus

- 18

- 3

- 3

25

- 19

% of total revenue

- 4.9

- 0.9

- 0.9

7.0

- 5.2

Tax level (% of sugar price)

 

36.6

56.5

19.6

52.0

Source: Own calculations.


234

Table A-6.3.4: Price and quantity effects of FDI in the Polish sugar industry under various policy scenarios (Sensitivity analysis)a (FDI share = 0.1; positive competition effects; Lerner index = 0.125)

 

Reference 1996

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Sugar price 545

333

545

545

545

333

% change

 

- 38.9

 

 

 

- 38.9

Sugar demand 1 700

1 876

1 700

1 700

1 876

1 876

% change

 

10.4

 

 

10.4

10.4

Local supply 1 700

1 576

1 500

1 500

1 637

1 412

% change

 

- 7.3

- 11.7

- 11.7

- 3.7

- 17.0

Foreign supply

 

0

200

200

239

176

Tradeb

 

- 300

 

0

0

- 288

Sugar beet price 25.4

26.2

27.9

27.9

30.7

26.1

% change

 

3.0

9.8

9.8

21.0

2.6

Sugar beet supply 14 212

13 176

14 040

14 040

15 478

13 122

% change

 

- 7.3

- 1.2

- 1.2

8.9

- 7.7

a Prices are in US$/t, quantities are in 1000 t.
b Negative values indicate imports.

Source: Own calculations.

Table A-6.3.5: Welfare effects of FDI in the Polish sugar industry under various policy scenarios in million US$ (Sensitivity analysis) (FDI share = 0.1; positive competition effects; Lerner index = 0.125)

 

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Consumer surplus

379

 

 

379

379

Local producer surplus

- 347

- 320

- 481

- 155

- 600

Foreign producer surplus

0

56

36

78

20

Sum of domestic welfare

32

20

30

1

55

% of total sugar expenditure

3.4

2.2

3.2

0.1

5.9

Beet producer surplus

15

36

36

73

14

% of total revenue

4.3

9.9

9.9

20.2

3.9

Tax level (% of sugar price)

 

36.7

55.1

17.1

52.2

Source: Own calculations.


235

Sensitivity analysis results for the low-risk case

Table A-6.3.6: Price and quantity effects of FDI in the Polish sugar industry under various policy scenarios (Sensitivity analysis)a (FDI share = 0.5; no competition effects; Lerner index = 0.25)

 

Reference 1996

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Sugar price 545

333

545

545

545

333

% change

 

- 38.9

 

 

 

- 38.9

Sugar demand 1 700

1 876

1 700

1 700

1 876

1 876

% change

 

10.4

 

 

10.4

10.4

Local supply 1 700

1 585

1 134

1 134

1 219

1 306

% change

 

- 6.8

- 33.3

- 33.3

- 28.3

- 23.2

Foreign supply

 

0

566

566

657

758

Tradeb

 

- 291

 

0

0

188

Sugar beet price 25.4

23.7

24.5

24.5

27.0

29.7

% change

 

- 6.8

- 3.4

- 3.4

6.4

16.8

Sugar beet supply 14 212

13 249

13 725

13 725

15 118

16 602

% change

 

- 6.8

- 3.4

- 3.4

6.4

16.8

a Prices are in US$/t, quantities are in 1000 t.
b Negative values indicate imports.

Source: Own calculations.

Table A-6.3.7: Welfare effects of FDI in the Polish sugar industry under various policy scenarios in million US$ (Sensitivity analysis) (FDI share = 0.5; no competition effects; Lerner index = 0.25)

 

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Consumer surplus

379

 

 

379

379

Local producer surplus

- 348

- 406

- 721

- 707

- 671

Foreign producer surplus

0

141

15

29

54

Sum of domestic welfare

31

81

144

183

192

% of total sugar expenditure

3.3

8.8

15.5

19.8

20.7

Beet producer surplus

- 18

- 9

- 9

18

49

% of total revenue

- 4.9

- 2.5

- 2.5

4.9

13.7

Tax level (% of sugar price)

 

52.6

93.4

88.9

70.3

Source: Own calculations.


236

Table A-6.3.8: Price and quantity effects of FDI in the Polish sugar industry under various policy scenarios (Sensitivity analysis)a (FDI share = 0.5; positive competition effects; Lerner index = 0.125)

 

Reference 1996

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Sugar price 545

333

545

545

545

333

% change

 

- 38.9

 

 

 

- 38.9

Sugar demand 1 700

1 876

1 700

1 700

1 876

1 876

% change

 

10.4

 

 

10.4

10.4

Local supply 1 700

1 576

1 132

1 132

1 217

1 300

% change

 

- 7.3

- 33.4

- 33.4

- 28.4

- 23.5

Foreign supply

 

0

568

568

659

755

Tradeb

 

- 300

0

 

0

179

Sugar beet price 25.4

26.2

27.3

27.3

30.0

32.8

% change

 

3.0

7.3

7.3

18.2

29.2

Sugar beet supply 14 212

13 176

13 724

13 724

15 117

16 531

% change

 

- 7.3

- 3.4

- 3.4

6.4

16.3

a Prices are in US$/t, quantities are in 1000 t.
b Negative values indicate imports.

Source: Own calculations.

Table A-6.3.9: Welfare effects of FDI in the Polish sugar industry under various policy scenarios in million US$ (Sensitivity analysis) (FDI share = 0.5; positive competition effects; Lerner index = 0.125)

 

No FDI
(free trade)

Quota

Fixed domestic price

Deficiency payment

Free trade

Consumer surplus

379

 

 

379

379

Local producer surplus

- 347

- 406

- 719

- 704

- 669

Foreign producer surplus

0

141

15

30

54

Sum of domestic welfare

32

81

144

183

191

% of total sugar expenditure

3.4

8.8

15.6

19.7

20.6

Beet producer surplus

15

28

28

63

102

% of total revenue

4.3

7.8

7.8

17.5

28.3

Tax level (% of sugar price)

 

52.7

93.2

88.6

70.2

Source: Own calculations.


Fußnoten:

<83>

For a general discussion of the effects of FDI see Caves (1982).

<84>

"Raw sugar value" is a uniform quantity measure for various types of processed sugar products, like raw sugar, white sugar, or molasses.

<85>

Poland is an exception, as tariff bindings for white sugar are above EU levels. With respect to export subsidies the situation is unclear due to measurement problems (Twesten 1998, p.131).

<86>

This will lead to welfare gains for local farmers who supply raw inputs, like sugar beets in this case. Of course, it is also possible that the competitive situation in the recipient country deteriorates, if foreign firms dominate the domestic market and gain market power. This case, however, is not considered here.

<87>

See Appendix A-6.1 for a mathematical derivation of the Lerner index and a definition of the Herfindahl measure of concentration.

<88>

This is adapted from Casson and Pearce (1986, p.5).

<89>

The decision sequence is adapted from a model by Brander and Spencer (1987).

<90>

In the empirical model, both foreign and local suppliers are charged with the output tax. This is justified by the fact that it is not distinguished between wholly-owned foreign subsidiaries and joint ventures. It could also be argued that a tax discrimination between locals and foreigners would not be sustainable.

<91>

The supply functions for local and foreign suppliers only differ in the size of the parameters.

<92>

The sugar beet transformation factor lambda is higher for local than for foreign firms.

<93>

The welfare measures can be calculated by using the curve integrals. However, since the supply for sugar beets in the model is linked to the production of sugar, double-counting of producer surplus on the input and output market has to be ruled out.

<94>

See Appendix A-6.1 for calculation of the Herfindahl measure.

<95>

A total number of firms between 4 and 8 in the Polish sugar market seems not unrealistic given other model results in the literature. For example, in a plant-location model of the Polish sugar industry, Walkenhorst (1997) derives the result that, after large-scale restructuring, only 13 factories of an efficient size might stay in operation.

<96>

A share of about 50 percent is often found in joint-venture arrangements. The maximum share of foreign capital in the overall local capital stock would probably be at 0.5, since many countries do not accept a majority stake of foreigners in their industries.

<97>

This yields in total 16 scenarios with FDI, plus the benchmark free trade scenario without FDI.

<98>

In the scenarios fixed domestic price and deficiency payment, the tax rate is only increased subject to a balanced trade situation. Although in the model a further tax increase would be welfare improving, as cheap imports could be substituted for high-price domestic production, this would contradict the intention of the trade policy. It is assumed that trade policies were initially introduced in order to protect domestic producers from import competition.

<99>

The detailed results are given in Appendix A-6.2.

<100>

This result is partly determined by the size of the cross-price elasticity of sugar supply with respect to the beet price which was set at - 0.1. The potential effect of a larger cross-price elasticity has not been considered in this paper.

<101>

See Table A-6.2.2 in Appendix A-6.2.

<102>

The corresponding price and quantity changes can be found in Appendix A-6.2.

<103>

In the free trade scenario with a high level of FDI, imports are reduced by about a half compared to the high-risk case and the scenario without FDI. This shows that, at current world market price levels, Poland would not be able to export sugar, even in the case with relatively high FDI inflows. See Table A-6.2.5 in Appendix A-6.2 for the detailed results.

<104>

The impact of different tax instruments on the outcome of the decision sequence between the government and the foreign investor is left for further research.


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