Are There Too Many Farms in the World? Labor-Market Transaction Costs, Machine Capacities and Optimal Farm Size

Abstract

This paper seeks to explain the U-shaped relationship between farm productivity and farm scale - the initial fall in productivity as farm size increases from its lowest levels and the continuous upward trajectory as scale increases after a threshold - observed across the world and in low-income countries. We show that the existence of fixed transaction costs can explain why the smallest farms are most efficient in their use of labor, slightly larger farms least efficient and larger farms as efficient as the smallest farms. We show that to explain the rising upper tail of the U requires there be economies of scale machine capacity. We address the question of whether these conditions are met in India using data from the India ICRISAT VLS panel survey. We find evidence consistent with our model, suggesting that there are too many farms, at scales insufficient to exploit locally-available equipment capacity scale-economies and hampered by labor-market transaction costs.

Keywords: agriculture, scale-economies, mechanization, transaction costs

JEL Classification: O13, Q15, Q12