Distribution of Gains from Research and Promotion in Multi-stage Production Systems: Further Results

In this study, we examine the distributional effects of research versus consumer promotion. A few years ago, a notable article by Wohlgenant (AJAE 75, 1993) investigated this issue and concluded that producers would benefit more from research on farm-level production than from research on marketing services and promotion. His findings have drawn important policy implications for the allocation of checkoff funds, especially for those producer groups (e.g., dairy, beef, and pork) who spend a large share of their funds on consumer promotion. We challenge his conclusions. We contend that his findings are confined to a special case, the parallel shift in demand and supply. To verify our claim, we reexamined his findings with an alternative case, a pivotal shift, and found that consumer promotions benefitted producers more than research activities. Our new findings indicate that the relative profitability of research versus promotion is highly sensit ive to the assumption of the nature of shifts in demand and supply. Distribution of Gains from Research and Promotion in Multi-Stage Production Systems: Further Results Agricultural producers in the United States raise approximately $750 million annually in checkoff program designed to increase demand and lower costs (Forker and Ward). This money is used to fund consumer promotion, research, education programs, and other activities. There has been a lot of research conducted on the impacts of the checkoff program, but most of it has focused on either promotion or research, individually. A notable exception to this is recent research by Wohlgenant, who investigated the distribution effects of research versus promotion. He concluded that when the elasticity of substitution between farm and nonfarm inputs is greater than zero and there is equal effectiveness of each checkoff activity (i.e., shifting retail demand and farm supply curves by the same amount vertically), research on farm production generates greater returns to producers than research on marketing service or consumer promotion. Wohlgenant’s conclusion is intui tive because given a nonzero substitution elasticity, there should be some loss in transmission of shifts in retail demand (from promotion) back to the farm level. Wohlgenant’s findings have drawn important policy implications for the allocation of checkoff funds. This is of special significance to some producer groups (e.g., dairy, beef, and pork) who spend a large share of the checkoff funds on consumer promotion. Wohlgenant argued, “one reason more resources are not allocated to research is that legislation, enabling spending of producer checkoff funds, is limited to promotion and certain research activities. For example, the Beef Promotion and Research Act of 1986 limits research to studies relative to the effectiveness of market development and promotion efforts, studies relating to the nutritional value of beef and beef products, other related food science research, and new product development” (p. 650). Based on his findings, Wholgenant suggested Congress should consider expanding the scope of activities to directly include funding of farm-level research activities. In this study, we provide some further results on the allocation of checkoff funds between research and promotion. Wohlgenant estimated producer gains from checkoff activities under the assumption of parallel shifts in demand and supply curves. We reexamine his findings with the assumption of pivotal shifts. While the parallel shift in demand function implies that consumer promotion results in a constant increase in sales at each level of price, the pivotal shift in demand function implies that the promotion effects are greater at low prices than at high prices. Similarly, the pivotal shift in supply function implies that research generates greater cost reduction for marginal firms than for inframarginal firms. Several studies in the literature of marketing and agricultural economics have already either discussed or provided evidence of pivotal shifts in demand (e.g., Kuehn; and Prasad and Ring) and supply (e.g., Lindner and Jarrett; Voon and Edwards; and Alston, Sexton, and Zhang) functions caused by consumer promotion and research activities, respectively. Therefore, it is essential to reinvestigate Wohlgenant’s findings under the assumption of pivotal shift before making any policy prescriptions. In contrast to Wohlgenant, we find that consumer promotion benefits producers more than research activities. Our results indicate that the ranking of producer gains from research and promotion activities depends not only on the degree of substitutability between farm and nonfarm inputs, but also on the type of shifts in demand and supply curves. The results, therefore, suggest that erroneous a priori generalization about the nature of the demand and supply shifts might lead to incorrect policy recommendations for the allocation of checkoff funds. Model Following Wohlgenant, we first provide a graphical illustration for the special case of fixed input proportions and then construct a general model for the cases of both fixed and variable input proportions. Figure 1 shows producer gains from promotion, research on marketing service, and research on farm production for a single commodity market in the case of fixed input proportions. Similar to Wohlgenant, we assume that two inputs, a farm input and a composite marketing input, are used in fixed proportions to produce a retail product. The retail demand curve is Dr, the supply of marketing inputs is Sm, the derived demand curve at the farmlevel is Df = Dr Sm, and the farm supply curve is Sf. With these conditions, the initial market equilibrium price and quantity at point A are Pf and Q, respectively. Suppose the industry has checkoff funds that can be spent on promotion, research on farm production methods, and research on marketing methods, and there is an equal efficiency of each dollar expended on each activity. Then, the question is, which investment option generates the greatest payoffs for checkoff funds expended? Consider first the case of promotion which shifts retail demand from Dr to DrN and consequently farm-level demand from Df to Df N (i.e., Df N = DrN Sm). As a result, the farm price increases from Pf to Pf N and quantity increases from Q to QN. Producer surplus changes from area Pf AR to area Pf NCR, resulting in area Pf NCAPf as a producers’ gain. When technology reduces marketing costs, shifting marketing input supply curve from Sm to SmN, the derived farm-level demand shifts from Df to Df N (i.e., Df N = Dr SmN). Consequently, producers’ gain is the same as from promotion. Finally, when research reduces farm production costs, the farm supply curve shifts from Sf to Sf N, resulting in a decrease in farm price from production Pf to Pf O and an increase in production quantity from Q to QN. Note that because we assume equal efficiency on all activities, the vertical distances between Sf and Sf N at each quantity value are equal to those between Df to Df N. The producers’ gain from research on the farm-level production methods can be illustrated as area Pf OBR minus Pf AR. Because area Pf NCR is equal to area Pf OBS, which is greater than area Pf OBR, it is straightforward that under the assumption of pivotal shifts, producers gain less from production research than from promotion or research on marketing service. In figure 1, Df p and Sf p represent parallel shifts of the initial demand and supply curves, Df and Sf, 1. Wohlgenant reported that the Beef Board spent $33.5 million on promotion and $2.6 million on research in 1990 (p. 646).