Off-Farm Work and Capital Accumulation Decisions of Farmers over the Life-Cycle: The Role of Heterogeneity and State-Dependence

This paper aims to construct an empirical model for the analysis of two principal simultaneous decisions of farm operators: participation in the off-farm labor market, and the amount of resources to invest in farm capital. We first develop a theoretical model analyzing the effects of exogenous shocks on farmers’ decisions. Then, we estimate jointly a multinomial probit model of farmers’ off-farm labor supply and a switching regression model of farm capital, using a two-period panel data set from Israel. The longitudinal data enables to account for unobserved heterogeneity and structural state dependence. Both state dependence and heterogeneity lead to the same conclusion, that off-farm labor supply and farm capital are negatively associated. However, the heterogeneity model implies that farmers at the higher end of the ability distribution are able to both work off the farm and maintain a capitalintensive farm enterprise. The results show that farm capital investments during the 1970’s, which were enhanced by heavily subsidized credit, prevented farmers from seeking off-farm employment opportunities. Holding the capital stock constant would have resulted in a sharp increase, rather than a moderate decline, in farm operators’ off-farm participation probabilities. This result demonstrates that a simultaneous analysis of off-farm labor supply and farm capital accumulation has relevant policy implications. ___________________________________ * We thank Zvi Eckstein, James Heckman, Yoav Kislev, Yair Mundlak, the Editor and an anonymous referee for valuable comments and suggestions. We have also benefited from the comments of participants in seminars in Tel Aviv, Jerusalem, Rehovot, Rutgers, NC State, Rennes, and Yale, and participants in the 1998 Annual Meeting of the European Society for Population Economics in Amsterdam, the 1998 Panel Data Conference in Goteburg, and the 2001 Summer Meeting of the Econometric Society in Maryland. The Falk Institute and The Sapir Center for Development provided financial support.