The Economic Benefits of Fair Trade
By Apratim Ghosh
The Fair Trade program is a form of international trade whose general goal is to provide a balanced set of economic gains for producers and consumers. Its primary concern is to aid small producers of commodity exports from developing countries that have been marginalized by the current trading system. Rapidly dwindling prices in basic commodity markets have created a “commodity crisis” which has left small scale producers unable to earn a living wage for themselves and their families. Fair Trade seeks to counter this phenomenon by acting as a rehabilitation program used to get these small scale producers back on their feet while preparing them to compete more effectively in regular commodity markets. Fair Trade has also sought to ensure that consumers receive the benefits of trade that have been lost amidst the “commodity crisis”. My concern in this work will be to: further explain the current problems facing these small producers, the various methods by which Fair Trade seeks to help these producers, the benefits received by the consumer under this system of trade, and how the current limited scope of benefits for producers and consumers provided can be expanded into the future.
The Fair Trade system came into fruition as a response to the plight of small scale producers of exported commodities in developing nations. These producers are largely involved with small scale agricultural work which employs over 50% of the labor force in developing countries, and is responsible for 33% of their GDP.1However, in the modern era the prices of the goods offered by these small scale producers have dropped drastically creating a huge market failure that has placed millions in poverty. From 1970-2000, the prices of the very commodities small scale producers export has dropped anywhere from 30 to 60 percent.2 The effects of such price decreases have left these producers selling more of their product to make up for lost profits, but in the process they flood the market and force the price down even further. This experience has been seen in the markets for cocoa, cotton, sugar, but none more so than in the market for coffee effects where
“20 years ago the world coffee market was worth $30 billion, of which the producers received $12 billion (40%). Now it is worth $50 billion of which producer receive only $8 billion (16%). The main reason for this deepening inequality has been the decline in primary coffee prices. In the past year world coffee prices fell to their lowest point for 30 years.”3
This across the board market failure within developing economies has been dubbed the “commodity crisis”. The crisis’ main effect has been to leave small scale producers in a deeply impoverished state with no legitimate alternative options of labor to revive their fortunes. This situation has caused, “widespread misery: poverty, unsafe work conditions and forced child labor.”4 Furthermore, due to their lack of finances, these small scale producers are unable develop the credit or acquire the needed physical capital to diversify the type of crops they grow in order to become less dependent on unstable prices of one commodity. Lastly, these producers lack the human capital to operate successfully in their current trading systems and are therefore taken advantage of. The Fair Trade system seeks to counter the aforementioned market inefficiencies of: unstable and disastrously low prices for produced goods, lack of human capital or physical capital amongst small scale producers, lack of credit needed to attain such physical capital, and the inability to diversify crop production.
The Fair Trade system first seeks to offset market imbalances that have driven down the price of commodity goods created by small scale producers. This is arguably the most pressing problem facing such members of the labor force. Fair Trade seeks to provide producers with a stable price for commodities that is above the market price.5 This provision provides producers with a stable working environment under which they may lift themselves and their families out of dire conditions. The price set by Fair Trade varies from market to market but generally “a fair price in the regional or local context is one that has been agreed through dialogue and participation. It covers not only the costs of production but enables production which is socially just and environmentally sound.”6 A price floor is set into commodity markets which prohibits the price paid to a producer to fall below a certain point that is above market equilibrium wage. In this case a price floor provides for just a slight adjustment in wages but consequently provides drastic changes for the financial circumstances of the average producer. In Brazil, the Fair Trade system currently buys from coffee producers at a price $1.29 per pound compared to the market price of $1.05 per pound.7 As a result, coffee farmers like Rafael de Paiva receive “about 258 reais ($139) a sack, compared with about 230 reais for the sacks that were not fair trade. For the latest crop, that meant an additional 3,920 reais ($2,116) for him.”8 The price floor allows for producers who had been excluded by the unregulated market to lift their children out of child labor while providing their families with food and shelter. The guaranteed price is the most powerful tool used by Fair Trade in alleviating their condition of extreme poverty.
Through the aid of price supports, Fair Trade is able to reduce the suffocating constraints of abject poverty facing small scale producers and their families. In its next phase, Fair Trade seeks to increase the ability of small scale producers to take part in an unregulated market. In this effort, the system offers to pay all those participating in a certain market a premium if the market price rises above the set price floor.9 However, Fair Trade does not operate and deal with producers individually, “instead they work with co-operatives, which have been formed by several smallholders.”10 These co-operatives then gather and decide how to use the premium to benefit the entire community. The items desired for purchase tend to be forms of physical or human capital that include: schools, potable water, storage capacity, or vehicles for transportation. The idea behind enabling such capital acquisitions is to increase their ability to grow crops at an efficient pace and to enable greater crop diversification. The premium is essential to Fair Trade’s goal of building up the capacity of small scale producers to compete effectively without the aid of price floors.
In another effort to strengthen the ability of small scale producers to compete in unregulated markets, Fair Trade pre-finances up to 60% of the total order of goods to be produced so that small scale producers have the credit to acquire needed raw materials.11 Low interest loans are given to producers based on their expected total of crops produced so that they can afford the initial capital acquisitions. Without these low interest loans, the large majority of producers would not be able to buy plants and fertilizer without going into debt. Pre financing eliminates the threat of bankruptcy small scale producers face when they attempt to purchase such capital. As a result it makes the possibility of entering into new markets of crop production and eventual crop diversification a realistic goal. The ability to pre-finance has given these producers an affordable rate by which they may buy capital so that they can produce crops more efficiently and diversify the goods they produce.
Finally, the Fair Trade system trains and empowers small scale producers with new knowledge and skills. Small scale producers are aided in, “the development of capacity. This can include knowledge about how international markets work and increasing organizational, business and technical skills.”12 The strategic initiative to empower the producer with knowledge yields an actor in international markets more likely to produce better products at less cost to themselves. With increased knowledge coupled with affordable capital brought in by premiums and pre-financing, Fair Trade hopes that small scale producers grow a larger and more diversified crop share at a smaller cost. All of these steps taken by the Fair Trade system not only elevate the standard of living for all in the community but also provide the physical and human capital needed to operate successfully without the support of such a uniquely regulated market.
The Fair Trade system also creates economic gains and benefits for consumers that would not be seen in unregulated markets. The system’s first step in providing consumer benefits is to improve the quality of goods produced in the market. Due to the “commodity crisis” there is an incentive for producers to create goods at the cheapest cost possible in order to avoid debt. However, this often leads to goods that are of poor quality. Fair Trade seeks to counter this market inefficiency with the recognition that by providing long-term contracts and producer education, commodity exports would be of much higher quality.13 Long term contracts have mandated quotas for production and set prices that are not affected by price fluctuations in normal markets As a result the consumer is assured of a steady supply and stable price for the good they seek. Producer education in conjunction with strict quality control on the other hand ensures the high quality of goods produced. Rafael de Paiva, the Brazilian farmer who benefited so much from an increased and steady wage, was initially hesitant to produce for Fair Trade because he “would have to adhere to a long list of rules on pesticides, farming techniques, recycling and other matters.”14 Fair Trade provides these small scale producers with aforementioned education initiatives needed to conform to these requirements, but in the end it is the consumer who benefits because they receive a good of supreme quality. As a result of these quality stipulations and long term contracts, consumers purchasing Fair Trade products will enjoy a more constant price and supply of higher quality product than those purchasing goods in the regular market.
Firms that are involved in the distribution of Fair Trade products are making a concerted effort to increase consumer accessibility to its products. By providing a greater volume of these goods in the market the desire is to decrease the opportunity cost facing consumers. The ultimate goal is to drastically reduce time and energy a consumer must spend looking for a Fair Trade good. Firms that specialize in the sale of Fair Trade products have increased their capacity to provide consumers with a larger number of goods. These firms have become “mainstream distributors of commodity exports. Café Direct, for example, is the fourth largest roast and ground coffee brand in the UK. Similarly, Divine Chocolate has become a well-known brand in a highly competitive market and has influenced the strategies and policies of other companies in the UK confectionery industry.”15 As the supply of Fair Trade products from such firms is increased it has been concordantly met with an increase in revenue based on their sales. For example, in the United Kingdom the value “of fair trade products sold in 2006 was £284 million, up from £196 million in 2005, and signifying a growth of over 1,000% since 1998.”16 With clear evidence suggesting a higher rate of return on these goods, other firms have been pressured to buy into the Fair Trade system lest they be left out of an increasingly lucrative market. The British supermarket Sainsbury’s replaced its “Kids” bananas with those provided by Fair Trade and as a result has seen sales increase by 30%. Sainsbury’s then decided to tap this new market even further and decided to stock only Fair Trade bananas.17 This chain reaction of rising supply for Fair Trade products is occurring market wide. The supply of these goods is rising rapidly and as a result the opportunity cost facing consumers is decreasing just as swiftly. In other words, due to this increase in supply the time and energy consumers face in finding Fair Trade goods is becoming more and more minimal.
The system of trade known as Fair Trade seeks to balance the economic benefits between producers and consumers. The driving factor behind this system of trade is to provide small scale producers who have been marginalized by the effects of the “commodity crisis” with a means by which they can produce certain goods while earning a living wage. By guaranteeing a price paid for goods produced that is above the market price, several societal and economic ailments are cured. Furthermore, the system seeks to rebuild small scale producers’ capacity to operate efficiently and grow a diversified crop share. To accomplish this, the system provides a premium to communities to develop needed capital and a system pre-financing to aid in the purchase of raw materials. The consumer benefits equally from this system. Due to long term contracts stipulated with strict quality control provisions the consumer is guaranteed a steady supply of affordable high quality goods despite price fluctuations in the regular markets. The consumer is finding accessibility to Fair Trade products rising exponentially and the opportunity cost of purchasing them to be minute. Fair Trade has proven to be a form of trade that is worth pursuing for both consumers and producers.