1. MODERN VALUE CHAINS and FINANCIAL INTERMEDIATION: The construction of creditworthiness Claudio Gonzalez-Vega The Ohio State University International Conference on Rural Finance Research FAO Rome, 20 March 2007

2. Claudio Gonzalez-Vega Geoffrey Chalmers Rodolfo Quiros Jorge Rodriguez-Meza “Value Chains and Financial Intermediation: Some Theory and a Case Study about Creditworthiness, Supermarkets and Small Producers in Central America” “Hortifruti in Central America: A Case Study about the Influence of Supermarkets on the Development and Evolution of Creditworthiness among Medium and Small Agricultural Producers” RAFI, USAID, 2006

3. Claudio González-Vega “Cadenas de valor modernas: Hacia la creación y el fortalecimiento de sujetos de crédito” Financiamiento de las Cadenas Agrícolas de Valor Rodolfo Quirós, editor Academia de Centroamérica, FAO, RUTA, Serfirural, 2007

4. THREE QUESTIONS 1. To what extent existing credit constraints and financial shallowness in rural areas limit small and medium farmer participation in modern value chains? BARRIERS TO ENTRY

5. THREE QUESTIONS 2. To what extent participation in modern value chains facilitates small and medium farmer access to financial services? SMALL FARMER ACCESS TO FINANCE

6. THREE QUESTIONS 3. To what extent the development of new contractual relationships, around modern value chains, promotes an expansion of outreach of financial intermediaries? FINANCIAL DEEPENING

7. TWO PERSPECTIVES 1. TRADITIONAL Interlinked contracts facilitate credit flows 2. NEW Contractual relationships improve creditworthiness

8. INTERLINKED CONTRACTS … when the prices of two products or services are determined simultaneously and the agreement to buy or sell one is conditioned upon the agreement to buy or sell the other … … traders, processors, exporters provide the bulk of the credit used by small and medium producers … (Shepherd, FAO, 2004)

9. INTERLINKED CONTRACTS … reduce the production and operational risks … by linking credit to the provision of technical advice … or timely delivery of appropriate inputs … or by building relationships with farmers … or linking credit to subsequent sales of produce… Credit is built into crop purchase and input supply transactions …” (Christen and Pearce, CGAP, 2005)

10. NEW CHAIN-AS-TRIGGER PERSPECTIVE The development of linkages (explicit or implicit contracts) with a modern value chain (e.g., supermarket chain) triggers and enhances creditworthiness with financial intermediaries

11. CREDITWORTHINESS Lender’s problem: ► Information ► Incentives ► Contract enforcement

12. CREDITWORTHINESS 1.CORE CREDITWORTHINESS ability to repay – profitability – risk f = willingness to repay – incentives

13. CREDITWORTHINESS 2. RECOGNIZED CREDITWORTHINESS f = (lending technology) screening monitoring contract design enforcement

14. CREDITWORTHINESS 3. REVEALED CREDITWORTHINESS f = (signalling) reputation credit history verifiable information

15. CREDITWORTHINESS The construction of creditworthiness is a joint investment Probability of success (core) Ability to identify (recognized) Ability to show (revealed)

16. NEW TYPES OF VALUE CHAINS Supermarkets Modern traditional Dynamic stagnant Quality standards Diversification single crop Year-long seasonal Relationships spot markets (Reardon)

17. Contractual relationships ● Locus of complex commitments ● Repeat transactions ● Reciprocal investments Supermarket chain Search and screen (asymmetric information) Preferred supplier deals Technical assistance

18. Contractual relationships ● Locus of complex commitments ● Repeat transactions ● Reciprocal investments Small producer Innovation Consumption smoothing Learning Physical investments

19. Participation in modern value chains ►Endowment of skills, experience and specialized factors (heterogeneous and not easily observable) ►Willingness to take risks and modern habits and attitudes ►Learning ● imitation ● technical assistance ►Investments

20. Private information Preferred list delegated screening Technical services

21. CREDITWORTHINESS: 1.Risk containment ●Volume● Guaranteed market ● Control of production risk ● Productivity ●Price● Less variability (band)

22. CREDITWORTHINESS: 1.Risk containment ●Payment ● Certainty ● Shorter lag ●Rejection ● Quality control ● Consumption ● Whole year smoothing liquidity (senior) ● Staggered planting

23. CREDITWORTHINESS: 1.Risk containment ●Systemic ● Diversification shocks ●Demand shifts● Multi-product procurement

24. CREDITWORTHINESS: 2.Better productive opportunity ● larger demand for financial services ● ability to repay larger loans ● greater willingness to repay

25. TWO PERSPECTIVES TRADITIONALNEW ● Contract includes loan● Procurement and (inter-linking) credit separate ● Buyer’s power● Producer’s power

26. TWO PERSPECTIVES TRADITIONALNEW ● Funds flow inside● Funds added from the chain outside ● ● Zero net flows● Positive flows (deficit sector)

27. TWO PERSPECTIVES TRADITIONALNEW ● Direct● Indirect access to credit access to financial services

28. TWO HYPOTHESES TRADITIONALNEW ● Supermaket chains● Indirect provide direct access to access to credit financial services

29. diversified potencial intermediary clients distance systemic risk Dilemma

30. SIGNALS SCREENING supermarket producer diversification Supermaket chain as an agent

31. EXPLORATION OF HYPOTHESES HORTIFRUTI Case studyInterviews Costa Ricabuyers Nicaraguasample of growers Hondurasbankers and NGOs

32. “The case study has found no evidence that Hortifruti plays or has played of lender to its preferred producers in Central America” “The case study uncovered sufficient pieces of empirical evidence to support the hypothesis that Hortifruti has enhanced the creditworthiness of its preferred producers”

33. VIRTUOUS CIRCLES Improved opportunities for small and medium farmers participating in value chains Increased chain competitiveness Increased financial deepening Rural development

34. Producer* Chain Financial intermediaries Rural areas LINKAGES EXTERNALITIES

35. Producer* Chain Financial intermediaries Rural areas SINERGIESALLIANCES