A comparison of financial and economic prices of cereals, oilseeds, and pulse crops in Ukraine in 1989 and 1993

Prior to December of 1991, Ukraine was a republic of the Soviet Union, where agricultural production and development was controlled and administered through a centrally planned economy. Ukraine has since become independent and has expressed an interest and desire to move toward a market-oriented economy. Historically, they have had a comparative advantage in agricultural production due to land endowments of chernozemic (black humus) soils, a temperate climate, and adequate rainfall. Such conditions are typically well suited to the production of various commodities. However, although yields of these commodities were high in Ukraine -- as compared to other Former Soviet Union (FSU) republics --productivity was well below the standards achieved in the Western world. Since improved production opportunities exist in Ukraine, several countries have taken a keen interest in the growth possibilities in this republic. Should Ukraine remove distortions and create a market environment to stimulate production and trade, then there is the potential for Ukraine to become an active participant in the world trade of agricultural commodities. The model employed in determining whether Ukraine has approached a free market environment, was a comparison of financial and economic prices - where financial prices are the actual prices producers receive for the sale of agricultural outputs and economic prices are the prices producers receive in a free market. A free market is one without distortions. In economic terms, distortions refer to taxes or subsidies that artificially decrease or increase the price of a commodity. If Ukraine operated in a free market environment, financial prices would equal economic prices. However, where distortions exist, through subsidies and taxation, then the price that producers actually receive, the financial price, will not equal the economic price. Two hypotheses will be tested to validate indicate if Ukraine is making the transition to an open market economy. They are as follows: Hypothesis One: that Ukraine has a comparative advantage in the production of oilseeds relative to cereal production; and Hypothesis Two: that Ukraine has a comparative advantage in the production of pulse crops relative to cereal production. Following this, three ratio calculations are used to measure the government's efficiency to create an environment for an open agricultural economy. These ratios include: the Nominal Protection Coefficient, Effective Rate of Protection, and Producer Subsidy Equivalent which are used to calculate the efficiency of government policy and evaluate the direct benefit to producers of protectionist government. The results of the analysis revealed the following. In 1989, financial and economic prices diverged significantly from one another. This result is to be expected, since in 1989, agriculture operated under a command economy. By 1993, however, these numbers converged such that financial prices did not equal economic prices. In addition, in 1993, although cereals, oilseeds, and pulse crops were profitable, economic budgets indicated a comparative advantage in the production of pulse crops and winter wheat. For this reason, hypothesis two could not be rejected. Failure to reject the hypothesis indicates market distortions inhibit the production of the commodity with a comparative advantage. Though oilseed production provided positive returns in 1993, it did not retain a comparative advantage over most cereals and thus, hypothesis one needed to be rejected. Rejecting the hypothesis indicates market distortions are not evident or do not inhibit the production of the commodity with a comparative advantage. The financial and economic analysis also revealed that winter and spring wheat were both financially and economically feasible to produce in 1993. Due to the subsidization of cereals and net taxation of oilseeds and pulse crops, production patterns appeared to be altered by, producers to their financial benefit. In addition, the analysis revealed that in 1993, Ukraine had a greater social benefit to produce wheat and pulse crops other commodities reviewed. When the Export Enhancement Program (EEP) subsidy was removed from winter and spring wheat in 1989 and 1993, the profitability of wheat production became more evident. The net margin per hectare for both commodities increased significantly by 1993. This result indicated that wheat crops were the most profitable commodities to produce. The collective farms were maximizing profit, within a certain level of risk. Through market distortions, such as connecting the accessibility of inputs to state output orders, collective farms tended to choose production patterns within these constraints. Thus, producers did not choose a cropping pattern based solely on productivity or profitability, but they also considered the probability of stability (risk level). The ratio efficiency analysis for 1993 indicated that the government discouraged the production of oilseeds and pulse crops, even though there was a positive net margin without the distortions of taxes and subsidies. A variety of taxes and subsidies tended to discourage the production of profitable commodities in a risk neutral environment. The result, therefore, was to alter the production pattern in an open market, risk neutral environment. Finally, a qualitative overview of macro and micro business environment factors supported the notion that political, legal, financial, and economic conditions were unstable and although progress is being made in the development of a market economy, market transparency has not apparently occurred to support an economy which exemplifies the characteristics of a properly functioning open, risk neutral economy