An economic analysis of the performance of the fertilizer subsector in the maize belt of western Kenya

Following its withdrawal from the importation and distribution of fertilizer 1993, the government of Kenya was concerned about the performance of the privatized fertilizer subsector for two reasons: (i) claims that the price of fertilizer in Kenya was too high because traders were making above normal rates of return; (ii) the neglect of smallholders in the Western Lowlands, an area characterized by soil nutrient deficiency and poor financial and physical access to mineral fertilizers. The objective of the study was to analyze trader margins and assess whether they could be explained by structural factors, and to investigate whether an initiative by a nongovernmental (NGO) organization to supply agricultural inputs to farmers the Western Lowlands is an effective way to induce eventual private sector expansion into this area. The study used an extended industrial organization framework to analyze the performance of the private marketing system.;To address the first problem, profit and loss accounts were used to assess the profitability of each market; cost build-ups of the main fertilizer supply chains were constructed; regression analysis was used to test the hypothesis of market power and to examine whether the relationship between transport costs per bag and distance varied by road quality; sensitivity analysis was carried out in the supply chains to simulate the impact on the farm-gate prices of fertilizer of policy-induced cost reductions; and the impact of reduced fertilizer and maize prices on the profitability of fertilizer use on maize was simulated by inserting these adjusted prices into farm budgets. To address the second problem the financial sustainability of the NGO was evaluated using a subsidy dependence index and steps the NGO could take to facilitate greater private sector involvement in the distribution of agricultural inputs were identified.;Some of the main findings were: (1) There was market concentration in the importer, wholesale and retail markets. Low barriers to entry to the wholesale market and zero barriers to entry to the retail market made these markets contestable; (2) Fertilizer traders made returns that were not substantially higher than their opportunity cost of capital. However, due to the oligopolistic structure in the importer and wholesaler markets some traders were able to exert market power to make economic rents; (3) Purchasing costs were the main source of scale economies in fertilizer marketing in 1999; (4) On average, the cost of transporting a 50 kg bag of fertilizer an additional 10 km on a bad quality road was four times more expensive than on a good quality road; (5) There are benefits to be gained at the farm-level, from policy changes aimed at reducing or eliminating the cost bottlenecks; (6) In 1999, the NGO was still dependent on subsidies for the equivalent of 35% of its sales revenues; (7) SCODP was an important catalyst for private traders to move into previously under-served areas; (8) Poor quality control, asymmetric information, and weak extension services were the main problems in the institutional and regulatory framework in 1999.