Fair Trade:

There are 2 main types of FAIRTRADE standards for developing country producers – for smallholder producer organisations and for hired labour situations. Fairtrade standards for smallholder producer organisations include requirements for democratic decision making, ensuring that producers have a say in how the Fairtrade premiums are invested. They also include requirements for capacity building and economic strengthening of the organisation. Fairtrade standards for hired labour situations ensure that workers receive decent wages and enjoy the freedom of join unions and bargain collectively. Fairtrade certified plantations must also ensure that there is no forced or child labour and that health and safety requirements are met. In a hired labour situation, Fairtrade standards require a “joint body” to be set up with representatives from both management and workers. This joint body decides on how Fairtrade premiums will be spent to benefit plantation workers.

For some products, such as coffee, only Fairtrade standards for smallholder organisations are applicable. For others, such as tea, both smallholder producers and plantations can be certified.

Why is Fair Trade hostile to hired labor in the production of coffee but not tea?

As per my August post, I am confused by Alex Singleton’s take on fair trade:

Such policies, whether government enforced or done through consumer schemes, encourage more affluent producers to stay in the market. This kicks away the ladder from the poorest producers who have no choice but to stay in the market. A quarter of “fair trade” coffee comes from Mexico, a relatively affluent developing country, where only 18% of the workforce is employed in agriculture. Mexico is a country which, if it so chose, could easily exit the coffee market. Because of the incentive of “fair trade”, many producers have decided to stay producing coffee, even expanding production. This is a disaster for the poorest coffee producers, such as in Ethiopia, where drinking coffee was invented. [The Business]

How can a rightward shift in demand hurt suppliers? If we’re in econ 101 land, the demand shift raises the equilibrium price, inducing marginal suppliers to enter the market and also increasing the size of the producer surplus enjoyed by suppliers already present. What assumptions about market structure must we make to obtain Singleton’s result?

Kerry Howley has a detail-packed article on fair trade coffe at Reason. An excellent primer on the subject.

I was thinking of writing an op-ed for my school newspaper about Starbucks’ Fairtrade coffee and planned to use an old post by Alex Singleton as one of my reference points. In reviewing the argument that Mexican farmers benefit from Fairtrade at the expense of Ethiopian farmers, however, I found the economic analysis unclear.

Singleton notes that the price of coffee has experienced a downward trend, signally that too much coffee is being produced. He cites mechanization and World Bank loans as decreasing the cost of production. These historical facts mean that the supply curve has previously shifted downward, but they play no role in a partial equilibrium analysis of Fairtrade’s effects today.

As Mr. Singleton describes it, Mexican coffee producers are the marginal producers in the current equilibrium, due to their comparative disadvantage in the production of coffee (higher opportunity costs). A drop in demand would cause these marginal producers to exit.

Singleton argues that Fairtrade induces Mexican producers to stay in the coffee business and that if Mexican farmers switched to growing something other than coffee, Ethiopian farmers growing coffee would benefit. I think that this is incorrect.

Fairtrade is a manipulation of the demand curve, not the supply curve. Singleton agrees by describing participating consumers as willing to “pay a few pence extra for a cup of coffee.” Therefore, the abolition of Fairtrade would cause consumers to offer a lower price at each quantity. This is a downward shift of the demand curve.

How does a downward shift in demand affect the supply curve? There is a change in quantity supplied, but not a change in the supply curve itself. As such, the marginal producers (Mexican coffee growers) will exit until equilibrium is reestablished. Does this help the Ethiopians?

Facing fewer competing firms may sound appealing at first, but it’s not beneficial if competitors exited due to insufficient demand. Under Fairtrade, producers that export coffee at a cost below the market equilibrium price earn profits; this is the traditional producer surplus triangle. If it is true that Ethiopians are these lower cost producers, then they will remain in the market when demand falls, but their producer surplus will be reduced. The shaded rectangle is the welfare loss Ethiopians experience due to lower demand. The abolition of Fairtrade and exit of Mexican producers corresponds to lower profits for Ethiopians.

Of course, my analysis up to this point has treated coffee as a unified market. In fact, Fairtrade coffee comprises a small portion of total coffee consumption, so we have to draw separate supply-and-demand graphs for unsubsidized and subsidized coffee, which are substitutes.

Foregoing the actual illustrations, as one can easily imagine them, let’s analyze the effect of increasing Fairtrade participation by consumers. This is an upward shift in the demand curve for Fairtrade coffee. However, as Fairtrade coffee substitutes for unsubsidized coffee, the change in consumer preferences causes a downward shift in the demand curve for unsubsidized coffee.

What are the effects upon producers? Producer surplus will increase in the Fairtrade market and decrease in the unsubsidized market. Thus, the result in ambiguous. Those suppliers that are Fairtrade-certified benefit, whilst non-participants lose profits. If Mexicans are more easily able to form a producer organisation eligible for the Fairtrade label (groups exporting more than 44,000 pounds of coffee per year and able to pay the $2,431 fee) than Ethiopians, then they will benefit at the expense of their African competitors. But if Ethiopians are able to join the Fairtrade program as easily as other coffee producers, then we should not expect Fairtrade’s inflation of the demand curve to have disproportionate negative effects upon them.

The only way for Fairtrade to do no harm to coffee producers would be for all of them to participate. Non-participants do face reduced demand for their product. In its current form, Fairtrade may or may not be net benficial, depending upon the elasticities of the relevant curves and one’s willingness to make interpersonal utility comparisons.

[Comments are open; please post suggestions and corrections.]

“Fair trade” means many different things to different people, but collectively, fair trade activists have made themselves a powerful constituency. See the opening sentence of USTR Rob Portman’s press release on CAFTA:

Tonight is an historic night for American leadership on free and fair trade.

That’s a throw-away line, so one can argue that the phrase was merely included to mollify fair traders who had criticized CAFTA. Regardless, it’s both impressive and frustrating that fair traders have become so relevant to trade politics.