Free Web Hosting by Netfirms
 Web Hosting by Netfirms | Free Domain Names by Netfirms

Research Paper

                                                                      

 

Paper Presentation Proposal

International Food and Agribusiness Management Association

17th Annual World Symposium

Parma, Italy

June 23-24, 2007

  "Paper Title:  Economic Analysis of Incentives for Foreign Direct Investment in Beef Systems in Argentina and Uruguay"

Paper Authors:   Eric Thor, III

                           Graduate student, Royal Agricultural College and Utah State University

 

                            DeeVon Bailey, Corresponding Author

                            Professor and Interim Head

                            Department of Economics

                            Utah State University

                            3530 Old Main Hill

                            Logan, Utah 84322-3530

                            435.797.2316

                            d.bailey@usu.edu

 

                            Alejandro R. Silva

                            Director Professor

                            Agroindustrial Economics & Management

                            University of Buenos Aires

 

                            and

 

                            Steven Vickner

                            Associate Professor

                            Department of Economics

                            Utah State University

Economic Analysis of Incentives for Foreign Direct Investment in Beef Systems in Argentina and Uruguay

 Problem Statement:  The European Union’s (EU) ban of hormone-treated beef products has virtually eliminated beef exports to the EU from countries, such as the United States (US) and Canada, which routinely implant cattle with growth hormones.  The elimination of beef imports from locations such as North America at the same time that European beef production and exports were declining in the aftermath of the European BSE crisis in the mid 1990s and the major foot-and-mouth (FMD) outbreak in the United Kingdom (UK) in 2001, has led to a relatively dramatic increase in beef imports into the EU from South America; especially from Uruguay and Argentina.  Using hormone implants is illegal in Argentina and Uruguay and both countries have also established or are establishing traceability systems.  Consequently, Argentine and Uruguayan beef meets the specifications demanded by the EU.  This raises the question of whether or not foreign direct investment (FDI) in beef systems in Argentina and Uruguay can be profitably used to provide access to the EU beef market by investors from places such as North America.

 Objectives:  One objective of this research was to examine the potential profitability of FDI in the beef systems of Uruguay and Argentina.  While prices and costs can be used to obtain a point estimate of profitability for FDI in these countries, significant market risk also exists as a result of government policies affecting cattle and beef prices (especially in Argentina).  Also, animal disease outbreaks, such as foot-and-mouth disease (FMD), can affect the ability to export beef from the two countries.  Consequently, a second objective was to assess the risk to FDI resulting from the impact of government policies and FMD outbreaks.  These events could include the effects of government policies such as currency devaluations and taxes and FMD outbreaks that have led to the cessation of beef exports from Argentina and Uruguay.

 Procedures:  One of the principal difficulties associated with conducting this type of research in Argentina and Uruguay was the unavailability of publicly available data for costs and returns in the beef and cattle industry.  Silva provided point estimates for costs and returns for different segments of the beef marketing channel in Argentina and his report (translated from Spanish to English) became the basis for the point estimate for FDI profitability in this study.  The lack of data for econometric modeling of profitability led to the selection of a business model (Porter’s Diamond) to assess the advantages and disadvantages of FDI in Argentina and Uruguay. The competitive advantage of a nation’s industries will drive the long-run profit of those industries.  According to economic theory, an investor’s goal in analyzing new investments is to maximize profit.  Consequently, one expects investments to flow towards industries in nations with competitive advantage.  This was a driving factor in choosing Porter’s Diamond as the basis of analysis.  The interplay of each attribute in Porter’s Diamond demonstrates that the competitive forces, infrastructure, and resources in a nation determine its competitiveness in world markets rather than just a single industry. 

 Unlike Porter’s Five Forces model, government plays a central role in Porter’s Diamond model.  In the world of agriculture, particularly, governments are enacting rules and regulations and this interplay affects all parts of the agricultural supply chain.    The Porter’s Diamond analysis was completed to analyze the factors contributing or distracting from the establishment of competitive advantage for the beef systems in Argentina and Uruguay.  Data for the Porter analysis were obtained through personal interviews with industry participants from all levels of the marketing channel (e.g., producers, feedlot operators, and meat processors) in Argentina and Uruguay as well as university researchers in the two countries.  These interviews were undertaken in Buenos Aires and Villa Mercedes, Argentina and Montevideo, Uruguay during the week of June 9, 2006.

 Although a publicly available time series for costs and returns for the beef systems of Argentina and Uruguay was not available, cattle prices were available from the Liniers Market in Buenos Aires and the INAC (Instituto Nacional de Carnes) in Uruguay.  Cattle prices were analyzed using monthly data between 1996 and June 2006.   Information was also discovered during the interviews in Argentina and Uruguay regarding important government policies and FMD outbreaks that have likely affected cattle prices in the two countries.  Combining this information (prices, government policy, and FMD outbreaks) into regression models using dummy variables to depict government policies and FMD outbreaks provided an estimate of the absolute impact of these events on cattle prices.  The government policies considered included the unpegging of the Argentine peso to the US dollar (devaluation) in 2002, the levying of a major export tax on beef in Argentina, and the recent export moratorium imposed by the Argentine government on beef exports.  FMD outbreaks between 1996 and 2006 which resulted in the interruption of beef exports from Argentina and/or Uruguay were also considered. 

 An analysis of the relative impacts of these events on cattle prices was also undertaken by examining the price differences between prices in Argentina and Uruguay and the Chicago Mercantile Exchange’ (CME) nearby live cattle futures price (sometimes referred to as the “world” cattle price).  This yielded a basis analysis for Argentina and Uruguay and described how government policies and FMD outbreaks have affected Argentine and Uruguayan prices relative to the rest of the world.  The following equations were used to analyze cattle prices in Argentina, with similar equations used to analyze prices in Uruguay.

 (1)      

(2)      

 The λs in equation (1) and μs in equation (2) were estimated parameters and ρ and  are error terms.  PRICEt and BASISt represent the real, exchange-rate adjusted cattle price in Argentina during time period t and the basis between the real, exchange-rate adjust cattle price in Argentina and the deflated CME price in time period t, respectively.  The variables PRICEt-1   and BASIS t-1 were lagged dependent variables for equation (1) and (2), respectively.

 The three variables QT1, QT2, QT3 were quarter dummy variables and were used to find if there were differences in the dependent variables in Argentina by quarter, with the fourth quarter being the basis off which the other quarters are measured.  MOR was used to find if prices were affected by the export moratorium.  At the time the personal interviews were conducted, this moratorium was affecting all parts of the cattle business in Argentina.  MOR was specified as a dummy variable equaling 1 when the moratorium was in effect and 0 otherwise.

 DEV described the impact of the devaluation in currency in Argentina in 2002 affect cattle prices.  When the Argentine government decided to un-peg the one-to-one ratio for the peso to the dollar, the country fell into economic crisis.  .

 In order to find if foot-and-mouth disease outbreaks have had any affect on prices, a dummy variable named FMD was used.  The dummy variable for FMD is 1 when the EU market is closed to Argentine and Uruguayan beef and 0 all other times. 

 In 2005, the Argentine government tripled export taxes on their domestic beef exporters, so TAX tries to determine what affect tripling the export taxes would have on prices.  Consequently, TAX is a dummy variable equal to 1 after this tax was imposed and 0 otherwise.  The final variable in Argentina’s model, RES, is the residuals of the price or basis series regressed against a time trend.  This captured the effects of the cattle cycle in Argentina and Uruguay.

Finally, Johansen’s cointegration tests were used to determine whether or not cattle prices in Argentina and Uruguay were cointegrated with US cattle prices.  If the prices were cointegrated, it would have indicated that the prices in all three markets adjust to the same information, that they are essentially the same market, and that the markets are relatively efficient (if one considers the US cattle market price to be efficient).

 Results:  Results for Porter’s Diamond analysis indicated that both Argentina and Uruguay met the criteria for having a competitive advantage in producing cattle and beef.  That is, factor and demand conditions, related and supporting industries, and firm structure, strategy, and rivalry all suggested that these countries have a competitive and sustainable advantage in beef production.  However, the overarching conditions of government involvement and chance (uncertainty) cloud this advantage, especially in the case of Argentina.

 The price analysis revealed that the impact of government policies and FMD outbreaks can have up to a 20% negative impact on absolute cattle prices in Argentina, but that the impact is even larger on relative prices.  That is, the impact of government policies on cattle prices results in lower cattle prices in Argentina, but because these policies are often designed to eliminate or reduce beef exports to keep prices low in Argentina, it eliminates or significantly reduces the ability of exporters to participate in world trade when world prices are relatively high.  Consequently, government involvement represents a significant risk to FDI in beef systems, especially in Argentina.  This is much less of a problem in Uruguay were government policy is designed to promote beef exports.

 All three markets (the US, Argentina, and Uruguay) are cointegrated.  This is a positive result for FDI because it suggests that the markets adjust to the same information.  It is also positive because past research has shown that the US futures price is an efficient market price.  Consequently, one may conclude that cattle prices in Argentina and Uruguay must also be relatively efficient markets.

 The profitability analysis incorporated Silva’s point estimates for profits, quotes ocean freight rates for meat shipped from Buenos Aires to Hamburg, Germany, and the potential impact of government interventions and disease outbreaks.  The analysis suggests that cow/calf operations and meat packing are the two segments in the marketing chain in Argentina that are profitable.  Consequently, integration or joint ventures between segments of the chain are probably the best methods for investing in beef operations in these two countries.

 Conclusions:  This research suggests that while Argentina and Uruguay have a competitive advantage in beef production that should provide incentives for FDI in their beef systems, the potential for government policy interventions in cattle and beef markets (especially in Argentina) and animal disease outbreaks inject considerable risk into these investments.  Cattle markets in Argentina and Uruguay appear to operate efficiently, but government intervention that restricts or eliminates beef exports reduces local cattle when prices could actually be higher if exports were allowed to flow in an unrestricted fashion.  Profitable FDI appears possible, especially if markets are left unhindered by government intervention.  The cow/calf sector and meat packing appear to be the most profitable segments of the beef marketing chain.

 

 

Selected References:

 

Porter, M. (1990) The Competitive Advantage of Nations. New York NY: Free Press, Macmillan Inc.

Silva, A., (2003) Diferenciacion de Producto: ¿Una Estrategia Competitiva Para el Sector Ganados y Carnes Argentino? Thesis, Universidad de Buenos Aires. Buenos Aires, Argentina Translated by: Freddy Broffman.