Can the Grain Marketing System Provide Sufficient Quality Incentives to Producers?

Kenkel, Anderson, and Attaway found that Oklahoma country elevators tended to overestimate test weight and underestimate dockage and undesirable grade factors, such as damaged kernels, shrunken and broken kernels, and foreign material for hard red winter wheat in the 1995 and 1996 harvests. This reflects an apparent pricing inefficiency in the Oklahoma wheat market in that elevators paid more than they should have for low quality wheat and less than they should have for high quality wheat. Measuring quality characteristics more accurately will cost elevators more, but will help them to increase price received from next-in-line (NIL) buyers and facilitate supplying products that meet consumers' needs. However, an elevator that imposes discounts for lower quality wheat, even while paying a higher price for high quality wheat, risks losing business if farmers believe that a competing elevator is more likely to pay them a higher price net of discounts. To the extent that maintaining volume is important to an elevator's profits, elevators may lose money by grading correctly and passing on premiums and discounts. A simulation analysis is used to determine the extent to which spatial competition limits the incentive for elevators to grade correctly and pay producers quality-adjusted prices. Results show that because of spatial monopsony early adopters of grading and quality-based pricing practices pass on to producers 70% of price differentials received from NIL buyers, and receive above-normal profits at the expense of their competitors. However, if competing elevators adopt such practices, profits of all elevators return to near normal. Then all elevators pass on to producers the full amount of price differentials received from NIL buyers, rewarding producers of high quality wheat at the expense of producers of low quality wheat. Further research is needed to explain the apparent reluctance of elevators to be first adopters.