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5 Agricultural cooperatives and
value chain coordination
Jos Bijman, Roldan Muradian and Andrei Cechin
5.1 The need for vertical coordination in dynamic
agrifood markets
Food and agricultural commodity markets, particularly in developing countries,
have undergone tremendous changes in the past decades (Reardon and Barrett 2000;
Swinnen and Maertens 2007). The global integration of the agricultural sector has
been paralleled by irs.Iiberalization.in.many developing countries, leading to privat-
ization of state enterprises, dismantling of state interventions and often higher levels
offoreign investment in domestic food retailing and production. Supermarkets have
become major actors in domestic food supply chains (Reardon et al. 2003). In addi-
tion, there has been a shift from public to private food standards in response to
consumer concerns about food safety, quality and the socio-economic and envi-
ronmental conditions of production (Henson and Reardon 2005). On the consumer
side, rising incomes and the quest for variety and convenience have led to greater
product differentiation and market segmentation. On the supply side, food proces-
sors and retailers have introduced quality.assurance.schemes for strategic reasons
b
(Holleran et al. 1999). Agricultural products previously traded as standardized com-
modities are increasingly valued for specific traits and are differentiated according
to their inherent quality attributes (Hobbs and Young 2000). The international iza-
tion and concentration of agricultural value chains have implications for small-scale
producers in developing countries, who must now adapt their production methods to
fulfil the new requirements of local and international customers.
These structural changes in agrifood markets have increased the need for
vertical coordination in value chains. More vertical coordination means that the
activities and investments of individual economic actors (such as producers, pro-
cessors, traders and retailers) along the value chain become more closely aligned.
Thus, vertical coordination requires complex information exchange, not only on
supply and demand, but also on the quality requirements of retail customers and
final consumers. As the quality of the final food product is often a cumulative
function of handling activities at several stages of the value chain, upgrading
quality implies coordinating those interdependent activities. In addition, the
introduction of new products usually requires a coordinated innovation effort
involving all actors in the value chain. Finally, improving logistic efficiency,
Agricultural cooperatives and value chain coordination
l:S3
either for strategic or for quality control reasons, requires better coordination of
the sequential activities in the value chain.
In Jight of the above-described changes in the agrifood market, agricultural
cooperatives have gained increased attention in the development arena (Bose et al.
2001; IFAD 2003; World Bank 2007; Shepherd 2007). International donors and
NGOs have (re)discovered the importance of cooperatives for rural development
in general and for strengthening smallholders' access to markets in particular.
This chapter defines cooperatives as 'formal forms of farmer collective action
for the marketing and processing of farm products and/or for the purchase and
production of farm inputs'. One of the mostinteresting and at the same time most
challenging characteristics of the cooperative is its dual nature (Draheim 1955).
A cooperative is an association and therefore a community of members and it is a
firrn. Due to its sui generis character as both a group of persons in the sociological
and psychological sense and ajoint commercial enterprise (Levi and Davis 2008;
Valentinov 2004; 2005), social interaction among the members is expected to play
an important role in conditioning the performance of the enterprise, including in
value chain coordination. The impact of this dual character of the cooperative on
its performance has received very limited scholarly attention so far. As coopera-
tives are faced with new value chain challenges, more attention to the interaction
between social and economic processes in the complex organization of the coop-
erative isjustified.
The main objective of this chapter is to develop an integrated theoretical
framework for analysing the ability of cooperatives to engage in value chain
coordination. The chapter integrates insights from transaction cost econom-
ics, organization theory and social structure theory. The theoretical framework
enables us to develop a number of propositions and assumptions that can be
empirically tested. Transaction cost economics (TCE), as developed by Klein
~~~et a1. (T978)and Williamson (1985;W9T)~11elps t() cla.dfy the effect oCinstitu-
tions and organizational forms on the behaviour of the economic actors involved
in inter-organizational transactions. Specifically, TCE informs us about the effi-
ciency of the match between transactions and governance structures. From this
perspective, cooperatives are transaction-oriented organizations; and fanners
become members because the cooperative can perform a marketing transaction
or input-purchasing transaction more efficiently than alternative organizational
forms.' Organization theory has a long tradition of dealing with intra-organi-
zational coordination issues (Thompson 1967; Galbraith 1977). This stream of
literature informs us about the options and limits of different ways of organizing
coordination among activities carried out by different actors, either within the
boundaries of one organization or among collaborators in a partnership. Finally,
social structure theory informs us about the effects of social relationships and
social mechanisms on the efficiency of economic transactions. Social structure
has been acknowledged as an important factor for the success of collective action
(Ostrom 1994, 1999), for the efficiency of community governance (Bowles and
Gintis 2002; Hayami 2009), and for the value creation and cost reduction effects
of social networks (Coleman 1988; Burt 2000; Borgatti and Foster 2003).
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The chapter is structured as follows. Section 5.2 presents the theoretical per-
spectives of transaction cost economics and organization theory. Section 5.3
discusses insights from studies on social structure, and how they may be applied
to the analysis of cooperatives. Section 5.4 describes four coordination mecha-
nisms and elaborates on their application to coordination problems in agricultural
cooperatives. Section 5.5 discusses the contractions and complementarities among
coordination mechanisms. The chapter finishes with a brief conclusion.
5.2 Organization theory, transaction cost economics
and coordination
Organization theory
Coordination is needed because of the mutual dependencies (or interdependen-
cies) between different activities and different transactions in the value chain.
Coordination has been defined as managing dependencies between activities
(Malone and Crowston 1994). Thompson (1967) showed that different types of
interdependencies exist - 'pooled', 'sequential' and 'reciprocal' interdependency
(Figure 5.1) - and that each interdependency should be addressed with a particu-
lar coordination mechanism.
With pooled interdependency, each part of an organization renders a dis-
crete contribution to the whole and each is supported by the whole. The parts
are interdependent in the sense that unless they perform adequately, the whole
organization is jeopardized. The main coordination mechanisms in collaborations
of a pooled interdependency type are the development and implementation of
standards for production, distribution and product quality.
Particularly relevant for value chains is sequential interdependency, which
means the output of one part is the input to another part. The main coordination
:;,..-
):;,..-
):;,..-
Sequential interdependency
:;,..- :;,..-
;;
:;,..-.
/
:;,..- .
)
:;,..-
:;,..- :;,..- :;,..-
Pooled interdependency Reciprocalinterdependency
Figure 5.1 Three types of interdependencies
Agricuuurai cooperatives ana value Cham cooraination
1SJ
mechanism usually found with sequential interdependency is managerial discre-
tion, i.e. coordination by plan or command. This type of coordination requires a
coordinating agent who plans the flow of products and information and directs
adaptation to changing internal and external conditions. This coordination mecha-
nism has also been called 'hierarchy'.
The third form is reciprocal interdependency, which means that the output of
each part is an input for every other part. In other words, each part poses contin-
gency for the other parts. A classical example of reciprocal interdependency is the.
joint innovation process; every time one partner proposes changes in the joint out-
come, the contribution of all others is affected. The coordination mechanism that
is associated with reciprocal interdependency is mutual adjustment. This implies
joint decision making and problem solving to coordinate individual activities.
Information exchange and feedback from past transactions is crucial to provide
information about performance and partners' past conduct, to foster learning and
to reinforce social norms and informal sanctioning mechanisms.
It should be emphasized that these interdependencies are additive. Firms expe-
riencing sequential interdependency also exhibit pooled interdependency, and
firms experiencing reciprocal interdependencies also demonstrate pooled and
sequential interdependencies. This implies that the coordination mechanisms also
complement one another when firms move from pooled to sequential or recipro-
cal interdependency.
Highly coordinated value chains feature a connectedness of one transaction to
other transactions. Such connectedness implies coordination costs, as a transac-
tion downstream has to be aligned with a transaction upstream to achieve optimal
outcomes for both. Coordination requires gathering and processing of informa-
tion, making decisions and communicating these decisions. Thus, the stronger the
interdependency among activities or transactions carried out by different persons/
firms, the greater the amount of information they must exchange (Galbraith 1977).
Greater need for information gathering and processing and for decision making
lead to higher coordination costs. Such costs result not only from the actual activi-
ties of information exchange, but also from the limitations of human cognition.
Participants in complex transactions may lack shared and accurate knowledge
about the decision rules that others are likely to use and about the interdependen-
cies of their own actions with those of others (Gulati and Singh 1998; Gulati et al.
2005). When the interdependent transactions in a value chain are ill coordinated,
synergy benefits are lost. In a dynamic environment, where competitiveness and
performance depend on rapid responses to changes in prices, technologies and
policies, the coordination problem becomes the problem of coordinated adapta-
tion (Williamson 1991).
Traditionally, cooperatives are pooled interdependent organizations, charac-
terized by horizontal coordination mechanisms, particularly by standardization
of product quality. The changes in agrifood markets described earlier have led
to a stronger connectedness between upstream transactions (i.e. farmer-coop
transactions) and downstream transactions (i.e. coop-buyer transactions), thus
demanding more vertical coordination. Organization theory poses that in value
86 Jos Bijman et al.
chains in which sequential transactions are highly connected, more centralized
decision making is required. However, the process of moving to more value
chain coordination can be considered an innovation process, in which all actors
are typically interdependent in a reciprocal way. Thus, during the transition of
thc cooperative from pooled to sequential interdependencies we are likely to
see mutual adjustment used as the main coordination mechanism to make pos-
sible the joint adaptation of members and cooperative firm (in consultation with
downstream value chain actors). A typical example of such a transition is the
introduction of organic farming into the cooperative. As organic products have
many credence attributes, performance measurement is difficult and costly, and
trust and reputation are crucial, both among members and towards downstream
customers. In such a situation of reciprocal interdependency, free riding is a seri-
ous problem for all, and coordination among the group is a complex task. Only
by applying the coordination mechanism of mutual adjustment can the transition
be successful. After decisions have been made on the new activities, investments
and standards needed to comply with downstream customer demands, and all
participants have adjusted to the new market demands, a situation of sequential
interdependency arises, where more centralized coordination is required. Thus,
the cooperative processing/marketing firm is the coordinating actor that applies
centralized planning and direction.
We conjecture that the transition of cooperatives from the traditional pooled
interdependency situation, in which standardization is the dominant coordination
mechanism, towards a sequential interdependency situation in value chains, will
eventually lead to managerial discretion as the dominant coordination mecha-
nism. But more mutual adjustment coordination will be observed during the
transition period.
ropositiool: Cooperatives seeking a higfier level of vertical coordination in
value chains win first shift towards mutual adjustment coordination to make
the transition possible but will eventually use hierarchical coordination as the
dominant mechanism in coordinating member-coop transactions.
Transaction cost economics
Coordination costs are a transaction cost. While organization theory emphasizes
the role of organizing information exchange and decision making in reducing
the cost of coordinating interdependent activities, transaction cost economics
(TCE) focuses on transactional risks and their costs and on the organizational
structure best suited to reduce these costs (Williamson 1985). TCE isa dominant
approach within the field of New Institutional Economics (NIE), which argues
that organizations have developed because markets are imperfect and thereby
give rise to transactional risks. Particularly high risks are implied when uncer-
tainty is substantial and/or when one of the parties to the exchange has made
transaction-specific investments. Transaction costs can be reduced by choosing
the proper govemance structure, for instance, by bringing the transaction and all
Agricultural cooperatives and value chain coordination 87
relevant assets under unified ownership. By shifting the transaction from market
governance to internal governance, coordination costs and transaction risks are
diminished, because firms' opportunities for coordination and control are superior
to those of markets. However, besides the two extremes on the scale of govern-
ance structures, with market governance on one side and internal governance on
the other, various intermediate or hybrid governance modes exist. Cooperatives
are positioned within this last category, namely as an hybrid governance structure
(Menard 2007).
The key transaction attributes determining which governance structure leads to
efficient outcomes are asset specificity and uncertainty. Asset specificity refers to
the sunk costs involved in investments specific to the transaction. If the transac-
tion is prematurely cancelled, substantial returns on the investment are lost. The
lock-in that results from asset specificity opens possibilities for others to behave
opportunistically and extract quasi-rents from the investment (Klein et at. 1978;
WiIJiamson 1979). Asset specificity leads to the need to safeguard those invest-
ments, which entails direct transaction costs to craft safeguards and to monitor
and enforce the agreement.
The problem of safeguarding specific assets is particularly serious in the pres-
ence oflocal monopsonies.If farmers lack an alternative market for their produce,
hold-up by the processor or trader poses a considerable threat, especiaIJy with
perishable products such as dairy and fresh fruits and vegetables. By refusing
to accept the produce for the pre-agreed price, a processor can renegotiate the
distribution of gains from the transaction and gain a quasi-rent on the farmers'
investment (Staatz 1987). Cooperatives may reduce the threat of opportunistic
behaviour of monopsonic actors by either processing perishable products into
preserved ones (i.e. by substituting for the monopsonic actor) or by increasing
the collective bargaining IJower of members (i.e, by confronting the monopsony
with a monopoly). The cooperative form is particularly common among produc-
ers of perishable products, where asset specificity is high and products need to be
processed quickly (as in the case of milk) or need to be distributed to consumers
quickly (in the case offresh vegetables).
While Williamson (1985, 1996) has repeatedly emphasized the importance
of asset specificity (in combination with environmental uncertainty) as the main
source of transaction costs, other authors have focused on the difficulty of per-
formance measurement in situations of behavioural uncertainty (Barzel 1982;
Rindfleish and Heide 1997). The problem of performance measurement refers to
the difficulty, and therefore the high cost, of measuring the performance of con-
tract partners in situations of asymmetric information. For instance, buyers may
incur costs as a result of uncertainties about the quality of the product delivered.
The direct transaction costs that result from this measurement problem are the
costs of screening, selection and monitoring. Performance measurement costs are
particularly problematic in markets for products that incorporate environmental
and social concerns such as 'ecofriendly', 'animal friendly', 'organic', 'GMO-
free' and 'Fair Trade'. These products have credence quality attributes, which
means that the desirable attributes are not easily measured by the consumer,
even after consumption of the product. In these situations, the seller has an infor-
mational advantage and may gain from deliberately withholding information.
Jt
is also costly to specify these quality attributes in formal contracts, making
self-enforcement of agreements through long-term relationships and reputation-
building the most efficient safeguarding option.
TCE approaches both asset specificity and the measurement problem from the
assumption that transaction partners are likely to behave opportunistically. Thus,
in situations of uncertainty they might choose to follow their own individual inter-
ests instead of joint interests. The main function of a governance structure is to
reduce the risk of opportunistic behaviour by aligning interests and by reducing
opportunities for opportunism. Using this TCE lens, an agricultural coopera-
tive can be considered a form of partial vertical integration where producers are
the owners of the processing/marketing firm. This ownership structure prevents
potential conflicts of interests from arising between the producers and the process-
ing/marketing firm, thus reducing transaction costs related to asset specificity and
performance measurement.
A cooperative ownership structure constitutes an opportunity for vertical coordi-
nation between the farming activities of the producers and the marketing activities
of the cooperative firm. This ownership structure is designed to safeguard the spe-
cific investments of the producers (the members). However, vertical coordination in
value chains implies that the farmer is no longer the only transaction partner making
specific investments; the cooperative firm also invests in specific assets, such as its
reputation among customers and perhaps a brand image. The cooperative needs to
safeguard these investments, for instance, by introducing more hierarchical govern-
ance in member-coop transactions or even by excluding members who are unable
to comply with the standards needed to protect the brand.
Performance measurement difficulties and asset specificity are often present in
cases of innovation. Product innovation can be done at the level of the members
and at the level of the cooperative firm, When members of a cooperative develop
---new products, the cooperative firm has to make changes in its business processes,
such as implementing a new marketing plan or adjusting its sorting and process-
ing activities. However, deciding on these adjustments at cooperative firm level
requires the consent of a majority of the membership. Thus, the success of an
innovation by a small group of members depends on the willingness of a large
group of members to jointly invest in the innovation. As the small group does not
have organizational options for safeguarding its specific investment (it cannot
impose hierarchical coordination on the other members), either the innovative
members may exit the cooperative or not-innovative members may be forced to
leave. The same mechanism holds for complying with standards. This leads us to
our second proposition.
Proposition 2: In agricultural cooperatives, higher levels of vertical coordi-
nation can be achieved at the expense of inclusion (some members will be
excluded in the process). This is due to the need to safeguard investments and
the limits to hierarchical governance in this type of organization.
5.3 Social structure and coordination
Coordination costs and transactional risks can be reduced by formal organiza-
tional structures, as argued both by organization theory and TCE. However,
transaction costs can also be reduced by informal mechanisms. Social struc-
ture can restrain agents from opportunistic behaviour and facilitate information
exchange (Platteau 2000). Embeddedness of transactions in a social context can
reduce the cost of safeguarding against opportunism by diffusing information
about reputations and by facilitating collective sanctions. Governance based on
social and informal interaction, often called 'community governance' (Bowles
and Gintis 2002; Hayarni 2009), relies on the set of shared norms that regulates
how transactions will be carried out repeatedly over time, how commitments will
be monitored and what sanctions will be imposed in case of non-performance.
Since it is highly likely that members of a community who interact today will
interact in the future there is a strong incentive to act in socially beneficial ways
now to avoid retaliation in the future. Communities often are capable of enforcing
norms and overcoming member free-rider problems by directly punishing 'anti-
social' actions, even without the punisher expecting to be personally repaid for
this (Bowles and Gintis 2002; Hayami 2009).
The set of social relations that helps to reduce transaction costs has often been
studied under the heading of social capita!. For instance, Fafchamps (2006) argues
that social capital supports search and trust, which are two fundamental determi-
nants of the efficiency of social exchange. In other words, by reducing the cost of
information exchange social capital reduces coordination costs and by increasing
the likelihood of contract compliance it reduces transaction risks.
The literature on social structure and economic performance distinguishes two
types of social capital: bonding relationships and bridging relationships. Bonding
social capital is related to moral norms shared with real people with whom one
has common feelings of identity (Coleman 1988). Moral norms are informal rules
that facilitate, motivate and govern joint action of members of close knit groups
and reduce incentives for opportunistic behaviour (Ostrom 1999; Platteau 2000).
Too much bonding social capital can be constraining however, if it is not com-
plemented by bridging social capital (Burt 2000). Bridging social capital emerges
from weak social ties that exist among members of heterogeneous social groups
with different social identifications (Granovetter 1973). While strong ties facilitate
the transfer of complex (non-codifiable) information and tacit knowledge, Hansen
(1999) shows that weak ties facilitate the search for codifiable information.
Bonding through identification can support value creation and cost reduction
within organizations (Nee and Swedberg 2005). Members' identification with the
organization's goals and its leaders is a factor in determining the performance
of agricultural cooperatives (Borgen 2001). Birchall and Simmons (2004) found
collectivistic incentives (concern for the well-being of the group as a whole) to
be significant determinants of members' participation in the British cooperatives
they studied. Bonding social capital allows the cooperative to overcome free-rider
problems, reducing monitoring costs (Nilsson 200 l). Borgen (2001) argues that
90 Jos Bijman et al.
identification with the collective organization conditions members' trust in the
benevolence/intentions of the management, and this, in turn, influences mem-
bers' commitment. Along these same lines, in Swedish cooperatives Osterberg
and Nilsson (2009) found members' perceptions of their participation in the
governance of the organization to be key determinants of trust. Here, the role of
voice (Hirschman 1970) seems to be important in the process of trust-building.
Moreover, the possibility to complain about a relationship and try to work things
out yields trust in the organization (Nooteboom 2007; Six 2005).
A cooperative with strong social cohesion may have a comparative advan-
tage in coordinating members' activities through interpersonal and organizational
trust (thus reducing monitoring and sanctioning costs). Nevertheless, in some cir-
cumstances there might be a trade-off between trust-building and the economic
performance of cooperatives. Indeed, James and Sykuta (2005) conclude that
in agricultural cooperatives in the United States some property right structures
that improve organizational trust are counterproductive for member investment
incentives. In a context of high coordination requirements along the value chain,
bonding social capital may be insufficient to enhance the cooperative's perfor-
mance, since reinforcing bonding social capital may take place at the expense of
investments in bridging social capital. In cooperatives with a high level of bond-
ing social capital, members risk being 'locked in' a low innovative or inefficient
situation. Cooperative members may also be subject to the 'paradox of embedded-
ness' (Uzzi 1997), which means that an organization has difficulty accessing new
information and learning new routines and skills because it is too embedded in
one network. Earlier we argued that vertical coordination in value chains requires
more information exchange and more central decision making. While bonding
social capital works well for horizontal coordination, particularly in small and
homogeneous groups, it may be less suitable for vertical coordination, as vertical
coordination implies value chain participants with partially conflicting interests.
This leads to our third proposition.
Proposition 3: Cooperatives that strongly rely on bonding social capital and
community governance for horizontal coordination will be less successful in
strengthening vertical coordination.
A good example of how bridging social capital may enhance performance among
farmers in developing countries is provided by Buck and Alwang (2006) in their
study of fanners' knowledge acquisition about sustainable pest management prac-
tices. 'Trust in outsiders' was shown to be a factor in determining whether fanners
accept another person's knowledge. Fanners who trusted only other fanners of
the community ('bonding trust') without trusting agricultural technicians ('bridg-
ing trust') had less knowledge on pest management. At the organizational level,
Saes et al. (2003) provide an example of how bridging social capital with NGOs
and govemment agencies allows a cooperative of smallholders to add value to
their production by entering new markets that pay a price premium for credence
attributes. Ecological coffee was not a traditional market for these smallholders
Agricultural cooperatives and value chain coordination 91
in north-eastern Brazil. Nevertheless, building ties with local and international
NGOs, as well as governmental agencies, both at federal and state level, allowed
these smallholders to export directly to a Swedish roaster. In addition, those ties
allowed the environmental and social attributes of the product to be valued by
means of premium prices.
It is not yet clear to what extent there is a trade-off between bonding and
bridging elements of social capital, nor is there in-depth knowledge about what
organizational or managerial features allow the two to be effectively combined.
For example, while Abramovay et al. (2008) report on fanners' organizations that
have underinvested in bridging elements due to an excessive concern for bond-
ing, they also show how a combination of strong internal ties and weak ties with
external stakeholders allowed a cooperative in southern Brazil to become more
independent of state funding and to adopt a market-oriented structure.
The main insights derived from the literature on social structure and economic
performance are the following: social capital can play an important role in reducing
transaction costs within the cooperative. Mechanisms such as trust and informal
and multilateral information exchange reduce horizontal coordination costs, while
goal congruence, collective norms and social sanctions contribute substantially to
reducing transaction risks. Because community governance works better in small
groups, we expect small cooperatives to rely more on community mechanisms
for horizontal coordination than do large cooperatives. This leads us to our fourth
proposition.
Proposition 4: Small cooperatives make more use of community governance
for horizontal coordination than do large cooperatives.
We also expect a relationship between the use of community governance for hori-
zontal coordination and the homogeneity of the membership. A homogeneous
membership enables cooperatives to more easily make use of community mecha-
nisms for horizontal coordination. This leads to our fifth proposition.
Proposition 5: Cooperatives with a homogeneous membership rely more on
community governance for horizontal coordination than do cooperatives with
a heterogeneous membership.
The relative importance of market-type coordination may increase in situations
where community governance is reduced. Therefore, we expect that when the
membership of a cooperative becomes more heterogeneous, market coordination
mechanisms will become more important relative to community coordination
mechanisms. This leads to our final proposition.
Proposition 6: Cooperatives with a heterogeneous membership are more
likely to use market coordination than cooperatives with a homogeneous
membership.
92
Jos
Bijman
et a1.
The advantage of a cooperative when engaging in higher levels of vertical coordi-
nation is that it can obtain the necessary horizontal coordination more efficiently
than its non-cooperative competitors. Once cooperatives have made arrangements
with downstream value chain partners, they can use their community govern-
ance mechanisms to obtain the commitment and adjustments of members. This,
however, only works to a certain extent since, as stated before, over-reliance on
bonding social capital may in fact negatively affect bridging mechanisms.
From the propositions above we argue that small and homogeneous agricultural
cooperatives are better able to use social capital mechanisms for coordination, but
they are more prone to be caught in the 'paradox of embeddedness'.
5.4 Governance mechanisms and coordination in agricultural
cooperatives
In the above, we separately presented each of the three theoretical approaches
and their implications for vertical coordination by cooperatives in value chains.
Organization theory provided the three types of coordination mechanisms -
standards, managerial discretion and mutual adjustment - which will be applied,
depending on the type of interdependency
in
the transaction. Transaction cost theory
emphasized the 'market versus hierarchy' dichotomy of governance mechanisms.
Finally, social structure theory presented the role of community governance, as well
as two types of social capital (i.e. bonding and bridging social capital). Our ambi-
tion, however, is to develop an integrated framework, because real life problems
are complex and cannot be explained on the basis of one theory alone. We expect
cooperatives to make use of combinations of coordination mechanisms. Depending
on particular economic conditions, a cooperative may use more of one mechanism
and less of another to achieve vertical coordination in value chains.
The interaction between different coordination mechanisms is complex.
There are contradictions and complementarities among them. In order to arrive
at an integrated theoretical framework and to identify the trade-offs and comple-
mentarities among the different propositions we first develop a more structured
overview of the different governance (or coordination) mechanisms that coopera-
tives may apply. The key assumption here is that organizations use governance
mechanisms to prevent or to reduce transaction costs (such as transaction risks
and coordination costs).
In seeking the lowest transaction costs, transacting firms choose particu-
lar organizational configurations (or governance structures). While Williamson
(1991) distinguished three archetypes of discrete governance structures - market,
hybrid and hierarchy - other authors have emphasized that all real governance
structures use a combination of governance mechanisms. For instance, Ouchi
distinguished the 'market', 'bureaucracy' and 'clan' mechanisms: 'Markets,
bureaucracies and clans are therefore three distinct mechanisms which may be
present in differing degrees, in any real organization' (1980: 132). Bradach and
Eccles (1989) emphasized that any governance structure combines, to different
degrees, the instruments of price, authority and trust. It is the specific combination
Agricultural cooperanves unu
VUtut::!A''''''' c-vv, •.•''' •.•"~,,
of mechanisms that determines the efficiency-enhancing function of a govern-
ance structure. In a recent study, Grandori and Furnari (2008) added a fourth
mechanism to the typology, distinguishing 'market', 'hierarchy', 'community'
and 'democracy'.' Adding the fourth mechanism is useful for our purposes, as we
are dealing with member-based, democratically governed organizations.
Table 5.1 presents the four governance mechanisms. The first two have tra-
ditionally been emphasized in the TCE literature. Market governance is based
on reciprocity or 'tit-for-tat'. Prices are the main information devices used for
coordination. Participants to a market governance transaction take independ-
ent decisions about their own investments and activities, mainly based on the
incentives they receive. However, horizontal coordination involving different
interdependent tasks and transmission of non-codified information would imply
high transaction costs if the market was the only mechanism available. For more
challenging coordination requirements, hierarchy may be more appropriate.
Hierarchy is based on legitimate authority, and implies articulation of a division
of labour as well as allocation of resources through formal rules and plans. By
means of command and control channels, hierarchy allows the efficient transmis-
sion and processing of information as well as centralized decision making. As
Thompson (1967) argued, hierarchy is an appropriate coordination mechanism in
situations of sequential interdependencies, such as those in value chains.
Table 5.1 Four types of governance mechanisms
Market Hierarchy Community Democracy
Main coordination Reciprocity , Command Goal congruence, Joint decision
instruments strong and control shared norms making
incentives
Way of operation Price Rules Routines, traditions, Participation,
informal information voice,
exchange commitment
Costof operations Low High Low Intermediate
(administrativecosts)
Flexibility High Intermediate Low Low
Capacity to Low Intermediate High Intermediate
solve horizontal
coordination
problems
Capacityto solve Low High Low Intermediate
verticalcoordination
problems
Source: based on Grandori and Furnari (2008).
94 Jos Bijman et al.
The third governance mechanism that we distinguished above is community. The
advantages of community governance relate to shared goals as well as a number
of social mechanisms for restraining free-rider behaviour. The activities of dif-
ferent economic agents may be aligned by means of common identity and trust,
which facilitate information exchange and reduce the probability of opportunis-
tic behaviour. In addition, community governance may promote joint learning
through the sharing of intangible knowledge (Kogut and Zander 1996). Informal
information exchange is facilitated by tradition, routine and shared norms about
how to behave. This type of coordination can handle complex horizontal coor-
dination problems. For vertical coordination in the supply chain, community
governance may be less appropriate, as it may not be immediately clear who will
benefit and who will not benefit, thus reducing goal congruence. In addition, as
community governance relies on routine and tradition, it may hamper or delay
changes needed to strengthen vertical coordination.
The fourth governance mechanism, namely democracy, consists of partici-
patory and 'voice giving' decision-making procedures. This mechanism, called
'mutual adjustment' by Thompson (1967), aims at integrating the judgements and
interests of multiple actors through representation devices. Democracy contributes
to coordination through the allocation of ownership, decision and representation
rights. Creating a sense of joint ownership and a participatory decision framework
facilitates the development of common interests as well as low cost information
exchange. Democracy mechanisms can handle coordination problems at an inter-
mediate level, for both horizontal and vertical coordination.
Distinguishing between these four coordination mechanisms helps us to better
understand how different governance structures are able to coordinate particular
transactions. These mechanisms arc not discrete options. Instead, they are com-
plementary, and most real organizations combine them in the proportions they
consider appropriate to achieve their coordination goals. The relative importance
that different organizations allocate to these mechanisms might vary considerably,
depending on the competition environment and the strategy the organization fol-
lows. When organizations seek to reform their governance structure, in response
to new market opportunities or new technology becoming available, they must
consider the four coordination mechanisms as a system. Changing a system
requires coordinated changes be sought in all four mechanisms (Grandori and
Furnari 2008).
5.5 Contradictions and complementarities between
coordination mechanisms
We have discussed three theoretical approaches by which to understand coordi-
nation challenges and their organizational solutions, and we have identified four
generic coordination mechanisms that can be found to various degrees in every
real governance structure. We now examine contradictions and complementarities
among the various coordination mechanisms and the implications of these for the
possibilities of cooperatives to strengthen vertical coordination in value chains.
Agricultural cooperatives and value chain coordination 95
Community governance/social capital and vertical coordination
Horizontal and vertical types of coordination are not independent. In order to sup-
ply products with the specified characteristics to buyers, cooperatives have to align
their members' production and delivery activities. For horizontal coordination,
community and democratic coordination mechanisms are important. As argued
above, bonding elements of social capital playa significant role in reducing free-
rider behaviour and in informal information exchange among members. Staatz
(1987) conjectured that cooperatives are more efficient than investor-owned firms
in contracting with suppliers because members undergo informal monitoring by
other members and face social sanctions if they let the community down.
Structure variables, such as the composition and the size of the membership, are
crucial factors in determining the efficacy of community governance and social
capital for coordination. Small cooperatives and cooperatives with homogeneous
memberships are more likely to make efficient use of community governance for
horizontal coordination.
Building social capital in agricultural cooperatives is nevertheless a long-term
process. Besides, as community governance relies on social mechanisms such as
traditions, norms and routines that by definition do not easily change, it may be
less useful in highly dynamic markets. Moreover, investment in bonding social
capital might take place at the expense of investment in bridging social capital,
as discussed above. Bridging, however, is a critical enabling element for vertical
coordination along the value chain. If there is indeed a trade-off between bonding
and bridging forms of social capital, agricultural cooperatives may face a 'social
capital dilemma', since both forms cannot be maximized simultaneously.
When bridging social capital becomes relatively more importantthan bonding
social capital, we may expect a shift of decision-making power from members to
management. That shift, then, implies more hierarchical governance, as profes-
sional management seeks to strengthen vertical coordination in the value chain.
Democratic governance and vertical coordination
Agricultural cooperatives are governed by democratic decision making. The
legitimacy of decisions taken through participatory procedures is expected to
raise members' commitment. Attachment and identification become manifest, for
instance, in members supporting decisions once taken democratically and in their
willingness to put extra effort in improving governance and performance.
However, there may be limits to democratic coordination mechanisms, par-
ticularly when high levels of vertical coordination are required, since conflicts of
interests may arise between individual members and the cooperative as a supplier
to other agents of the value chain. For example, members are often interested
in selling all of their products to the cooperative, regardless of the quality; the
cooperative, in order to meet buyers' requirements, must put in place a strict qual-
ity control system. If decisions about quality standards are taken democratically,
there is a chance of the majority choosing to set low standards, which may lead to
96
Jos
Bijman
et a1.
a collective action dilemma and a group failure (i.e. losing market opportunities).
We call this the 'democracy dilemma'.
Mutual adjustment resembles democracy but may not be the same as democ-
racy in a formal decision-making structure. Democracy gives each member at
least one vote, but in a large organization this vote can be of almost zero influ-
ence. Mutual adjustment, however, implies close interaction among actors whose
actions have to be coordinated, perhaps also including informal exchanges of
ideas and opinions. While democracy can be organized in a large organization,
mutual adjustment only works with a limited number of participants in the coor-
dination process. Mutual adjustment is more easily applied in small cooperatives
where members know each other and are all engaged in the decision-making proc-
ess. This implies that innovation requiring adjustments of all members may be
more easily obtained in a small cooperative than in a large cooperative.
Democratic decision making in cooperatives may hinder value chain coordina-
tion if the latter involves innovation and adjustment. Democratic decision making
in cooperatives means that the majority rules (or even that decisions are taken by
consensus). The majority, however, is usually rather conservative, that is, oppos-
ing change.
Stricter vertical coordination requires more effort from the cooperative in
attaining horizontal coordination among the members. Horizontal coordination
is more easily obtained when both democratic and community governance are
present. The combination of democratic and community governance is more likely
to be found in small organizations. Therefore, we expect smaller cooperatives to
be more reliant on the combination ofthese two mechanisms for achieving higher
vertical coordination in value chains.
Market governance and vertical coordination
Cooperatives generally pay 'market' prices to their members for the products deliv-
ered. Thus, farmers' production activities and the cooperative firm's processing
and marketing activities are coordinated through the price mechanism. In principle,
members have no restrictions on the volume they can deliver to the cooperative,
unless a statutory quota system has been established. If the cooperative introduces
more hierarchical elements in coordinating the member-coop transaction, because
downstream value chain actors require stricter quality assurance, members lose
part of their flexibility in delivering different qualities and quantities. This, para-
doxically, may strengthen the need for market governance. If members have less
opportunity to influence coop decisions, through informal or formal processes, they
may request more market governance in their individual transactions.
Hierarchical governance and vertical coordination
Overall, we expect strengthened vertical coordination in value chains to lead to
a decrease in the use of market and community coordination and an increase in
the use of hierarchical and democratic coordination. Democratic coordination,
Agricultural cooperatives and value chain coordination
'J"J
however, works well only in relatively homogeneous memberships. If the mem-
bership is highly heterogeneous, continuous conflicts of interest block effective
decision making. In that situation, the cooperative may need more hierarchical
governance. However, hierarchy does not combine well with democratic traditions
and norms in cooperative govemance. Strengthening hierarchy in cooperatives
may eventually erode the commitment of members and thereby jeopardize even
the very existence ofthe cooperative. Cooperatives face a trade-off between hier-
archical and democratic elements when trying to strengthen vertical coordination
in value chains. This we call the 'hierarchy dilemma'.
From the discussion above we can glean that small and homogeneous agricul-
tural cooperatives are more capable of combining social capital and democratic
elements to achieve higher levels of vertical coordination. However, they face
the social capital and democracy dilemmas. On the other hand, large and hetero-
geneous cooperatives are more able to use hierarchical and market mechanisms
to strengthen vertical coordination. They are, nonetheless, prone to the hierarchy
dilemma. In practice, cooperatives combine all of these mechanisms in differ-
ent proportions. Their ability to achieve a higher degree of vertical coordination
depends on the appropriateness of the combination they choose and their capacity
to handle the dilemmas we described above. These dilemmas are major manage-
ment challenges faced by cooperatives when engaging in higher levels of vertical
coordination.
5.6 Conclusions
This chapter began with the question of whether cooperatives can efficiently and
effectively deal with the increasing vertical coordination in agrifood value chains.
We argued that cooperatives use a combination of coordination mechanisms.
Which mechanism is dominant depends on organizational characteristics, such
as size and member heterogeneity, and on the market and value chain conditions
in which the cooperative operates. Community and democratic governance are
two distinctive features of cooperatives. They favour strong commitment, deter
opportunistic behaviour and reduce costs of information exchange since infor-
mal communication substitutes for more costly formal information exchange.
Democratic decision making leads to commitment and identification. However,
when the cooperative grows and becomes more heterogeneous or when the need
for vertical coordination increases, benefits from both of these mechanisms
become more difficult to obtain.
The limits of community and democratic mechanisms might be overcome by
hierarchy, particularly in large cooperatives. Introducing hierarchy, as by giv-
ing more decision-making power to professional management, might provide the
bridging social capital needed to find good value chain partners. More impor-
tantly, hierarchy can strengthen members' compliance with the strict quality
requirements often needed to assure quality to downstream value chain partners.
Hierarchy, however, is a coordination mechanism inherently foreign to the coop-
erative, being contrary to voluntary membership, joint interests and participatory
98 Jos Bijman et al.
decision making. Although hierarchy may be needed to attain stronger vertical
coordination, it should be applied with caution. We showed that each mechanism
provides certain advantages, particularly in synergy with the others, but each also
involves limitations, resulting in contradictions and management dilemmas.
This chapter uncovered the theoretical underpinnings of hierarchy, democracy,
market and social capital coordination mechanisms, as well as the synergies and
contradictions that characterize the complex interactions among them. We agued
that the ability of agricultural cooperatives to engage successfully in higher levels
of vertical coordination depends to a great extent on the way they solve criti-
cal management dilemmas through the appropriate combination of coordination
mechanisms.
Notes
This is different from social or political perspectives on cooperatives which emphasize
the emancipation of subordinated groups in society or the development of participatory
organizations as a tool for democracy building.
2 Grandori and Furnari (2008) use the concept of 'organizational element' to stress the
building blocks of organizational design, similar to how a chemical compound is built
up of different elements. We prefer to call these building blocks of any governance
structure the governance mechanisms.
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