l(CqiI 0 ~~~~~~~0 Viewpornt The World Bank September 1995 Note No.52 To Buy or Lease? Farm revival in Eastern and Central Europe OmarRazzaz Buying, selling, and mortgaging farmland are still rare in Eastern and Central Europe. Not surprisingly, given the level of risk in many of these countries, short-term transactions, especially leasing, are more common. These short-term transactions do almost as well as land sales in allocating resources. Making them more secure by improving simple registration and enforcement systems and increasing public access to information on what's for rent and at what price would do much to help revive the farm sector. Sales slow to pick up FIGURE 1 SALES OF FARMLAND, 1991-92 A recent World Bank-sponsored survey of pri- (annual average percentage of survey area) vate farmers in Eastern and Central Europe 0.6 found a generally low level of sales and a high level of short-term land transactions compared 0.4 with more mature markets such as the United 0.9_______________ ___ Kingdom (figures 1 and 2). In Hungary and Bulgaria Romania Poland Hungary United Poland, which have allowed private ownership Kingdoma of farmland since 1987 and 1981, leasing is widespread. In Bulgaria and Romania, where landownership has been allowed only since FIGURE 2 LEASING OF FARMLAND, 1991-92 1991, little or no farmland has been sold yet (annual average percentage of survey area) because sales are still legally restricted. Infor- 5 mal lease transactions predominate in both these countries, though the numbers are still 4 very low. 3 - - Given the desperate need to restructure farms 2 in Hungary and Poland, the volume of land sales is surprisingly low. Evidence from other I transition economies suggests that leasing is 0 111111111111_R preferred there too-even when selling land is Bulgaria Romania Poland Hungary United allowed. An Estonian survey on attitudes to- Kingdoma ward land privatization revealed that only 2.4 Note.The United Kingdom is included asabenchmarkforlandtransactions in percent of those who own land plan to sell it, industrial counrries. and that 11.6 percent were willing to lease their a. Date ae for 1992 Source: World Bank 994. land. A preference for renting rather than sell- ing land has also been observed in eastern Germany. WMIJ Private Sector Development Department * Vice Presidency for Finance and Private Sector Development To Buy or Lease? ably as a result of the greater experience with private landownership in that country. FOR I D MA t AjOAN Mi The uncertainty effect Most transition economies have yet to fully es- Albania Blgaria - e X-; ga Pland Rania (tablish the "rules of the game" and the "institu- es19.8 405 16.t 144- 2i-8 - ~ i-;tional infrastructure" for land markets. Many countries, especially those of the former So- No 81.7 42.5 70.0. 66.4 66.2 viet Union, even have yet to make a clear and Undecid: ; ed 1.3.,V. ,.l S.,S,,- . 13V;f.6g:--0-e ; 12~;.20- 13 $credible policy commitment to private prop- No answer 0.4 3.3 1.7 1.9 0 ~~~~erty rights to land (including the right to trans- fer). While other countries, such as Estonia, Soil,ce World Bank 1S94. ~~~~~have recognized and protected such rights, they are still wrestling with conflicting land claims- between original owners and current users. And although some countries, such as Albania, Ar- The Bank-sponsored survey also shows that menia, and Romania, have moved quickly to land is rarely used as collateral. When private distribute public land to individual owners, they farmers in Albania, Bulgaria, Hungary, Poland, have yet to develop the substantive and pro- and Romania were asked whether they would cedural legal mechanisms to facilitate buying and selling. Informal agreements dominate at the In the current economic environment few farm- ers or investors want to buy farmland. They early stages of transition, leasing are uncertain about the viability of agriculture. They lack access to long-term finance. Own- dominates at later stages, and an ers are reluctant to sell because high unem- ployment, the collapse of social programs, and expanded set of opti'ons, including sale the lack of savings mechanisms mean that pri- vate owners want to hold land as a fallback, andpurchase, becomes available in subsistence option. Moreover, members of col- lectives are constrained by a farm restructur- developed markets. ing process that makes it difficult, if not illegal, to sell land to outsiders.2 be willing to use their land as collateral, most While the reluctance to buy and sell is under- said no (table 1). Moreover, banks are reluc- standable, the need to revive the farming sec- tant to accept farmland as collateral-although tor is important and urgent-agriculture some will accept centrally located urban land.' currently accounts for about 27 percent of The survey indicates that the more market-ori- employment and 15-20 percent of GDP in the ented the banks, the more reluctant they are region. More secure leasing can help. to enter into the high risks currently associ- ated with farming. When banks do lend to farm- Leases are efficient ers, they tend to make only short-term loans (not for land) and they prefer movable prop- On both equity and efficiency grounds, short- erty such as crops, animals, and personal as- term leases are frequently perceived as "sec- sets as collateral. Only in Poland were banks ond-best" tenure options compared with willing to lend to farmers to buy land, prob- owner-operated arrangements. Yet, although long-term leases and ownership are crucial for an expanded set of contracting options, includ- creating the right incentives for long-term in- ing purchase and sale, becomes available in vestment, short-term leases seem to be pre- developed markets (United Kingdom). This pat- ferred during periods of economic instability. tern is consistent with the gestation period re- Recent theoretical and empirical work has quired for stabilizing the macroeconomic shown that these leasing arrangements may be environment and developing institutions to re- more efficient under conditions of high risk duce enforcement and information costs. These aversion, imperfect information, high enforce- institutions become increasingly important as ment costs, lumpy inputs, imperfect credit mar- parties move from short-term informal agree- kets, or missing insurance markets-conditions ments to agreements entailing up-front com- that are common in transition economies.3 mitments and longer investment horizons. Leases work well in these circumstances be- cause agreements frequently take place be- tween neighbors and within communities, substantially lowering the cost of information BOX 1 TITLES AND LEASES IN THE BALANCE and of formal contract enforcement. The leases make it easier to adjust the size of farming units There are two main differences between property rights transferred in a way that reflects changes in the relative throughtieandthosetransferredthrotghaleaseagreement cost of land, labor, and finance. Short-term thE t:entostaserdhoghlaegenet cost of land, labor,,and finance. Short-tern prDoperty rights transferred through thle are perpetual while those leases are also likely to ease common anxi- eties about corruption, speculation, and mass transferred through lease are time-bound, and property rights dispossession of farmland by absentee land- transferred through title usually encompass all ownership rights lords. And finally, because leasing allows short- (mainly the rights to possess, use, transfr, and derive income from term and repeated transactions, uncertainty propertyq while those transferred through lease agreements about the market value of future production is : abssout the markbletmvalue. offutureproductioni encompass only a subset of such rights. Short-term leases typically less of a problem. include use rights only.The longer theterm ofthe lease and the more Leasing arrangements are important not only rightstheleaseagreementtransferslincludingtransferandmortgage as mechanisms for farm restructuring, but also rlghts), the more leaseholders' rights come to resemble those of as catalysts in developing mature land markets. titleholders. Price signals obtained through short-term con- tracts provide the information on land value and risk assessment that potential buyers and banks need, and thus help to strengthen land What to do? markets. Although these short-term leasing arrangements Policymakers often prescribe land titling as the are frequently informal, they need not be. necessary catalyst for "jump starting" markets. Simple measures to reduce information and en- But national titling programs can take decades forcement costs can go a long way toward wid- to complete. As important as titling is for the ening the scope of transactions beyond the long-term development of land markets, it is immediate community and increasing security neither necessary nor sufficient to permit farm- of tenure. At a minimum, contracting parties land transactions in the short to medium term. need to know who owns what. Typically, policymakers can expect to see an A proper set of policy measures to promote evolving pattern of land transactions. Informal short-term land transfers should include: agreements dominate at the early stages of tran- * Field adjudication and registration of land sition (Bulgaria, Romania), leasing contracts rights. Adjudication and registration are nec- dominate at later stages (Hungary, Poland), and essary prerequisites of formal land transac- To Buy or Lease? tions. (Even collective farms should be en- to experience delayed disbursement because couraged to delineate plots for each mem- it takes so long to create secure, transferable, ber. Members of the collective do not have and mortgageable titles. A better option is to to work independent of one another, but design projects that: should have the option of doing so or of * Facilitate short-term land transactions through engaging in tenancy arrangements with one simple registration, enforcement of rights, and another.) Officers trained in simple survey- provision of market information. ing techniques and legal principles could pro- * Provide the legal and institutional means vide adjudication in the field, settling disputes through which individuals and communities and demarcating boundaries in the presence could opt for more formal rights and secured of all concerned. The adjudication process transactions in the long run. results in a preliminary register of land rights.4 * Introduce titling programs as a long-term Titling is, of course, more secure than simple strategy, beginning in localities that demon- registration of rights. But experience in de- strate better potential for land markets (such veloping countries shows that at this stage as urban areas and village centers). the accurate surveying and precise coordi- nates associated with titling do little to in- ' Some banks have designec creative instruments that allow the use crease security of tenure and reduce disputes, of centrally located urban land as collateral. In Estonia, for ex- but add substantially to the time and cost of ample, despite the lack of a properly functioning mortgage regis- tration system, several commercial banks created a shared com- registration. puter database for mortgaged real estate. This reduced the chances * Removing the legal restrictions on leasing of fraud through multiple mortgage loans using the same collateral. land. These restrictions, put in place to stop 2 Here, collectiverefers both to privatized sovkhozesand to kolkhozes. "speculation an "profiteering," have rThe distinctions are not important for the purposes of this Note. "speculation" and "profiteering," have re- Unlike the owners and operators of industrial and commercial ceived less attention from reformers than corporations, who tend to be separate parties, colletive farmmem- restrictions on land sales even though they bers tend to be both the operators and the would-be owners This series is published are potentially more distortionary during volvig deasionmaking po9 er to idructurid g mould require de- to share ideas and invite transition. eating indi'idual tights to specific plots of land (even if produc- inancialand private r Removing rent controls and formula-based tion is collective). financial andeveloprivt atelease prices. Severalcountriesallowtheleas Research shows leasing contracts to he generally more efficient sector development as lease prices. Several countries allow the leas- than sharecropping or svage contracts in reducing incentive prob- well as industry and ing of privatized land, but still regulate rents lems. See Binswanger, Deininger, and Feder (1993) for an excellent energy. The views expressed are those of through price ceilings or formula-based esti- review of the literature. the authors and are not mates. Such restrictions, typically applied for flEntries.sucharegistercanbechallenged m courtduringaspeci- intended to represent tax purposes, defeat the crucial function of an official statement of Bank policy or strategy. tenancy-based contracts as market signals. References * Developing decentralized mechanisms for Comments are welcome. monitoring lease-based contracts and provid- Binswsanger, Hans P, Klaus Deininger, and Gershon Feder 1993. "Power, Please call the FPD. Distortions, Revolt. and Reform in Agriculiural Land Relations."'Policy Note line to leave a ing public information on opportunities, go- Research Working Paper 1'64. World Bank, Washington, D.C. message 1202-458-1111) ing rates, and model contracts. These could Brooks, Karen, and ZviLerman. 1994. "Farm Reform in the Transition or contact Suzanne range from bulletin boards for announce- Economies." FinanceandDevelopment31(4). Smith, editor, Boom , World Bank. 1994. "Regional Study: Farm Restructuring and Land Ten- G8105, The World Bank, ments by prospective lessors ancl lessees to ure in Reforming Socialist Economies: A Comparative Analysis of 1818 H Street, NW, more sophisticated mechanisms for collect- Eastern and Central Europe." Prepared bh Euroconsult/Centre for Washington, D.C. 20433, ing and providing information. World Food Studies. Washington, D.C. or Internet address sam ith7@awo rid ank.o rg. Implications for World Bank work OmarRazzaz, Private Sector Development Spe- ePrinted on recycled cialist, Private Sector Development Department paper. World Bank projects with credit line compo- nents targeting individual legal owners of farm- land or requiring their active participation in project design and implementation are likely