Farm-Level Risk-Balancing Behaviour and the Role of Latent Heterogeneity

Aderajew Tamirat, A.A. Trujillo Barrera, J.M.E. Pennings

Research output: Contribution to conferenceConference paperAcademicpeer-review

Abstract

This study provides farm-level empirical support for the risk-balancing hypothesis using a longitudinal dataset from a panel of 1500 Dutch farms. Risk-balancing refers here to adjusting the level of financial risk in response to changes in business risk due to exogenous shocks, keeping the level of total farm risk constant or close to the optimal total farm risk. In empirical studies to date, the heterogeneity of risk-balancing farms has been neglected. In this paper, we explicitly account for latent heterogeneity using a latent mixture regression model. Using the iterative Expectation-Maximization (EM) algorithm, the model simultaneously identifies segments based on the influence of the selected explanatory variables and estimates the effects of these variables on farm risk-balancing behaviour for each identified segment. We find that profitability, risk, leverage, age, size, and diversification play an important role in driving farm risk-balancing behaviour. Interestingly, the heterogeneity at segment level appears to have been masked at aggregate farm-type level, notably the effects of leverage and total risk exposure. Assuming homogeneity in farms’ responses and estimating a pooled model or a priori classifying farms based on farm type yields a poor fit. The results provide new insights in the interdependence of financial and business risks, spark discussion about the linearity of farm risk reduction policies and total farm risk and underline the relevance of considering both observed and unobserved factors in devising relevant risk-management strategies.
Original languageEnglish
Number of pages51
Publication statusPublished - Aug 2018
EventAgricultural & Applied Economics Association 2018 AAEA Annual Meeting - Washington, D.C., United States
Duration: 5 Aug 20187 Aug 2018

Conference

ConferenceAgricultural & Applied Economics Association 2018 AAEA Annual Meeting
Abbreviated titleAAEA
CountryUnited States
CityWashington, D.C.
Period5/08/187/08/18

Keywords

  • Risk-balancing behaviour
  • latent heterogeneity
  • mixture regression model
  • farm business
  • Expectation-Maximization (EM) algorithm

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    Tamirat, A., Trujillo Barrera, A. A., & Pennings, J. M. E. (2018). Farm-Level Risk-Balancing Behaviour and the Role of Latent Heterogeneity. Paper presented at Agricultural & Applied Economics Association 2018 AAEA Annual Meeting, Washington, D.C., United States. https://ageconsearch.umn.edu/record/274467/files/Abstracts_18_05_14_04_50_36_76__137_120_34_244_0.pdf