A violent market price contract for agribusiness supply chain

Abstract

A contract farming arrangement between a firm and a farmer is an important mechanism for development in the agribusiness sector. Among the major challenges of these arrangements are the violations of the contract by the parties under conditions of extreme market price fluctuations. To address this issue, we propose a violent market price (VMP) contract, which incentivises the firm and the farmer to remain in the contract even under extreme price fluctuation. In the VMP contract, we propose a pricing mechanism which adjusts the price based on adverse market conditions. We model the firm-farmer interaction as a Stackelberg game and derive the optimal contract parameters using backward induction. We establish that there is no incentive to deviate from the VMP contract. The sum of the expected profits of the firm and the farmer is found to be higher when both honour the VMP contract than when they violate. The individual rationality conditions for the firm and the farmer to enter into the contract are derived. The model is demonstrated through numerical illustrations based on case-study, and sensitivity analysis is performed to provide further insights.