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Optimal Farm Size under an Uncertain Land Market: the Case of Kyrgyz Republic

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Abstract

The paper illustrates a theoretical model of real option value applied to the problem of land development. Making use of the 1998-2001 Kyrgyz Household Budget Survey, we show that when the hypothesis of decreasing return to scale holds, the relation between the threshold value of revenue per hectare and the amount of land cultivated is positive. In addition to that, the relation between the threshold and the amount of land owned is positive in the case of continuous supply of land and negative when there is discontinuous supply of land. The direct consequence is that, in the first case, smaller farms will be more willing to rent land and exercise the option where, in the second case, larger farms will exercise first. The results corroborate the findings of the theoretical model and suggest three main conclusions: (i) the combination of uncertainty and irreversibility is a significant factor in the land development decisions, (ii) farmers’ behaviour is consistent with the continuous profit maximization model, (iii) farming unit revenue tends to be positively related to farm size, once uncertainty is properly accounted for.

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