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Rewards or incentives are used to improve dairy farms’ performance and are typically paid by processors when a predetermined level of milk quality is attained (Stup et al., 2006). Incentives include not only payment systems but also services related to the raw material supply i.e. contracts to provide feed for calves and heifers, farmer training programs, availability of credit or preferential payment, access to farm management and profitability advice (Moran, 2005). These incentives could be attractive for farmers especially when the proposed price is quite homogeneous from one processor to another.

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Milk payment systems differ from country to country, region to region, company to company and so on (IDF, 2006). For instance UK and Czech Republic have a current payment system based on volume but with a differential for variation in milk composition. Countries like Austria and Germany have a payment system based on a per-kilogram basis (Summer, 2007). Differential payment systems and incentives may vary according to the production type and the characteristics of raw milk in the region.

Depending on market demand and the supply situation, dairies may be interested in receiving homogeneous deliveries of raw milk or raw milk with different fat percentages. Indeed, higher fat percentage is demanded if dairies sell a lot of cream, butter and other high fat products, but are low if there is a surplus of fat that cannot be utilized (FOSS, 2005). Deduction in milk price and rejection levels to discourage milk adulteration and improve farmers’ milk quality management practices are also commonly applied worldwide (Table 3).

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leading to high and low milk production. For example, seasonal milk price differential is commonly applied in UK and varies from -14.5% of the base price in May to +30.3% in August (Varnam and Sutherland, 2001).

1.1.5. Conclusions The upstream part of dairy supply chains (farmers and dairies) in developing countries faces the presence of numerous stakeholders as well as formal and informal markets pursuing their own interests and benefits. Changes in consumer demand are modifying the way dairy products are inspected, processed, packaged and supplied to consumers; and high-quality milk is increasingly demanded from milk producers. However, difficulties related to milk adulteration and poor hygienic management affect the supply of high milk quality. On-farm milk quality controls can help to correct these problems. Nevertheless, high testing costs and the large number of small-scale dairy producers limit dairy processors’ willingness to test every milk sample collected. Attractive incentive programs adapted to local needs may provide positive results on the improvement of milk quality management, while ensuring the continuous supply of high quality raw materials. Nevertheless, other strategies to improve milk quality also need to be explored.

The next sub-section presents our case study which attempts to find alternatives for improving milk quality and the efficiency of dairy production in a context with predominant presence of small-scale farmers and a production system with a simultaneous participation of formal and informal markets.

1.2. Context of the study 1.2.1. Characteristics of the Peruvian dairy sector Although Peru has one of the lowest levels of dairy consumption on the continent (Aubron et al., 2009), throughout the last decades there has been a consistent trend to increase dairy production.

Indeed, milk production in Peru has experienced a constant annual growth of around 4%, i.e. from

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this growth: (i) the growing urban demand for dairy products; (ii) the national protection of the dairy sector from imports through 2008; and (iii) the food aid regime, based on the “Programa Nacional de Asistencia Alimentaria” (PRONAA) currently called Qali Warma, which provides milk to school children (Knips, 2006). Despite this progress, the involvement of the Peruvian government regarding policies for the dairy sector has not been constant over the last decades. In the 1980s, the government controlled wholesale and retail prices and managed import quotas in order to incentivize the development of the industrial sector, replacing the imports with national milk and keeping consumer prices for dairy products low (Bernet, 1998). In the beginning of the 1990s, the Peruvian Government decided to protect its national market from cheap imports by implementing tariffs and a price band system for import of dairy products. Similar decisions have been made by other countries such as Morocco and Tunisia, which has led to large investments in local dairy production and allowed smallscale farmers to be involved in this sector (Sraïri et al., 2013). Nevertheless, these tariffs and price band system were removed in the medium term to favor the trade with the Andean Community of Nations and United States; and were completely abolished in 2008.

According to FAO (2006), the dairy industry in Peru has three main production systems, each one with its own characteristics and different challenges: (i) Large-scale dairying, where milk production is based on stall-feeding dairying or intensive strip grazing systems, generally practiced in the coastal lowlands of Arequipa, La Libertad and Lima; (ii) tropical dual-purpose dairy production in the semi humid lowlands of the Amazonian region, based on a low input, low management and a low risk pasture system; and (iii) small-scale dairy production in the central highlands, linked to horticultural and other irrigated crops in the valley bottoms and natural grazing for extensive cross-breed dairy breeding on the upper slopes. From these production systems, dairy production in the central highlands is part of our particular interest because of the amount of rural small-holders involved.

Eighty-eight percent of the total population of cattle in the country is located in the Andes. Dairy cattle also provide draught power, manure and sometimes function as a source of cash reserves (Drucker et al., 2001; Rojas and Gómez, 2005). The development of transportation channels in the 90s have contributed to expanding milk collection routes and fostering faster transportation of highly perishable items such as raw milk, cheese and yogurt from the Andes to the urban centers. Dairy production has

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milk price and produce high milk yields per animal; however, dairy farming systems still need to be significantly improved through adequate animal and pasture management, forage conservation and in general, better quality management of the enterprise.

Nowadays, the Peruvian government promotes the dairy sector in the central highlands mainly through developing social feeding programs like Qali Warma, which provides quality food (including milk and dairy products) to school children. Nevertheless, it is not currently involved in providing support or any direct subsidy either to the local dairy production (credit or inputs) or to the dairy industry, even when contracts between credit institutions and milk processors have proven to be very cost-effective in the Andes (Bernet et al., 2002). Farmers in the central highlands usually demand technical and economic support from the government, but they are not so optimistic about the real involvement of the state in the region (Trivelli et al., 2006). Only a few public organizations are present in these areas like Sierra Exportadora and Regional Governments, but these play a limited role in promoting innovation and are not sufficient to boost the dairy sector (Ortiz et al., 2013). Consequently, farmers and processors are exclusively dependent on their own profits to invest in their business. This situation could hinder the possible expansion of the sector and increase smallholder farmers’ economic vulnerability. Despite this lack of economic support available to farmers and processors, active State intervention in the Andean dairy sector is suggested (Bernet et al., 2001) in order to alleviate poverty in the area (Kristjanson et al., 2007).

Since the demand for milk is still increasing and some central areas are located not too far from coastal cities, increasing milk production might be an interesting development strategy for small-scale farmers in the central highlands (Bernet 2000). The Mantaro Valley is one of these highland areas, because of its potential for development of the dairy sector: It has relatively good access to markets, farmers cultivate pastures all year long, people depend on milk production for their livelihood income, there is a large variety of stakeholders in the area, and it is relatively close to Lima, the Peruvian capital located at 270 km from this valley.

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The Mantaro Valley is located in the department of Junín in the Central Andes (75º18´ longitude West;

11º55´ latitude South; 3,200 meters above sea level) (Figure 1). The local annual rainfall varies between 600 and 765 mm per year, but most of the dairy production benefits from irrigated forages such as rye-grass, clover and oats, cultivated on surface irrigation schemes.

Figure 1: Localization of Mantaro Valley Dairy production has been important in the area since the 1960s thanks to the development of industrial companies funded both publicly and privately, and to the commercial links with the wholesale market in Lima. The national land reform program conducted in the early seventies favored the dismantling of large haciendas and the emergence of small-scale farms and co-operatives.

Nevertheless, collective co-operatives set up in the area failed to increase agricultural productivity, in comparison with other areas of the country because of farmer’s preference for individualization of land use and ownership (Scurrah and Caravedo, 1991; Trivelli et al., 2006). The terrorism movement active in the area during the 1980s also negatively affected the local economy, discouraging producers from investing in farms including those in the dairy sector (Fernandez-Baca and Bajorquez, 1994).

From being the second most important national production area in the 1970s, the Mantaro Valley nowadays provides only 2% of Peruvian dairy production. However, milk production has been increasing since 1994, reflecting much of the dynamic growth found at the national level (Figure 2).

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has provided to local dairy farmers access to technical support and credit (Aubron, 2007), and the possibility to increase their milk production by offering a secure outlet for their produce.

Figure 2: Evolution of dairy production at National level and in the department of Junín (Mantaro Valley) from 1994 to 2011. The figure shows the similar trend in terms of increased volumes over time.

(Source: MINAG, 2014 and INEI, 2010) This dynamic combined with the turbulent history of dairy production in the region has led to a large

variety of dairy farmers, collecting and processing actors from both formal and informal markets coexisting in the same area:

1.2.3. Dairy farmers Smallholder farmers account for around 60% of the dairy farms in the area. They on average cultivate less than 2 ha and own no more than 6 dairy cattle, including two lactating cows in production. The average production per cow and per farm is 8.6 l/day and 18 l/day respectively. Despite their vast number, these small-scale farmers account only for 30% of the total milk production in the area.

Indeed, they have poor access to some services like credit (only 19% have access), concentrate supply (62%) and training (29%). Fifty-one per cent of them have limited access to land leading to high

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grass-red clover, or alfalfa) and crops (potatoes, corn, carrots, beans, peas and artichokes) in order to increase their returns and simultaneously reduce risks. However, this crop diversity on small cultivated areas leads to difficulties in providing a constant feeding diet to their cows in a green forage-based system. Approximately 68% of farmers have to buy fodder during most of the year to complement their own forage production. The diversity of dairy farmers leads to a large variability of daily milk quantities supplied per farm, ranging from 5 up to 300 l/day.

1.2.4. Milk collectors Milk collectors collect up to 35% of total milk per day, and up to 50% if collectors who process part of the milk are included. Collectors’ milk collection varies between 400 to 5000 liters per day. These large quantities can be obtained by prospecting production areas far from dairy industries’ own supplies (approximately 30 km). Milk is bought from farmers who cannot find enough buyers due to their remote location. To recover part of transportation costs farmers are paid 10-20% less per liter of milk than the average price in the area. This system provides a good source of income to collectors based on a small profit per liter assuming a permanent collection volume above 1000 liters per day.

1.2.5. Dairy Processors Three main types of processor can be identified in the area: i.e. collector centers from two multinational dairy industries, several local medium-scale dairies and artisanal cheese-makers. They process respectively 44%, 27% and 29% of the total milk commercialized in the Valley. Two multinational dairy companies have installed a collection center in the study area. They receive milk from farmers or collectors at the center gate, storing it in cooling tanks for a couple of days until they have sufficient milk to be sent to Lima for processing. They accept as much milk as they can obtain.

About 15 small and medium scale dairies collect from 50 up to 3500 liters of milk per day and belong to formal companies. They produce mainly fresh cheeses and yogurt. However, around half of them produce a wide diversity of dairy products such as pasteurized milk, diversified cheeses, butter, manjarblanco and ice cream. Only about 2 or 3 of these companies have been integrated in Qaly

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have to find other market opportunities. About 50 artisanal cheese makers process from 55 up to 5000 liters of milk per day. Despite these big volumes, all of them are informal. They buy milk and produce their dairy products, mainly fresh cheese, without pasteurizing the milk before processing it. Artisanal cheese makers use cheese molds made of reed. These molds are difficult to clean but give characteristic marks to fresh cheeses that are easily recognized by consumers in Lima’s markets.

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