Who should diversify and move out of agriculture? Income portfolios and household welfare in rural Uganda

Abstract

In this paper we present empirical evidence of the welfare effects of rural income diversification and off-farm income generation. We use household survey data from two panel rounds in rural Uganda, and fixed and random effects estimation and quantile regressions to estimate average and heterogeneous effects. While the literature mostly focuses on either income diversification or participation in off-farm activities, we specifically distinguish between income diversification, using the Simpson index of diversification, and off-farm income generation. We use ex post income and poverty measures as well as an ex ante vulnerability measure to analyze the welfare effects of income diversification out of agriculture. Our results lead to nuanced findings that complement existing insights. We find that income diversification and off-farm income generation improve household income, reduce their likelihood to be poor and reduce their vulnerability to poverty. We find quite strong average effects: a 10 percentage point increase in the Simpson index or in the share of off-farm income in the portfolio, increases per capita income with around 13 percent reduces the likelihood to be poor with around five percent. We find that it is most beneficial for poorer households with less land assets to diversify their income portfolio, while moving out of agriculture is equally beneficial at all income levels and most beneficial for households with more human capital. In addition, we find that income diversification reduces vulnerability at all income levels, but most strongly at high levels of diversification and low levels of income. Off-farm income generation reduces vulnerability at lower levels of off-farm income, while it increases vulnerability at higher levels of off-farm income generation. We conclude that income diversification serves both income growth and income smoothing while off-farm income generation mainly serves income growth. Key Words: income diversification; off-farm income; poverty; vulnerability; Sub-Saharan Africa; Uganda