# **1. Introduction**

The contribution of non-farm activities (such as non-farm wage employment and non-farm enterprises) to household income in Sub-Saharan Africa (SSA) is substantial and has increased over time (Haggblade et al., 2010, Start, 2001, Lanjouw and Lanjouw, 2001, Lanjouw and Shariff, 2004, Reardon et al., 1998). Recent estimates indicate that 44 percent of rural African households (on average) participate in non-farm wage employment or self-employment. The average income share from non-farm sources is 23%, with an overall positive correlation between diversification and GDP per capita (Davis et al., 2014). Consequently, rural non-farm employment (RNFE) has become an essential part of discussions on poverty reduction in rural Africa, being a potential pathway out of poverty for many.

Despite the extent and growth in importance of the RNFE in SSA, there are still limited empirical analyses of the welfare effects of the subsector and how this varies across different kinds of rural households. Though evidence of positive correlations between RNFE participation and income exists, many studies are outdated while an ongoing debate still questions whether RNFE improves welfare or if indeed it is the wealthy who are able to engage in RNFE. Consequently, this paper uses nationally representative data and a combination of empirical approaches to examine links between RNFE participation and welfare. We explore a key mechanism through which welfare effects of RNFE are likely to operate in rural SSA and the heterogeneity of such effects across different types of rural households.

The paper significantly enriches the discussion on RNFE and rural development in SSA in three main ways. First, we use panel data methods to address time invariant sources of heterogeneity in the estimation of the welfare effects of non-farm employment participation. Bezu et al. (2012) also use panel data from Ethiopia to show positive linkages between RNFE and consumption expenditure growth. But most of the remaining literature on the subject uses cross sectional data, leaving open the important policy question of whether non-farm employment is really a route out of poverty for the millions of poor in rural Africa (Owusu et al., 2011, Ackah, 2013).<sup>1</sup> Using a rich nationally representative panel data set from Malawi,<sup>2</sup> we are able to use panel data estimation techniques to at least address the endogeneity of RNFE participation due to _time invariant_ unobserved characteristics, such as innate ability. We include a rich set of household and geographical control variables to capture potential time varying confounding factors such as differences in labor market conditions.

Second, this paper goes beyond average effects and explores the heterogeneous effects of RNFE participation. Although the average treatment effects are useful measures of the link between participation in non-farm employment and welfare outcomes, they often provide an incomplete view of the relationship. Numerous studies on the determinants of household participation in non-farm activities (over the past two decades) have found evidence of entry barriers for marginalized socioeconomic groups such as women or the poor (Abdulai and CroleRees, 2001, Woldenhanna and Oskam, 2001, Barrett et al., 2001a, Smith et al., 2001, Lanjouw et al., 2001, Reardon et al., 2000). The marginalized groups are either totally excluded or restricted to the least lucrative non-farm activities, despite their relatively greater need for

> 1 Kijima et al. (2006) would be another exception as they used panel data collected from 894 rural Ugandan households in 2003 and 2005; but they focused more on off-farm labor supply and its determinants, rather than welfare effects.

> 2 <u>https://www.malawi.gov.mw</u>

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