# **I.** **<u>Introduction</u>**

As a share of aggregate output, agriculture declines with overall growth in GDP per capita as countries undergo the structural transformation that accompanies economic development (Chenery and Syrquin, 1975). In rural areas of developing countries, the relative reduction of the importance of agriculture and the expansion in rural non-farm (RNF) activities and income diversification are likely features of the process of economic development. Growth in RNF activities cannot be seen in isolation from agriculture, however, as both are linked through investment, production, and consumption throughout the rural economy, and in relation to urban centers, and both form part of complex livelihood strategies adopted by rural households. Better incentives for agriculture during the past decade, via the improvement of the policy environment and better terms of trade, provide a more conducive environment for higher agricultural growth and an opportunity for the much awaited structural transformation in Africa (Binswanger-Mkhize, McCalla, and Patel 2010). According to the IMF (2012), structural transformation has been taking place in Africa, but at a slow pace.

A rather large body of literature has developed over the last 20 years investigating the extent and determinants of rural household income diversification in the developing world, the importance and features of rural non-farm income and employment, and the determinants of households’ participation in and returns to different income-generating activities (FAO, 1998; Barrett et al. 2001; Lanjouw and Lanjouw, 2001; Haggblade et al., 2007; Winters et al., 2009; Davis et al. 2010; Winter et al., 2010). The 2007 World Development Report on agriculture and the 2011 IFAD Rural Poverty Report also devoted much attention to these themes. A major conclusion of these studies is that rural household income diversification is the norm rather than the exception, and that while endowments (physical, human, natural capital) and wealth play a role in driving engagement in different economic activities, some degree of diversification off the farm is common at all levels of welfare. Due to data limitations, however, the question remains as to whether this is occurring in Africa, a latecomer to the process of structural transformation. Conventional wisdom would have it that rural households in Sub-Saharan Africa are primarily employed in agriculture, with relatively little agricultural wage labor, and even less non-agricultural wage labor due to limited industrialization.

Less touched in the literature is the role of geography in determining rural income diversification patterns. Why does location matter? Deichmann et al. (2008) identify two main strands of literature that help frame the arguments around location and income diversification. First, one key empirical regularity of the rural farm/non-farm employment (and income) literature is that at very low levels of development, non-farm activities tend to be closely related to agriculture. When agricultural growth starts taking off (e.g. due to technical change), so does the non-farm economy, thanks to the backward and forward linkages from agriculture.

Such growth patterns are likely not to be location neutral, as the potential for agricultural growth (e.g. agro-climatic conditions) and demand for agricultural products are not randomly allocated across space. Over time endogenous sectoral growth biases may play a role, as infrastructure and other investments may tend to locate where growth is occurring, leading to increased spatial disparities in growth patterns. In Latin America this has attracted considerable attention for instance in the context of the debate on the ‘territorial approach’ to rural development (De Ferranti et al., 2005). As sectoral policies are likely to have differential impacts across space, explicitly incorporating spatial issues into policy design can help counter territorial distortions in development patterns.

The second key strand of literature is the new economic geography debate, which focuses on the extent to which geography, as opposed to institutions, explains differential development outcomes. One main tenet of that debate is that even if soil quality and climate were the same everywhere, location would still matter. On the one hand, dispersion of economic activities occurs as firms tend to locate in areas with lower wages, and the production of non-tradable goods and services locates close to demand. Activities connected to non-mobile inputs (such as agricultural land) are by 2