FROM BUSINESS WORLD OF 18 JUNE 2006
Confusion on procurement
The Indian market for foodgrains is essentially closed.
High import duties make it uneconomic for private parties to import them;
domestic prices are generally much below the landed cost including duty. And
since the government holds the bulk of the stocks, it is impossible to export
substantial quantities without its cooperation. Since the demand for food is
pretty insensitive to prices, they could be highly unstable in a closed market.
Two factors have ensured price stability nevertheless. First, from the 1970s
onwards India has had a surplus of foodgrains. And second, the government has
prevented the surplus from eroding prices by buying the entire quantity offered
at the minimum support price (MSP).
This arrangement broke down in
the past year because the domestic output of wheat fell below demand. Market
prices rose above the MSP, and Food Corporation of India (FCI), the
government’s principal trading agent, could not buy enough wheat to provide for
the requirements of the public distribution system. The government imported 3.5
million tons to meet the shortfall. This time, rationality prevailed and the
government imported freely. But imports can become an emotional issue,
especially if import prices are higher than the procurement price; farmers and
their patrons in the state governments are bound to ask why they cannot be paid
the same price as foreign suppliers.
In the circumstances, the
government has taken a decision to open another window for purchases: it would
now be prepared also to buy at market prices if these turn out to be higher
than the MSP. However, if the government is buying at both the MSP and a higher
price, there is no reason why the farmers would sell anything to it at the MSP.
What seems implicit is that FCI would start by buying at the MSP; then, if it
finds that it is not picking up enough, then it or some other government agency
would step in and start buying at the market price.
However, dual price procurement
has its own problems. Those farmers who sell out at the MSP will feel cheated
when, later, FCI begins to buy at market prices. More importantly, a likely
shortfall in supply can be forecast before the crop is in; in the event of a
short crop, prices will generally start rising much before harvest. So the new
policy is not likely to work any better than the policy of not buying above the
MSP.
The government needs to recognize
that it has been lucky to have experienced a domestic surplus of foodgrain
production for such a long time. Its luck seems to have run out, and it needs
to rethink its policy, not only as regards procurement prices, but also
production incentives and trade parity. The two objectives of the government,
namely to supply foodgrains to the public distribution system at minimum cost and
to assure farmers a minimum income from foodgrain cultivation, cannot be
simultaneously satisfied if domestic production is going to fall short of
demand.
Under those conditions, imports
are inevitable. If imports are not to prove prohibitively costly, it is
necessary to ensure that domestic and import prices are not too far apart; in
other words, the principle of cost-plus pricing has to be replaced by the
principle of import parity pricing. That latter principle cannot ensure minimum
farm incomes; the only way the two can be reconciled is by subsidizing farmers
directly. And if farmers are given subsidies unrelated to production, the
incentive to produce is likely to be affected adversely.
There is one other option.
Instead of buying directly from farmers, the government can place forward
contracts for the quantities it needs for the public distribution system. If it
puts in place a stable, predictable system of forward purchases, farmers as
well as traders will be induced to hold stocks for the government; it will
thereby also avoid the enormous wastage involved in inventory keeping by FCI. A
forward market makes future prices more predictable; this can act as a powerful
incentive to farmers.
However, forward markets are not
a remedy for domestic shortages. The only remedy for shortages is imports; and
if imports are going to be the order of the day, it will be necessary to ensure
that domestic and import prices do not diverge too much. In other words, the
present policy of extreme, mindless agricultural protection must be replaced by
free imports at low levels of duty. And since there will be occasional
surpluses as well, there is an equally strong argument for free exports. Thus
the time has come for opening up the market for foodgrains to free trade, and
for finding other ways of supporting farmers than price support.
