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Let futures power ahead

Let futures power ahead
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First Published: Wed, Apr 30 2008. 10 51 PM IST

Illustration: Jayachandran/ Mint
Illustration: Jayachandran/ Mint
Updated: Wed, Apr 30 2008. 10 51 PM IST
Unsurprisingly, the Abhijit Sen committee did not find a clear link between futures trade and rising food prices. The committee was appointed last year to see if futures trading was making food more expensive.
Illustration: Jayachandran/ Mint
In markets that don’t work smoothly, it’s usually some imperfection that is at work. But it’s easy to blame the market and ignore the problem. This has been the case with the futures market. A well-run economy requires that prices reflect demand and supply accurately. A futures market is necessary for this to happen. The price signals that emerge from such a market tell the various players what to expect and when, and adjust demand and supply accordingly.
These conditions are not met in India. The market for agricultural commodities is fractured along player size, by geography and the volume of trade. The government is a major player in some of these markets (for example, rice and wheat) and can command any of the stocks available after production. It does this by using “administrative” measures that scare away private players from the market.
In such a situation, price volatility after the introduction of futures trading is very likely. The blame should not be heaped on the futures market. In its report, the Sen committee carefully looked at price volatility in urad, tur, wheat and rice, the four commodities in the centre of the storm. In the case of rice and tur, it found no evidence that could link price volatility with futures trading.
What the critics pick on is wheat futures. But even here, their interpretation of the data is selective. Wheat futures became liquid only after August 2004. This was the year when the level of public stock of wheat was the lowest in any recent period. Other factors too were ignored.
What’s the way ahead? To begin with, it has to be realized that the government simply cannot exit these commodities markets as nearly 400 million poor Indians depend on subsidized grains. Once this limitation is recognized, it’s time to look at what can be done to run a futures market effectively in these conditions. Ideally, the government should focus just on maintaining buffer stock norms. But it should move away from administratively fixed prices, which are at the root of many problems. At the same time, regulatory measures (such as reducing basis risk, due to the observed difference between futures and spot prices) are also needed to make this market function better.
Are futures to be blamed for food inflation? Write to us at views@livemint.com
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First Published: Wed, Apr 30 2008. 10 51 PM IST