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Abhijit Sen’s note on futures trading convinced govt on ban

Abhijit Sen’s note on futures trading convinced govt on ban
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First Published: Mon, May 12 2008. 10 10 PM IST
Updated: Mon, May 12 2008. 10 10 PM IST
New Delhi: India’s agriculture minister, Sharad Pawar, said on Monday that the government will likely not ban futures trading in more commodities. Last week, it banned futures trading in four commodities (soya oil, rubber, black gram and potato) for four months, ignoring the central finding of a panel set up to find if there is a link between futures trading and rising prices.
The panel found no empirical evidence of a link between the two, but the government, anxious to combat inflation that is at a three-year high, went ahead and imposed the ban. A similar ban was imposed on futures trading in rice, wheat and two kinds of pulses 16 months ago and continues to this day.
There is as yet no official word from the government on the logic behind last week’s move. On Monday, Pawar said that the decision was taken by the regulator of futures trading, the Forward Markets Commission, and that he didn’t expect “the situation (to warrant a continuation of the ban)” to be there “beyond four months.” The government’s move, it would seem, is based on a note by chairman of the panel that studied futures trading, Abhijit Sen, that was included in the annexures of the report submitted to the government. In the note, Sen argued for a continuation of the ban and that futures trade will not work efficiently in commodities such as rice or wheat where the government is a large-scale buyer as part of its annual procurement operations to raise food stocks to provide subsidized grains to the poor.
“The answer to the question whether futures markets affect spot prices is obviously Rs.yes’,” said the note from Sen, also a member of India’s apex policy planning agency, Planning Commission.
“It is clearly illogical to claim that futures trading will generally tend to improve prices received by farmers and yet maintain that futures trading can never contribute to inflation of spot prices.”
The note added that “the best course of action would be to identify the commodities where there is a possibility of futures trading affecting expectations that may influence inflation in essential commodities and insulate these from futures.” This is exactly what the government is trying to do, according to minister of state for industry, Ashwini Kumar. He said that the fresh ban was intended to rein in inflation expectations.
“We want to see if futures is really affecting the prices (trading), and so we will have it (the ban) on an experimental basis,” he added. Sen’s note lends some credence to the claims of the Left parties that believe futures trading results in a rise in prices of commodities and who have been calling for a ban on all futures trading in 25 commodities. In his note, Sen said while the general presumption was that futures markets reduce volatility in spot prices, it was not possible to make “an unambiguous” claim to this effect, either internationally or in India.
The note referred to recent arguments in the US that have sought to blame the spurt in international prices of foodgrain on excessive speculation.?At an agricultural forum hosted by the US Commodities Futures Trading Commission on 22 April, farmer and trade associations said this had led to extreme volatility in the spot markets leading to a “near breakdown of risk management tools that futures markets normally provide”.
The note said current developments in the US futures market “are all normal and endemic to India”. Sen also argued that there was evidence to suggest that rising prices elsewhere “were clearly influencing expectations as reflected in domestic wheat futures, and government stocks (of the product) were too low to douse inflationary expectations”.
He stated this in the context of a 17.8% increase in the price of the grain as measured by the Wholesale Price Index between April 2006 and January 2007, despite larger availability of wheat in the domestic market and the government announcing that it would import a significant quantity of the product as early as June 2006.
Some experts buy Sen’s argument. “Unfortunately in India, instead of being used to hedge risk, the futures market is used for speculative gains,” said Ramesh Chand, Indian Council of Agricultural Research (ICAR) national professor at the National Centre for Agricultural Economics and Policy Research.
In many commodities other than rice and wheat, such as potatoes, Chand said, “poor farmers have not got any price benefit. Secondly, in rice and wheat, the government has been following a policy of price stability and food security for ages. If the idea is to provide cheap grains to people who spend over 50% of their income on food, unlike 7-10% in the West, how to link that with futures trade?”
Y. K. Alagh, chairman of the Institute of Rural Management, Anand, and former union minister for planning, said that the futures markets can be of immense help to genuine hedgers and has benefited commodities such as chillies, cotton and oilseeds.
But “in the case of rice and wheat, it is a bit of a moral hazard as there is overwhelming government presence,” in the market. “We should carefully analyse the social implications of futures trade, particularly in commodities of importance to food security. If forward trading leads to hoarding on the expectation of better price, the social safety nets will suffer,” M.S. Swaminathan, architect of India’s Green Revolution, said.
Reuters contributed to this story.
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First Published: Mon, May 12 2008. 10 10 PM IST