An APMC tale: why market design matters

Makeshift markets have sprung up in several cities in Maharashtra over the past few weeks, after the state government led by Devendra Fadnavis allowed farmers to sell vegetables and fruit directly to consumers. They are now allowed to bring their produce directly to cities rather than sell them in markets managed by agricultural produce market committees (APMC), where they till now had to compulsorily sell after harvesting.

I recently stumbled across an old documentary made by Films Division, perhaps in the 1960s, that helps answer a niggling question: Why were the APMCs set up in the first place?

The documentary, Our Regulated Markets (see here), is structured as a narrative. Jagannath, a farmer in the Sangli area of Maharashtra, faces all sorts of problems when he sells his annual produce in the market. The traders negotiate prices by signalling with their hands under a piece of cloth. Some deals are finalized with movements of the head. The farmer cannot figure out what is happening because he does not understand this private negotiating language. The weights used to measure the grain have been tampered with. The agent who represents the farmer in the market does not reveal how much commission he has deducted before handing out the final payment. There is acute information asymmetry, as well as downright cheating.

The story then moves forward as Jagannath meets his friend Kishanlal. Kishanlal takes him to a new market set up by the government to protect the interests of farmers. There is an open auction system here. The farmer is aware of the prices being quoted at every stage. Some regulated markets are experimenting with sealed bids to avoid collusion. The traders still sometimes conspire to keep prices down by not bidding at all, but the local cooperative then steps in to break the cartel. Disputes are settled by a market committee that has elected farmer representatives.

The entire narrative is structured around the theme about how the new regulated markets set up five decades ago were superior to the traditional markets. Yet, evidence has piled up over the years that the APMCs have also fallen prey to the very habits they were supposed to mend.

These markets are now controlled by cartels with deep links to caste as well as political networks. Prices fluctuate wildly. In a report for this newspaper in April 2013, Pramit Bhattacharya wrote on the existence of cartels in the Lasalgaon APMC, the largest onion market in India. Studies by economists from the Institute for Social and Economic Change in Bengaluru and the National Council of Applied Economic Research in New Delhi also concluded that there was collusion among traders in this market.

There are a few interesting lessons here. First, even institutions that are set up with the best of intentions are often captured by the special interest groups that they are meant to control.

Second, these interest groups then have a strong vested interest in maintaining the existing way of doing things rather than support reform.

Third, what matters in the creation of new institutions is not just good intentions but also a deep understanding of the incentive structure that is being put in place.

The point is that attention to microeconomic detail is very important. There is a lot to be learnt from the relatively new area of market design. Economists such as Alvin Roth, who won the 2012 Nobel Prize in economics with Lloyd Shapley for their work in market design, have laid out some basic principles of how policymakers can engineer new markets so that they get the desired outcomes. Roth says that markets need to be thick, or that they should be able to attract a large number of potential participants so that price discovery is efficient. However, markets should also be able to deal with
the congestion that comes with thickness, and this depends on market processes that can handle large volumes at low transaction costs. Roth then adds that markets also have to be safe and simple enough to make them more attractive to participants compared to alternatives.

In the sense that the pioneers of market design have provided, the proposed national agricultural market is far superior to the APMCs. The APMC legislation has in effect created fragmented markets—2,477 principal regulated markets as well as 4,843 submarket yards, small trading zones that can quite easily be captured by trader cartels. The APMCs fail the thickness test that Roth has laid down. The national market will be far less likely to be cartelized, and hence will be thicker than the APMC system. The electronic trading platform should deal with the congestion problem, so that farmers and buyers from across the country can transact with ease.

The APMCs were undoubtedly established with good intentions, but the harsh reality is that effective public policy should depend on more than good intentions. The structure of incentives as well as the principles of market design economics also matter.

Niranjan Rajadhyaksha is executive editor of Mint. Comments are welcome at cafeeconomics@livemint.com

Read Niranjan’s previous Mint columns at www.livemint.com/cafeeconomics