In the week ending 5 December, food price inflation, measured in terms of wholesale prices, has surged to almost 20% higher than the corresponding week a year ago. Cereal prices are up by 14%, pulses and vegetables by 41%. Usually, when prices of cereals and pulses shoot up, households fall back on potatoes as the last resort. But this time, even potato prices have skyrocketed by an unprecedented 136%. Call it potatoes on fire!

But why have potato prices suddenly shot through the roof? There seem two plausible reasons for this.

Photo: Indranil Bhoumik / Mint

The first explanation lies in supply shocks. Much of the potato crop is harvested during the January-March quarter of the year in most parts of the country and stored in at least 5,000 cold storages (which help smoothen supplies throughout the year). In the 2007-08 crop year, India harvested a bumper crop of 30.5 million tonnes (mt) of potatoes. Large stocks were put in the cold storages, which then had to be emptied by November-December 2008 to accommodate the new crop arrivals. So in late November-early December 2008, potato prices were exceptionally low. But in the 2008-09 crop year, potato production dropped to 26 mt due to a late blight infestation in March—leading to large crop loss in West Bengal, the second largest potato producing state. This led to smaller stocks in cold storages that, by November-December of this year, seem to have almost depleted while new crop arrivals are yet to pick up any momentum.

No wonder, then, that there is a lot of pressure on potato prices —compared with the low base price in December 2008, the price rise this month seems especially exorbitant. This pressure, however, is likely to ease in a month or so as new crop arrivals increase. The indication so far is that the new crop is likely to be better than last year, though still below the 2007-08 level.

However, the production shock in itself cannot fully explain potato price inflation. Roughly two-thirds of the potato price formation takes place after the harvest—and that’s where the second explanation lies. The post-harvest value chain is fragmented with many middlemen. Such a marketing chain enables intermediaries to exploit production-induced scarcity. Farmers do not receive very high prices, while consumers pay through their nose.

During the last two weeks of December, potato farmers in north India have sold their early produce at Rs6-7 per kg on average; while potato prices paid by Delhi consumers to retail vendors varied from Rs15-20 per kg. This happens because intermediaries in the value chain operate with high margins. For example, the potato wholesale markets are characterized by high rates of commissions determined by the Agricultural Produce Marketing Committee. These vary across states: In Punjab this is 4%, in Delhi 6%. Though these are the officially notified rates, they move upwards frequently during produce auctions. In some parts of north-east India, these rates are found to be even as high as 12%.

A forthcoming study by the International Food Policy Research Institute (IFPRI) in Uttar Pradesh, the largest producer of potatoes, across 45 commission agents and wholesale traders and 31 cold storages has come up with interesting insights. The study shows that commission agents at the Agra mandi operate with 4-5% margins, while wholesale traders’ margins hover around 30%. Add to that transport costs and the margins of retail vendors, which typically range between 20% and 40% in Delhi, and you get the price of potato going up from Rs5 per kg at the farm to at least Rs15 per kg at the retail end in Delhi.

In another 2009 IFPRI study of urban retail in Delhi, it was found that potato prices charged by organized retailers such as Safal or Reliance Fresh are lower than the prices charged by most push-cart vendors.

All this begs the question: What is the way to douse the fires of potato prices?

The general expectation is that with larger arrivals of the new crop, prices will automatically come down. But with that, the price for the farmer, too, will go below Rs5 per kg, which is not very attractive to raise production or undertake any investments on the farm. So, if we want that the farmer gets, say, Rs6-7 per kg, and the consumer pays within Rs10 per kg, we will have to reform the potato market.

This can be done by encouraging direct buying of major retailers from farmer groups; providing incentives for the formation of farmer commodity groups, so they can bargain better with organized retailers; providing incentives for farmer groups to sort, grade and even package their produce in rural areas in line with the needs of organized retailers; giving incentives for investments in cold storages in the major potato growing rural areas; and compressing value chains. This alone can ensure that the system operates with low margins and high volumes, and producers and consumers both gain from this system, while making the value chains much more efficient.

Ashok Gulati is director, Asia, and Sunipa Das Gupta is a senior research analyst at IFPRI. Comment at