Regulation and Private Sector Development in the Grain Market Operations of India

Transcription

1 24 nd August, 2015 Regulation and Private Sector Development in the Grain Market Operations of India Knowledge Session 3: Theme: Competition Reform in Sectors Surajit Deb Associate Professor in Economics AryabhattaCollege, (University of Delhi) Abstract Governments in developing countries often limit the private sector s role in grain markets to curtail their market power and speculative trading that go against the food securityobjectives.in India, however, the control and interventions havenot only impacted on the growth of marketing and distribution networks, but also prevented the development of a competitive private sector. This paper evaluates the reform initiatives undertaken by the government and points out the direction of future measures for private sector development in the grain sector. JEL: Market Structure, Public Enterprises, Food, Agricultural Markets, India Keywords: L10, L32, L66, Q13, O53 Paper for CUTS/CIRC 4 th biennial Competition, Regulation and Development Conference Nairobi, December,

2 1. Introduction: The food grain market in India operates with major involvements of the government on marketing, public procurement, distribution and buffer stock operations. Generally speaking, these controls and interventions were founded on the conditions of production shortfall and scarcities, with the conviction that free trade would not maintain the desired grain price stability. However, the marketing-movement-storage controls meant for pursuing the government procurement-distribution-stockholding operations virtually provides very little space for the freemarket and competition to play a role.the government in recent years has come out with several policy documentsand many of them, viz., Expenditure Reforms Commission s Report on Food Subsidy (GOI 2000), Excess Food Stocks, PDS and Procurement Policy (Virmani and Rajeev 2001), Long Term Food Grain Policy (GOI 2002), Report of Committee of State Ministers of Agricultural Marketing to Promote Reforms (GOI 2013), Restructuring the Food Corporation of India (GOI 2015),etc., recommended larger private participation in the country s grain business. The policy measures such as the National Policy on Handling, Storage, and Transport of Food Grains, 2000; Removal of Control on Food Grains, 2002; Agricultural Marketing Reforms, 2002, Removal of Prohibition on Agricultural Commodities under Forward Contract (Regulation) Act, 2003, can be seen as steps to remove these restrictive provisions and promote competitive structure in grain marketing and trading. Several other provisions like direct-marketing, pledgefinancing and negotiability of warehouse receipt system are also being considered to facilitate larger participation of private firms in the domestic and global grain trade. However, while the process of reforms in these areas is yet to be completed, governments(both central and state) continue to use restrictive provisions on private trading to counter supply shocks and price fluctuations. While the legislative and administrative controls and regulations diminish the incentives structure of the private business, the interventionist instruments, viz., high MSP, public stock and open market sales, export ban, stock declaration order etc. provide the remaining roadblocks for the private sector making agribusiness investments in the country. In this background, the main objective of this paper is set to evaluate the scope for private sector participation in India s grain (rice and wheat) economy. With this objective in mind, the plan for the rest of the paper is 1

3 as follows.a brief account of the government s interventionist measures and instruments of control are provided in section 2. Section 3provides an account of FCI s cost of grain handling operations. Section 4 provides a description of various policy recommendations relevant for the private participation in the grain sector. To focus on the nature of competitive elements in the grain sector, we analyze the market powers within the rice and wheat (flour milling products, biscuits, bread and breakfast cereals) industries in section 5. The feasibility and areas of private participation in the grain business is deliberated in section 6. The summary and policy implications are provided in the final section. 2. Instruments of Government Control: The Department of Food and Public Distribution (DOPD) within the Ministry of Consumer Affairs, Foodand Public Distribution), the Commission for Agricultural Costs and Price (CACP) of the Ministry of Agriculture and the Food Corporation of India (FCI) provides the institutional framework for grain managementin India. The ministry makes the grain policy for implementation, the CACP advises on price policy, while the FCI undertakes the procurement, handling, transport, storage and distribution of grains on behalf of the government. Further, the Directorate of Marketing and Inspection (DMI) of the Ministry of Agriculture exercise its control on marketing and trading of the grain produce in India. The functions of DOPD on the grain economy are: i) implementation of the public distribution system with special focus on the poor, ii) provision of storage facilities for the maintenance of central reserves of food grains and promotion of scientific storage, iii) formulation of national policies relating to export and import, buffer stocking, iv) quality control and specifications of food grains, and iv) administration of food subsidies relating to rice, wheat and coarse grains. The instruments of government interventions and control are briefly discussed below: Minimum Support Price and Procurement: The Government announces the Minimum Support Prices (MSP) for procurement on the basis of the recommendation of the Commission of Agricultural Costs and Prices (CACP) before the harvesting in rabi or kharif crop season. The government procurement policy food grains has the broad objectives of ensuring MSP to the farmers and also ensuring availability of food grains to the weaker sections at affordable prices. The FCI and various state agencies establish a large number of purchase centres at mandis to 2

4 procure wheat, paddy and coarse grains under price support scheme and rice under the statutory levy scheme. The extensive MSP operation of FCI over the years has resulted in sustaining incentive structure for the rice and wheat growers. Further, since a major portion of the public procurement originates from a few surplus states, it is believed that the support prices cater only to the surplus states.the government also procures through the rice levy system, which is a compulsory procurement mechanism through which a part of the produce is bought from the farmers, traders or millers at a price lower than the market. Issue Price: The central government issues wheat and rice to various state governments at central issue price for the purpose of carrying out PDS distribution. It is believed that the off-take from FPS is determined by the difference between ration and market prices. Further, the stock allocation for rationing and the quantum of ration off-take bears an impact on the market price. Buffer Stocks: The buffer stocks are required to carry out TPDS/welfare schemes, ensure food security during the production shortfalls, and stabilize prices during periods of price fluctuations. As on 1 st April 2015, the central pool foodgrain stock remained at lakh tonnes of rice, lakh tonnes of wheat and lakh tonnes of un-milled paddy.the stock level with FCI bears a destabilizing influence on the open market grain prices.the Technical Groups under the Chairmanship of Union Food Secretaryrecommends the buffer stocking norms for different quarters, which is given in Table 1. Table 1: Food Grain Stocking Norm for the Central Pool (Revised on 22/01/2015), Lakh MT. Operational Stock Strategic Reserve Rice Wheat Rice Wheat 1 st April st July st October st January Source: Open Market Sale Scheme (Domestic):The open market sale scheme (domestic) of food grains by the FCI has been based on various models as per the guidelines given by the 3

5 Rs/Quintal Ministry.Although, stabilization of prices during the lean months was kept as one of the objections of this scheme, surplus stocks are periodically disposed on account of limited storage and to reduce storage and carrying costs. Initially, there was a directive that the FCI sale may be confined to Roller Flour Mills, Atta Chakkies, Super Bazaars and Cooperative Stores, but the OMSS (D) in recent years has been carried out for retail sale, bulk sales, sale to small processors, sale to small private traders and sale to bulk consumers. 3. Cost of Public Grain Handling Operations: The FCI operation is viewed as major grain market interventions and has attracted the policy analyst s attention due to the high cost and corresponding budgetary subsidy. It is important to note that government policies bear a substantial impact on FCI s business, viz., every MSP revision results in higher costs of grains, and stock maintenance above buffer norms adds to its carrying cost. The counter-critics therefore claim that subsidies may not be an appropriate pointer to FCI s uneconomic operations, since it arises due to the multiple objectives of providing price support to the producer, consumer subsidy to the poor as well as prevent the nation s food insecurity. The FCI however enjoys autonomy in its field operations, viz. procurement decisions, negotiation for RBI credit, storage decisions, grain movement plans and the choice of transport. It therefore appears that while the government policies may remain responsible for the high FCI costs, a part of the high cost can presumably be attributed to the inefficiencies in FCI operations Figure 1: FCI's Economic Cost. Economic Cost (Rice) Economic Cost (Wheat) Source: Author's analysis using data from 4

6 The earlier analysis have maintained that FCI in India has remained a high cost and bureaucratic organization, which needed reorganization in order to fulfill its functions more costeffectively (BICP 1990, World Bank 1999, Gulati, Kahkoken and Sharma 2000, ASCI 2001, GOI 2002 and Chand 2003). Several explanations were offered in the literature to explain as to why the private trading cost is lower than FCI cost of operations. It is claimed that private traders carry out direct purchase from the farmers by avoiding the mandi charges, reuse gunny bags several times unlike FCI,transfer grains by trucks which are cost-effective and have lower transit losses. As a result, participation of competitive firms in the grain market operations remains the recent government agenda for inflicting efficiency in the system and thereby bring about budgetary saving on account of the FCI subsidy. Figure 1 provides information on the recent increases in FCI s economic cost of rice and wheat. Critics have also pointed out that much of the food subsidy actually covers the costs of FCI s operational inefficiency, thus demand that FCI trim its spending and impact positively on the food subsidy bill. 4. Reform Initiatives to Promote Private Business: The removal of administrative and legislative control and orders as well as the introduction of marketing reforms in agriculture can be expected to make happen the beginning of grain business on competitive lines. The competitiveness can be interpreted as larger involvement of private firms in the marketing-storage-movement operation of grains. The service-shedding associated with privatization generally sparks off responses due to reduced governmental responsibility. But, such programs are now globally extended from business ventures, public utility services, social service and even government administration. The various arguments for and against such private participation can be gathered as furnished in Table 2. Table 2: Arguments for and against Allowing Private Business. Arguments for Arguments against Savings on Public Finance Administration and Service Monitoring Costs Efficient Provider with Quality Service Profit Motive Costing Service Quality Increase Efficiency and Innovation Price Collusion Resulting in Higher Price Increases Accountability Reduces Public Accountability for Service Failure 5

7 Several government reports and commissioned studies have made recommendation to reformaspects of the grain economy operations in India, which includes removing the restrictive provisions, injecting efficiency into FCI, and liberalizing the grain marketing (Table 3). It can be discerned that the government foresees the role of the FCI be changed from the major buyer and private sector s role be redefinein the context of grain procurement, storage and distribution. Table 2: Policy Recommendations for Reformsin Grain Markets. Study/Policy Reports Expenditure Reforms Commission s Report on Food Subsidy,GOI [2000] Cost of Acquisition & Distribution of Food grains by FCI, ASCI [2001] commissioned by Ministry of Consumer Affairs, Food and Public Distribution. Working Group on PDS and Food Security for the 10 th Plan, GOI [2001] Excess Food Stocks, PDS and Procurement Policy, Virmani and Rajeev[2001] Long Term Grain Policy GOI [2002] Report on Central Government Subsidies in India, GOI [2004] Final Report of Committee of State Ministers, In charge of Agricultural Marketing to Promote Reforms, GOI [2013] Report of the High Level Committee on Reorienting the Role and Restructuring of Food Corporation of India, GOI [2015] Major Recommendations Greater involvement of the state government and private sector in the procurement and storage operations, Rationalize the tax/levy structure on procurement from different states. Restructure FCI, Federalise FCI among states. Decentralized PDS, MSP in line with cost of cultivation, Review Essential Commodities & APMC Act. State government and private sector s participation in procurement and storage, Decentralized PDS. Universal PDS, MSP in line with cost of cultivation, Improve FCI s performance, larger private participation. Reduction of MSP,Replace the present 2-tier system of APL-BPL issue price with food-coupons for BPL. Amend APMC Acts, Substitute licensing system of traders/commission agents, Remove physical barriers to trade like check gates, Single window registration for traders, Levy market fee only for the first transaction, Differentiate between genuine service provider and hoarders under Essential Commodities Act, Specify provisions for private wholesale markets and terminal markets. Revisit its MSP policy, Relook at NFSA commitments, Hand over FCI s procurement operations to specific states, Private sector to compete with state agencies in grain procurement, Outsource FCI s stock operations, Initiate negotiable warehouse receipt system. 6

8 Agricultural Marketing Reforms:Though the production of agricultural commodities in India is free from controls, the same is not true for their marketing and processing, which remained under state control. The whole geographical area in the state is declared a market area falling under the jurisdiction of market committees. Since, sale-purchase outside the market yard is prohibited by the act; there is a virtual monopoly of government regulated markets in most of the states. Further, there are controls on processor to buy only from the notified markets, incidence of multiple taxes on the processing activities and restrictions on storage and movement. All these have worked as deterrents for the development of a competitive marketing system in the country, and have also failed to provide the incentive structure to the farmers, traders and industries. The Expert Committee on Agricultural Marketing suggested various legislative reforms and reorientation of policies, such as, promotion of direct marketing, organized retailing etc. Subsequently, the Inter-Ministerial Task Force on Agricultural Marketing Reforms identified several priority areas to restructure agricultural marketing, and prepared the Model Act on Agricultural Marketing to enable the states frame their own Agricultural Produce Marketing Development and Regulation (APMDR) Act. National Policy on Grain Handling, Storage & Transportation, 2000:With a view to minimize storage and transportation costs and preserve the grain quality,the policy recommends better grain storage practices, viz., automation in handling and sliding of stocks for transportation, bulk storage, etc.the policy also proposed that the bulk grain handling facility be built with private participationon the basis of Built-Own-Operate (BOO) model. Futures and Forward Contract in Agriculture:Future trading is believed to provide two major advantages to product marketing, viz., price-discovery and efficient price-risk management. In India, the removal of prohibition on future trading was notified for some agricultural items, and their trading was organized through recognized exchanges, subject to rules and regulatory procedures prescribed by the Forward Market Commission.Future trading in agriculture involves various regulatory authorities, viz., Forward Market commission (FMC), Reserve Bank of India (RBI) and Securities Exchange Board of India (SEBI), and four commodity exchanges are authorized. The major agricultural commodities that are traded are soya oil, guar seed, guar gum, 7

9 chana, jute, rubber, pepper, turmeric, wheat, kapas (cotton) etc. These developments could certainly raise the efficiency of agricultural marketing in the country. Negotiable Warehouse Receipt System:The market believes that cash-settled contracts are liable to generate speculative trade, thus physical deliveries are essential to provide the equilibrating mechanism for future demand and present supplies. The warehouse facility, quality certification system and transferability and negotiability of warehouse receipts backed by legal provisions become crucial for the growth of agricultural future markets. Negotiable warehouse receipt could potentially eliminate various transaction costs involved in grain marketing and also reduce the cost of public support for maintaining the infrastructures. The Expert Committee had suggested universalizing the system of warehouse receipts in future trading so as to raise the volumes and minimize transaction cost. Since the quality aspect bears a crucial risk element in agricultural future trading, its success depends on to what extent the quality risk is covered in the contracts. These reform declarations can be viewed as steps towards removing the restrictive provisions and liberalize grain marketing in the country. 5. Concentration of Market Power in Rice and Wheat: Spiraling price increases and volatility of grain prices (agricultural commodities) in the presence of market power and speculative trading have been identified as major risks to food security in developing countries. Governments often justify the control measures on private sector s marketing-procurement-stock operations on the grounds of containing speculative activities in agriculture, and thereby safeguard the interest of both farmers and consumers.the market power refers to the ability of a firm to raise and maintain price above the level that would prevail under competition. A firm with market power has the ability to engage in unilateral anti-competitive behaviors, viz., affect either the total quantity or the prevailing price in the market. The Herfindahl index (also known as Herfindahl Hirschman Index) is an accepted measure of market concentration that evaluates the size of firms in relation to the industry. It is defined as the sum of the squares of the market shares of the firms within the industry, where the market shares are expressed as fractions. The index value can range from 0 to 1, resulting from a large number of firms to a single monopoly producer. The index increases both as the number of firms in the market decreases and as the disparity in size between those firms increases. It takes into account the relative size distribution of the firms in a market, therefore, it approaches to zero 8

10 when a market is occupied by a large number of firms of relatively equal size and reaches its maximum of one, when a market is controlled by a single firm. We analyze the Herfindahl Indices of Concentration to examine the market power in the rice and wheat based industries (Table 3). The evidence of market power is much lesser in rice and flour milling products, but somewhat higher in the processed segment that uses wheat and/or rice, viz., biscuits, bread and breakfast cereals. The near zero values of the index indicates perfect competition in the flour milling industry. If no individual participant in the market has significant market power, then anti-competitive behaviors, e.g., price setting, use of predatory pricing or creating barriers to entry for potential new competitors are unlikely to take place. Table 3: Herfindahl Index of Concentration for Rice and Wheat Based Industries (2001 to 2010). Years Rice Flour Milling Products Biscuits Bread Breakfast Cereals 2000/ / / / / / / / / / Note: The numbers of sample companies are above 30 for both Rice and Flour Milling Products, above 16 for Biscuits and above 5 and 4 for Bread and Breakfast Cereals, respectively. 6. Feasibility and Areas of Private Sector Development: The success of reforms program depends on the combination of policy changes as well as their timing and sequencing. The reform agenda should ensure that the decontrol and deregulation measures are completed for the private participation to begin, and subsequently maintain the 9

11 business environment through consistent policies. The reformist policies should not remain limited to removing the marketing and movement restrictions alone or granting permission to private trading, but should also address some fundamental issues like the minimum support price (MSP) policy and the size of buffer stock. The MSP of almost all agricultural produce in the past have moved up so much so that these prices have ruled above market price and at times the world price. Rising MSPs provide the biggest roadblocks for the private participation because it finds procurement at economically unreasonable MSP genuinely problematic. Similarly, the scale of FCI procurement as well as the size of buffer stock also poses greater uncertainties for the private participationat times. While the central government initiated the required set of policies, the task of implementation remains with the states since agriculture remains under state subject in India. The effort level of states has remained low in fully adopting the Model APMC Act. In the same way, there are certain uncertainties with regard to government resolution banning the movement restrictions under the Essential Commodities Act (ECA). Thus, the permission to carry out purchase, movement and trade is therefore yet to be fully granted by the modifications of ECA and APMC Acts. It is therefore logical that marketing reforms and decontrol on movement restrictions should be completed before we expect to see the private response. Similarly, the modernization of grain storage and supply chains could provide the required impetus to private participation at the same time. A reduction in the size of public grain procurement could lead to more produce reaching the market and there is an obvious scope that the post-harvest activities (cleaning, drying, storage and transport) associated with grain handling to pick up. The participation of firms in grain business would get a further boost when the sector gets the permission to establish and operate agricultural marketing infrastructures and supporting services. The private sector can also be involved to carry out the procurement operations on behalf of FCI that is used for carrying out the government s PDS responsibilities. Finally, the enterprises should be in a position to carry out the PDS distributions if the service is sourced out to them by the government agencies. The private involvement is also expected to move in the direction of processing and exports once the restrictive domestic policies are removed. 10

12 There are certain gaps and contradictions within the measures that intend to reform the grain market operations. It may be noted that the present MSP policy also conflicts with the future trading option because it eliminates the price risk through the government procurement assurances. Future contracts necessitate that prices are determined by market forces without any monopoly or government control and no single buyer-seller-regulator have any undue importance on prices. Thus, when prices are fixed by the MSP policy and they do not adjust except through change in government policies, little incentive are left for hedging the risk. Finally, the requirement of capital can be expected to become higher with the grain market liberalization in India. The private participation would definitely expand if an appropriate mechanism for providing advances against stocks is provided. The negotiable warehouse receipt system can provide the source of inventory credit in the financial transaction of agricultural commodities. Thus, greater private participation can be expected with the creation of a legal framework for the negotiability and transferability of warehouse receipt. Likewise, the policy of promoting the processor-grower arrangements cannot be successful without the judicial support of contract enforcement and a crop insurance mechanism. 7. Summary and Policy Implications: The government control and regulations imposessome obvious costs on the private grain business in India. On the contrary, the public handling undertaken within regulated market conditions has also been proved to be costly that it has already created huge subsidy burdens on the government. The public grain handling operations was intertwined around such complex control and regulatory instruments that the execution of tasks at times remained beyond the capacity of the central and/or state governments. The central government s capacity to accomplish independent grain procurement operations has remained week due to the political pressure group from various states. It therefore appears that the dependence on state control and regulatory mechanism has to be reduced for carrying out the public grain operations, and there is a strong case for substituting these as much as possible by the market mechanism. For instance, the FCI operations, which were protected by several control-orders, have at times been held responsible for hampering the growth of market forces in the grain economy. Similarly, the Essential Commodities Act restricted the movement agricultural produce across states 11

13 boundaries and also imposed stock limitations on the traders.in the same way, the Agricultural Produce Marketing Acts necessitated that traders buy produce only from regulated markets. Thesemeasures made the accomplishment of direct contractual relationship between the grower and processor rather difficult. Thus, larger private participation, which has a built-in competition mechanism, can be expected to improve the incentive structures of agents in the system, viz., the grower, the trader and the end-consumer.the entry of private participation may also inflict competition in the public grain procurement process and make farmers get better returns with their improved bargaining power over the FCI, which acted as monopsonistic buyer until recently. The improvements in agent s incentives structure in all probability will make the grain market activities more market determined. This will lead to enhancement in the size of market with more and more produce reaching the market instead of being used for public buffer stock maintenance. A larger private participation therefore seems necessary to reorganize market forces in the grain sector, which necessarily implies a changeover in the market operations from public operated system to a combination that allows somewhat larger role forthe private operators.it appears that appropriate reform measures that allow private participation in the grain sector can facilitate the use of modern technologies and exploit the potential of the whole range of value chain made available by way of marketing reforms and future trading option. Suitable reforms also seem essential to shift the subsidy outlays to public investments, which could strengthen the private investment in grain markets. 12

14 Bibliography Administrative Staff College of India (ASCI)[2001]: Study of the Cost of Acquisition and Distribution of Food grains by the Food Corporation of India,Ministry of Food and Consumer Affairs, Government of India: New Delhi. Bureau of Industrial Costs and Prices (BICP)[2001]: Report on the Operations of the Food Corporation of India,Ministry of Industry, Government of India: New Delhi. Chand, R. [2003]: Government Interventions in Food grain Markets in the New Context, Policy Paper 19, National Centre for Agricultural Economics and Policy Research: New Delhi. Government of India [2000]: Expenditure Reforms Commission, Report on Food Subsidy, Government of India: New Delhi. Government of India [2001]: Report of the Working Group on Public Distribution System and Food Security for the 10 th Five Year Plan ( ), TFYP Working Group Serial No. 65/2001, Planning Commission, Government of India: New Delhi. Government of India [2002]: Report of the High Level Committee on Long-term Grain Policy, Department of Food and Public Distribution, Ministry of Consumer Affairs, Food and Public Distribution, Government of India: New Delhi. Government of India [2004]: Central Government Subsidies in India: A Report, Department of Economic Affairs, Ministry of Finance, Government of India: New Delhi. Government of India [2013]: Final Report of Committee of State Ministers, In charge of Agricultural Marketing to Promote Reforms, Ministry of Agriculture, Department of Agriculture and Cooperation, Government of India: New Delhi. Government of India [2015]: Report of the High Level Committee on Reorienting the Role and Restructuring of Food Corporation of India, Department of Food and Public Distribution, Ministry of Consumer Affairs, Food and Public Distribution, Government of India: New Delhi. Gulati, Ashok, Satu. Kahkonen and Pradeep Sharma [2000]: The Food Corporation of India: Successes and Failures in Indian Food grain Marketing, in S. Kahkonen and Anthony Lanyi [Edt]: Institutions, Incentives and Economic Reforms in India, Sage Publications: New Delhi. Virmani, A. and P.V. Rajeev [2002]: Excess Food Stocks, PDS and Procurement Policy, Working Paper No. 5/2002/PC, Planning Commission, Government of India: New Delhi. World Bank [1999]: India: Food Grain Marketing Policies, Rural Development Unit, South Asia, Report No , Washington D. C. 13