The Hindu Business Line : Freeing and empowering the Forward Markets Commission

Given the radical nature and the volume of changes involved in amending the Forward Contracts (Regulation) Act, 1952, it would be better to scrap it completely and draft a revised Bill.

Indians are proud that their ancestors invented the `zero' and use of the decimal system. It is strange, though, that they also invented the "futures market" but consider it the source of various economic troubles and feel it needs to be controlled.

Role of futures market

During the Second World War, forward contracts came under severe governmental restrictions for fear that they may give rise to speculation and inflation. Even after Independence, in the socialist era, the futures market was seen as some sort of a gamble indulged in by black-marketers and profiteers. It is only now that the important role played by the futures market in price discovery and risk and the benefits they offer, not only for the traders but also for farmers, has come to be recognised.

The Forward Contracts (Regulation) Act, enacted in 1952, created the Forward Markets Commission, but options in goods were prohibited. A new Bill was introduced on December 23, 1998, in the Rajya Sabha to bring in changes in the Act and it was referred to the Standing Committee on Food, Civil Supplies and Public Distribution for further examination. After incorporating the recommendations of the Standing Committee, the Bill was passed in the Rajya Sabha in December 2003 but could not be passed by the 13th Lok Sabha because of its dissolution.

Restructuring the FMC

The Amendment Bill sets out with the declared objective of restructuring and strengthening the Forward Markets Commission (FMC). In fact, the Bill makes the FMC a handmaiden of the government. It bestows on the government the powers to issue directions to the FMC on matters of policy and even to supersede the Commission in certain cases. The very idea of superseding a regulatory body such as the FMC, appears undesirable. Clearly, the socialistic mindset and the misconceptions about the futures market continue. For example, in Clause 3 (fb), the definition of `option' as trading in commodity derivatives, including teji, mandi, teji-mandi, gali, put, call or put and call commodity derivative, is not complete, as it does not explain the vernacular expressions used in the futures market. Since the Bill is drafted in English, it would be desirable to give English equivalents used either in the UK or the US, or explain the terms involved.

Surprisingly, the Bill goes soft on the FMC and its members when it comes to infractions. Some infractions that would, under the stipulations of the Bill, invoke only supersession of the FMC, appear to justify criminal action against the members concerned rather than mere supersession.

The Bill requires the Commission to use its powers with the prior approval of the Centre. This will paralyse the body. In the sphere of commodity futures, actions are required to be taken almost by the hour; the approval of the government cannot be assured within such narrow time-limits.

Market mechanism

The futures market mechanism can be effective only if it is an integral part of the entire marketing system. It would not suffice to have only three spot markets. It is equally necessary to have a futures market operational enough to ensure price discovery and risk management.

A futures market cannot become efficient and effective under a government that is suspicious about its utility. The prevailing mindset is still suspicious about the utility of the futures market, particularly options. Very recently, the Government was thinking of restricting the futures markets in wheat.

The new Act

The new Act should make a clear distinction between contracts for physical delivery — ready and forward — on the one hand, and future contracts and their derivatives such as options and transferable specific delivery contracts, on the other. It must make clear distinction between a physical market and a futures market and restrict operations of the FMC to the latter. The Bill will then be more appropriately called the "Commodity Futures Market (Development) Bill." Consequently, the Forward Markets Commission may be more appropriately called the Commodity Futures Markets Commission (CFMC).

As the FMC needs to be freed from the clutches of the Government, Marketing Associations must have complete autonomy. The concept of registered associations should be abolished altogether. Any association desirous of developing trading in futures, options or derivatives in any commodity, service, right on interest may be required by the Bill to apply to the CFMC for grant of recognition.

The application should be accompanied by a detailed report about the form of the organisation, the capital base, its representative character covering diverse market interests, role in the physical market, its organisational strength and structure, management practices, rules relating to trading, clearing settlement, delivery survey and arbitration, and the prevention of manipulation.

All the powers of the CFMC should be specifically laid out in the Act itself and not left to be enunciated by subsequent rules and regulations. The rules and bylaws of the recognised associations should be made by or amended by the associations concerned, subject to the approval of the Commission.

System of procurement

The crisis in the agriculture sector is largely a fallout of the system of procurement through a monopoly agency — the Food Corporation of India. The FCI has failed to create an infrastructure network between harvesting and the kitchen. The systems of procurement and support prices are likely to cause complications under the WTO Rules.

The Agriculture Minister has often mentioned his intention to introduce a system of warehousing receipts (that will become full-fledged negotiable instruments) to be issued on delivery of goods against payment of about 70 per cent of the ruling market price. Apparently, the Bill concerned is also under the consideration of the Standing Advisory Committee on Food and Consumer Affairs.

It would be necessary to deliberate how the negotiable instruments will be incorporated, either in the commodity or stock markets, so that they become freely transferable. Since warehousing receipts can be used as a future delivery derivatives instrument, it would be desirable to make a provision for warehousing receipts as negotiable instruments in the CFMC Bill itself.

Given the radical nature and the volume of changes involved in amending the 1952 Act, it would be better to draft a revised Bill, scrapping the Act altogether. All the regulatory powers in this field should rest with the newly empowered Commodity Futures Markets Commission rather than with the government.

(The author is founder, Shetkari Sanghatana and Member of Parliament — Rajya Sabha. He can be reached at sharad.mah@nic.in)

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