The fairly young multi-commodity exchanges, with transparent technologies allowing nation-wide, or global, reach, demutualised ownership structures and professional management, were expected to herald a revolution in commodity futures and carry this forward to the fragmented physical market for commodities. But their focus has been confined to traditional futures centres, and the farmers and actual commodity users are still not participating as expected.

C.K.G. Nair

THE three National Multi-Commodity Exchanges (NMCEs) in India are now 28 months (NMCE, Ahmedabad), 20 months (Multi Commodity Exchange, Mumbai) and 18 months (National Commodity and Derivatives Exchange, Mumbai) old.

Given the fast pace of growth of these exchanges in terms of volume of trading, number of contracts floated, and the public attention they have generated, it is time to see whether they have lived up to the high expectations.

This article is not, however, an attempt at an inter se comparison of these three exchanges and their relative strengths, or the lack thereof. Many, including this author, who were in the `ring' during their genesis, indeed had high expectations from them, despite the opposition from the `regional' commodity exchanges as well as from some highly rated international experts in the domain.

The concept of a `national' multi-commodity exchange was a paradigm shift in the Indian commodity futures market. It was considered a powerful institutional strategy to prod the moribund commodity futures market from its decades-old slumber.

It was expected that the NMCEs, with transparent technologies (electronic trading) allowing nation-wide (or global) reach, demutualised ownership structures, professional management and modern, innovative practices, would be able to herald a revolution in commodity futures and carry this forward to the fragmented, opaque physical market for commodities.

In short, it was expected that the futures market would hand-hold the physical market on the path to modernisation and thereby help create a national common market the cherished but elusive goal of the policy-makers for some time now.

Of course, the institutional model of the NMCEs was not without parallel in India. It was an adaptation of the by then successful model of the National Stock Exchange of India Ltd (NSE), which was adapted to commodity futures, but without the so-called `monopoly model' of the securities market; the three NMCEs were permitted to create healthy competition for the development of the futures market.

This adaptation, in turn, had implications for the convergence of the commodity futures and securities markets an issue that subsequently became topical. What has been achieved in the commodity markets with the creation of the NMCEs?

Online, electronic trading has been brought in with accompanying transparency on prices and volumes, though not transparent enough to know the `nature' of the trading volumes. But participation in the markets, both in terms of spatial and stake-holder coverage, is still limited.

Most farmers, producers and actual users of commodities are still keeping a distance from the markets. It is mainly a traders' and speculators' ring, though the `localised' nature has been somewhat altered.

Despite electronic trading and a mandate for achieving national-level reach, concentration is confined to traditional futures centres. There is little or no participation from many of the Eastern and North-Eastern States, except Kolkata, a traditional centre for jute futures.

The NMCEs have achieved reasonable success in volume of trading with a combined daily average value of about Rs 3,000 crore. However, this is restricted to a few commodities gold, silver, soya, guar, rubber and pepper.

Major commodities, such as rice, wheat, sugar, cotton, etc., are still on the periphery, though partly due to the control regimes they fall under.

Moreover, the extraordinarily high ratio of futures to spot in small volume commodities such as guar indicates lack of maturity of the market.

The NMCEs were expected to become self-regulatory organisations (SROs) that would play the role of good Samaritans in promoting a rule-based market place.

As such they were expected to shoulder a joint responsibility with the market regulator in promoting fair practices and integrity of the markets.

It was also expected that, as in the case of the NSE, these organisations would be at the forefront of promoting institutional structures and bringing in value-added services However, achievements in these areas are limited.

What is being witnessed, on the contrary, is more of `policy bargaining' instead of playing by the existing rules and trying for changes in tune with times and current market dynamics.

The acid test of a mature commodity futures market is its delivery model. World over, the commodity futures markets use physical delivery as the settlement mechanism for deliverables.

(The argument that delivery takes place only in about 1 per cent trading and is, hence, insignificant, is not true where the futures to spot ratio of 20 is the average trading volume, and hence 1 per cent means 20 per cent of the physical output.)

With the introduction of commodity indices, non-commodities and near commodities cash settlement have come in. But still the `threat of delivery' acts as a major disciplining, equilibrating force, though mature integrated markets could go for cash settlement in as efficient a manner.

Given the conditions of the physical commodity markets in India, their fragmented nature, the lack of a reliable reference price, the absence of gradation and certification systems and the logistical problems, there is enormous pressure to avoid physical delivery.

However, these are the very reasons against going for cash settlements as a short-cut, and the consequent lack of initiative in scaling up the commodity physical market by means of encouraging the many value-added functions that are required.

Thus the expectation that the NMCEs would handhold and chart a paradigm shift in the physical market like a child leading the parent has not materialised, though delivery-based settlement models in a few commodities are operational.

(The author is a Director in the Planning Commission, New Delhi.)

(This article was published in the Business Line print edition dated July 22, 2005)
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