Spot, futures farm markets still not in lock step

In his Budget 2017 speech, Finance Minister Arun Jaitley had announced that the government would take steps to integrate the spot and derivatives markets for farm produce. While this is a laudatory objective, there is lack of clarity on the way forward. There is also incomplete understanding of what this integration would mean on the ground and what the benefits of such an integration would be.

In theory, efficient and well-organised spot markets support forward/futures markets for base pricing and final settlement of the forward/futures contracts. Futures markets, in turn, play an important role in price discovery in spot markets. However, Indian agricultural markets are a long way away from this ideal situation.

To improve transparency in spot markets, especially in mandis, the government has announced two measures. The first is the setting up of the digital portal, electronic -National Agricultural Market (e-NAM) which is being rolled out in 585 mandis. The second initiative is to frame a model APMC Act to facilitate sale and purchase across geographies.

However, at present, price discovery is opaque and inefficient in spot markets; markets are fragmented, they do not “talk” to each other and there is no national reference price. This leads to a situation where, for many agri commodities, there is geographic asymmetry, which unscrupulous market participants take advantage of, leading to price spurts in some locations and distress sales at others.

The futures market is an ideal platform to smoothen such price volatility. However, in India the agri futures market is still in its infancy and there continues to be several misconceptions on the role of the derivatives market. Many important commodities are currently not being traded on futures.

Barring a few commodities, the Indian futures market lacks liquidity. This makes the market vulnerable to manipulation on account of extremely low participation. Moreover, the prices of several commodities that are actively traded on futures platforms (such as soyabean, cotton, wheat) are driven more by international supply and demand considerations. A vibrant liquid futures market would provide the reference point for operating in the spot market and lead to genuine price discovery. This could be a boon to the farming community, which can then take sowing decisions based on the futures prices. Today, the farmer is not only exposed to the vagaries of the monsoon, but faces a double whammy given the nature of an uncertain market.

What then are the enablers to have well-functioning spot and futures markets that are truly integrated? SEBI needs to incentivise and encourage exchanges to widen their ambit of commodities. Widely traded commodities like pulses, rice and so on should be introduced on exchanges for trading along with long-dated futures in agri-commodities. Absence of various region-specific commodities on exchanges makes it even more difficult for the two markets to be integrated.

However, getting the commodities onto the exchanges will not be enough; the exchanges need to widen the extent of participation. SEBI should also permit banks and other financial institutions to hedge in the futures market. Besides increasing liquidity, this will also enhance the credibility of the exchanges and have a ripple effect on warehousing and collateral management business, which will give a boost to deliveries on the exchange platform. To avoid excessive speculation, delivery of goods from local as well global origins should be allowed to create more globally acceptable price discovery platform.

e-NAM has been a major initiative, but at present, it lacks reach and scope. Till March 2017, only 417 markets from 13 States had been brought under e-NAM. Transactions on the electronic platform even in these mandis are few and far between. India has 28,000 small and large mandis, of which as many as 7,500 are active and regulated under the APMC. There is an urgent need to provide space to credible private entities to enter the electronic market space and enhance coverage and deal with the complexities of various commodities.

Another area for private sector participation would be the modernisation of the existing mandis, which are lacking in both infrastructure as well as in governance standards. Leasing out such mandi yards to suitable private sector entities could be one of the solutions for modernising of infrastructure and efficient management.

In sum, while the government’s intent is welcome, there is a long journey for real integration of both the spot and futures markets.

The writer is MD & CEO, National Collateral Management Services Ltd (NCMSL). Views are personal

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