The stock market regulator’s decision to extend the suspension of trading in derivative contracts of paddy, wheat, chana, mustard, soyabean, crude palm oil and moong by another year, is surprising, given the obvious ineffectiveness of this measure in controlling price increases.
Trading in the futures contracts of these commodities was initially suspended for a year in December 2021, in a bid to check food price inflation.
But prices continued to surge in the months following the ban, mainly due to increase in consumption following unlocking of the economy after the third wave of the pandemic, and also the supply shock caused by the Russia-Ukraine conflict.
Price movements following similar trading suspensions in the past too reveal that suspension of trading does not help in checking prices.
Also, with CPI for cereals easing a little in the last two months, regulators could have waited for market forces to bring down prices. While policymakers may be focused on controlling inflation, they need to recognise the impact of the ban on the agri-commodity derivatives market in India.
SEBI’s move has resulted in halving the daily turnover of commodity derivatives exchanges over the past year. Commodities exchanges have already been struggling to regain investor trust since the NSEL scam in 2013.
A sudden suspension of derivatives trading in important commodities, extended over many months, creates uncertainty which will drive away traders and hedgers.
Policymakers need to recognise the important role that commodity derivatives play in helping users hedge themselves against price risk. Besides, given the decentralised trading of agri-commodities in APMC mandis across India, the futures market helps in price discovery too.
With national online spot trading in agri-commodities through platforms such as e-NAM taking time to realise its potential, it would be good to boost activity in agri derivatives market, instead of curbing it.
Spot prices are mainly determined by demand and supply for the commodity; research has shown that it is not possible to establish an explicit link between volatility in future and spot prices — a point of view shared by the Abhijit Sen Committee (2008).
However, a supplementary recommendation made by the panel is worth considering — to remove from the futures market those commodities where such a link is established. In order to take an informed decision, a study must be commissioned. The list of such commodities should be shared with stakeholders to remove trading-related uncertainty.
That said, there are many shortcomings in the derivatives market for agri commodities that need to be addressed to make them accessible for farmers and other users.
The contracts need to be simple in design and exchanges should conduct outreach programmes for farmer producer organisations, through which farmers can use these instruments. Currently, the exchanges are dominated by traders, with the participation of farmers and other users being low. Institutional participation should be encouraged.