Consumer companies are less than enthusiastic about the rural economy as they point towards slowing demand conditions. While these indications appear out of sync with the recent robust government support to rural programmes, they may indeed be setting a trend towards a more complex situation.

The likelihood that the current slack will sustain is high given that government support to the rural sector has reached the peak. These include procurement and distribution of foodgrains, allocation for rural employment, and various subsidies.

Additionally, the profitability measure for the farm sectors, i.e., the terms of trade — which is arrived at as a ratio of price received on farm produce to cost paid — has failed to rise despite the aggressive government support to the foodgrain sector in the past three years.

For the rural sector, and particularly for the farm sector, the problem of general rise in unemployment has led to forced absorption of the labour force displaced from the industrial and services sectors. CMIE data indicate that the farm sector absorbed a substantial two-third of the 25 per cent lower post-pandemic industrial employment and 3 per cent lower sector employment in the services sector.

Hence, unless job creation in the Services, Industrial, and Urban sectors revives rapidly enough, the drawdown in cash flow to the rural sector due to the decline in fiscal support can lead to a further fall in per capita income and real wages in rural areas.

Lower allocations

Union Budget FY23 indicates a considerable easing in rural allocation, including the steep contraction in allocation under food and fertiliser subsidy and rural employment. Rural spending at ₹3.6 trillion is only 2 per cent higher than last year. But with food subsidy at ₹2.07 trillion and budgeted to decline by 28 per cent in FY23BE, fertiliser subsidy at ₹1.05 trillion and budgeted to fall by 25 per cent, and rural employment allocation at ₹730 billion and budgeted to decrease by 26 per cent, the total central government spending on rural and agriculture at ₹6 trillion is budgeted to decline by 18 per cent in FY23BE.

Our estimate for agri sector terms of trade (based on subdued food inflation, agri labour wages, fertiliser prices, etc.) has continued to contract during 2021-22 (-0,7 per cent YoY) after rising by 8 per cent during 2019-20. The current level of ToT is still 6.5 per cent lower than 10 years back.

Reflecting the weak price realisation in the agri sectors, food inflation at the wholesale level averaged 3.1 per cent and 2.5 per cent in FY21 and FY22YTD respectively despite the temporary supply shortage caused by the lockdown in mid-2020. Foodgrain inflation averaged -0.2 per cent and 1.6 per cent respectively. And fruits and vegetable inflation has averaged just 1.8 per cent since March 2020 notwithstanding the spike of 25 per cent YoY in December 2021. These averages have been lower than the basic input costs like agri wages (averaging 4.5 per cent), and diesel and fertiliser prices.

The moderation in India’s agri sector terms of trade contrasts with the aggressive support to the foodgrain sector (wheat and rice) by the government through a combination of peak level of procurement (100 million tonnes) to production ratio at 47 per cent in FY21, higher support prices (4-year average of 6 per cent), and buffer stock at an all-time high of over 80 million tonnes, far surpassing the non-Covid annual off-take under public distribution since FY14 at 63-66 million tonnes.

Thus, the aggregate value of government procurement had risen to peak levels of ₹2.5 trillion in FY21E and is expected to decline as the emergency interventions made during the height of the pandemic ease as normalcy returns. While the higher 130 per cent current buffer/average off-take during non-Covid years reflects surplus in the foodgrain sector itself, the inability of agri terms of trade to rise despite large government support is indicative of weak economics in the broader agri sectors.

Thus, the 28 per cent decline in food subsidy in FY23 (Budget estimate) implies that the government procurement of foodgrain can come down substantially, going forward. If the production of wheat and paddy continues to grow at the past average of 3 per cent per annum, the lessening of government procurement from the peak proportion of 70 per cent of market surplus (net of produce held for self-consumption by farmers) can cause significant weakening in realised price in the open market.

Can agriculture exports be an answer? Possibly yes. Up till now, Indian agri exports, in quantity terms, have gained insufficiently from the surge in global prices. Indian agriculture exports growth has averaged 23 per cent during FY21 and FY22. The World Bank’s agri commodity index averaged a 17 per cent rise in line with the synchronous rise in global commodity prices. Thus, in quantity terms, agri exports grew by a modest 6 per cent. This is much lower than the FY12 peak of 42 per cent; Agri export/GDP has also gained modestly to 9.6 per cent in FY22E compared to the FY13 peak of 13.5 per cent.

The spike in wheat exports has been strong in recent months and has provided some support to domestic prices, which has recovered by 10 per cent since January 2021 following a decline of 13 per cent in 2020. Contrastingly, high exports of rice in 2021 also saw a 27 per cent decline in global prices. Thus, higher rice exports failed to benefit domestic price realisation, which is still 3.5 per cent lower than January 2019. The scope for further gains is limited as the conversion of Indian MSP in dollar terms is almost equal or higher than global export prices of wheat and rice.

The slackening rural demand outlook thus intensifies the relevance of a quick revival in industrial and urban service sectors. It can enable reversal of excess supply of rural labour, and regenerate urban remittances. Based on the comparative assessment or relative prices, encouragement of agri exports to support better realisation in agri produce can also be a potential intervention.

In a realistic scenario, however, one can expect the farm sector to slow production in lagged response to weaker terms of trade and narrowing net cash flows. Caught in the interplay of these drivers will be critical industries entrenched in the rural economy including consumer goods, staples, and agri inputs. Rural lending businesses also run the risk of rising default risk.

The writer is Managing Director & Head – Strategist & Economist, Equity Research| JM Financial Institutional Securities

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