As per the Periodic Labour Force Survey report for the year 2022-23, 45.8% of Indian workers are employed in agricultural & allied occupations. Around two in every five people are dependent on agriculture. Despite this, the sector contributes to less than one-fifths of the country’s output as measured by GDP, indicating poor outcomes on an individual level. And if economist Dr. Madhura Swaminathan is to be believed, is also facing declining real incomes.
Agriculture in India & its challenges
Agriculture in India has many issues, such as fragmented & small land holdings, informal land leasing, limited access to crop insurance & credit, improper use of fertilizers & pesticides, access to quality seeds, limited mechanisation, and more. Each of these issues requires specific interventions of its own to effectively deal with them, but more so than that, fundamental economic reforms are needed to absorb the labour force that is disproportionately tied to agriculture.
But fundamental economic reform can take time; in the meanwhile, other, potentially persistent problems remain to be addressed. A big problem in agriculture & food markets is the prices of agricultural commodities and their instability. Prices are a difficult problem to juggle; on one hand, trying to reduce them hurts farmers; on the other hand, trying to increase them inflates expenditures for food security programs and hurts consumers and policymakers because of the politically sensitive nature of the topic.
Price instability further adds to the pain by making prices fluctuate and negatively impacting either one of the two sides that make up the market. Consumers take the brunt when prices rise but can adjust by changing their consumption patterns; producers, i.e., farmers take a much harsher punishment when prices fall, incurring losses they have no way to absorb and causing severe financial distress.
Price instability & cobweb models
Why do prices jump up and down? While some of the jumps and falls are caused by real economic shocks such as poor weather or policy side effects, the fluctuations can also be a result of how the market (and market participants) for agricultural commodities behave. The cobweb model in economics describes how in markets where there is a time gap between production decisions and supply decisions, producers’ expectations can cause prices to fluctuate.
Assuming that farmers base their planting decisions on current or past prices, a high prevailing or past price might induce farmers to plant more in order to secure better returns. But if every farmer is behaving in such a manner, then they end up creating excess supply that causes prices to fall when harvest season comes around. This new lower price then becomes the anchor-point for people’s new expectations; and so for the next planting season, farmers decide to plant less, which causes under-supply, which raises prices, which creates a new anchor-point for expectations, and so on.
While it is possible for people to eventually learn why prices fluctuate, it is hard to deal with it because solving it is a problem of coordination. Every farmer would have to come together and agree to produce a specific quantity. Setting aside the obvious concern of creating a cartel, it is difficult to coordinate prices when there are hundreds and thousands of producers spread out all across the country. A simple glance at a smaller cartel like OPEC tells us how difficult it is to ensure compliance with production limits.
Price certainty via pre-sales arrangements
Futures markets and similar instruments have been suggested as one among many potential solutions to this problem. Futures are basically contracts that allow individuals to buy and sell products for sale at a future point in time. Through these, farmers can hedge or offset some of the risk of prices falling. Futures in India are not an entirely unknown phenomenon, though their uptake has been low and has faced government restrictions over the years.
Potential reasons for low usage of futures contracts could be the requirements needed for such instruments, such as adequate financial knowledge as well as capital to pay for fees or margin requirements (some money put upfront to reduce the risk of anyone failing their end of the contract). Perceptions of futures as being akin to gambling also don't create a conducive environment for the uptake of futures.
Resorting to futures to resolve issues of price expectations and instability might be too ambitious of an initiative given the requirements for it to be successful. A more realistic approach would be to start slow and target successful areas. Instead of futures contracts, a better alternative would be to have delivery contracts. A farmer would enter into a simple contract to deliver a fixed amount of grain or produce before planting begins. Farmer sales can initially be capped at a fixed amount of grain/produce, and participants for the delivery contracts can be restricted to government agencies & few private participants; over time, sale limits can be relaxed and more participants permitted.
The agri-commodities for such an enterprise can also be carefully selected based on its production, trade and relevance to food security. By starting with commodities that are more likely to be successful (and avoid abrupt trading bans), the platform for delivery contracts can take time to iron out unaccounted issues, streamline operations and become more efficient.
Reducing barries & inducing adoption for pre-sales
Farm Producer Organizations (FPOs) can also augment this strategy by acting as an intermediary for farmers. Steps have been taken to utilize FPOs as a means to integrate farmers & futures markets, but such efforts have not yielded expected results. Simplification of the method, i.e., delivery contracts instead of purely financial instruments, is an option, but providing a more conducive environment for FPOs to develop might be the way to go.
The government has a role to play here by creating the platform on which delivery contracts can be sold & bought, to mandate state agencies to initially procure part of their grain/produce requirements from such platforms – eventually procuring most of it, and also creating guidelines, frameworks, and the necessary rules & regulations that outline best practices as well as what to do in case of unexpected situations e.g. bad weather causing crop failure, platform failures or similar such issues.
Opportunities in formal integration & importance of consultation
Platforms such as those outlined above can also be an opportunity to integrate various other sorely needed programs and interventions. Extension services and farmer schools can be provided alongside the points-of-service of the delivery platform and can act synergistically by allowing farmers to trial other crops if they feel the crops they traditionally grow are fetching a lower price. This helps farmers diversify their crops and also allows the government a chance to reduce massive and disproportionate procurement of a select few grains/produce.
The agri-commodity delivery platform also creates a formal setup where transactions can be recorded, allowing farmers to create a history of transactions and also adherence to delivery contracts that can potentially be used to provide credit. This is useful in instances where agri-credit uptake is low due to collateral or other requirements. More importantly, the delivery contract platform can be used to package agri-insurance along with the contracts, similar to how it is sold for train tickets, to also drive agri-insurance use among farmers, which at maximum one in every five farming households utilize despite a minimum of one in five households suffering crop losses of some kind.
The suggestions made so far encompass a wide range of initiatives and actions but can only have a beneficial impact if –
openly deliberated
have farmers, farmer communities and farmer organisations taken into confidence before being unveiled as policy.
Fundamental reforms in the economy and the agricultural sector are the need of the hour but cannot be imposed in a top-down manner without any consultation or outreach to those most affected by it.
Abhishek Vajjala
