Food

Why food prices will rise even with record procurement

india-wheat-2011-5-5-8-51-9Vivek Kaul

When the production of any commodity goes up, its price falls.
That’s Economics 101.
But economics is not physics. And what sounds true, may not be true at all.
Take the case of the report in The Times of India edition dated May 12, 2013 which points out “US agricultural department and…the Food and Agriculture Organisation(FAO) have predicted record global output of cereals…raising hopes of snapping the trend of worryingly rising food prices.”
The US department of agriculture expects the global production of wheat to rise by 6.9% to 701 million tonnes in 2013-2014 (i.e. the period between April 1, 2013 and March 31, 2014) from the previous year. The production of rice is expected to rise by 1.9% to 479 million tonnes.
This rise in production The Times of India feels will bring down cereal prices in particular and food prices in general. The cereal inflation was 4.62% in March 2012. But it had shot up to 18.36% in March 2013.
Will this inflation come down? Another reason in favour of increased production is the fact that the India Meteorological Department has said that the South West Monsoon will be normal this year. The South West Monsoon is very important for the production of rice given that half of India’s area under cultivation is still at the mercy of monsoons. Irrigation wherever its available is also dependent on rainfall.
While increase in production of a commodity does have an impact on its price, but there are other bigger factors at play in the Indian case. Every year the government of India sets a minimum support price for rice and wheat. At this price, it buys rice and wheat from farmers, through the Food Corporation of India(FCI) and other state government agencies.
This price is declared in advance in order to give the farmer an idea of what he is likely to get for his produce. While the idea behind MSP is noble but it has essentially become a tool of give-aways in the hands of politicians. The MSPs for both wheat and rice have been raised dramatically over the last few years.
In 2009-2010 (i.e. the period between April 1, 2009 and March 31, 2010), the MSP for rice paddy was Rs 1000 per quintal (i.e. 100 kilograms). This was increased to Rs 1250 per quintal in 2012-2013. For wheat this went up from Rs 1080 per quintal to Rs 1350 per quintal.
So MSPs have gone up dramatically over the last few years. This has resulted in more and more rice and wheat being produced and landing up with the FCI and other agencies which operate on its behalf. The way the current system works is that FCI is obligated to buy all the rice or wheat that the farmer wants to sell as long as a certain quality standard is met. This has led to a situation where farmers find it favourable to produce rice and wheat because they have a ready buyer for all their produce, at a price they know in advance.
Hence the stocks with the stock of rice and wheat with the government has gone up dramatically. At the beginning of March 1, 2013, the total rice and wheat stock stood at 62.8 million tonnes. Now compare this with the minimum buffer of 25 million tonnes that needs to be maintained. So the government is buying much more rice and wheat than it actually needs to maintain a buffer and distribute through its various social security programmes. As an article in the May 26, 2013, edition of Business Today points out “A few years of high minimum support price (MSP) – floor price at which government buys all the wheat and rice offered by farmers – has led to the massive procurements. This, however, has not been followed through with regular releases into the market.” So the prices of rice and wheat has gone up, as more of it lands up in the godowns of FCI and not in the open market. Or as Madan Sabnavis, Chief Economist at credit rating agency Credit Analysis & Research Ltd told Business Today “Excess procurement is leading to an artificial scarcity.”
This is something even the government agrees with. A December 2012, report brought out by the Commission for Agricultural Costs and Prices, which comes under the Ministry of Agriculture points out “Since 2006-07, the procurement levels for rice and wheat have increased manifold…Currently, piling stocks of wheat with FCI has led to an artificial shortage of wheat in the market in the face of a bumper crop. Wheat prices have gone up in domestic markets by almost 20 percent in the last three months alone (in the three months upto December 2012, when the CACP report was released), because of these huge stocks with the government that has left very little surplus in markets.”
The procurement of food grains increased from 34.3 million tonnes in 2006-2007 to 63.4 million tonnes in 2011-2012. Due to this the total stock of food grains in the central pool went up from 25.9 million tonnes as on June 1, 2007 to 82.4 million tonnes on June 1, 2012. The total stock of food grains that is held by the FCI, state governments and their agencies, is referred to as the central pool.
As on March 1, 2013, this number stood at 62.8 million tonnes. Analysts expect this to touch 100 million tonnes after the current procurement season gets over. FCI estimates put the carrying cost for this inventory comes at Rs 6.12 per kg. At 100 million tonnes, the cost works out to over Rs 60,000 crore.
And all this has happened because of high MSPs being set by the government. What is interesting is that the Comptroller and Auditor General (CAG) of India in a recent report titled “Performance Audit of Storage Management and Movement of Food Grains in Food Corporation of India (FCI)” questions the logic behind how the MSPs are being set.
The report was presented to the Parliament on May 7 ,2013. As the report points out “No specific norm was followed for fixing of the Minimum Support Price (MSP) over the cost of production. Resultantly, it was observed the margin of MSP fixed over the cost of production varied between 29 per cent and 66 per cent in case of wheat, and 14 per cent and 50 per cent in case of paddy during the period 2006-2007 to 2011-2012. Increase in MSP had a direct bearing on statutory charges levied on purchase of food grains by different State Government… All this resulted in rising of the acquisition cost of food grains.”
The high MSPs have led to another distortion. FCI majorly procures its rice and wheat from states like Punjab and Haryana. But over the last few years high MSPs have motivated various state governments to set up more and more procurement centres. A good example is Madhya Pradesh, which emerged as the second largest procurer of wheat last year by having set up more procurement centres over the years and by also offering a bonus to the farmers over and above the MSP. This year Bihar seems to have got into the act. As a recent editorial in the Business Standard points out “Bihar, only a marginally wheat surplus state, has this year set up more grain procurement centres than the major wheat-growing states of Punjab, Haryana and Uttar Pradesh put together.”
So the moral of the story is that both the central and state government are procuring more and more of the rice and wheat that is being produced, distorting the rice and wheat market totally. As V S Vyas an economist with the Prime Minister’s Economic Advisory Council told Business Today “Stock in the market is important, not the total stock.”
It is unlikely that the MSP are going to come down this year given that Lok Sabha elections are due next year and hence the Congress led UPA will continue to offer ‘boon-dongles’ to citizens of this country. And even though the global production of rice and wheat is likely to go up as suggested by The Times of India, there will be no relief for the Indian consumer.
The article originally appeared on www.firstpost.com on May 13, 2013
(Vivek Kaul is a writer. He tweets @kaul_vivek) 
 
 

Why food prices will continue to remain high in the coming years

Vivek Kaul

Buried somewhere in the Reserve Bank of India‘s first quarter review of monetary policy released yesterday is the following paragraph:
The stickiness in inflation, despite the significant growth slowdown, was largely on account of high primary food inflation, which was in double-digits during Q1 of 2012-13 due to an unusual spike in vegetable prices and sustained high inflation in protein items.
In simple English what this means is that despite economic growth slowing down inflation continued to remain high because of high food inflation. The Reserve Bank of India (RBI) has not seen the last of food inflation and there are several reasons why food inflation will continue to remain high in the days to come.
Below average rainfall: The immediate reason for the food prices continuing to remain is the below average rainfall this monsoon season. As the RBI said in the first quarter review of monetary policy:
During the ongoing monsoon season, rainfall up to July 25, 2012 was 22 per cent below its long period average (LPA). The Reserve Bank’s production weighted rainfall index (PWRI) showed an even higher deficit of 24 per cent. Further, the distribution of rainfall was very uneven, with the North-West region registering the highest deficit of about 39 per cent of LPA. If the rainfall deficiency persists, agricultural production could be adversely impacted.
The availability of water can make a huge difference to the agricultural output in India. Areas fed by canals form only around 40% of the total arable land in India. The remaining 60% are dependent on rains. With deficient rains this year the current khareef crop is likely to be impacted with production not being enough to meet demand. This will lead to food prices going up in the days to come.
Rural India is eating better: The various social schemes being run by the current United Progressive Alliance (UPA) government have put more money into the hands of rural India. The income of rural India has more than doubled in the last five years. One thing that seems to have happened because of this is that people are eating better than before. Economists are of the opinion that as income of people rises above the subsistence level of $1000 per year, a substantial portion of the new money is spent on food. People eat more and better quality food. At the same time they also move from cereal based diets to more protein based diets. In major parts of the world this means that people start consuming more meat. But India has a lot of vegetarians and hence consumption of other high protein food items like dal, milk and other dairy based products has gone up, pushing their prices up. This is likely to continue in the months and years to come given the social commitment of the current UPA government. If the proposed Right to Food Act goes through you could see a further increase in food prices.
The Japan syndrome: As a densely populated country industrialises, the area under agriculture tends to go down. This phenomenon was first observed in Japan, and has since then been observed in South Korea, Taiwan, and very recently China. As Lester R Brown points out in Outgrowing the Earth: The Food Security Challenge in an Age of Falling Water Tables and Rising Temperatures “First, as a country industrialises and modernises cropland is used for industrial and residential development. As automobile ownership spreads, the construction of roads, highways, and parking lots…takes valuable land away from agriculture…. Secondly as rapid industrialisation pulls labour out of the countryside, it often leads to less double cropping, a practice that depends on quickly harvesting one grain crop once its ripe and immediately preparing the seedbed for the next crop…Third, as incomes rise, diets diversify, generating demand for more fruits and vegetables. This in turn leads farmers to shift land from grain to these more profitable high-value crops.”
This is a long term phenomenon which is clearly playing out in India right now. Just drive around towards the outer limits of the city you live in and you will realize that what was once agricultural land has been taken over to build malls, apartments, offices etc. This leaves less area to grow vegetables, cereals and other crops, pushing up their prices in turn. Depleting aquifers: A huge amount of increase in the irrigation of crops across the gangetic plane, India’s agricultural heartland have substantially depleted the aquifers or the underground water tables. As a report by DWS Investments points out “Dramatic increases in the irrigation of crops across northern India have substantially depleted the region’s groundwater. Between April 2002 and August 2008, aquifers lost a total of more than 54 cubic kilometers per year. That decrease in groundwater is even more than double the capacity of India’s largest reservoir.”
While this data is around four years old there is no reason to believe that the situation could have improved in the last four years. It could only have got worse. This is something that Brown agrees with in his book Outgrowing the Earth. He writes “the extensive overpumping of aquifers in India will deprive farmers of irrigation water and will also reduce grain production”.
Climate change also threatens food security: As the following table points out Indian agriculture has very low productivity when it comes to other parts of the world. Even Bangladesh does better than us when it comes to producing rice.
Comparing productivity of Indian agriculture with the world (kg/ha)
Country Paddy Country Wheat Country Maize
World 4,223 World 2,829 World 5,010
Bangladesh 4,012 China 4,608 Agentina 7,666
Brazil 3,826 Egypt 6,478 Canada 8,511
China 6,422 France 6,256 China 5,151
India 3,303 India 2,704 India 2,440
Indonesia 4,705 Italy 3,568 Italy 9,144
Japan 6,511 Spain 3,470 Turkey 6,838
USA 8,092 United Kingdom0 7,225 USA 9,458
Source: Agriculture Statistics at a Glance /Kotak GameChanger Report
Even this production is threatened now because of rising global temperature which beyond a certain point tends to reduce the amount of crop produced. As Lester Brown told me in an interview I did for the Daily News and Analysis (DNA) a few years back “For each degree celsius rise in temperature above the norm during the growing season, farmers can expect a 10% decline in wheat, rice, and corn yields. Since 1970, the earth’s average surface temperature has increased by 0.6 degrees Celsius, or roughly 1 degree Fahrenheit.”
As the earth’s temperature rises it has led to glaciers melting. “Nowhere is this of more concern than in Asia. It is the ice melt from glaciers in the Himalayas and on the Tibetan plateau that sustain the major rivers of India and China, and the irrigation systems that depend on them, during the dry season. In Asia, both wheat and rice fields depend on this water. China is the world’s leading wheat producer. India is No 2 (The US is third.) These two countries also dominate the world rice harvest. Whatever happens to the wheat and rice harvests in these two population giants will affect food prices everywhere. Indeed, the projected melting of the glaciers on which these two countries depend presents the most massive threat to food security humanity has ever faced,” said Brown.
Cars and people are competing for grains: As the price of oil keeps going up, the world has started to look for alternate sources of fuel to run cars and other forms of transport around the world. One such fuel is ethanol which is made from corn and sugarcane in different parts of the world. In Brazil, a lot of cars run on ethanol, which is produced using sugarcane. So if oil prices go up, ethanol becomes more viable as an alternate fuel. And this pushes up the price of ethanol input, i.e. sugarcane. With lesser sugarcane available to produce sugar, the price of sugar also goes up. The United States uses corn to make ethanol. So oil prices going up leads to corn prices going up as well. As Brown put it “If the fuel value of grain exceeds its food value, the market will simply move the commodity into the energy economy. If the price of oil jumps to $100 a barrel, the price of grain will follow it upward. If oil goes to $200, grain will follow. From an agricultural vantage point, the world’s appetite for crop-based fuels is insatiable. The grain required to fill an SUV’s 25-gallon tank with ethanol just once will feed one person for a whole year. If the entire US grain harvest were to be converted to ethanol, it would satisfy at most 18% of US auto fuel needs.”
Given these reasons the food prices are likely to remain high in the months and years to come. And the Reserve Bank of India can fiddle around with the interest rates as much as it wants to, but there is no way it can control food prices.
(The article originally appeared on www.firstpost.com on August 2,2012. http://www.firstpost.com/economy/why-food-prices-will-continue-to-rise-in-the-coming-years-400532.html)
(Vivek Kaul is a writer and can be reached at [email protected])