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Fixing India’s Mandis

note: this is the first article i wrote on agriculture. years later, after the village stay at tihi, i read this story again and found it embarrassingly technocratic in its outlook. anyway, do take a look.

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Jawaharlal Nehru had once described agriculture as “India’s greatest living industry”. Yet, 60 years after Independence, the country is slowly coming to grips with the effects of having neglected agriculture all these years. Addressing a recent seminar on agriculture, Prime Minister Manmohan Singh said the situation was alarming. The Tenth Five-Year Plan (2002-07) had assumed that Indian agricultural production would grow by 4 per cent every year. “But the reality is that in the first three years of the Plan, we have not been able to ensure even 1.5 per cent rate of growth,” he said.

As Singh and his top team see it, if India has to grow by 7-8 per cent every year, agriculture has to grow faster. After all, despite all the industrial development and India’s high-tech image, the economy remains overwhelmingly agrarian.

Unlike the West, where agriculture provides just 3 per cent of the jobs, two out of three Indians earn their livelihood directly or indirectly from agriculture. The situation on the ground is alarming. Around 10 per cent of India’s farming households are landless. Another 67 per cent own less than one hectare of land each. Eleven per cent have 1-2 hectares of land. Yields have been stagnant. Irrigation facilities remain inadequate. Mechanisation is low. So is the use of farm inputs.

Fixing all this is not easy. But in the last one year, Manmohan Singh’s government has put comprehensive reform of Indian agriculture on top of its agenda. Managing such a systemic change on such a huge scale is daunting. Especially when agriculture is a state subject.

The changes are far too many and far too complex to be addressed in one go. So in the pages that follow, we have picked out a few issues and attempted to understand what is being done.

One big factor hobbling Indian farmers is the 7,000-strong mandi system — the large agricultural produce markets that have aggregated and dispatched grains, fruits, vegetables and the rest from farms to towns for ages now. A big effort is on to develop an alternative mechanism that will connect farmers more efficiently to markets. Competition, it is hoped, will discipline the old mandi system and also give farmers their due share.

But mere efficiency won’t help. Today, most Indian farmers don’t think enough about what the market wants before they choose their crop. The government is, therefore, trying to also bring in a new market orientation. Its new National Horticulture Mission — and its focus on high value agriculture — is part of this drive. Opening up foreign direct investment in retail could also allow big retailers to deal directly with the farms.

All these big shifts require huge investments in building hard and soft infrastructure — something that the government alone is in no position to bear. The Prime Minister has already talked about replacing publicly funded R&D in agriculture and rural infrastructure with a new private participation model. But the private sector will not step in till the larger environment itself is conducive for it to function smoothly. That is why a more favourable environment is being created — largely through an overhaul of several antiquated laws.

Today, there is renewed optimism among private sector firms. In the next two to three years, most people reckon a lot of these changes will begin to fall into place. And it could once again kick-start a new cycle of investment and growth in “India’s greatest living industry”.

But first, let us get a clearer sense of what’s changing — and why.

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Fixing the mandi

The next time you sit down for dinner, take a look at what is  on your plate. There will probably be some rice or rotis, dal, a couple of vegetables, curd, paneer or a meat dish. There might even be some fruits. Even a couple of decades ago, the plate would have looked different. Indians today are eating lesser cereals, and more vegetables, fruits, meat, eggs, fish and milk. New food habits are one of the many factors forcing dramatic changes across the Indian agricultural landscape.

Some of the changes would have certainly caught your eye. Every once in a while, the newspapers have carried stray bits of news, announcing the recast of important laws governing the sector, the rise in commodities trading volumes, the setting up of new warehouses, and the growing share of organized food retail. What is the reason for these changes?

Interestingly, unlike during the Green Revolution, the government won’t be the main driver of the change. Says Nachiket Mor, executive director, ICICI Bank: “There is no master plan shaping all the work being done in this area.” Instead, government will be the enabler and the catalyst. And a motley group of private companies, cooperatives, NGOs and farmers will learn to work together for their own self-interest to gradually revamp Indian agriculture.

What Is Changing?

Two years ago ICICI deputed P.H. Ravikumar to set up the National Commodity and Derivatives Exchange (NCDEX). The Indian farmer, he says, carries a huge load of risk on his shoulders. He plants his crops not knowing what the harvest will be like, or how much it will fetch in the market. Many things can go wrong between sowing and harvesting. His is a nervous existence, at best.

A large white server hums a floor below Ravikumar’s office in Mumbai’s Bandra-Kurla Complex. About the size of a refrigerator, it is the heart of his company. It is connected to 6,000 trading terminals in 400 Indian towns. Today, 36 commodities — 33 of them agricultural — are traded every day in this exchange. That translates into a daily turnover of around Rs 2,300 crore.

So far, most of this turnover comes from companies and speculators. The companies want to hedge what they buy. Day traders and speculators bet on how much a commodity like wheat might cost three months later. They look at the spot price, the cost of warehousing the produce, followed by cost of the capital, and accordingly trade on futures of these products.

In the long run, that server below Ravikumar’s office will cut farmers’ risk. The first thing it will do is improve the way farmers decide what to grow, says Ravikumar. Now, they decide that on the basis of last year’s prices. If a particular crop gets good prices one year, everyone sows it the next year. The result: at harvest time, there is a glut in the market and prices crash.

Commodity futures serve as a better barometer for consumer demand when sowing time comes. Here is how it will work. Let us say that the mandi offers the farmer Rs 650 for a quintal of wheat, while the exchange suggests that prices will climb to 750 in three months. The farmer decides to wait. To hedge his risk, he picks up a future, committing to sell at this price three months down the line. Right now, however, there aren’t many farmers looking at the exchanges. Says Madan Sabnavis, chief economist of NCDEX: “The actual presence of the farmers (in the exchange) is very low. We only have a few large farmers.”

Some months ago, NCDEX ran a small experiment with the cotton farmers of Gujarat. It told them about the benefits of hedging forward. The farmers were not interested. “What if prices rise?” they had asked. The answer to their question lies in options.

This is how it works. In the earlier example, the farmer picks up an option on the future he holds. Three months later, if prices in the mandi are still at Rs 650, he will sell. On the other hand, if spot prices move up to Rs 850, he can decide not to go ahead with the sale, pay his disappointed buyer a small penalty, and take his stock to the mandi.

In fact, that is how the exchanges will fix the mandis; not by competing for procurement, but by helping farmers time their visits to the mandi better. In the meantime, as A. Hari Prasad, managing director and CEO of National Collateral Management Services (NCMSL), says, futures and options will keep the farmer safe if prices drop suddenly. The futures lock him into a price — ensuring his safety even if the market tanks. The options leave him free to gain if prices surge elsewhere.

Right now, says Sabnavis, NCDEX is holding seminars for traders in large towns, and telling its brokers in smaller towns to do the same. Yet there are more barriers. For example, people who want to trade have to pay Rs 30 lakh to become members of the exchange.

Small farmers cannot afford that. They will have to become clients of existing members. Also the minimum trade has to be 10 tonnes. To fix both problems, NCDEX is trying to reach out through cooperatives, banks and NGOs. “We need someone who can aggregate, and explain the finer details like margining,” says Sabnavis.

Awareness is not the only hurdle. According to Mor, the core question is reach. How does one get the prices across to Indian farmers? Today, there are 10,000-odd information kiosks in the country. “Even if each of them reaches out to five villages each, that is 50,000 villages. But India has over 600,000 villages. Even if we ignore the very small villages, we will still be left with about 4 lakh villages. The kiosk infrastructure will have to increase eight to nine times to give an adequate reach,” he says.

Also, before anything can be traded, it has to be graded and valued. But there is no grading infrastructure in the country. “For screen-based trading to work, we cannot have independent assessments of quality. We need standardized quality parameters,” says C.H. Hanumantha Rao, the chairman of Hyderabad’s Centre for Economic and Social Studies. Mandis follow a very subjective practice. The auctioneer will just look at a handful of grain from every farmer’s harvest, and set a base price. Another issue is the cost of warehousing. Farmers often need the money from their harvests immediately to finance their next crop.

Cut to Hardoi, a small town in central Uttar Pradesh. Here, in wheat country, Gyanesh Guptaji is busy solving both those problems. He works for NCMSL. The company, an offshoot of NCDEX, is setting up warehouses across India. Guptaji says these will be “open to any farmer who wants to hold his produce after the harvest instead of selling it immediately. Prices always fall just after the harvest. He can sell when prices improve”.

When the produce arrives at the warehouse, it will be graded into one of three categories: premium, standard or discounted. All the details are captured in an account that can be traded. If a farmer needs money urgently, he says, the company can give as much as 75 per cent of the value of the crop as a loan. The stock lying graded, packed and valued in the warehouse will easily serve as the collateral.

Right now, he says, the company can make this payment in a week’s time. But over time, as the banks and other parts of the jigsaw fall into place, farmers will get their money immediately. Today, NCMSL has about 100 warehouses across the country. It is planning to scale that up to a 1,000 by 2007.

In another two years Ravikumar says: “There will be an NCDEX-accredited warehouse after every 40 km.” Guptaji himself is in charge of Uttar Pradesh. He tours the state, talks to warehouse owners and persuades them to sign up with NCMSL. So far, he has selected five warehouses in Hardoi and its neighbouring districts of Shandila, Shahjahanpur and Kanpur, and sent the applications to the head office in Mumbai.

Nothing like this has ever been done before, says Guptaji. But he is sure farmers will come because they are dissatisfied with the trade. The argument that farmers should hold their produce till prices improve is intuitive. Such derivatives have existed in the traditional channel as well. A large trader might agree in advance to buy from smaller ones. The minimum support price is nothing but an option.

A Collaborative Approach

Radha Singh, secretary, department of agriculture and cooperation in the ministry of agriculture, has a tough job on her hands. She runs the department at a time when the consensus in the government is veering to the view that the public sector cannot manage Indian agriculture on its own.

Hints of how that will pan out can be seen in the National Horticulture Mission that her ministry set up last year. India, she says, grows about 146 million-150 million tonnes of fruits, vegetables, flowers, nuts and spices. The government wants to raise that to 360 million tonnes by 2011.

This is an opportunity for the poorest farmers. Says the father of India’s green revolution, M.S. Swaminathan: “High value agriculture is deeply important if you want to make any kind of meaningful dent on the poverty numbers of India.” That shift will not happen unless the linkages between farms and markets are in place.

So far, the onus for creating these linkages has rested with a Gurgaon-headquartered institution called the National Horticulture Board. It has an awful track record. In the last five years, it has managed to help (with a 20 per cent subsidy) 2,997 farmers who wanted to move to horticulture. Remember, India has 110 million farmers. Then, in the last six years, the mission has supported (with a 25 per cent subsidy) 1,354 cold storages. And has spent all of Rs 11.91 crore on 1,200 training and development projects.

So far, says Swaminathan, none of the government’s agriculture missions have fared well. While these are supposed to look at the entire chain from seeds to the market, they always interpret their role much more narrowly. Even the present NHB, he says, is more subsidy- than quality-oriented.

The government itself is disappointed with the NHB, says Singh. She plans to convert it into a technical support unit that will evaluate states’ proposals on horticulture, and so on.

From now on, the push to horticulture will come from many directions. The government has started using local NGOs to ready farmers for horticulture. Capacity building is essential, says Swaminathan. When Korea was moving into high value agriculture, he says, it set up farmer schools and methodically trained half a million farmers every year.

This support system had been in place during the Green Revolution. Back then, the government gave price incentives to farmers. That gave them social security, and the confidence to take a chance. As the Prime Minister said in a speech this year: “There is a problem as the move from a subsistence economy to an economy which uses more of commercial inputs and is dependent on selling its output in the market, risks are bound to increase.

Says Pravesh Sharma, a special senior adviser for the World Food Programme: “Back in the 1970s, after realizing that Maharashtra’s small holdings meant it could not become a cereal-producing state, Sharad Pawar pushed it into horticulture.” He covered all farmers switching to horticulture under the state’s employment guarantee scheme.

Replicating that across the country will call for huge investments. As will the investments in the supply chain, which will be needed to transport the fruits and vegetables swiftly to the market. This time, the government will not make those investments. Too much money is needed, says Singh. The government’s budgets will just be a drop in the ocean. Instead, she says: “I would like to see all the investments coming from the private sector. We can make catalytic investments, at best.”

The Tide That Lifts All Boats

That is easier said that done. The first lot of companies that entered the Indian agricultural scene got badly burnt. Take Satnam Overseas. Some years ago, the export house tried to buy basmati rice directly from farmers. In the first year, it offered Rs 1,350 for every quintal. Unfortunately grain prices stayed low, opening at Rs 1,150 and never moving above Rs 1,250. Satnam ended up overpaying.

When it tried again, says Sanjiva Rishi, general manager (brand and market development), it tried to mimic mandi prices by offering farmers the previous day’s closing price. But that year, prices were climbing fast, and the farmers refused to honour their contract. The company could not buy even 1 per cent of what it had hoped to.

All companies that entered Indian agriculture have horror tales to tell — of facing a competition that paid no taxes, of farmers who tore up contracts, of working under a policy that appeared to penalise large players, a market that was not willing to pay a large premium for quality. The Essential Commodities Act forbade companies from carting produce from one state to another. Thanks to the Agricultural Produce Marketing Committee (APMC) Act, farmers could sell only at the mandis. The Food Adulteration Act had banned entire categories of products, like blended rice.

“When India was suffering from food scarcity, it made sense to ensure that people wouldn’t build storage facilities that might lead to hoarding,” says Vijay Sardana of Centre for International Trade in Agriculture and Agro-based Industries. But now, these regulations make no sense. They just prevent the creation of a level playing field for companies. Admits Singh: “After the mid-1980s, the context for agriculture should have changed. But nothing was done.”

Since the beginning of this decade, the government has been taking a relook at a number of laws in this segment. Take the draft APMC Act. It frees farmers from having to sell only through the mandis. There are two options available. One, they can enter into contracts with companies. The draft has mooted the appointment of a local arbitrator to decide on any disputes between a company and the farmer. Then, it has suggested a new route — direct marketing. Farmers can sell directly from their farms, but after the harvest. This is a distinction that has been lost on companies so far. Contract farming, as the Satnam Overseas experiment shows, doesn’t work very well for crops where prices can see-saw wildly. Then, a new Integrated Food Law, which will allow a new range of products, has been placed before the Cabinet. Says Sardana: “Companies had been lobbying for this ever since the post-WTO imports began entering India.”

The Centre has also rethought the Cold Storage Act and the Essential Commodities Act, which now lets companies move farm produce across states. The Contract Regulation Act, 1952, has been overhauled to allow options. But it is unclear whether the stock or forward market regulators should regulate options. Having said that, the mandis are formidable competition. Creaky or not, they do control agricultural trade in the country. They enjoy enormous clout.

Try this, so far, only Karnataka and Maharashtra have ratified the new APMC Act. The rest, dependant on their mandi cesses, are dragging their feet. For its part, the Centre has borrowed a lesson from the World Bank and is linking future aid to agriculture reform. Similarly, the Integrated Food Law is shuttling between ministries.

The big impetus could also come from organised retail. In the West, supply chains were modernised after the food retailers grew up — they consolidated orders and brought in scale. Today, in India, food retail is slowly starting to scale up. The process should speed up even more once FDI is allowed in retail.

It will also accelerate the movement towards quality. “The promotion of quality is something that the private sector has to drive. But for that, you need large buyers, so that the industry sees the point in grading its stuff because there is demand for it,” says NCMSL’s Prasad. When that happens, the big question is: will there be enough farmers who can supply?

Cut to Jayant Bansal at Ambala. He works for an NGO called Rashtriya Kisan Sangathan. Over the past few months, it has pulled 1,500 farmers together into a local cooperative. In the long run, it wants to help them migrate from staples towards high-value crops. It is now training them in horticulture. This, however, is not a transition that the farmers are eager to make.

They are baulking at the thought of getting into higher-value agriculture unless the NGO can undertake selling what they grow. So Bansal and his team are getting into unfamiliar waters. They are trying to find buyers. He has been talking to corporations like Pepsi, which now wants the NGO to grow and process tomatoes.

This is a win-win. The farmers need a buyer. Pepsi cannot talk directly to 1,500 farmers; the transaction costs will be too high. Then, the farmers might ignore the deal the moment prices go up. But they cannot do that with the NGO, as they are dependent on it for input loans, future deals, and so on.

The stage has been set. Most of these changes should bring about a level playing field — for the farmers and the private sector — over the next 2-3 years. The possibilities are immense. The exchanges will bring about a convergence in prices as the traders learn that if they quote too low a price, farmers will calculate their prices backwards from the futures, subtract the cost of warehousing, and then decide to sell or hold.

As the agricultural supply chain gets restructured, the traditional intermediaries will have to change their roles, comments Brahmanand Hegde, deputy general manager, ICICI Bank. At the same time, we will see the rise of new intermediaries — the warehouses and the exchanges are just that. A whole array of agriculture-based companies are missing in India today. We will see new companies come up — in trading, food processing, commodity warehousing, grading, logistics and retail.

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Whither the small farmer?

However, the piece that seems to be missing from all the action in the agricultural sector, so far, is the small farmer. All the work that is currently being done will help only those farmers who have a marketable surplus. What about the small farmers who constitute 78 per cent of India’s farmers?

Take Shiv Prasad, who owns 2 bighas of land in Lalbalpur, near Hardoi in Uttar Pradesh. When BW met him, he and his family — wife and two small kids — were harvesting their wheat. The harvest has not been good. It had been shaping up well but, right at the end, unseasonal rains resulted in a sudden cooling. The grains are smaller. Last year he had got eight bags of wheat from the land. This year, it will fill just five sacks. “It might just last us till the next harvest,” he said. “But it will be close for the last month or two.”

The government is betting on horticulture to help such farmers. Its logic: a farmer who switches to a growing a vegetable or a fruit will earn more. But small farmers are hesitant to make the shift. If anything goes wrong, they fear, they will not even have anything to eat. Most ask for allied businesses in dairy or poultry instead. Says Mor: “Organisations like SEWA and Amul have successfully aggregated large groups of producers. However, such movements and mechanisms are not present everywhere. We would need to fill those gaps.” Earlier attempts like the small farmer agri-business consortiums have also not gone anywhere. It’s a worry.

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Plans B, C and D

Do we need alternatives to agri-businesses? They will invest in areas where returns are highest. This is an economic rule that governs all companies. For example, Pepsi buys grain from Punjab, Haryana and Madhya Pradesh; but not from Uttar Pradesh. Due to the land holdings, its transaction costs would shoot up. But the result of that is skewed development. Then, cartels can form as readily among agri-businesses as in mandis — all you need for cartels to form is great buyer clout.

One options is cooperatives. They will boost the bargaining clout of farmers. In areas where the private sector hasn’t entered, they can market the produce. But so far, few cooperatives have really worked. Also, can they compete with a private sector enterprise? The latter will have deeper pockets and, perhaps, be more efficient as well. Another way, says Sharma, would be to get a government body to aggregate farmers, and then represent them before private companies.