The Coming 3G Auction Blunder

Shyam Ponappa / New Delhi December 04, 2008

Why tie ourselves in knots instead of building broadband services?

India began systemic reforms in telecommunications over 10 years ago with auctions. You may remember that disaster. Many victors choked on the “winner’s curse”, as has been observed repeatedly elsewhere.* Thereafter, network rollouts stalled, and operators struggled with high-cost installations and unrealistically-priced services, while users suffered self-inflicted limitations for years. Then, there was a radical change. With NTP ’99, high auction payments were replaced with revenue-sharing.

One can fault the revenue-share rates for having been high (disincentives), and there were no incentives for broadband services that would greatly facilitate education, health services, and economic activity and productivity. But there’s no denying the sea-change that swept telecommunications. We now have some 350 million subscriptions, growing at several million a month. From the perspective of the government’s revenue foregone from the auction fees, there’s little doubt that the new revenue-sharing approach has led to much higher collections than could have been imagined from any auction.

Now, with third-generation (3G) technology and services, we face an analogous situation. The spectrum for 3G is to be distributed, and the Department of Telecommunications plans to auction 5 MHz chunks. Users have the same needs, and more so away from the major cities. Namely, proper broadband (at least 500 kbps) at reasonable prices, whether for essential services like distance education or health care services in our scattered villages and rural population, or for commerce, information, and entertainment.

Yet, our policy makers blunder on heedlessly to set up conditions and constraints that amount to binding ourselves hand and foot. Whether it is the TRAI using defective logic in making recommendations for auctions of 3G spectrum, or the Ministry of Telecommunications misapplying principles to make arbitrary awards of rights for spectrum, with selective biases in favour of BSNL or certain private awards, the same lack of good processes, ie, clear objectives followed by rational thinking applied for the common good, informs our approach, policies and procedures.

Many among our elite think they/we are far removed from the blight of these developments, insulated from such needs with our access to good schools and urban services. Let us banish these misapprehensions, because the effects are broad and cut close to the bone, as described below.

Suppose the 3G rights are awarded by auction. A flawed approach and incompetent or misapplied execution look set to ensure that potential foreign investors looking for policy clarity will be left on the sidelines, eg, because stand-alone operators need at least 10 MHz while they can only bid for 5 MHz, or that FIPB approval is required but not guaranteed for winners. With such a capacity for self-inflicted damage, we don’t need enemies to keep us down.

Then, there will be several years of struggle by the hapless winners of the auction, as they fight to balance the realities of a muddled and capricious regulatory environment with the attractiveness of an expanding potential market. After all that time has been lost for enabling services as a contributor to factor productivity, some brave soul/s may seek to bring about change, as happened with NTP ’99. Perhaps their efforts will work, perhaps not, but we will have to carry the burden of our ill-conceived policies as our albatross. Millions of people who could benefit from the opportunities for education, training, jobs (because with good communication links, proximity is not a limitation for knowledge industries, and travel and leisure services thrive when facilitated by communications), will forego those benefits for the foreseeable future. The immigration into the cities that might be stemmed will continue unchecked, adding to our monstrous slum cities. So don’t think your life is not touched by some abstruse spectrum auction…

The best way to distribute spectrum in a developing country is to limit government collections to taxes, with incentives for the wide deployment of services at reasonable prices. (An implicit assumption here, which may be moot, is that tax rates are set for the greatest common good — but I won’t get into that.) This is because additional taxes are inefficient from a societal perspective, as they constitute an inefficient levy and detract from productivity, killing the goose-that-lays-the-golden-eggs. Ideally, spectrum distribution should be combined with the award of the much-delayed unified licences focusing on user services, and not be driven by misplaced enthusiasm for short-term government revenue collection, or an optimum number of providers (we have seven in large cities already), or some specific technology.

For how this affects prices, consider the capital costs of an outright auction versus no such additional burden. In practice, we experienced this some years ago when up-front licence fees were abolished, with a steep reduction in tariffs after many years of very high rates. Even with the imposition of a revenue-share percentage, the pricing of calls halved, then quartered, from Rs 32 per minute for mobile calls to settle at less than a tenth of that today.

Those who insist on collecting additional revenues from the sale of public property — investigative journalists, the CVC, the CAG, and any judiciary review… — should first consider desirable end-objectives (user services), before haring off after the ‘rightful’ pound of flesh.

If the government must charge for spectrum, the next-best way is to charge existing service providers a percentage of revenues that is not onerous, with incentives for extensive rural coverage, eg, reduced charges. After all, if we are seeking rural communications services, we should be paying people to come out and provide them… Low spectrum charges will help sustain low tariffs.

If we absolutely must have an auction, use a criterion that combines service offering (eg, broadband at 500 kbps or 1 Mbps), plus percentage revenue-share, plus rural coverage, with a higher weightage for coverage, eg, x connections for STD code 8274. Prohibit sales/participation/alliances for some period, with penalties for breach.

If you find these arguments compelling, act now. Mobilize your political, professional and judiciary contacts with a single, uncomplicated message for our political leadership: This country needs excellent communications services at the lowest possible cost to bootstrap our population’s capabilities. People need enabling circumstances and opportunities, and communications is a profound enabler. If you can, consider a Public Interest Litigation suit.

shyamponappa@gmail.com

* For disastrous 3G auctions in Europe, see 'Winner's Curse', Chris Anderson, Wired, May 2002: http://www.wired.com/wired/archive/10.05/change.html

Seeing the Whole Elephant

Shyam Ponappa / New Delhi November 23, 2008

While the world scrambles to prevent chaos, we seem to be moving in a dream...


The accompanying graphic has six opinions on how to assure growth, from economists and industry association heads at the India Economic Summit 2008, sponsored by the World Economic Forum and the CII.

These views give some idea of how much dissonance there is on what should be done for growth. Five of the six agree on investment in infrastructure (the top row). Thereafter, only two-at-a-time agree, on (a) regulations without stifling markets, (b) stimulating consumption: one through tax cuts, another through rate cuts, and (c) incentives to banks to lend.

Is infrastructure spending a good solution? Consider the evidence: our problem from even before the economic crisis was not funding for infrastructure, but inability to get projects implemented. For instance, there are the highway projects that started off well enough, then slowed over the last couple of years. In the last few months, many have been given up by our top constructors. A report in this newspaper attributes this to unrealistic project estimates and/or high interest costs.* Other instances are the steel and aluminium projects stalled because of land acquisition policies and practices. Therefore, efforts to spend on such projects are likely to have little immediate effect until the structural problems in their award and execution are resolved. What it will do is help anchor better expectations — one peg to raising confidence — because it will signal better developments for the future. But we have to survive the present in good enough shape to be able to enjoy the future…

In such circumstances, one would expect a certain alignment between the opinions of the industry chambers and of bankers, but this coherence is missing. Is this getting lost in the cacophony of a typical Indian dialogue-of-the-deaf, where everyone talks while no one listens, so there is no discernable common thread, let alone harmony and symphony?

However, three of the six opinions do address the immediate crisis of profits, revenues, and of continuing investment and consumer spending, the necessary ingredients to keep growth on track. This is what needs attention: the logic and urgency of time lines — what needs doing now, to keep from falling over the cliff.

From the perspective of a time line, let us distinguish between what can be done quickly for immediate effect in this crisis, as against what can be done for the medium- and longer term. First on our list, most likely, would be rate cuts, because of the impact and ease of execution. These would be in the SLR and CRR to provide a massive psychological cushion of liquidity, and in the repo and reverse-repo rates to bring down the tide of interest costs. Combined with the announcement of a redefined ‘priority sector lending’ which would include rollovers of loans except where there is demonstrated bad-faith, and a system (to be developed and introduced in the near-to-medium term) of online monitoring for compliance, with incentives and penalties. This would lead to credit availability for projects and businesses, now made profitable by the repricing of funds and projects. Real estate and property development, however, will need rescheduling with major asset re-pricing.

In terms of urgency, these would be the first steps to alleviate the situation immediately. Followed by steps to rationalise taxes, e.g., on petroleum products (Kelkar Committee recommendations). The objective: to reduce input costs and multiplier effects on the overall cost structure. Keep our steel mills, automotive companies and airlines running, our airports building… What this would achieve is continuing domestic-demand-driven growth, encouraging reasonable levels of consumption, and retaining employment. As for government revenues, the logic of profit-sharing, so clearly understood for petroleum exploration and some aspects of telecommunications after NTP ’99, would ensure that government makes much more from fat geese that lay many golden eggs, than from strangulating the few that are presently scratching about to eke out a living.

If this is not done, in all likelihood we will have escalating bankruptcies of capital-intensive enterprises, which, because of increasing repossessions and collapsing prices, may lead to a risk we have been spared so far: bank failures. If these events occur, the likely consequence is a severe recession in India as well — not for six months, but for many years — because both investment and spending will dry up, as will growth. And the great benefit of having become an attractive investment destination will, instead, become a frightful return to the uncertainties of pre-2003.

Those inclined to see a glass always half-full would say (next year and the next): But growth is 4-6 per cent in catastrophic global times. The rest of us will see it as running at half-speed, with all the attendant consequences for a talented people, once again held down by our collective inability to work things out for the common good.

shyam ponappa at gmail dot com

* ‘Few takers for highway projects’, BS November 17, 2008:
http://www.business-standard.com/article/economy-policy/few-takers-for-highway-projects-108111701067_1.html

Ambivalence Adds To Uncertainty

Shyam Ponappa / New Delhi November 06, 2008

We need decisive action on credit and interest rates.

The rate cuts together with steps like the RBI giving enterprises access to foreign exchange are welcome initial steps. They are too tentative, however, and more urgent action is required.

The present developments are like a less severe precursor. After a total loss of economic momentum, remedial actions will have less effect. The economy is staggering under a liquidity crisis from inappropriate tightening and high interest rates, leading to stalled projects and spending, with businesses floundering on the brink of distress sales, bankruptcy and layoffs. How can India’s domestic market-driven economy with its fundamentally sound banks be revived?

Simple Arithmetic

The logic is simple: banks lend to enterprises only when they see profits and expect to recover loans. Profits have tanked, and must be revived. Profits will rise with adequate liquidity, low interest rates and strong disincentives not to lend (ie, a low reverse-repo rate — which banks earn for deposits with the RBI), together with rationalized taxes as for ATF for aircraft provided revenues can be maintained.† Revenues will sustain and grow only if there is confidence; otherwise, there will be no spending. Hence the urgency for the government to orchestrate its actions with the RBI, banks, businesses and industries, to apply a concerted strategy for building profits.

At present, the strength of our economy built in the good years in healthcare and pharmaceuticals, airlines, hotels, banks and financial services, metals and manufacturing…is being squandered in battling a recessionary spiral. What’s worse, that spiral was induced and is now aggravated by self-inflicted high funding costs (global rates are lower) and tight credit. This is why enterprises sought external borrowings, and are now suffering with the depreciation of the rupee.

Reversing The Downward Spiral

The negative trend can be reversed by addressing four drivers of the present economic crisis: confidence, liquidity and its sibling, credit, and interest rates, ie, costs. Instead of dithering with half-measures — small rate cuts, ambivalence between keeping rates high to attract remittances, or low to promote growth — the RBI and the government need to act decisively to make India a high-growth market and attractive investment destination. Radically increased liquidity and decreased interest rates (and rationalized taxes) can improve profits dramatically. While global cues will affect foreign investment, convergent action could temper this. These steps are needed urgently, before there is irreparable damage.

* Confidence: All or Nothing

In a crisis, confidence is an all-or-nothing holding action. Tweaking a few props is like putting some timber in the path of a massive flood: it cannot avert the damage. Therefore, instead of business-as-usual, there must be well-orchestrated actions affecting liquidity, credit and interest rates, together with a resolute stance, such as assured access to foreign exchange (as has been done). The restoration of confidence is needed before there is further damage from stalled projects, distress sales of assets, bankruptcies, and massive layoffs.

* Liquidity

A goal-oriented approach is advisable, taking cognizance of the facts, with objectives defined to converge. In the case of liquidity, the issue is the extent of shortage. An assessment of needs must cover the events leading up to the crisis, including the strangulation of liquidity and credit to enterprises because of escalating CRRs and interest rates over the last two years and early this year, coupled with high government and PSU borrowings, eg, the oil and fertilizer subsidies through banks. This ‘backlog’ is one component of liquidity needs. The disappearance of international trade credit is another. Funding needs for enterprise activities and projects is the third, FIIs repatriating when stock prices rise is the fourth, and a revival of consumer spending the fifth. This is the demand for which the RBI should provide. The order of magnitude required may be two to three times what was done last week, achievable by a further cut of 2 per cent in the CRR (presently 5.5 per cent), to signal a ‘liquidity bank’.

* Credit Availability

Once there is liquidity, banks must be encouraged to lend based on acceptable criteria. This needs more than admonitions from the Finance Minister. The most direct signal is a disincentive: a low reverse-repo rate, so that banks cannot simply park funds profitably with the RBI (they may still opt for government bonds for safe returns, for which other disincentives need to be devised to discourage excess). True, given our risk-averse bias, there are many reasons for bankers to hesitate in making lending decisions according to their business judgment. This bias will take time to grow out of, but the process needs to be helped along by structuring systemic support that rewards productive lending over unduly risk-averse behaviour. Unfortunately, that isn’t all: structural support also needs to be devised to guard against arm-twisting by predatory politicians, and to protect bankers from them.

* Cost of Funds

To rid ourselves of unnecessary, self-imposed constraints, we need a further cut of at least 2 per cent in the repo rate. There is no conceivable reason for imposing high costs for money. As for attracting foreign remittances, their incentive is the spread between offshore deposit rates (low in many places) and Indian rates. Some economists argue that high demand for funds keeps India’s rates high, but finance professionals — finance and economics are different domains — will tell you that the demand for funds is always high in an active economy, while a major component of the cost of funds is a regulatory construct. It is bankers who ration supply on the basis of their criteria, unless compelled to do otherwise.

Also, high rates inflate India’s cost structure unduly, as the cost of money has an input multiplier effect on other prices, ie, interest costs as a percentage of revenues, or of total costs, understates the detrimental effects of high interest rates.

With lower interest costs, Indian enterprises will earn higher profits. If growth is nearer potential, enterprises will attract more from investors, including foreign investors, as was the case in the last few years. This is why the RBI and the government must act decisively on building confidence, liquidity and credit, and cut interest rates.

shyamponappa@gmail.com


For recent views that support these measures, see:

'There's no need for irrational pessimism', Deepak Parekh interviewed by Shobhana Subramanian: http://www.business-standard.com/india/storypage.php?autono=339444

However, Dr. Rangarajan says the RBI has done enough:

'The financial crisis and its ramifications', C. Rangarajan:
http://www.hindu.com/2008/11/08/stories/2008110850911100.htm


† Added later (November 11, 2008): As a matter of fact, it turns out that the government has again done too little in cutting duties and taxes on ATF. A piece in the Business Standard titled, 'Taxes, costing methods make Indian ATF prices highest in Asia-Pacific', by Rakteem Katakey shows that despite a 36 percent cut, prices in India at Delhi and Mumbai are 60 percent higher than in Singapore and Kuala Lumpur.

Urgent: Bank Credit At Lower Rates

Shyam Ponappa / New Delhi October 28, 2008

Focus on profit margins through loans at lower rates, and rationalised taxes

Now, unlike in the Great Depression, central banks and finance ministries know it’s better to run deficits and print money than to suffer massive losses of output and jobs —Niall Ferguson (Harvard Business School)

Really? Well, let’s just hope this is true of India… To be fair, the finance ministry and RBI acted with alacrity, recognising that irrational panic causes devastation and must be stopped immediately. Now, however, they need to do more — much, much more. Let’s examine what they should do, and why.

Desperate Straits

The headlines sum up the situation: delays in expansion plans for steel and real estate development, plummeting stocks in aluminium, banks, oil, cement… airlines collapsing, equity issues even for solid companies like Hindalco devolving on the underwriters, and the Baltic Dry Index (which tracks shipping rates for bulk cargo such as iron ore) dropping to the lowest level since February 2003 after peaking in May. Consumer spending is drying up, with the stock markets in free fall. The auguries are not good for The Great India Story. What we need now is decisive action, with no half-measures.

Airlines

What should be India’s policy objective? Get the travel and leisure services sector to flourish, thereby keeping our air and other travel services surging at a healthy clip? Or kill off the boom in travel and airlines with all their attendant multiplier effects that provide an excellent and practical way to capture our demographic dividend, making use of our cultural and natural features? There is no doubt about what is best for the public interest: build travel and leisure services as fast and as well as we can. If the government accepts this objective, the policy actions needed are clear: one aspect of the problem is attributable to inappropriate taxation that makes ATF for aircraft more expensive than most places in the world. Therefore, rationalise ATF prices so that the cost structure supports travel growth, and ensure the availability of credit assessed on sound criteria at low rates.

Construction

Keep enterprising developers and their projects scudding along, if on a more realistic asset-price trajectory? Or let them perish by the wayside, stalled projects gaping in the economic wilderness we wreak for ourselves? Again, there is little doubt that the public interest is in keeping the momentum going, although the crossover points for balancing construction momentum with sustainable asset and input prices are a complex problem with a knife-edge solution we must find and then traverse.

Liquidity…

While our monetary and fiscal authorities have understood and responded to the need for liquidity, it seems less well-understood that too-little can be as damaging as too-late, and that we are now at the too-little stage. A key requirement is that this liquidity results in credit access for individuals and businesses, and that bankers don’t “tuck their money under their mattresses,” so to speak. That’s with regard to cash for maintaining — just maintaining, at a slower pace — momentum in the real economy. So, this is the first need: a lower Cash Reserve Ratio and much more liquidity.

+ Lower Interest Rates…

Liquidity alone will not improve depressed profit margins, which have dropped from 20 per cent-plus to 10 per cent. Morgan Stanley apparently expects profits to be at 15 per cent going forward, with trend growth for GDP at 7-7.5 per cent; let’s hope that happens, although it seems very doubtful. Therefore, there is a two-fold need right now: (a) high liquidity, combined with (b) low interest rates. Without the first, it will all be too late. Without the second it will still be too late, because reduced profit margins will not sustain growth momentum. Improved profit margins will not only help growth, they will also stem the slide in stock prices, which will derail India’s otherwise sound prospects based on its large domestic market.

= Profit Margins

Other things being constant, the RBI’s and finance ministry’s aim should be to protect profit margins, so that growth is maintained and stock markets stabilise. This may help retain FII investments, possibly even attracting further investments, as well as obviating redemptions on over $150 billion of foreign currency convertible borrowings (FCCBs) from next year. If FIIs continue to sell on every uptick and if these FCCBs are redeemed, there will be continuing undue pressure on profit margins and on the rupee.

Required Steps

A good way to anchor profit margins is for enterprises and individuals to have ready access to credit to run their operations. Better yet, if credit is available at lower rates, profit margins will improve — as much as 30 per cent for every 10 per cent reduction in borrowing costs, by one estimate in better times. This requires more liquidity at much lower rates, with the oversight to ensure that bankers make sound loans across the board, and that loans are not squandered on asset bubbles.

As former RBI Governor and ex-Finance Secretary S Venkitaramanan puts it*, if the RBI adopts the way the rest of the world measures inflation, that is:

a) on the basis of changes in consumer prices as against wholesale prices (the CPI rather than the WPI),

b) calculated from month-to-month with adjustments for seasonal variations, instead of a point-to-point comparison with a 12-month interval, that is, ‘year-on-year’,‘headline’ inflation will be much lower, nearer 7 instead of 11 per cent. This in itself justifies interest rates being 4-5 per cent lower. Several others support the user price index: Ila Patnaik of the National Institute of Public Finance and Policy writes that Indian economists have been advocating using seasonally adjusted monthly inflation data for years, giving instances of how the RBI’s year-on-year measure has led to inappropriate actions; V Sridhar details why the WPI, a producer price index, is inappropriate, and elucidates why the consumer indices currently misrepresent the facts; Surjit Bhalla has written in this newspaper about seasonally adjusted monthly consumer prices.**

There is absolutely no logic in curtailing our prospects with high interest rates, now that the bogey of inflation experienced recently is recognised as having happened for reasons other than domestic interest rates. On the contrary, there is good reason to capitalise on India’s fundamentals to boost economic activity and jobs when few places in the world show comparable prospects. We have the domestic markets to get our beleaguered construction, metals, automotive and airline sectors moving, provided other corrective steps such as rationalising taxes on ATF for aircraft are also addressed together with cheaper credit.

So, we need big cuts in the CRR to increase liquidity, and in the repo rate, the rate at which banks borrow from the RBI, to lower borrowing costs. A reduction of 3-4 per cent in interest rates could double profits.

Simultaneously, there is a need to redefine and expand the scope of ‘priority sector’ loans, currently 40 per cent of bank lending. To make this work, an essential adjunct is the design and deployment of an effective regulatory system for online monitoring and timely action and redress, including incentives, disincentives and penalties. For best effect, this needs to be done by a multidisciplinary group, and not by the RBI alone.

Focus on Profit Margins

India’s authorities need a singular focus on profit margins. Higher margins can be achieved through more credit at lower rates, well-applied and properly channelled. This will revive growth and help attract more investment in a virtuous circle.

shyamponappa@gmail.com

* ‘Global financial crisis: reflections on its impact on India’, S Venkitaramanan: http://www.hindu.com/2008/10/18/stories/2008101851380900.htm

** ‘The Thursday syndrome’, Ila Patnaik: http://www.indianexpress.com/news/the-thursday-syndrome/351388/
‘Mismeasuring inflation’, V Sridhar: http://www.hinduonnet.com/2008/05/05/05hdline.htm

Changing Mindsets: The Economy & Financial Turmoil

Shyam Ponappa / New Delhi October 2, 2008

There is a way India can seize the moment and make the most of the present circumstances

How will India weather the global meltdown? It depends, because there is a way India could make the most of the present circumstances. It would require congruent action by policymakers on factors they have some control over and can manage. Clarity and prioritisation in objectives is the first step, while effective execution is the next.

High Profitability

The single most important aim should be to ensure that enterprise profits continue to grow healthily. This, in turn, implies (requires) continuing growth in investments in infrastructure and projects, and in consumer spending.

To elaborate:

• The continued profitability of enterprises is all-important — for all legitimate enterprises operating in India, publicly- or privately-owned, in every sector. As for foreign-owned enterprises, there is a second-order benefit when they improve the quality of products and services, capacity, and efficiency in production, logistics and service delivery in ways that are beyond the ability of locally-owned enterprises. These improvements can act like a rising tide, making for better human resources and systems.

• Ensuring the implementation of projects in progress is a major driver of continued profit growth. This applies as much to infrastructure as it does to new projects and expansion, because it is when projects are completed that output and profits grow, whether directly in specific entities, or indirectly by the facilitating increase in infrastructural capacity, supply and efficiency.

• Another significant driver of profit growth is consumer spending (within reasonable limits) to absorb the existing and additional capacity and growth. This implies, crucially, to a continuation of high savings, which then fuels further investment.

Paradoxically, if consumer spending is restrained, it will not only hamper growth directly, it will also constrain project implementation and plans for future investments.

Why Profits?

High profits result from robust, productive economy activity. As it happens, the economy is well-positioned for this after several good years, resulting in investment plans that are in the process of being executed. Investments in infrastructure in the next three to five years are expected to create assets amounting to almost as much as the total asset stock built in the last 60 years (Figure 1).*

Figure 1: Capacity Addition Planned 3-5 Years

The importance of profits to owners is clear: cash flows, access to inexpensive capital for equity and debt, and the ability to attract talent. There seems to be
less appreciation, however, of just how important profits are to the government. We get a sense of that if we consider the enormous (government) investment needed in infrastructure, the effect of robust tax collections on the government’s ability to invest, and the likely effect of a slowdown.

A large and growing domestic market offers opportunities in this time of global turmoil. Strong continued growth in profits will elicit capital inflows reversing the weakness of the rupee, and help offset the increased costs of imported oil. The combination of profits and capital inflows will instil confidence in domestic and foreign investors to continue to invest.

If this happens apace, the rupee will strengthen. There should be clarity on the net benefits of the rupee’s strength or weakness: overall, it is most beneficial and equitable if we have a stable, strong rupee based on fundamentals and confidence in the economy, perhaps while seeking the benefits for some years of an undervalued currency through exchange rate management — that is, subsidising exporters at everyone else’s expense — to the extent possible.

Prospects For Profits

A year ago, analysts were expecting corporate profits to grow through 2009 at 18-20 per cent. Since then, there have been steep declines, and for June 2008, 1,638 companies reported profit growth of 10.6 per cent (Figure 2).

Figure 2

Prospects for profit growth are ominous because both the drivers, project implementation as well as consumer spending, are declining. Project implementation declined as a percentage of projects announced from 53 per cent in December 2006 to 45 per cent in June 2008. Power projects slowed from 50 per cent in December 2006 to 40 per cent, transport services from 62 to 45 per cent, and mining from 50 to 37 per cent. Meanwhile, consumer loans also declined steadily (Figure 3).*

Figure 3

Rejuvenating Profits

For profits to accelerate, (a) project implementation needs to improve, and (b) consumer spending has to grow.

Interest rates affect both. Financing costs within a range are policy choices affected by perception, mindset and execution. The benefits from a reduction in borrowing costs have been estimated as a 30 per cent increase in profits-before-tax for every 10 per cent fall in interest rates, or an increase of Rs 25,000 crore in profits for a 1 per cent reduction in interest rates. Also, lower rates will help to increase consumer loans and therefore spending, provided credit is available. An improvement in both factors is likely to have a positive impact on project implementation.

Therefore, steps need to be taken immediately to accelerate enterprise profits by:

• Reducing interest rates for enterprises targeted for working capital and project investment with prudential norms, with close oversight.




• Restarting consumer spending by reducing interest rates for targeted retail lending (say, for specific categories of consumer loans such as first houses, vehicles, consumer durables and commercial projects with high equity participation and sound drivers), while anchoring lower inflationary expectations as is being done.
  
  


• Making credit available for productive use, rather than repressing bank credit growth. This is especially important when conventional credit is overstated because of oil bonds and loans to oil companies to cover losses from administered prices.

• Rationalising processes so that projects can be executed and not held up by convoluted regulatory and procedural impediments. This needs a focused ‘detoxification’ exercise for clearances, so that projects are not stalled.
  
  

Such changes mean a redesign of the RBI’s reporting and monitoring processes and systems, integrated with IT and communications, as well as in project clearances. They have the potential, if managed successfully, for major improvements in India’s approach to managing its economy, and for sustaining high GDP growth.

shyamponappa@gmail.com

*Source: ICICI Prudential;

http://www.scribd.com/doc/2608019/India-Everthing-to-play-for

Changing Mindsets About Food Prices

Shyam Ponappa / New Delhi September 4, 2008

Food pricing, supply and demand

There is a radical disconnect between reality, policies, and public opinion on a number of issues in India. This is not only disconcerting, it reflects a mindset that is not conducive to resolving these issues beneficially. Consider some examples:

- the state of our food grains production, pricing, supply and demand,

- supply constraints that are structural, but have triggered monetary responses leading to reduced consumer spending and dampened business investment, slowing GDP growth to 7.9 per cent in April-June 2008 (perhaps heading as low as 7 per cent for 2008-09?),

- the shoddy and worsening state of our roads and highways, despite considerable effort and vast expenditure, or

- the misrepresentation by naysayers of nuclear power as an adjunct to other methods of power generation.

Are these just differences of perception and opinion, or attributes of a cacophonous gridlock arising out of uninformed incompetence, misinformation, illogical thinking, or worse? Compounded perhaps by the complacency of thinking one knows it all without having to ascertain the facts: a lack of application of mind. The dogmatism that arises from knowing little and understanding even less, or from biases that skew perceptions and aims.

I’ll address aspects of the first issue below, and the others subsequently.

Food Supply & Demand

One aspect of the problem has to do with supply not increasing as fast as demand. A study by Icrier estimates that given current trends, domestic demand for total cereals will exceed domestic supply after 2020 (Figure 1 - Note: unequal intervals in the chart’s x-axis distort growth rates).

The implication is that with continuing high levels of anticipated world demand, if we do not increase domestic supply through better research and application, extension, and/or strategic investments abroad with supply contracts, high food prices could well get worse in the years ahead.

Repressed Food Prices

A second aspect of this issue relates to pricing. India’s food grains procurement prices have been repressed relative to the market and to world prices for many decades. Small farmers get the worst of it, because they have to sell as soon as they harvest, i.e. when prices are generally low. They cannot afford not to sell at procurement prices which are far below market, as shown by the Minimum Support Price in Figure 2 (international prices in the chart are unadjusted for subsidies, transportation and marketing costs). Yet, while the National Commission on Farmers chaired by Prof. M S Swaminathan recommended an increase in procurement prices, even this newspaper(!) ran an editorial that these recommendations were wrong because this would lead to higher prices and more inflation, without providing data and context, or further explication. While scepticism is healthy to the extent of seeking facts to arrive at conclusions, such statements without supporting data or reasoning appear rather arbitrary and uninformed.

Data & Analysis

The need and collective responsibility is to help establish and address the relevant facts, as well as to make them widely accessible. For instance, studies of relationships such as are shown in Figure 2 need to be done whenever circumstances warrant. For this, the data have to be continually aggregated and available, and studied. For instance, Figure 2 itself is from a US Department of Agriculture compilation of the sort not readily available from Indian sources.

Figure 2

Perversely, many of the same pundits who argue for low food procurement prices make the opposite argument in the case of oil and petroleum products, i.e. that prices should be increased, despite our fuel costs being much higher than in many other countries — which will indeed increase inflation across the board. What justifies these contradictory positions: pass through fuel price hikes, which are an input cost to many products/services, while repressing food prices? Certainly not the simple inequity that makes farmers more expendable, one hopes?

Policies From A Solutions Mindset

There need to be long-term, concerted, well-coordinated efforts involving the Centre and the states to address the underlying supply deficiencies. This needs to be driven by analysis of the facts. Start with tracking realities and analysing the data. This country’s burgeoning population is finally becoming more able to afford the food they need and want. Keeping procurement prices low holds down incentives for production, apart from inflicting great hardship on small farmers who have to contend with rising input costs and general prices, while selling their produce for less.
Additionally, as a consequence of inflation in the market price of food grains, oil and metals, the government has adopted a policy stance to slow the economy to repress demand. This actually results in depriving some people of food, i.e. the effect is the opposite of what the policies should be aiming for in the case of food.

The answer, therefore, lies elsewhere: in (a) addressing supply, while (b) providing price relief for food to those who need it, whether by directed subsidies to some consumers depending on their needs, or even in combination with general subsidies (limited pass throughs). Above all, we have to try to figure out and do whatever needs doing to increase supply — with research, applied research, effective extension in the field including better practices, organising the logistics, i.e. better facilities for transport and storage/warehousing, the pricing of farm-to-market and to poorer consumers. Along with this, there is also the need to organise timely and appropriately designed and delivered credit, insurance and inputs.

Given the shortfall, we may have to actively pursue augmenting domestic production by making strategic investments, as in the case of oil, with buy-back arrangements from abroad, e.g. Myanmar for pulses, Canada for wheat and edible oil.

These interventions are much more difficult than tweaking interest rates, but solutions with this approach are likely to get better results.

shyamponappa@gmail.com

'Containing Inflation' - A Myth

Shyam Ponappa / New Delhi August 7, 2008

We need problem-solving, not confused rhetoric or misguided action

It’s as if there’s a conspiracy to beat India’s growth surge to pulp, making sure the economy is hamstrung in the months and years ahead. Those of us seeking rational signals in the economy have watched incredulously as the cost inflation from edible oil, food and energy was misconstrued as overheating from 2006, leading to a series of misguided, self-destructive steps. Moreover, there has been a baffling obscurantism spread by many different quarters — the RBI, the Finance Ministry, and many economists including from the private sector, the media and press — spouting irrational sophistry about the need for the sledgehammer of rising interest rates “to contain inflationary pressures".

Mutterings about the pass-through of international energy prices are of a piece. The effect of pass-throughs is to increase inflation further, and unlikely to reduce short-term demand (i.e. control inflation), unless the increase is so large that the economy slumps because of a drop in demand.

The build-up with the convoluted explications started with the RBI’s nagging suspicion [sic] in October 2006 that there “could be elements of overheating in the Indian economy”. This led to the hike of the repo rate from 7 per cent to 7.25 per cent, making financing more expensive in the Indian economy. By December 2006, the RBI raised the cash reserve ratio (CRR) by 50 basis points to reduce inflationary pressures, and by the end of January 2007, raised the repo rate to 7.5 per cent citing the demand-supply mismatch in food. By March 2007, the repo rate was raised to 7.75 per cent and the CRR by 50 basis points to 6 per cent citing continuing inflationary pressure. In June, the repo rate was raised to 8 per cent.

The benefit of hindsight makes it evident to all of us including the RBI and the government that these measures have done nothing to improve the supply of food or edible oil, or for the surge in petroleum prices. Inflationary pressures are expected to continue into 2009 despite these actions that have slowed the economy. So, what is the purpose, other than reducing growth precipitously? All that increasing rates and financing costs will do is to kill India’s growth story. This shows clearly in the figure in the slowdown from 2007 in GDP growth and in the Index of Industrial Production.

Increasing rates can only curb inflation by reducing growth so much that demand is curtailed for those whose ability to buy food increases because of higher earnings. That’s what the obfuscatory talk of “containing demand” boils down to: forcing the economy to slow so that some people can afford to buy less food. It is also clear that by increasing demand through the loan waiver and NREGS without addressing supply constraints, the government’s actions increased inflationary pressures. Likewise if the Pay Commission recommendations are implemented now instead of delayed for a year.

What rising financial costs have done to the Indian economy is to vaporise all prospects of high growth and profits. Further aggravated by the global slowdown and the repercussions of the continuing meltdown of home loans and overleveraged US consumers, this has reduced the prospects of currency inflows that have so far provided a ballast to India’s dream investment run.

Corrective Actions Require Substance, Less Form

The government and RBI could take a constructive, problem-solving approach to growth, inflation, interest and exchange rates, provided their purpose is solution-oriented and not a preoccupation with appearing to take action. These involve (a) avoiding gamesmanship — loan waivers, NREGS, the imperfections of the PDS — and addressing more effectively (b) fuel taxes and pricing, and (c) supply and distribution.
The first step may be to acknowledge that in the short term, there is little that can be done to ameliorate high food prices with one exception, while taking measures to improve supply over the medium and long term. The exception is interim steps to help the poor through food coupons that enable direct subsidies through existing retail systems.

Over the medium term, a system using smart cards needs to be planned and implemented through the retail network that provides direct subsidies for food and fuel to lower-income users. On fuel, there has to be a concerted move to reduce taxes and remove anomalies in petrol and diesel pricing (i.e. subsidising private vehicle owners, inappropriately encouraging the growth of small diesel vehicle manufacture and sales).

Increasing Supply

Equally important, we have to learn to take the good examples of applied research and extension to make them more of a reality. It’s as simple or as difficult as getting good applied research work done in the field, and providing convincing extension support to local farmers. I had the opportunity recently to review an excellent instance of applied research, combined with sound extension practices that ensure supplies of fresh vegetables wholesale, organised and channelled flawlessly.

Of course, unique aspects make this not easy to replicate. The first is a well-managed farmers’ cooperative. This was organised in Ladakh by the late Rigzin Namgyal Kalon of Leh with great foresight, integrity and ability some 40 years ago. Mr Kalon had the ability to see how farmers could prosper by organising themselves for supplying farm produce to the sizeable army presence in Ladakh. When Mr Kalon passed away in 2002, his peers had the good sense to appeal to his family to continue to lead their effort. The second is a wholesale buyer (the Army). The third is the presence of an institute engaged in effective applied research in agriculture, horticulture and animal husbandry in Ladakh. Started as the Field Research Laboratory under the Defence Research and Development Organisation, this is now the Defence Institute of High Altitude Research. This combination of elements provides the ingredients for a winning formula for the farmers of Ladakh.

Here are object lessons for those who see the potential for cooperatives, but think it cannot work in India. After all, there is Anand (the Gujarat Cooperative Milk Marketing Federation Ltd) and its extension to the National Dairy Development Board to prove that it can be done. We have to stop thinking of shortcuts, learn to replicate these ways, and teach ourselves to collaborate.

shyamponappa@gmail.com

Inflation, Fuel Prices & Taxes

Shyam Ponappa / New Delhi July 3, 2008

Revive growth by taxing fuels less and lowering interest for productive loans.

Let's hope India's growth prospects are not obliterated by oil-price induced inflation and attempts to control it. It is necessary, though, to develop ways to properly address these issues, including fuel pricing and taxation. Separately, lack of fiscal rectitude — unfunded loan waivers, oil bonds, etc. — has no remedy other than responsible behaviour.

A Senior Fellow at the Brookings Institution offers this caveat for China's inflation: ‘In these circumstances, continuing to raise borrowing costs would be a mistake.'* We should pay attention.

Not the RBI's stock response of raising interest rates and the CRR to reduce inflation by squeezing demand. To be fair, many academics and journalists condone the RBI's actions. However, there are two contra-indications:

a) Higher rates and less credit do not alleviate imported fuel prices.

b) Similar reactions to previous oil shocks in India led to economic disaster followed by radical political fallout.

Policy makers should consider this before the situation becomes irretrievable.

Oil Shocks & Inflation

Our major problem is an oil shock. Leave food pricing aside, as well as metals and cement. These are additional complications, but considering them together confuses rather than clarifies analysis in the first instance.

Hammering imported fuel price-rise with high interest rates, tight liquidity and lower credit lowers inflation only by crushing the economy. As long as fuel prices are high, overall inflation will stay high. A simple simulation with short-run demand for fuel remaining inelastic demonstrates this.

The two charts represent monthly average indices (like the WPI) of food, fuel and metals, starting at 100 in January, rising to a maximum between August and November to approximate India's seasonal pattern. Chart 1 shows high inflation in fuel and metals, with an average annual increase of 25 percent (an illustrative pass-through of international prices for fuel). Food shows an ‘acceptable' rise of 5 percent. Total annual inflation (Chart 1) works out to over 18 per cent.

Chart 1

Now assume the RBI acts so that inflation in metals is reduced to 5 per cent also (Chart 2). Fuel prices remain the same because of imports. The resulting annual inflation is still well over 11 percent (Chart 2). In fact, the cascading inflationary effect of fuel prices may render 5 percent inflation in food and metals to be unrealistically low.

Chart 2

So, what are the ways out? The problems are slowing growth (a self-induced recession), compounded by high fuel prices, limited bank credit with crowding out by loans to oil marketing companies, and slowing FDI. Good solutions must address these.

Directed Bank Credit, Lower Rates

A real effort is needed to direct credit at low rates for productive purposes, e.g., primary housing, construction and manufacturing investments, with tighter margins, interest, and CRR for more speculative activities, e.g., other housing and commercial development. The aim should be to rebuild economic momentum to collect taxes from profits, rather than through high imposts that restrain profits, while discouraging speculative investments.

Fuel Pricing and Taxation

Fuel is heavily taxed by the Center and the states. One report puts excise from the petroleum sector at 48 percent of total collections. Most states reportedly earn 25 percent of their tax revenues from fuel taxes. Until the reductions in early June, these imposts comprised customs and excise by the Center (of which states get 30.5 percent), plus state taxes ranging from 20 to 33 percent. These amounted to 52 percent of the petrol price and 32 percent for diesel.

When duties were cut, states like Kerala cut sales tax/VAT, then rolled back cuts because airlines were not reducing prices. The airlines, hit by prohibitive fuel prices, needed the cuts to survive. Efforts to apply a uniform 4 percent on aviation turbine fuel across states stalled, with the states demanding that the Center cut excise. So, while there is professed concern for consumer interests, they're really fighting over the spoils. (On their part, consumers must expect to pay reasonable charges for utilities.)

Indian consumers pay very high prices for fuel in purchasing power parity terms. Also, because of the high prices of petrol and diesel, more than half of India uses dirtier fuels like coal and wood.

In place of sophistry, we need a balance between reasonable, transparent Central and state taxes and commercial viability, with well-planned subsidies for fuel for freight and public transport, including aviation. To the extent fuel for private transport is reasonably priced, it will support a healthy automotive industry as an engine of growth, along with housing, construction, manufacturing and services.

Concomitantly, we need well-planned development of all forms of public transport, combined with conveniences like bicycles and electric cars for hire. Subsidies such as Delhi's offer on electric cars can help, but radical changes are needed in diesel pricing/incentives for cars.

Differential pricing for personal and public transport can be collected periodically, e.g., with periodic pollution certification, while point-of-sale smart cards would be capital-intensive but efficient. Cards also enable surcharges for larger vehicles on city streets, into demarcated areas, and better traffic management.

shyamponappa@gmail.com

* "The right way to beat Chinese inflation", Wing Thye Woo, Senior Fellow, International Trade and Economics, the Brookings Institution (BS June 27, 2008)

Sensible Subsidies?

Well-conceived subsidies, e.g. for food and fuel, can be in the public interest.

Shyam Ponappa / New Delhi June 05, 2008

Subsidies are controversial and easy to condemn. Yet, subsidies abound in the real world. Despite theoretical arguments to the contrary, we have to live with the manifestations of national or territorial interests. This is where subsidies come in.

There appears to be general acceptance of subsidies for basic food needs, i.e., in subsidising needy buyers. Subsidies for growing food are more problematic. Some argue that market processes provide self-correction, e.g., reduced consumption as prices rise, substitutes, imports to counter shortages. This reasoning ignores the facts. First, people who spend more than half their income on food do not switch staples; such rice-eaters don't switch to wheat, nor do such wheat-eaters switch to rice. Second, traditional exporters like Thailand and Vietnam have restricted exports at this time. Third, India's needs are so large that even a small proportion is massive relative to world rice exports. Fourth, food subsidies are used worldwide including in America and the EU as an instrument of policy, and cannot be wished away.

Another sector where subsidies abound despite being controversial is energy/fuel. Morgan Stanley estimates that half the world enjoys fuel subsidies.* As with food, we would be well advised to structure energy subsidies in a way that is beneficial to the public interest.

Food Subsidies

A possible approach to rice and wheat subsidies in India is as follows:

a) Give farmers access to market prices.

b) Replace the PDS with direct subsidies at retail linked to income for needy buyers.

c) Provide comprehensive, integrated, end-to-end solutions. Read: think through, develop, and put in place every piece of this system (avoid patchy implementation).

The underlying principles are: avoid distorting producer prices, subsidise needy users directly, and plan each step and integrate the processes we need into a coherent system, with prioritisation (don't assume it will just happen).

Production support too is essential, especially (i) timely inputs, (ii) finance, and (iii) insurance. These services are not even designed properly — forget delivery. But we have to make a prioritised beginning. The first steps are market access and terms.

Many consider low food prices to be an unqualified benefit. This is not true for farmers, who are exploited by such prices which are out of sync with overall prices, and have been for decades. To be sustainable, benefits and costs must be equitable. While farmers do not pay income tax and get other breaks, these have to be compared with benefits to other sectors, e.g. tax breaks to IPL investors, or lawyers being exempt from service tax.

Growing food grains has to be made profitable, and getting farmers market prices is a start. Farm prices are way below market because procurement prices are low, and smaller farmers need to sell when they harvest. The fact that procurement works at low prices is itself the problem. Therefore, organisation, logistics, and finance need to be developed and instituted so that market prices flow through to farms. (Large farmers who can store produce often opt out of rice cultivation, as in Kerala and Karnataka, because they find even market prices unattractive compared with cash crops.) Buyers need retail access through smart cards scaled to income, with a cutoff.

The difficulties in budgetary resolution and in execution are bound to be legion. Like "good roads", these things are easier said than done; but as with good roads — ah, good roads — so difficult, yet so necessary.

Several benefits can accrue from such market organisation. Farming will become more effective and efficient, with incentives built into prices, and less distortions. Besides actualising the professed concern for small farmers, there may be greater benefits from an improved polity with less scope for populist giveaways — "free" electricity, rice at Rs 2/kg (although it may need the Election Commission to work hard to extirpate such practices…) — and for dipping into the till.

Extension to other sectors: energy/fuel

The above approach can be extended to inputs like fertilisers, as also to other sectors like energy, with the induction of appropriate domain-specific concepts like windfall taxes. Economists advise against energy subsidies, and the Commission on Growth and Development** does so, too. But there are two good reasons for India to try to develop and implement a sound program:

- Fuel prices cascade with a burgeoning ripple effect throughout the economy. Whatever the levels of efficiency and energy intensity, the consequences of increasing fuel costs are staggering. Perhaps advanced economies can be left to self-correct — in reality, they are not. Emerging economies certainly need intervention because of their early stage of development.

- Most governments do provide energy subsidies. Take America: in 2007, Federal energy-specific subsidies were estimated at $16.6 billion. Of this, oil and gas received $2.37 billion. Further, state and local taxes were estimated at an additional $4 billion, funding of oil and automotive infrastructure at over $40 billion, and environmental cleanup at over $230 billion (about Rs 10,000 crore).# This in an advanced economy, which results in Exxon being able to pay taxes of $30 billion. In other words, subsidies are used to make the economy productive, and add to government revenues.

A well-conceived programme for India, if it were possible to develop, could be very beneficial to the public interest. For example, it would remove the absurdities of cheap diesel for cars, with smaller subsidies for petrol — perhaps linked to 2- and 4-wheelers with less subsidy for the latter, high disincentive charges for SUVs on urban roads (again through smart cards), no LPG subsidies at higher income levels, with support for cooking fuel/kerosene linked to income, and more incentives for solar power, for instance.

This is what our government can do: apply itself to devising what works for us, and make it happen. E.g., use subsidies for:

- Market access for farmers and needy buyers, and

- The creation of efficient, responsible giants among our energy companies, instead of emasculating them, or subjecting them to state-sponsored plunder, or lackadaisical neglect.
With careful structuring for each domain and proper integration, this approach could perhaps be extended to other sectors, such as pharmaceuticals, metals, IT, telecommunications (broadband), automotive and transport, and dairy and agricultural products.


shyamponappa@gmail.com

* http://www.economist.com/finance/displaystory.cfm?story_id=11453151

** http://www.growthcommission.org/index.php?option=com_content&task=view&id=96&Itemid=169

# Federal Financial Interventions and Subsidies in Energy Markets 2007: http://www.eia.doe.gov/oiaf/servicerpt/subsidy2/pdf/execsum.pdf andUnion of Concerned Scientists' report: http://www.monitor.net/monitor/10-9-95/oilsubsidy.html

Grain Shortages & Fallow Land

Shyam Ponappa / New Delhi May 01, 2008


What ails wheat and rice farming in India, and how to fix production and distribution.

Mercifully, A Good Harvest…

With another lease of life, this is an opportunity to consider how to mitigate food shortages. Food supply and demand are closely matched. Sudden developments — drought in Australia, pests in Vietnam — create imbalances. Defensive national reactions exacerbate these imbalances. With fears of shortages receding in India after good wheat harvests and with record prospects for rice, now is the time to think and act for the future.


Farm Economics

Figure 1 shows the procurement or support price for rice with production costs and wholesale prices from 1980-2005.

Figure 1

http://www.ers.usda.gov/publications/err41/err41b.pdf

The salient points:

a) Production costs ranged around Rs 2,000-2,500/ton in intensive cultivation areas (Punjab). Anectodal sources estimate lower costs for less intensive cultivation, e.g. in Coorg, Karnataka, with lower yields of 1.2 tons/acre, versus 3 tons/acre in more productive areas.

b) Market prices ranged around Rs 12,000-13,000/ton barring two spikes. However, India's farm prices were often below world prices adjusted for transport and marketing costs.*

c) Procurement/support prices were around Rs 4,000/ton, one-third the market price. Small farmers typically cannot hold out for better prices.This, together with higher profits from cash crops, is why farmers stopped growing rice in fertile areas like Kerala and Karnataka. Many switched to cash crops. Many who didn't left their lands fallow, reducing supply potential.From the 50s to 2000, India's production of wheat and rice turned from deficits to surpluses. Our approach has been confused by lack of clarity on food security objectives, the balance of interests of producers, suppliers (the market supply chain), consumers, and politicians indulging in populism — ‘acts of ecological suicide', in Prof. M.S. Swaminathan's phrase. Examples are free electricity in AP and Punjab by the Congress governments, and the rice-at-two-rupees-a-kilo ploy originally by the TDP, used more recently by the DMK and the Congress. There were also sins of omission: lack of organisation and marketing support, and lack of or attrition in extension capabilities, with R&D a question mark — who knows what's there?

Food Security

It helps to be clear about the goal of food security. If this is not clear, market fundamentalism argues for reliance on imports. Imports appeal to consumers, but have been unreliable. Food security is therefore a conscious choice, heavily subsidised in America and Europe.

One way to rebuild is to choose what result we want. If it is food security, we might aim for farming without subsidies ultimately like New Zealand, but only after a period of many years of (a) market prices for producers, and (b) direct subsidies on a progressive scale to consumers, to the extent subsidies are affordable. These choices work best when the factors and their relationships are understood.

Low profitability of food crops results in small changes in demand having large effects on price (Figure 2).

Figure 2


Historically, wheat and rice prices declined from the mid-70s.
From 1998 to 2002, India experienced wheat and rice surpluses together with declining per capita consumption. By 2006, however, there was a wheat deficit, with higher outlays for subsidies but declines in real terms in procurement prices between 2000 and 2006 (details in USDA report). Weak growth in production, relatively low yields, and low growth in consumption constrained by low income comprise the elements of the problem.


Meanwhile, the downward trend in global food and commodity prices changed by 2003 (Figure 3). Prices rose for wheat and rice, along with crude oil.

Figure 3


The IFPRI estimates rising prices through 2015 (Figure 4) . Meanwhile, India's shift from sheltered domestic markets to an import-oriented stance coincided with this change in price trends.

Figure 4

What Should We Do?

The National Commission on Farmers chaired by Prof. M S Swaminathan recommended five areas of action for an end-to-end solution.*** A practical way to begin implementing this daunting charter is to disaggregate it and adopt a "ballooning" approach in phases: prioritise a subset of initial elements for the first phase; then a second, larger subset in the next phase; then a third subset, etc.

Phased Implementation

The government could start by giving farmers market prices for stocks, and directly subsidise consumers with lower incomes: give food to the poor. The most efficient way, although difficult to institute, would be to use smart cards. The next best would be food coupons. The distribution could be integrated through retail markets, disbanding the retail PDS and the NREGS. The CACP could structure progressive subsidisation so that, e.g. those whose basic food expenses comprise more than a certain percentage of income (60%?) get the most subsidies (100%?), and there could be a cut-off point for no subsidies, e.g. basic food expenses at 20% of income. These issues need good decision support modelling to help determine gradation, cut-offs, and probabilistic inputs, e.g. weather conditions (with awareness that outcomes do occur beyond modeled assumptions).

A possible strategy premised on food security might include:

1. Market prices for producers;

2. Organise market access;

3. Distribute subsidised wheat/rice on a graduated scale directly to consumers (smart cards/food stamps through retail shops);

4. Dismantle the PDS retail system (and the NREGS, with trade and services [occupational] training, e.g. Bharti's retail training — this is a major effort requiring considerable planning in itself);

5. Irrigation/water management schemes in a sustainable, evolutionary plan;

6. Soil, inputs and practices (i.e. timely credit/insurance/soil/seeds/nutrients/pest management at reasonable cost);

7. R&D — Extension.

- Items 1 and 3 substituting for 4 should be straightforward to implement, although execution on a large scale quickly (3 and 4) would not be trivial.

- Item 2, organising market access, may be much more complicated.

- The next three (5, 6, 7) are very complex and need new paradigms and cutting-edge design and technology (e.g. the medium: IT and broadband, as well as the content). Once given proper attention, they are likely to take years to develop and roll out. Occupational and services training for retail, hospitality services, construction, welding, equipment maintenance and repair… medical transcription … would be a separate, major endeavour, ideally integrated as part of a systemic solution.

My next article will deal with energy, which is closely linked. That leaves manipulation, misappropriation, and political incentives, also closely linked, to be addressed.

shyamponappa@gmail.com

* ‘Indian Wheat and Rice Sector Policies and the Implications of Reform', Shikha Jha, P.V. Srinivasan, and Maurice Landes; Economic Research Report No. (ERR-41) 52 pp, May 2007: http://www.ers.usda.gov/publications/err41/err41b.pdf

** ‘Rising Food Prices: Dimension, Causes, Impact and Responses', Joachim von Braun, Director General, International Food Policy Research Institute: http://documents.wfp.org/stellent/groups/public/documents/resources/wfp175955.pdf

*** See Shobha Warrier's interview on Rediff for a recap: http://www.rediff.com/money/2007/jun/07sld1.htm

From the Business Standard, August 26, 2009:

Not high enough

Support prices for rice and pulses pegged too low

Business Standard / New Delhi August 26, 2009, 0:58 IST

The government’s decision to only marginally hike the minimum support prices (MSPs) of paddy, pulses and selected oilseeds, and to freeze the prices of other crops at last year’s level, is unlikely to go down well with farmers in a drought year. The timing of the announcement of new prices is also flawed, as kharif sowing is virtually over in most of the country. On paper, the paddy MSP has been upped by Rs 100 a quintal to Rs 950 for common varieties, and from Rs 880 to Rs 980 for fine varieties. But considering that the government had paid a bonus of Rs 50 a quintal on paddy last year, this year’s actual MSP hike works out to only Rs 50 a quintal, or about 5 per cent, which is of no consequence in view of the high ruling prices of rice and the escalation in the cost of production due to deficient rains. The MSPs of the major pulses have also been stepped up by small margins, but here too the new prices range from Rs 2,300 a quintal for tur (arhar) to Rs 2,760 for moong, which are low when compared to the prevailing market rates.

The government’s decisions seem to have been guided more by concerns of food price inflation than protecting the interests of the farmers, who are already in a difficult year. But this approach may prove counter-productive as the low MSPs may prompt farmers to shy away from selling their stocks to the official agencies, making it difficult for the government to leverage its grain reserves for taming open market food prices.

MSPs are relevant only in a few states, where the official gain procuring agencies operate and where farmers have marketable surpluses, produced largely from irrigated lands. These farmers have to incur extra expenditure this year on running their irrigation pumps for longer hours because of the shortage of rainfall. Diesel consumption in the rural areas has gone up substantially, even as the prices of diesel were raised last month. Labour costs have surged due to the implementation of the National Rural Employment Guarantee Programme. Other costs, including those of plant protection chemicals and transportation, have also swelled. Unfortunately, these factors have not been taken into account. Nor have the prevailing domestic and international prices been taken into account while fixing the new MSPs. The only option for the government now is to announce a bonus on the MSPs of paddy and pulses so that the shortfall in the output of these essential commodities in the kharif season can be made good, even if partly, through larger and early planting of rabi crops.