1. Food Security in India: Does the futures market for wheat meet the bill? Prof. K.V. Bhanu Murthy Department of Commerce, Delhi School of Economics, University of Delhi. Affiliation: Professor, Department of Commerce, Delhi School of Economics, Delhi 110007. E-mail: bhanumurthykv@yahoo.combhanumurthykv@yahoo.com Ph: +91-11-27311688 (m) 9811601867 Keywords: Agricultural Markets, Food Security, Commodity Futures Market, Restrictions on internal trade. JEL Code:D4, D52, M31, G14 & N5.

2. Abstract The thrust of agricultural policy during the sixties and seventies was towards restriction on trade. While this might have been the justified in the years of shortages the present trend towards surplus production of foodgrains necessitates a review of such restrictive policies. Also agricultural policy needs to tap the potential of the market by creating the necessary price incentive and the information processing mechanism of the market so as to ensure long-term food security. An efficient commodity futures market along with removal of restrictions may be the right long term strategy for India’s food security. In this context this paper seeks to analyze the long term trends in area, production, yield and prices of Wheat. It dwells upon the question of whether futures’ trading in wheat is integrated with the long-term trends and relationships in Indian Agriculture.

3. Layout This paper is laid out in five sections. The first section is about the issues in agricultural markets. The second section lays down the methodological details. The third analyzes the long term trends in wheat. The fourth section analyzes the relationship between the trends of spot and future prices of wheat. The fifth section examines the problems with the futures market in this regard.

4. Long-term Relationship Right Prices Production Incentives Right Crop Pattern Attracts – technology investment and research Figure 1 Increased long-term productivity and supply Interaction with demand

5. Economics of trading: Costs and spreads There are three types of costs: 1.Order processing cost 2. Adverse selection cost 3. Inventory holding cost These costs are optimized by optimizing the Bid-Ask spreads. Jha, R. and K.V. Bhanu Murthy et al (1999) “Components of wholesale bid-ask spread and the structure of grain markets: The case of rice in India,” Agricultural Economics, V.31, No.2, Elsevier, Amsterdam.

6. D0= Average Demand per unit of time D0 @ Going price S=Surplus SeasonOff-Season Falling stock S O O= Opportunity loss Season Economics of Trading: Inventory holding and uncertainty due to volatility D0 A A = Actual Loss D1D2

7. Volatility and demand DO PO P2 P1 D1D2 Deaton, A. and G. Laroque. “Competitive Storage and Commodity Price Dynamics”. Journal of Political Economy 104(1996): 896-922.

8. Features of Efficient Spot Markets 1.Low arbitrage possibilities exist; 2.Efficient stock and informational flows; 3.Low extremes in price volatility; 4.Expectations are realized; 5.Adverse selection, inventory holding and order processing costs are optimized by traders; 6.Bid-ask spreads are well-managed. Jha, R. and K.V. Bhanu Murthy et al (1997) "Market Integration in Indian Agriculture," September, Economic Systems, Vol.21, No.3, September, pp. 217-234, Physica- Verlag, Heidelberg.

9. Principals and Agents: Market Information and Signals Principal - Farmer: Farm Harvest Price Agent – Wholesaler: Wholesale Price (Signal) Agent – Retailer: Retail Price (Signal) Principal- Consumer: Preferences & demand Secondary Information Flows Primary Information flows Primary Goods flow Primary demandSecondary Goods flow Capps, Jr., O. and P. Sherwell, "Alternative Approaches in Detecting Asymmetry in Farm-Retail Price Transmission of Fluid Milk," Agribusiness: An International Journal, July 2007.

10. Interventions in food markets

11. State Percentage Andhra Pradesh 98.56468 Bihar 89.01433 Gujarat 59.57123 Haryana 19.54613 Madhya Pradesh 56.33779 Maharashtra 88.1841 Karnataka 93.875 Punjab10.33546 Rajasthan 51.80106 Uttar Pradesh34.02208 India 66.73544 Jha, R. and K.V. Bhanu Murthy et al (1999) “Real Consumption Levels and Public Distribution in India.” April 10-16, Economic and Political Weekly, Mumbai. Average Government Supply as a percentage of Total Supply of Wheat During 1970-95

12. Restrictions on trade The restrictions on trade prevent arbitrage possibilities, which could possibly help remove short- term price differentials. Some of the most important laws are: The Essential Commodities Act, 1955. Standard of Weights and Measures Act, 1976. Agricultural Produce Marketing Acts. Various Agricultural Commodity Control Orders. Prevention of Food Adulteration Act, 1955. State Levy Control Orders. Jha, R. and K.V. Bhanu Murthy, et al (2005) “Fragmentation of Wholesale Rice Markets in India” [Review of Agriculture] Economic and Political Weekly Issue: Vol. 40 No. 53 December 31 - January 06, 2006.

13. II Methodological details Data from Agricultural Situation in India, Agricultural Prices in India along with prices from NCDEX have been used for the analysis. As a preliminary exercise we have used a semi-log equation for determining the annual compound growth rates in area, production and yield. We shall be using co-integration techniques with structural breaks for comparing spot and future prices of wheat.

14. Trends in Wheat With the help of semi-log equations. ACGR Area 1 % per annum Production 3.7 % per annum Yield 2.7 % per annum Despite all the restrictions and interventions demand due to population growth is being met.

15. V Problems Unlike many other commodities wheat is a major foodgrain. While in the case of other commodities or financial futures the linkage with the real sector is not so important in the case of foodgrains like wheat it is important to know whether the futures market stabilizes the real sector. It should “mirror” the desirable long term trends. Also commodities such as wheat and rice are related goods. The Futures market may or may not account for this.

16. Related goods Rice on Wheat price for Delhi 1970-99 SUMMARY OUTPUT Regression Statistics Multiple R0.992211 R Square0.984482 Adjusted R Square0.983928 Standard Error0.090286 Observations30 ANOVA dfSSMSFSignificance F Regression1 14.4803314.480331776.3757.07E-27 Residual280.2282450.008152 Total2914.70857 Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Intercept-0.059190.142867-0.414280.681828-0.351840.233463 LWAPIDL1.036639*0.02459642.147067.07E-270.9862561.087021

17. Conclusion If restrictions are removed and government intervention in the wheat market is minimized it would help in the long term stabilization of agriculture. If the futures market helps the process of long term stabilization it is justified. Futures trading should not introduce distortions of its own. This paper attempts at enquiring into whether the futures market in wheat meets the bill.