Wednesday, December 28, 2005

Rice, Roads and Regulations

A key factor that can make markets work better is integration of various sub-markets. And it doesn't happen simply by constructing tarred roads (even that is needed) but by demolishing regulations. Roading is the technical part of integrating markets, the political and more onerous part is the regulatory part. But why integration? Because deregulated common markets will remove transaction costs and foster competition; provide better signals for optimal generation and consumption decisions; and improve security of supply.

So if I sell rice in UP and you sell rice in AP, the Berlin walls of regulations would not easily allow us to trade rice with each other. Consumers at both these places would have to pay higher prices, and a section of the traders are denied opportunity of profits. In fact, I bet there are hundreds of these micro-markets in India that are affected by a labyrinth of regulations. I would be glad to know more about them than the beaten-to-death GDP issue. Here are a few findings from the research paper Market Integration in Wholesale Rice Markets in India authored by Raghbendra Jha, KVB Murthy and Anurag Sharma.
Any given centre in any state is more likely to be integrated on a bilateral basis with other centres within the state than with those outside it. This indicates that there are barriers to market integration across states. ... internal trade is amongst the most repressed sectors of the economy, even today.
There are controls and restrictions exercised by multiple authorities, at various levels. This results in serious barriers to trade at the inter-state and inter-district levels. There are differences in taxes and standards across the country. As a result of these restrictions and differentials the all-India market is fragmented. Traders are obliged to obtain licenses for trading and there are different authorities for issuing licenses for different goods. The process is highly time consuming, cumbersome, costly, variable and invariably corrupt. After obtaining a license the trader is faced with over 400 laws that govern trading. This plethora of restrictions and inherent differentials across the country prevent rational and uniform pricing strategies. The price differentials, in turn, do not reflect inherent market conditions and allow local scarcities to remain. The restrictions on trade prevent arbitrage possibilities, which could possibly help remove short-term price differentials.

Some of the most important trade restrictive laws are:
1. The Essential Commodities Act, 1955.
2. Standard of Weights and Measures Act, 1976.
3. Agricultural Produce Marketing Acts.
4. Various Agricultural Commodity Control Orders.
5. Prevention of Food Adulteration Act, 1955.
6. State Levy Control Orders.

The first Act controls production, storage, transport, distribution, use or consumption of a wide range of commodities. It authorizes the Central Government to issue Orders for “increasing cultivation of foodgrains”, “controlling prices”, “regulating or prohibiting any commercial or financial transactions in food items” and “collecting any information”, amongst other things. The State Levy Orders make it compulsory for private rice mills to supply 7 to 75 percent of their production to the Food Corporation of India and the State Government, for the Public Distribution System. The important point with such Orders is that the price received by the millers is ‘pan-territorial and pan-seasonal’. It is based on the Minimum Support Price for paddy plus average milling cost. Thus, for a major part of their output mills are not free to fix their price in accordance with economic considerations.
There are three factors originating in government policy and impinging upon the market:
a. Quantitative interventions
b. Price distortions, at various levels — farm, wholesale and retail.
c. Heavy subsidies.
Their conclusion sums it all.
Much has been written about state discretion and autonomy in some matters of economic policy in India. This is not the place to debate this point but it should be pointed out that this latitude should not extend to placing restrictions on internal trade. Furthermore, this has nothing to do with decentralization of decision-making. An economy such as the US, which is considerably more decentralized than India’s, still bans most, if not all, impediments to inter-state trade.

Thus there is an urgent need to reform the rules governing interstate commerce in foodgrains and to overhaul the attendant state government tax policies and regulations. There is an urgent need to reform price policy at the levels of producer, wholesaler and consumer. In addition, it is crucial to privatize wholesale grain in free trade and thus improve the efficiency of market signals. These policy measures are long overdue.
Cross-posted on the Indian Economy blog

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