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Expert Committee on Commodity Futures: Agreements and Disagreements

In its recent report, the expert committee on commodity futures concludes that futures trade in India has increased the price volatility of largely traded commodities (urad, chana, wheat) during periods of excess liquidity. It finds an increase in prices for commodities that have small market sizes and scarce deliverable supplies (mentha oil, wheat). In contrast, futures trading has led to a reduction in volatilities and aided better discovery for other commodities (soya oil, hessian). It appears that futures trade in agricultural commodities is beneficial for only those commodities that fulfil the basic selection criteria for futures trading accompanied by stringent and timely regulatory actions.

Expert Committee on Commodity Futures: Agreements and Disagreements

Tulsi Lingareddy

trading on wholesale and retail prices of agricultural commodities; (ii) depending on (i) to suggest ways to minimise such an impact; and (iii) make such other recommendations as the committee may consider appropriate regarding increased association of farmers in the futures market/trading so that farmers are able to get the benefit of price discovery through

In its recent report, the expert committee on commodity futures concludes that futures trade in India has increased the price volatility of largely traded commodities (urad, chana, wheat) during periods of excess liquidity. It finds an increase in prices for commodities that have small market sizes and scarce deliverable supplies (mentha oil, wheat). In contrast, futures trading has led to a reduction in volatilities and aided better discovery for other commodities (soya oil, hessian). It appears that futures trade in agricultural commodities is beneficial for only those commodities that fulfil the basic selection criteria for futures trading accompanied by stringent and timely regulatory actions.

The views expressed in this article are personal.

Tulsi Lingareddy ( is with the Clearing Corporation of India, Mumbai.

Economic & Political Weekly

august 23, 2008

he expert committee on commodity futures (ECCF) under the chairmanship of Abhijit Sen was constituted in March 2007, following the delisting of four foodgrains from futures trading and in the wake of the consistent increase in the rate of inflation and in response to the concerns expressed by various fora including the 17th report of the Parliamentary Standing Committee of the ministry of consumer affairs, food and public distribution. The committee finally submitted the report in May 2008.

At the outset, it was disappointing to note that the findings of the report turned out to be inconclusive when everyone associated with the commodities markets had been waiting to know the impact of futures trading on spot prices. More surprisingly, the committee members have decided not to present any views on the delisting of futures in 2007 in the summary and conclusions chapter as it was not a part of the terms of reference. Nevertheless, the chairman of the expert committee and three other members have expressed their conclusions on the delisting in the supplementary notes.

On the other hand, the intensified debate on commodity futures trade through various journals and media following the delisting has brought out some distinct stances of the stakeholders. Considering the recent studies and ongoing debate, an initiative is taken to understand the reasons for agreements and disagreements among members, while looking at the intricacies of the findings of the expert committee.

Differences on Terms of Reference

The committee was constituted with the following terms of reference: (i) to study the extent of impact, if any, of futures commodity exchanges.

However, there was a strong difference of opinion among the members of the committee. The chairman of the committee, Sen, opined that the terms of reference were not comprehensive and did not cover the broader question of the usefulness and need for commodity futures markets, whereas Sharad Joshi indicated that terms of reference were ambiguous.

Selective Inquiry

Let us look at the data series and commodities chosen for inquiry.

Data: In order to find the impact of futures trading on price trends and volatility, the committee has used wholesale price index (WPI) data as it is considered “a closer proxy of producer prices than retail pri ces”. The point to be noted here is that the price series used in the study were weekly and monthly averages across the markets. For the daily price analysis, instead of making any independent attempts, the committee has quoted the findings of an NCDEX study.

Commodities: Of the total 24 prominently traded agricultural commodities in futures markets, the committee has excluded three commodities, viz, guar seed, guar gum and mentha oil, as they do not feature in the WPI basket.

However, trade volumes in guar seed and guar gum accounted for more than 50 per cent of total volumes in futures markets during 2004 and remained one of the most traded agricultural commodities. On the other hand, mentha oil also gained a significant share of about 5 per cent in 2006-07 (Table 1, p 36). Omission of such significant volume contributing commodities from the detailed price analysis may overlook some important information that may aid in understanding the impact of futures.

Contrary to this, the futures volumes in non-basmati rice were negligible and never actually picked up but the committee has extensively analysed its impact on spot markets and understandably concluded that there was no significant impact of futures trade on their prices.

Thus, the approach of the committee was apparently not comprehensive in terms of the selection of data series as well as commodities. Consequently, the results and conclusions arrived based on the selective inquiry could have missed out some potentially important information.

Focus on Price Trends

Prior to looking at the price analysis carried out by the committee, it is important to note that the economic objective or purpose of futures trading is to reduce price fluctuations that primarily arise from s easonality in production and consumption of commodities by providing hedging instruments. While serving the purpose, futures markets also disseminate price signals that may provide the direction of the future spot prices and aid in the integration of spot markets across the country. Beyond this, the futures markets, theoretically and logically, have no role in either and irregularities from the purposive influence of prices. While the purposive i nfluence of prices taking advantage of market inefficiencies may increase volatility, a scarce supply situation may lead to unidirectional increase in prices.

When everyone is expecting a price rise, it may be thought that there are no dissenting opinions. All opinions would seem to converge over a price rise. It is thought that under these circumstances, if speculators enter the futures market, they would also be buyers rather than sellers and their buying activity may further aggravate the price rise. The futures prices will then stand above the spot prices and would be rising over time [GoI 1980].

In addition, it is important to understand that if a rise in spot prices after the introduction of futures trading is seen as an adverse impact, then a fall in spot prices after futures trade without support from fundamental factors to that extent is equally bad for the farmers/producers.

Hence, the impact of futures trade on spot prices can best be evaluated in terms of their effectiveness in decreasing volatilities and seasonality. The unidirectional rise in prices can be identified with futures trade only under specific market (scarce/constrained supply) conditions of the underlying commodity.

Towards this, the committee has analysed the price impacts both in terms of trend

Table 1: Trends in Turnover of Agricultural Commodities (Rs crore)

January-December 2005 Share January-December 2006 Share January-March 2007 Share

Agri (total) 879149.1 100.0 1285372.0 100.0 245426 100.0

Guar seed 337844.9 38.4 326344.4 25.4 35766 14.6

Gram 166587.5 18.9 341035.7 26.5 40145 16.4

weekly WPI data was carried out for 21 commodities. The results indicated that 14 of them (chana, pepper, jeera, urad, chillies, wheat, sugar, tur, raw cotton, rubber, cardamom, maize, raw jute and rice) witnessed a rise in their prices, while the remaining seven (soy oil, soy bean, rape seed/mustard seed, potato, turmeric, castor seed and gur) posted a fall in their prices in the post futures trading period. Thus, the impact is adverse in the case of an increase or decrease in prices if there was no corresponding change in fundamental factors.

The committee drew a conclusion that the apparent trends (rise or fall) in prices in the post-futures trading period could simply be on account of “normal cyclical adjustments” but the report did not provide enough empirical evidence to that extent.

On the other hand, the report has attem pted to find the extent of contribution by the rise in prices of selected commodities to the total acceleration in inflation during the post futures trading period. Based on certain discretion criteria on the rate of change in inflation, the report noted that the price rise in the case of chana, chillies, urad, wheat and rubber had shown clear evidence that inflation did accelerate following the introduction of futures trading. Though these five commodities accounted for about 32 per cent of total volumes in agricultural futures, they have only a 1.9 per cent share in the WPI. Hence, though the rise in prices was substantial, it was not reflected in an

Urad 106012.3 12.1 145333.9 11.3 3004 1.2 equal magnitude at the aggregate level

Mentha oil 19354.3 2.2 63041.6 4.9 11241 4.6 in the WPI.

Tur 24055.8 2.7 25696.7 2.0 2529 1.0
Soy oil 67204.2 7.6 85861.6 6.7 28331 11.5
Guar gum 35301.8 4.0 15980.5 1.2 1458 0.6
Soy seed 14493.9 1.6 22145.4 1.7 8620 3.5
Pepper 9213.0 1.0 60905.8 4.7 31891 13.0
Jeera 10879.8 1.2 33124.5 2.6 38241 15.6
Wheat 9072.7 1.0 28828.8 2.2 1409 0.6
Red chillies 3431.3 0.4 35432.6 2.8 6805 2.8

Source: Nath and Lingareddy (2008).

increasing or reducing prices under normal conditions as they cannot change production or consumption (demand-supply).

That being said, one cannot rule out the potential adverse impacts that futures trading can have by sending wrong signals to the spot market due to the inefficiencies growth (rise or fall) and volatility growth in the periods of pre- and post-futures trading but the focus was apparently on trend growth rather than volatilities.

Trend Growth/Inflationary Impact: The price analysis using both monthly and

In addition, the committee analysed the impact at the aggregate level using the weighted average WPI of the selected 21 commodities and various other WPI aggregates and concluded that it was not possible to make any general claim that had a higher inflation acceleration in commodities with futures trading.

However, if the significant changes in price trends brought by futures trade at individual level are not reflected at aggregate levels (primary articles or WPI, consumer price index (CPI), etc) due to their negligible weight in the aggregate indices, as it happened in the cases of urad and mentha oil, then it cannot be said that the

august 23, 2008


futures trade has no significant impact on spot prices. It can only be implied that the observed impact of futures was not passed on to overall inflation due to their insignificant weight.

Volatilities in Spot Prices: On the other hand, the primary objective of futures trading is to bring down volatilities and help in price discovery. Towards this, the findings of the committee indicated that 11 of 21 commodities have shown an increase in volatilities during the postfutures trading period based on weekly as well as monthly WPI data series (Annexure I, p 42).

Contrary to this, the findings of the volatility analysis by the NCDEX based on daily data indicated that 15 of the 24 t raded commodities posted a decline in volatilities in the post-futures trading p eriod while only three recorded an increase in volatilities. The category of reduction in volatilities included wheat, chana, maize, urad, jeera, pepper, etc, the “sensitive” items as the committee r eferred them.

Table 2: Volatilities in Urad (FAQ) Daily Prices, Mumbai

2003-04 2004-05 2005-06 2006 (Jul-Dec)

Standard deviation (SD) 94 143 543 413

Mean 1347 1597 2719 3470

Coefficient of variation (CV) 7 9 20 12

Historic volatilities (annualised SD) 21.2 25.3 38.5 31.2

Similar results were found using the price data compiled by the TV 18 Source: CMIE.

Taking account of those contradictory findings of the NCDEX, primarily because “clearing takes place on a daily basis, monitoring daily volatility is not only preferable but also necessary for purposes of futures market operations and day-today management of credit risk”, the committee concluded that “no general or d efinitive association can be claimed b etween introduction of futures and spot price volatility”.

At this juncture, a few important points need to be noted. Firstly, if the committee believed that the volatility analysis of prices would be more relevant using the daily data series, then why was the WPI series analysed and not the daily data? Secondly, the source provided by the NCDEX was the NCDEX itself, even for the pre-futures analysis. How could this be

Economic & Political Weekly

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possible when the NCDEX did not even exist prior to futures trading. Thirdly, there was a distinct increase in volatility of foodgrains in the post-futures trading period, whether due to fundamental factors or of futures trade or both. One needs to verify this on a case-by-case basis.

Cases of Rise in Price Volatilities

Considering the importance of the role of futures trading in reducing volatilities, a brief analysis of daily data published by the Centre for Monitoring of Indian Economy is presented here. For the benefit of the readers, urad futures contracts in imported variety were offered for trade in July 2004 but gained significant volumes only in February 2005. The volumes have grown manifold with a sudden spurt from September 2005 to March 2006 as can be seen in Figure 1 (p 38). A corresponding spurt in prices was also evident from the chart, though there was no corresponding change in the supply of imported urad during that period.

The volumes have declined equally sharply following the restriction on the introduction of new contracts in the imported urad variety while the existing contracts were allowed to trade until their specified expiry date. The modified urad contracts allowing the trade of the desi variety along with the imported variety were introduced in July 2006 and the volumes started picking up momentum in September-October 2006. The rise in prices did follow. However, the rumour of banning futures in urad had depressed the volumes and prices as evident from Figure 1.

The volatilities in terms of coefficient of variations as well as annualised stan dard d eviations were calculated from July to June from 2003-04 to 2006 (July-December) for urad. There was distinct increase in volatilities in the post-futures trading period, particularly with the spurt in futures volumes. In a ddition, urad futures prices have even witnessed absurd trends during the highly liquid period, probably on account of purposive influence and excessive speculative activity (Appendix I, p 42). Similar results were arrived in the recent studies Indian Institute of Management, Bangalore [IIMB 2008 and Nath and Lingareddy 2008], as already noted in the report.

Thus, while studying the impact of futures trade, the committee has largely focused the price analysis on the WPI and to some extent on the CPI confined mainly to the inflationary impact with a little a ttention on price volatilities and the a ccompanying fundamental factors.

Excluded Commodities

The price analysis of the report did not cover guar seed and mentha oil as they do not come under the WPI basket but acknow ledged the findings of the IIMB study indicating a fall in volatilities of guar seed.

In this context, it is worth mentioning the results of a study conducted on mentha oil by Sahadevan (2008). Results indicated that mentha oil price rose to Rs 662.45 in 2006 from Rs 352.5 in 2005. The trend showed that the spot prices have strengthened after futures trading began in April 2005. At the same time, there was no decline in the supply but in fact a significant and steady increase in the production of mentha oil from 14,000 metric tonnes in 2004 to about 22,000 metric tonnes in 2006, with a substantial increase in acreage from 31,000 hectares to 40,236 hectares during the same period (a change in cropping pattern).

Further, the volatilities in mentha oil have increased during the periods of high liquidity and the surge in volumes and prices declined to a significant extent


12th Annual Conference of The Indian Political Economy Association

Theme: Inclusive Development and Shifting Power Balance. Venue: National Institute of Technology, Kurukshetra. Date: 15th and 16th November, 2008.

Contact Address: Prof. V. Upadhyay, Department of Humanities and Social Sciences, Indian Institute of Technology, New Delhi – 110 016.

e-mail: Website:

with moderation in volumes and prices following strict regulatory measures as mentioned in Appendix II (p 42) of the expert committee report [Lingareddy 2007].

Similarly, the study conducted on guar seed prices by the IIM indicated that the volatilities in guar seed declined while seasonality in prices increased in the post-futures trading period [IIMB 2008; Lingareddy 2007]. Hence, the exclusion of commodities that distinctly contributed a significant share in futures volumes for a considerable time led to the omission of important information.

On the whole, it was evident from the results of the committee’s report and a number of recent studies that the volatilities in prices have increased with a spurt in futures volumes. A unidirectional i ncrease in price was also witnessed in the conditions of scarce supply and small size of the market or deliverable supplies.

Fundamental Analysis

In order to find the extent of fundamental factors responsible for the apparent trends in prices of the commodities traded in futures, the committee has studied the supply trends in the post-futures trading period but confined to only four commodities that were delisted. However, no justification was provided as to why the detailed fundamental analysis was provided only for the delisted commodities when the committee has decided not to present views on delisting. At the same time, it was not mentioned in the terms of reference.

Although a brief analysis on the other sensitive commodities was presented in Appendix II of the report, it was mostly confined to the trends in futures volumes, observed speculative activity and the regulatory measures taken to bring down the price fluctuations.

Nonetheless, the committee concluded that futures could not be held responsible for the price rise in the case of tur and rice but an unusual increase in prices, beyond the changes in fundamentals, was noted in the case of urad and wheat in the liquid futures trading period. Further, while analysing tur and rice, the committee has apparently not taken liquidity as the criteria, because tur was liquid for only a few months from July 2005 to March 2006 and there were hardly any volumes observed in wheat as presented in in rice futures. Plausibly, under such con-A ppendix II. ditions no impact of futures trading could The committee noted that in order to be expected. serve the purpose of risk mitigation at

affordable transaction and hedging costs,


there should be a fair consonance between The committee, since it unanimously con-improvements in physical trade and the cluded that there was no clear evidence on pace of growth of futures markets. an adverse impact of futures on spot, has recommended measures to reduce Improving Farmers’ Parti cipation: The p otential risks and to improve farmers’ committee has recom mended a number of participation. Nonetheless, there was noth-measures for impro ving farmers’ particiing new in the measures and most of them pation in futures markets, directly and had been suggested in earlier reports. indirectly, through the development of

more suitable derivative products, a well-For Minimising Potential Risks: The organised price dissemination system. committee has recommended some spe-Though the recommendations were highcific measures for minimising potential ly appreciable, participation of farmers risks, through upgrading the quality of in futures, parti cularly in direct trading, regulation by both the Forward Markets appears to be wishful thinking under the Commission (FMC) and exchanges, with present circumstances in view of not only an emphasis

Figure 1: Spot Prices and Volumes of Urad

on designing of Prices Rs/Q

Volumes Rs lakh contracts that 4500


encourage the

301000 4000 Spot price

participation of

251000 3500

hedgers. Par

201000 3000

ticular emphasis

151000 2500 Volume

needs to be put

101000 2000

on avoiding the

51000 1500

approval of such

1000 28/7/ 28/9/ 28/11/ 28/1/ 28/3/ 28/5/ 28/7/ 28/9/ 28/11/ 28/1/ 28/3/ 28/5/ 28/7 28/9/ 28/11/ basis risk is likely 2004 2004 2004 2005 2005 2005 2005 2005 2005 2006 2006 2006 2006 2006 2006 Source: NCDEX, CMIE.

contracts where 1000

to exceed spot price risk so that approved futures con-the current state of the functioning of tracts are less subject to the valid criticism f utures markets but also the constraints on made now that some contracts favour only the farmers such as lack of awareness, speculators but not those who wish to small market size, suffi cient capital hedge. The committee has recommended t owards margins and other fees at the the setting up of a consultative group and e xchanges, etc. a high level committee that would help in enhancing domain knowledge and the Other Issues Addressed regulatory system respectively. The committee also addressed trader con-

In this context, it may be appropriate to cerns and speculative activity in certain mention that the contracts need to be de-commodities. signed based on the criteria suggested by the previous committees (sufficiently large Traders’ Concerns: The committee has market size, no substantial government in-also brought to focus the apprehensions of tervention, etc) in order to ensure the effi-trade associations (cartels) existing in ciency of futures trading. Towards this, the various commodities, indicating that their case of abnormal price b ehaviour subject-criticism on futures markets was to take ed to purposive influence on prices due to advantage of the fragmented spot markets small market size was noted in case of prevalent with information asymmetry, urad (Appendix I). Further, the case of which would not be possible when the f utures markets turning inefficient with prices are discovered through the elecsubstantial government intervention was tronic platforms of futures exchanges.

august 23, 2008 EPW Economic & Political Weekly


Although there may be an element of to help bring efficiency in agriculture mar-other commodities. The pattern is evident exploitative motive in some cases, there keting and increased benefits to all the from Table 3; initially, the share of guar may be genuine cases of concern as well. stakeholders. seed was the highest with more than 50 Because reports indicated that when there per cent, later they shifted to commodities was a steep surge in urad (imported vari-Speculative Activity: The committee has like urad, mentha oil, pepper, jeera, ety) prices in futures during 2005-06, the also acknowledged the presence of high c hillies, etc, following various regulatory exporters in Myanmar had raised the ex-speculative activity in certain commodi-measures implemented. The details port prices taking signals from the futures. ties. “Speculators tend to take position p rovided in Appendix II of the EC report, Similarly, in the case of mentha oil, the where there is more liquidity and volatili-also supported this shifting pattern of volsudden jump in futures prices without a ty. This is the reason for high trading in umes and the consequent fall in volatilicorresponding support from the funda-commodity with low economic size like ties in response to the regulatory actions. mentals have constrained the availability

Table 3: Shifting Pattern of Trade Volumes in Agricultural Commodities

of the mentha oil for exporters at pre-January 05 March 05 July 05 October 05 January 06 March 06 July 06 October 06 January 07 March 07

agreed prices and importers from other Chana 9 4 29 21 25 28 29 24 19 18

countries did not agree to the increased Urad 4 8 4 25 29 32 1 8 4 0 Guarseed 57 42 46 36 16 14 42 31 23 13

prices. As a result, the exporters had either

Menthaoil 0 0 1 1 13 3 5 6 8 3

to lose the export contracts or fulfil the

Tur 0 0 3 4 3 8 0 0 4 0

commitments incurring losses. Moreover,

Ref soy oil 16 31 7 4 3 5 7 6 14 12

it is not the farmer producer of mentha

Soybean 5 5 1 3 2 2 1 1 4 4

leaves who got the benefit but the stockists

Pepper 4 2 1 1 1 1 5 2 14 16

who process the oil and store it, as it can Jeera 0 3 1 0 1 1 4 10 6

be stored for five years or more with minimal loss and maintenance.

Thus, there were some genuine cases of concern, if not all, which the regulatory system needs to address in order to bring those stakeholders of physical markets into the system of futures trade instead of bypassing them. Further, one needs to remember that, historically it was the traders who invented and practised trading in commodity derivative instruments. Historically, all derivative exchanges London Metal Exchange, Chicago Board of Trade, Bombay Oilseeds and Cotton exchange, etc, were initiated by trade associations. Considering this, traders should be more willing to participate in futures markets rather than protesting, provided the prevailing instruments and system are encouraging for them.

An interesting question that comes up in this context is that if the large sections of traders in the largely traded commodities do not participate, while the farmers’ participation is anyway minimal, who is hedging in futures markets? Towards this, the committee has recommended advocacy and strong regulation of the futures market so as to generate confidence among all groups of stakeholders, which can be done by upgrading the regulatory capacity and capabilities of the FMC rather than undermining the very need of trading and depriving the economy of the benefits of these institutions and the instrumentality

Economic & Political Weekly

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Redchillies 0 0 0 1 1 2 2 5 2

Source: FMC, NCDEX, MUX.

gaur seed, mentha oil, chilli, jeera, pepper, etc. Trading interest is generated because of high speculative interest during the bullish phase in such commodities, thereby resulting in high volumes.”

While it is well accepted that the role of the speculator is critical in bringing liquidity to the futures markets, one cannot ignore the adverse impacts of excess speculation witnessed in the domestic as well as international futures markets. Speculators, like in any business, operate with a profit motive by accepting risk. Understandably, they always try to take advantages of opportunities in the form of loopholes in the system and make profits out of it. Hence, excess speculation is the result of inefficiencies in the regulatory system but not the presence of speculators or the futures trading per se. It is the regulatory system that needs to be foolproof.

To this extent, a particular pattern of trade volumes shifting from one commodity to another over the period is presented in Table 3. A spurt in volumes in commodities/contracts of relatively narrow size that can allow purposive influence is generally accompanied by a rise in volatilities. In order to reduce the volatilities, the regulator (FMC) directs exchanges to introduce certain measures such as high margins and position limits. Following this, the trade volumes and volatilities shift to

This apparently suggests that large f utures volumes accrued from a set of speculators who are not interested in the underlying commodity but the liquidity and quick bucks from it and keep on shifting from one to another responding to the regulatory actions (Table 3). To this extent, previous reports indicated that a large chunk of volumes in national exchanges (40 per cent) were contri buted by only a few (about 10) members.

Thus, an efficient regulatory system needs to be put in place for persistent monitoring and moderating speculative activities through stringent and timely actions. In order to make this process easier, at least until markets are stabilised, care should be taken to introduce contracts only in those commodities or products that prove to have a large enough market size as well as deliverable stocks, no substantial government intervention, uniform quality, etc. Following such criteria would enhance the credibility of the exchanges, build confidence among the stakeholders, encourage their participation and lead to strong and stable growth of futures markets.

Disagreements among Members

With the consensus of all the members, the committee concluded that “the committee has been unable to determine any conclusive causal relationship in view of the short time period during which the futures markets have functioned and the complexities that arise because a large number of variables impact spot prices. The committee has, therefore,





Figure A1: Trends in Spot and Futures Prices of Urad

February 2006 January 2006 Spot

Prices Rs/Q

2/1/06 9/1/06 16/1/06 23/1/06 30/1/06 6/2/06 13/2/06 orderly growth and Source: , Tulsi Lingareddy (2006), ‘An Open Letter to the FMC – 3’, TV18 Ltd, available at

diversification in

c oncentrated on the steps necessary to make futures markets accessible to farmers and most of the recommendations relate to this. The committee decided not to express any view on the delisting of commodities done in 2007, since this is not part of its terms of reference.”

However, as noted earlier, there was a difference of opinion among the members of the committee even with regard to the terms of reference. The disagreement among the members was apparently on the issue of delisting and hence, they did not provide any view on that in the summary of the report but presented it in their individual notes.

Chairman Sen has elaborately presented domestic wheat prices (futures and spot) movements in relation with i nternational prices and concluded the following:

  • “(T)hough no clear causality can be established, it is evident that the transmission of international price pressures on domestic wheat prices was much lower after wheat futures were delisted”.
  • “(T)he main reason why futures exchanges have seen such spectacular growth is because they are serving contracts to meet a demand from speculators that has far outpaced the connection with the physical markets”.
  • “In view of the inconclusive findings of this report on whether futures’ trading has fuelled increase or volatility in the prices of agricultural commodities, it is not possible to rule this out entirely.
  • “Combining prudence with benefit of doubt, the suspension of futures trading
  • in the four sensitive commodities should continue and in the case of sugar and edible oils, discussions with processors held on how much hed ging benefits they c urrently derive from futures markets, and a decision taken accordingly”.

    He has suggested increasing food grains production in “mission mode” and that the policy on futures trade should f ocus on creating conditions for

    other segments of the market for agricultural commodities in a manner that will provide benefits to farmers and ensure more stability in crop prices.

    Contrary to this, Sharad Joshi, quoting some of the findings of the report, concluded the following:

  • “Since the committee came to the c onclusion that there was no evidence linking the functioning of the futures market per se with inflation, it did not need to study methods of mitigating the inflationary effects. Strictly going by the terms of refe rence, all that the committee had the mandate to do was to make recommendations to the increased association of farmers in the futures market.”
  • “On the basis of our analysis of the available Indian data both in terms of the behaviour of agricultural commodity prices pre- and post-futures trading and the direction of causality between futures and spot prices, there is no indication of any unambiguous direction of impact. For some commodities, post-futures price inflation appears to have accelerated while for some it has slowed down.”
  • “Similarly, the direction of causality also does not emerge in its clear unambiguous manner. It must also be kept in mind that this behaviour in the spot market is also subject to significant influence of supply factors.”
  • In line with this, P G Apte and Sidharth Sinha, the other members of the committee, concluded that banning futures trading in agricultural commodities including basic foodgrains is not a desirable policy action.

    Thus, there was a divergence of opinion among the committee members, particularly on the delisting of futures contracts in 2007. However, there was a consensus on the issues of existing functional i rregularities in the futures markets.

    What Was Not Addressed?

    The expert committee report has taken into account a majority of the issues. However, a few important and relevant aspects that missed a mention in the report apart from the selective approach are discussed below.

    Information Flow on Fundamentals:

    While the committee has sufficiently elaborated the need for dissemination of futures prices across the country, it did not make any mention of the flow of reliable information on the fundamental factors influencing the prices. There is hardly enough information available on public domains on the demand side of agricultural commodities. To some extent, information on the supply side is available on the ministry’s web sites but with a gap.

    august 23, 2008


    Further, as noted by Sen, the fast flow of a plethora of information, genuine or otherwise, with the revolution of electronic media, could be one of the reasons for high volatilities in futures, thereby passing them to spot prices. Hence, there is a need for a comprehensive and regular flow of information from a reliable source, either a government or another independent neutral agency, similar to the US department of agriculture that releases crop updates on all agricultural commodities at regular (weekly and monthly) intervals. Without that, the decisions



    national exchange has its own price polling source, which generates the spot prices and those prices are used for settling futures contracts. As a result, the prices quoted by the national exchanges differ from each other many times. There were instances where the difference between the two prices quoted by the two national exchanges on a single day from the same market centre was about Rs 100 per quintal.

    Hence, any efforts towards the development of futures markets should also focus on the collation and dissemination of reference (uniform) spot prices as it


    helps in the inte


    gration of regionable to take benefits of these markets for various reasons. In order that these markets have a meaningful role, steps need to be taken to make them beneficial for farmers. The functioning of the markets has to be improved so as to make them more efficient. The lack of awareness and advocacy is also one reason for the negative p erception about these markets.”

    The list of the people, with whom the committee met to seek opinions and a rrive at these conclusions primarily on farmers participation, contained people from the exchanges, representatives of corporates and ministries but surprisingly no r epresentatives of farmers associations or traders, who actually comprise the p hysical markets of agricultural commodities were

    Figure A2: Wheat Futures under Government Intervention

    10/9/05 24/9/05 8/10/05 22/10/05 5/11/05 19/11/05 3/12/05 17/12/05 31/12/05 14/1/06 28/1/06 11/2/06 Source: NCDEX. Volume January 2006 February 2006

    200000 ally divided spot present in the list. Apparently, a few farmers

    Prices /Q



    markets and aids associations’ (Annexure IIB of the expert

    the farmers’ deci-committee report) had voluntarily sent their




    sion-making proc-representations to the com mittee. Fur ther,


    ess, thereby their the committee has mentioned that it has

    taken by the market participants may not be well informed or reflect the underlying market conditions.

    To this extent, the committee did not propose any measures to improve the q uality and availability of information in the public domain on various factors that aid in arriving at price decisions. Such infor mation on fundamentals of the commodity is much more important and vital than the dissemination of the futures prices as they are arrived upon on the basis of the accuracy and timeliness of this information. At present, such information on the fundamentals of a commodity are made available in restricted paid domains by private players. If the farmers have to participate either directly in futures’ m arkets or take timely price decisions i ndirectly, efforts are needed to make the availability of information on various f undamental factors influencing prices such as demand, supply, policy decisions, etc, widespread.

    Uniform Reference Spot Prices: A very important fact to be noted here is that no uniform single reference spot price available for each major trading centre that is used for by all the exchanges for the settlement of the futures contracts. Each


    partici pation. The


    ing already established a network and wider coverage, with more efforts on improvement in the quality and continuity of the prices can provide reference spot prices for all purposes.

    Bifurcation of Participants: In addition, the bifurcation of hedgers and speculators, as practised by the Commodity Futures Trading Commission in the US may help make the regulation of futures markets more prudential. This further helps in encouraging participation of farmers and hedgers with differential margins and discounts in transaction fees or taxes. Toward this, the committee has already i ndicated that the NCDEX has information on hedgers’ participation. If the information on hedgers’ participation is available, then it will be very useful to have it in the public domain through the FMC’s web site.

    Selective Stakeholders’ Opinion: The expert committee, as indicated in the report, had sought views and opinions from the public on the role of futures trading. The committee also met people to share their experiences and views on the functioning of the futures market. Based on these interactions and meetings, the committee came to the conclusion that “farmers are not yet taken into account the contentions of t raders’ associations and submitted a few memoranda to the government and the FMC.

    Nonetheless, it is disappointing to note that the committee being constituted with one of the terms of references as “to make recommendations regarding the increased participation of farmers in the futures markets and will benefit from them”, did not meet and interact with farmers or their associations before a rriving at the recommendations.


    The expert committee report has brought out some valuable findings and evidence on the impact of futures trading on spot prices of the underlying selected commodities both in terms of trends and volatilities though it has not concluded to that extent due to the lack of consensus among the members.

    The unanimously agreed conclusions of the report were primarily drawn based on the rise or fall in prices, the corresponding extent of change in the overall inflation (WPI/CPI). However, an impact analysis of futures trading at the individual commodity level and in terms of change in volatilities and seasonality as futures trade is case (commodity or even contract) specific could have helped in arriving at definite conclusions.

    Economic & Political Weekly


    august 23, 2008

    Nevertheless, based on the findings of the report and other recent studies, it can be concluded that futures trading in India, in the modern exchanges era, has led to an increase in volatilities in majority of the largely traded commodities (urad, chana, wheat, chillies and rubber) during the p eriod of excess liquidity (in relation to their total market size). Further, a unidirectional increase in prices was also

    o bserved in the cases of commodities with small market size (urad, mentha oil, wheat, etc) and scarce deliverable supplies in the market. (Despite its huge market size, wheat witnessed high volatilities and unidirectional change in prices, when the supplies were reduced and the stocks fell to below buffer stock norms and the deliverable market supplies became scarce.) It proves the point of the earlier committees that under scarce supply situations, futures trading may fuel an increase in prices as everyone expects prices to rise.

    Contrary to this, there are a few cases in which futures trading has led to a reduction in volatilities and aided in better price discovery, achieving its ultimate economic objective, in the case of soya oil and hessian, which largely fulfil the c onditions with large market size and without substantial government c ontrols.

    Annexure I

    Although the volatilities per se were r educed in guar seed, the seasonality of prices reported to be increased.

    Thus, futures trade in agricultural commodities in the modern exchange era has so far proven beneficial only in the cases of a few commodities/contracts that fulfil the basic criteria of selection for futures trading accompanied by stringent and timely regulatory actions, while it has had an adverse impact on other cases. However, this does not lead to inconclusiveness but to a case-by-case approach for evaluation as well as introduction of futures contracts. Hence, care should be taken by the FMC and the exchanges such that the futures contracts should be designed or introduced in commodities or products that satisfy the basic criteria under the present conditions. Further innovation in domain knowledge is needed to devise additional regulatory mechanisms and instruments to tackle the specific problems associated with sensitive commodities if the exchanges and the regulator want to extend futures to all the commodities.


    GoI (1980): ‘Report of the Committee on Forward Markets’, Ministry of Civil Supplies, New Delhi. IIMB (2008): ‘Impact of Futures Trading in Wheat,

    Sugar, Pulses and Guar Seed on Farmers’, study conducted by the Indian Institute of Bangalore and commissioned by the Forward Markets Commission.

    Lingareddy, Janki (2007): ‘Futures: A Partial Picture’, Economic & Political Weekly, Vol 42, No 30, pp 3178-79.

    Nath, Golak C and Tulsi Lingareddy (2008): ‘Impact of Futures Trading on Commodity Prices’, Economic & Political Weekly.

    Sahadevan, K G (2008): ‘Mentha Oil Futures and Farmers’, Economic & Political Weekly, Vol 43, No 3, pp 18-23.

    Appendix I

    Case of Urad: The spot as well as January futures contract prices have increased rather steeply by about 12.5 per cent, during the last few trading days of the January contract. But the spot prices have come down more sharply, registering a 13 per cent fall within four trading days (January 21-25) immediately after expiry of the January 2006 contract as revealed by Figure A1 (p 40). A similar pattern of sudden spiralling of prices can be seen in spot as well as February contract from February 11, 2006 onwards. These trends, particularly in spot market, are beyond the logic of any normal trading practices, especially when there is no significant increase in demand and no proportionate rise in dal prices. As a result, this has been accruing huge losses to small traders in futures as well as in spot markets and the processors who operate for normal profit margins. Futures markets, aimed at price discovery and price risk minimisation processes, are actually sending wrong signals to spot markets and turning them more volatile. Under such a volatile situation, how a small trader or miller who works for normal

    Trend Post- Volatility Post-Trend Post- Volatility Post

    profit margin can sustain?

    Pre-Futures Futures Pre-Futures Futures Pre-Futures Futures Pre-Futures Futures

    Guar seed – – – – – – – – –

    Appendix II

    Chana/gram 0.22365 -9.2 20.9 10.6 11.3 -9.1 20.8 9.2 9.7

    Soy oil 0.17838 21.8 -1.6 14.1 6.1 21.4 -0.9 17 7

    Pepper 0.02292 -22.5 8.9 27.4 30.9 -22.3 9 26.1 30.6

    Jeera/cumin 0.10288 -5 8.1 12.9 16.1 -5 8.8 17.7 17.7

    Urad 0.09619 -7.9 32.9 9 15.7 -7.7 32.7 10.9 18.4

    Mentha oil ---------

    Chillies 0.18866 -16.4 42.9 15 17.1 -16.3 42.3 15.1 21.5

    Case of Wheat: A classic example of government intervention leading to uncertainties in f utures rendering them unviable is that of wheat. Wheat prices started moving up in f utures rather steeply during January 2006, f ollowing the fall in stocks below the buffer

    Soybean/seed 0.44614 12.2 -11.3 15.1 21.5 12.1 -11.4 3.6 4 stock norms. The rise in futures continued up

    to until the open market sale of wheat by the ministry on January 25, 2006, thereafter the

    Rape seed 0.58066 18.3 0.1 12.6 9.4 18.2 0.2 11.5 8.6

    Wheat 1.38408 2.3 9.6 5.3 7.3 2.3 9.5 4.9 6.1

    futures as well as spot prices have declined

    Potato 0.25647 28.9 11.7 49.6 47.5 29 11.3 44.8 41.5

    equally steep (10 per cent in four trading

    Turmeric 0.0765 20.2 -8.2 13.7 8.5 20.2 -8.2 18.5 16.6

    days). Further, the rise in futures prices was

    Castor seed 0.08572 2.5 -2.2 13.5 12.7 2.4 -1.5 21 14

    much higher than that of spot even for the

    Sugar 3.61883 1.2 3.2 7.7 7.6 1.3 3 5.9 6

    n ear-month (January) contract. While the Guar gum ---------F ebruary 2006 futures prices remained at Gur 0.05979 25.4 -0.6 9.6 11.6 21.6 -0.6 17 12 h igher level, the January 2006 futures Tur/arhar 0.13466 2.8 5.8 9 7.7 2.9 5.8 9.1 10 p rices were settled after losing 4 per cent in

    Raw cotton 1.35674 -21.7 5.2 12.9 10.6 -21.4 5.2 9.5 15.9 the last four days of trade. Corresponding to

    this, wide fluctuations were also witnessed in spot prices as presented in Figure A2 (p 41).

    Rubber 0.1508 10.5 20.1 16 21.1 10.4 19.9 16.5 21

    Cardamom 0.02494 -20.3 4.6 11.7 19.5 -20.2 4.7 25.7 29.9

    Thus, futures trading in commodities, where

    Maize 0.18501 -2.4 9.6 11.4 6.8 -2.3 9.7 10.4 9.2

    substantial government controls exist, may

    Raw jute 0.10868 -11.4 10.8 13.4 13.6 -11.3 10.7 17.5 13.9

    lead to uncertainties rather than minimising

    Rice 2.44907 -0.4 3 3.6 2.5 -0.4 2.9 3.1 2.3

    price risk.

    august 23, 2008

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