Draft Report on Commodity Futures

One of the reasons ascribed to the recent price rise in India is the introduction and expansion of the commodities futures markets. This has, however, been partly put to rest if one were to go by the observations contained in the draft report of the Expert Committee on Commodity Futures Trading headed by Prof. Abhijit Sen. The Committee, which issued its draft report recently, failed to find a clear causation between commodity futures and the price rise in agricultural commodities. The report states:

“The fact that agricultural price inflation accelerated during the post futures period does not, however, necessarily mean that this was caused by futures trading. One reason for the acceleration of price increase in the post futures period was that the immediate pre-futures period had been one of relatively low agricultural prices, reflecting an international downturn in commodity prices. A part of the acceleration in the post futures period may be due to rebound/recovery of the past trend.

A study of supply fundamentals (production, changes in inventory and international trade) show that changes in these also contributed to higher inflation during the period under consideration. Nonetheless, recent behaviour of food grains prices does not appear to be explained completely by supply shortfalls, and, in particular, contribution of international price movements to domestic price outcomes appears to have increased substantially. Claims that futures trading were a cause of the inflation in sensitive commodities needs to be viewed in this context.”

On the other hand, the Committee is not entirely pleased with the present functioning of the futures markets. For instance, it found that futures and hedging have failed to result in proper price discovery or an effective mechanism of risk management, which have in fact become poorer. The report makes a call to upgrade the quality of regulation both by the Forward Markets Commission and the commodity exchanges in order to prevent manipulation and abuse by speculators and arbitrageurs.

Spot markets have also been found to require large-scale reforms. Here are some excerpts:

“Reforming spot markets should be given top priority. There is a need to give thrust to encourage all state governments to pass Model APMC Act. In fact, the model APMC Act is going to revolutionize agriculture marketing in the country. Further, in order to promote integrated national markets, the Central Government should take active steps to bring inter-state spot trade under the regulation of a central authority rather than leave it to highly scattered APMCs. Entry 33 in concurrent list of 7th Schedule of the Constitution seems to provide such a jurisdiction. The setting up of National Spot Electronic Exchanges by the National Commodity Exchanges is an attempt to create a national integrated market.”

From this, it is possible to glean mixed conclusions. On the one hand, there is no evidence of the commodity futures markets exacerbating the inflation of essential commodity prices. On the other hand, there is still a lot of work to be done in improving the regulations relating to commodity futures and the exchanges on which these futures are traded. Spot markets also require a complete overhaul.

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

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