Ready to use FX reserves to face oil shock: RBI

 Excerpts from YV Reddy’s address:

“In regard to food, many economies around the world have not provided adequate incentive to farmers to increase the supply of food and other agricultural products to comfortably match the growing demand over the medium-term.

With regard to our prospects for the near future, there are several imponderables especially related to the path of future prices of oil, progress in restoration of normalcy in financial markets, especially currency markets and the excessive slowdown in the US economy and its consequential impact on the world economy as a whole.

Further, public policies with regard to food, especially bio-fuel, cross border trading, subsidy, and replenishment of use of buffer stock will impact the evolution of prices globally. However, the redeeming feature in that supply response with regard to food crisis is possible in a year or two.

As per estimates, wheat output is set to achieve a new record in 2008, though against the backdrop of wheat being a depleted stock. Global production of rice in 2008 is expected to be marginally better than the previous year and hence some depletion of stock as maybe expected. Global output of edible oil is anticipated to fall by about 3% in the current year. According to FAO, oil seeds and edible oil prices are expected to remain firm.

What is the medium-term to long-term outlook for food prices at the global level? This is something in which the young generation would be particularly interested. According to the agricultural outlook from OECD and FAO, while agricultural commodity prices should ease from their recent record peaks, they are expected to average well above their mean level of the past decade.

Two days ago, the UN Secretary General said in his speech at the high level conference on World Food Security hosted by FAO, the world food output needs to rise by 50% by 2030 to meet rising demand. The implications of such a scenario in global farm output and prices for us should be very clear. With rapid growth in our country, the food consumption will rise in an unprecedented fashion, since we are over 1 billion people.

The food basket will also change. We have to augment food supplies within the country, since marginal requirements of the country, or even a perception of shortfalls in domestic economy and our economy can have significant influence on world prices.

We have over half of the workforce dependent on agriculture and we have scope for increase in productivity in agriculture. There is no reason why we cannot ensure food security for our country at a minimum. Indeed, India can become the Annapurna for the world and I feel that Andhra Pradesh can become the Annapurna for India.

In this regard, I can do no better than quote Dr MS Swaminathan, one of our esteemed agricultural scientists, “India has the technological and the economic capability to demonstrate how farming systems can be adjusted to different weather patterns. It is hoped that at the Rome Conference, Indian representatives will serve as a bright affirming flame in the midst of the sea of despair that we see around us.”

Let us now focus on the Indian situation. At the outset, it must be recognised that increase in food prices in India in recent months has been only a fraction of that observed in many other countries. We are very fortunate.

In particular, the global prices of wheat and rice had almost doubled between January and April 2008. While in India, the increase has been far less than 1/10^th of that. In a sense this vindicates the long-standing public policy of emphasis on a degree of food security in our country especially, due to the vulnerability of large segment of the population. Yet, the prices of food articles spurted in India though marginally compared to the world situation in 2006 and 2007. The average annual increase in the wholesale price index of food articles was around 7% during that period. While increase in food prices was led by wheat during 2006, rice and edible oil also joined the price rise in 2007.

However, food prices have exhibited some moderation during 2008. The wholesale price index of food articles during 2008-09 upto May 17, has increased by around 2.5% as compared with 3.1% in previous year during the corresponding period.

The current outlook for individual commodities, which appears positive for wheat, with significant improvement in procurement. In regard to rice production, which stagnated since mid-90s, some turnaround is observed since 2005-06. The prices of edible oil increased sharply in 2006-07 and slightly during 2007-08. However, some moderation has been observed during the current financial year so far.

Due to stagnant levels of production in pluses, the demand-supply gap is met through imports. But domestic prices however spurt before seeing a decline during the last one-year. Profit for sugar of which India is one of the largest producer, appears bright for the current year, since production has risen substantially since 2005-06. Overall, some abatement of global prices is an indication of better domestic supplies and addition to our buffer stocks alongwith the series of measures already taken by the government on the supply side are expected to yield results in the months to come.

Over the medium-term however, the National Food Security Mission launched about two-years ago should yield a positive result. RBI’s major objectives are to maintain price stability and maintain growth momentum especially employment generation. In this environment, agriculture plays a critical role since agricultural commodities have a relatively significant weight in price indices in our country and also in anchoring inflationary expectations.

In terms of employment also, agriculture dominates in our country, accounting for about 60% of the total while in terms of GDP, its share is less than a third of that.  However, the policy space available to RBI is basically confined to managing aggregate demand through appropriate stance in regard to growth in money supply, interest and exchange rates and to some extent flow of credit through banks.

In view of the criticality of agriculture, RBI articulates its approach to agriculture through the annual reports.

Let me summarise the analysis and views as expressed by the directors of the Reserve Bank in their annual reports during the last 5 years.

A: Since the mid-90s, the growth of the agriculture sector has not only been low but also volatile. An area of growing concern is the continued incident in localized droughts even in good monsoon years. In recent years, the food consumption basket is getting diversified towards value-added food products such as meat, poultry, fish vegetables and fruits. It is important for production to respond to these shifts in consumption.

B: The second point the board of directors have made is that the share of agriculture in the total gross capital formation in real terms, has been declining in recent years. It is mainly on account of sturdy erosion in the share of public investment.

C: Several initiatives have been taken in recent years to improve the agricultural credit delivery mechanism. However, the directors observed some bottlenecks continue to affect the flow of credit to agriculture. To attain a higher growth to agriculture, the major areas requiring attention in the financial sector are the spread of insurance against crop losses and facilities for meeting the needs of the rural economy. Near forms of credit assessment and risk management systems may also have to be put in place besides upgrading skills and ushering changes in attitudes in mindsets. Information technology has to be used to facilitate transformation in various processes of rural credit.

D: Efficient and well-developed agricultural markets are necessary to enable farmers to deal with inherent risks associated with the perishability of their produce and to secure smooth access to input supplies. Towards these objectives, the agricultural marketing system in the country needs to be integrated and strengthened, given the several risks that farmers face, such as future price and monsoon conditions. There is a need to put in place appropriate risk mitigation policies.

E: Greater focus needs to be placed on agricultural research. This is the observation of the board of directors of the RBI. Greater focus is needed in the coming years as success so far has been restricted to select crops. The efforts to strengthen and modernize the agricultural research system, including the agricultural universities, need to be intensified. The green revolution has been the corner stone of India’s agricultural development transforming the country from food deficiency to self-sufficiency. The time is now right for a second green revolution, which will lay emphasis on diversifying the agricultural sector further in order to capture new market opportunities.

Before concluding this section, on India and the RBI, let me add that Andhra Pradesh has shown a vision to leadership by putting irrigation and agriculture at the top of the agenda for the public policy. The state has designed a policy that is now being followed by many other states in India. The RBI has been having a privilege of a very close co-operation and co-ordination with the Government of Andhra Pradesh.  

Let me conclude by reiterating that globally demand for agricultural products will be very high for the next 2-3 decades. India will play a dominant role in contributing to both global demand and global supply of agricultural commodities. Agriculture will be increasingly more diversified and not confined to food crops; scientific agriculture is and will be the key for the future. The path ahead is far from smooth and traversing this path requires constant efforts vigilance and dedication.  I am sure that the knowledge gained from your education will help you in moving forward in your endeavors in life with determination and confidence."