Futures trading ban has rarely cooled agri commodity prices. Will it do this time?

The ban came after the wholesale price index jumped 14.2 percent and the wholesale food price index climbed 6.7 percent, from a year ago. The sub-indices for most of the commodities on the F&O contracts ban list, other than wheat and mustard, have been stable on a month-on-month basis.

Food prices have been volatile in recent months, partly due to excessive rains in parts of the country that flooded fields, destroyed standing crops or affected the quality of the produce.

There are some expectations that the ban on F&O contracts will have some cooling effect on the prices of rabi crops, which usually tend to rise before the new crop comes to the market.

What the record shows

However, most economic research papers have shown that futures trading bans have little impact on prices in the physical market. Among the more authoritative papers is the report of the expert committee to study the impact of futures trading on agricultural commodity prices chaired by then Planning Commission member Prof Abhijit Sen in 2008.

The committee, appointed by the UPA government in 2007 to study the extent of the impact, if any, of future trading on wholesale and retail prices of agricultural commodities had stated that evidence available at that point did not provide any conclusive evidence about whether there was a causal relationship between futures trading and rise in prices of agricultural commodities. The committee, however, did not rule out the possibility of futures trading contributing to inflation.

The annual report of the Reserve Bank of India for 2009-10 mostly endorsed that view. It noted that forward trading was not a reason for inflation in the prices of commodities in India, rather demand-supply gaps, the degree of dependence on imports and international price movements were the drivers.

What will be the impact?

So will the latest ban have any cooling effect on food prices? The ban on chickpea imposed in August 2021 has had a limited impact on prices. A week before the ban was announced, the wholesale price of the legume ranged between Rs 6,500 and Rs 7,000 a quintal.

The average wholesale price of the legume hovers around Rs 6,500 a quintal now. It was averaging Rs 6,800 a quintal in September. The wholesale price index for grain had climbed higher in September and October before declining close to the August levels in November.

The wholesale price of mustard oil has declined to Rs 17,500 a quintal from the level of Rs 18,000-Rs 18,500 a quintal around the time its futures trading was banned in October. However, it may be difficult to attribute the softening of mustard oil prices to the futures ban. Prices of other edible oils, notably soyabean oil and palm oil, have also declined during the same period.

Domestic edible oil prices follow the changes in the global prices, given India’s dependence on imports. Also, a rise in the price of one variety of edible oil usually leads to an increase in the prices of others when consumer demand for cheaper ones increase.

Given that global prices are still elevated, it remains to be seen if the one-year-long ban on futures trade will cool domestic edible oil prices.

Yet, the impact of futures trading on prices of commodities in the physical market cannot be ruled out, given the emergence of commodities futures as an important asset class.

Commodities futures are seen as a hedge against inflation. Over the past year, with markets awash with liquidity, speculative transactions have increased.

The government might have picked up evidence that speculative transactions in the commodities futures are likely to impact the physical market, some economists point out, explaining the rationale for a ban on futures trading.

A further rise in food price inflation is a risk that the government is not willing to take, given some crucial Assembly elections in early 2022.