Value chain

Why India’s food value chain needs better risk management instruments in the context of the war in Ukraine

The past few years have proven to be extremely volatile for the food value chain due to issues ranging from pandemic-induced supply chain disruptions to the impacts of climate change on agriculture. To add to the already existing woes, the escalation of the Russian-Ukrainian conflict has dealt a blow to the foundations of the global food security agenda.

Ukraine and Russia are the “breadbaskets” of the world, producing more than 30% of the world’s wheat and barley, 20% of the world’s corn production and more than 50% of sunflower oil world. This translated into an increase in household food expenditure of 34% compared to the previous year. The situation is set to get even worse with trade restrictions and sanctions – making access to these essential agricultural products extremely difficult for a host of countries.

The greatest casualty of war is agricultural infrastructure whose functions are disrupted due to targeted strikes. Russia’s strategy to harm Ukraine’s agricultural industry by targeting farms, agricultural equipment, warehouses, markets, highways, bridges and ports in the country has largely destroyed agricultural supply chains.

This has made its impacts felt on the Indian economy. With Russia being one of the world’s largest producers of sunflower oil and wheat, sanctions on these food items have driven up their prices, contributing to continued inflationary pressure in the Indian economy. From the beginning of the war, the prices of sunflower oil, wheat and flour had increased by 19.9, 2.2 and 1.7% respectively, between February and March 2022. On the other hand, while Russia accounts for around 18% of tea exports, supply chain disruptions, logistical obstacles and the sharp decline in the value of the Russian ruble against the US dollar have made exports costly and uncompetitive .

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Therefore, the concern relates to the entire food value chain, from primary producer to final consumer. Geopolitical developments have therefore been hostile to the Matera declaration of the G20 in 2021, which emphasizes New Delhi’s concerns for food security through the welfare of farmers and the recognition of agricultural diversity. . However, one can also have a contrarian point of view. Indeed, the war, through disruptions in the value chain, made imports largely uncompetitive in the domestic market. Although axiomatically, the war in this sense has created an “organic protection” for domestic producers by increasing the tangible and intangible costs of imports, it remains to be seen whether domestic producers can seize such an opportunity to conquer the large Indian market by better use of capacities and stimulation of their production. This can help create the basis for self-sufficiency for a range of agricultural products.

However, the issue is not just about production when it comes to India’s food sector. Age-old agricultural marketing problems continue to plague the sector. Since price and event shocks hamper the food value chain, there are few risk management options left to combat these risks. Crop insurance and weather derivatives are largely the instruments that combat production risks. They have nominal penetration in the Indian agricultural sector. Even if they did, they are not helping the cause of the risks emerging from an external sector like the Ukraine-Russia war. There is no doubt that India’s agricultural sector no longer resembles the one that existed in the 1990s: an isolated system with nominal exposure to the vagaries of international trade and finance. On the contrary, the agricultural value chain has been affected by international trade and events since the late 1990s.

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In such circumstances, an economy is typically left with two response options: governments’ risk management responses by disbursing buffer stocks through public distribution systems thereby ensuring access to food for all, and secondly , risk management through market-based instruments like derivatives, e.g. futures, forwards, options, etc.

Let’s come to the first point. During the pandemic, the government has played a vital role in enabling access to food through its various distribution channels. But, interestingly, some conditions that contributed to dietary stresses around the world during the early Covid-19 lockdowns can also be seen now. These include supply chain disruptions and the high “transaction costs” of imports. However, it should be noted here that a heavy reliance on government systems alone cannot allow the food sector to stand on its own. Buffer stocks and standards have already failed in many parts of the world (eg Papua New Guinea).

This highlights the importance of market-based risk management instruments. A 1996 UNCTAD report highlighted the importance of trade in commodity by-products in India given the liberalization of agricultural trade. The idea was that as Indian agriculture becomes more and more liberalized and exposed to external hazards, it will be necessary to guard against such risks. One of the motivations for establishing demutualized commodity derivatives exchanges was to provide a platform for hedging (risk management) and price discovery, particularly for food commodities. Unfortunately, despite two decades of operations in India, the role of derivatives exchanges in providing these two services in agriculture still remains in question for most food commodities.

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Of course, the importance of these market infrastructure institutions cannot be limited to hedging alone, but also extends to price dissemination and market integration. Yet, given the fragmented nature of agricultural markets in India, as well as the significant digital divide, e-marketplaces in India have largely failed to bring about any form of market integration. Even in the past six years, initiatives such as the electronic spot market, E-Nam (a pan-Indian electronic trading platform), have also not emerged as a market integration platform. and price stabilization. It has often been said that the failures of commodity exchanges in India to emerge as platforms for price discovery, risk management and price stabilization and integration in all markets should be attributed to existing inefficiencies in spot and physical markets. This has also been hampered due to the lack of product innovation for risk management along the food value chain.

Therefore, if India were to take advantage of the state of this “biological protection” of its food and agricultural sector and ensure food security, boosting production would be useless without good marketing and distribution strategies. Historically, governments have played an important role during emergencies such as the outbreak of war or a pandemic. An essay by Amartya Sen during the early stages of lockdown reiterated the need for equity and the distributional aspects of development citing the example of how life expectancy at birth in England and the Country of Wales rose during the war (Financial Times, April 15). He said: “The positive lessons learned from the pursuit of equity and greater attention to the disadvantaged contributed to the emergence of what has been called the welfare state”.

However, the modern economy cannot rely entirely on governments to emerge as “bailout” institutions. Rather, it is up to governments to create favorable conditions so that even during “thunder, lightning and rain”, marketing circuits are streamlined to the point of creating the best possible distribution networks and can benefit from “biological protections”. Better risk management instruments, better product innovation and effective market infrastructure institutions are becoming increasingly important for India, not only to fight emergencies like pandemic or war: they are also important because India plans to sign free trade agreements (like the Comprehensive Economic Cooperation (CECA) project with Australia by the end of 2022) that will expose the Indian food sector to greater exposure and external competition.

(Nilanjan Ghosh is Director of the Center for New Economic Diplomacy and Kolkata Center, Observer Research Foundation. Soumya Bhowmick is Associate Researcher, Observer Research Foundation.)