Sunday, October 2, 2011

Middlemen are manipulating agriculture market in Nepal

[This piece was published in Republica, October 2, 2011, p.6]

Manipulation of Food Market

The Department of Commerce (DoC) has been actively monitoring markets to check food adulteration, compliance with consumer safety regulations, and market manipulation by sellers whose only goal seems to be to shovel in quick profits, irrespective of meeting set standards. With the recent revelation of market mischief and closure of various retail outlets and restaurants, consumers are stunned to find that they were/are consuming substandard goods. While the DoC’s new found energy to monitor quality of goods is highly commendable, it should also actively monitor food prices manipulation by middlemen and, to some degree, retailers who are distorting the price-incentive-output mechanism in the agriculture sector.

Strict supervision of quality and prices of food is even more vital during the festival season. Usually, there is a surge in demand during this time, but middlemen and retailers deliberately jack up prices higher than what the demand surge would warrant. Given the cultural and institutional obligations deeply embedded in our religion, consumers try to find resources, often by diverting allocated household expenditure for other headings, to finance food demand during festival season. They complain about high prices but cannot stop purchasing food items. It implies that the demand for food items during festival season is pretty much price inelastic. Tapping on this obligation of the consumers, middlemen and retailers jack up prices calculatedly. At the household level, it affects household savings and discretionary expenditure. At the macro-economy level, it affects our domestic saving, investment, and general price of goods and services.

There are widespread price manipulation and market failures in the agriculture sector. The food prices, which have been sticky at high level, have not responded to production changes. For instance, this year cereals output is expected to increase by 1.2 percent. Specifically, output of wheat, coarse grains and rice is expected to be 2.2 million tons, 2.4 million tons, and 4.5 million this year. These figures are either an increase or of the same level recorded in the past three years. Now, the question is how can food prices keep increasing continually when output level is still stable.

It is true that there has been an increase in demand for food and a decline in productivity growth. But it still does not fully account for high food prices as we have been importing food items at an increasing scale. Nepal imported approximately 359,000 tons of food and received 46,000 tons of food aid last year alone. We are expected to import far less food this year due to increase in domestic production following favorable weather and enhanced supply of agricultural inputs. Yet food prices are high in the domestic market. In fact, current retail prices of wheat and rice in Nepal are third and fourth highest respectively in South Asia. Overall, food and beverage prices have been increasing at a rate of approximately 15 percent each year.

The argument that supply shocks (decrease in output) are pushing up domestic food prices does not hold much ground either given the total increase in output and imports. Supply shocks played a role at the global level, but not in Nepal. When global food prices skyrocketed in 2007/08 our domestic food prices also increased. However, when the global food prices went down starting mid-2008, the same did not happen in Nepal. Here, the domestic food prices were deliberately maintained high.

One might wonder: If prices are so high, why are farmers not increasing production and productivity at the same rate? Usually, when prices rise, output also rises as producers follow price signal. Unfortunately, this crucial incentive mechanism is missing in our agriculture market, especially in vegetables market where prices are rising unabated and are extremely volatile. Farmers are not getting true price for their produce and direct access to markets. For instance, recently farmers in Sapahi village of Janakpur went on a strike demanding that the government punished middlemen who created artificial shortage of chemical fertilizers, seeds and pesticides. They also demanded right market for their produces. One may ask vegetables producers in Bhaktapur if they get prevailing price in wholesale market when they sell their produce to middlemen running Kalimati Fruits & Vegetable Markets. Their answer will most likely be no.

One of the reasons for the apparent incoherence in retail prices, farm prices and output is market manipulation by middlemen or agents. There are many cases where middlemen are raking in profits by forcefully erecting barriers to market entry for new players, by artificially jacking up prices and controlling supply, and by distorting incentives. It is impeding commercialization of agriculture sector and the development of agro-processing industry, which has strong backward and forward linkages to both agriculture and non-agriculture sectors. The private investors are disinclined to enter the food market which is tightly controlled by agents who neither produce food in farms nor sell them in retail markets directly. Instead, they directly purchase food from farmers at a fixed rate and sell it to wholesalers to rake in huge profits. This is the first round of artificial rise in prices. It is followed by wholesalers selling the same produce to retailers by keeping a comfortable margin. This is the second round of artificial rise in prices. It is leading to incoherence between prices and output in agriculture sector. The middlemen are acting both as monopsonists (only they purchase food from farmers) and monopolists (only they sell food to wholesalers). Competition is stifled and farmers are deprived of true price.

Market manipulation is also the reason why standard policy tools to tame rise in food prices are ineffective. Monetary policy involving change in interest rates does not have much traction on food prices because people do not purchase food items on credit. Also, since our currency is pegged with the Indian rupee and almost 60 percent of our trade happens with India, it is expected that our domestic prices follow prices in the Indian market. However, it is just one way movement. When prices rose in India, ours rose too. But, when it moderated in India, we did not see that happening in Nepal. Again, the disconnect points to manipulation of agriculture market and a force intent on deliberately keeping food prices high.

Combing back to the DoC’s new found energy, it is high time the government clamped down on the factors that are depriving our farmers of true price for their produce and are exogenously reaping huge profits by acting both as monopolists and monopsonists. Understandably, these middlemen are also associated with various political parties. They cannot be rooted out instantly and institutional and market reforms cannot be enacted overnight. However, the DoC should at least try to encourage competition in the agriculture market and, if required, directly procure food items from farmers. It will have more impact on taming high food prices than simply setting up fair price shops by purchasing food from middlemen. Not only improvement in supply and quality in retail market, but also supply at low prices that reflect true costs of production would mean a lot to both consumers and producers this festival season.

[Published in Republica, October 2, 2011, p.6]

Eroding cost competitiveness of Nepalese carpet

Due to the rise in the cost of labor, wool, cotton and interest rate, cost of production of carpet has increased by more than 50 percent over the last one year alone. Buyers are not placing orders for next year and if this continues then we might just see the entire industry collapse. Here is a story related to this one by Republica’s Prabhakar Ghimire:

"Whatever rise we witnessed over the last few months is because of the agreements made in January this year. Nepali carpet exporters negotiate and strike business deals in January every year," Kabindra Nath Thakur, president of Nepal Carpet Exporters Association, told Republica.

He said the cost of production is over 30 percent higher than that of Indian carpet, which is the major rival of Nepali carpet in overseas market.

According to Thakur, cost of production per square meter of carpet is around Rs 4,500, which is considerably up from around Rs 3,000 per square meter a year ago. The labor cost has increased from Rs 4,600 per month to Rs 6,200 per month and bank interest rate has gone up to around 15 percent. The cost of wool and cotton has also seen a sharp rise over the last year.

"We are compelled to price Nepali hand-woven carpet at around 70- 80 Euros per square meter. Export prospects are dim, especially in Europe as buyers who are buying our carpet at 40 Euros per square meter are not willing to buy at the new price," said Thakur.

Gopal Krishna Joshi, vice-president of Carpet Producer Association Nepal, said the cost of wool imported from New Zealand has jumped to $6.5 a kg from $4.5 a kg a year earlier. Similarly, the cost of Tibetan wool has increased to Rs 300 per kg from Rs 230 per kg over last couple of months. Cotton, which is an important ingredient for carpet, costs Rs 175 per kg now from Rs 150 per kg a few months ago.  

Nepali carpet producers and exporters are also facing a shortage of skilled carpet weavers, making us unable to fulfill the demand from US market which has improved with the housing sector slowly returning to normal.

Labor strikes and increase labor cost have been the most binding constraint to growth of export-oriented and manufacturing sectors. In fact, labor cost in Nepal is already the highest in South Asia. More about imprudent unions and weak industries here. The strength of industrial sector in Nepal is receding and they badly need relief from labor strikes, power outages, policy inconsistency and increasing cost of doing business, among others. Also, rad my last year’s piece on the demise of garment industry in Nepal.