 "Getting markets to the farmer")
The prime minister's Independence Day address referred to the hope placed on e-NAM, the electronic project to create a national agricultural market for farm produce. The aim here is to, in two to three years, link the 600-odd major wholesale markets (mandis) in the country.
More than this, though, what will revolutionalise the way farmers sell commodities is the way these are traded and also financed by banks. For this, the Warehousing Development and Regulatory Authority (WDRA) is trying to make warehousing receipts (WRs) a negotiable instrument.
And, for trading in these, the Securities and Exchange Board of India (Sebi) is changing its regulations.
Making receipts tradable
WDRA is increasing warehouses' accountability for the goods they store. There will be a rating mechanism for warehouses and norms for commodity repositories. That would set the stage for making WRs negotiable. These would then be traded on exchanges, with banks willing to provide financing, with a higher degree of safety.
The agri-centric National Commodities and Derivatives Exchange (NCDEX) has started moving in this direction, using technology to make WRs tradable.
"The warehousing regulator wants sector reforms to be implemented as soon as possible, to make WRs issued against deposited commodities a negotiable instrument," said a source. For this, a sound regulatory mechanism and eco-system are needed, "which all stakeholders have to ensure".
With negotiable WRS, financing by banks is safer, for it becomes easier to dispose of goods in case of default. Hedging of commodities and trading on an exchange platform, whether a derivatives exchange or e-mandis would become seamless. The national mandi-linking e-platform is ongoing and a company set up by NCDEX has already linked mandis in Karnataka and is doing similar linkages for other states. States independently linking their mandis will then link their markets with the national e-market.
Tight tracking
As for Sebi, it is finalising tighter regulations for warehouses, to ensure they recognise only those registered with WDRA. Those yet to do so would get six months to fall in line, beside other new norms.
And, WDRA is working on registering the repositories for commodities. Unlike securities, commodities cannot be dematerialised because even after converting into electronic form, it retains an underlying asset in the same form. An entity keeping an electronic record of commodity transactions at a centralised place is a repository; NCDEX has an in-house one, Comtrack, which keeps e-records of goods in exchange-approved warehouses.
WDRA is in the process of finalising the Warehousing (Development and Regulation) Repository and Participants Rules, 2016. It is also working on giving ratings for registered warehouses. Although registration with WDRA for all warehouses in not mandatory, registered warehouses have larger acceptance for business. Eventually, depositories like NSDL and CDSL can apply for becoming commodity repositories.
All these measures are aimed at making WRs a negotiable instrument. Tighter regulations and technology, and a system of grading and assaying agencies, repositories, and inspection and auditing by outside agencies for warehouses, will aimed to check potential scams.
Bringing in banks
For exchange-traded commodities, there is a separate set of warehousing regulations. Banks are ready to finance goods that are hedged on commodity exchanges (comexes). According to a research paper published by the Indian Institute of Banking and Finance, non-performing assets (NPAs) in the agricultural sector have been showing a rising trend since 2010, up from 1.9 per cent of the total in March 2009 to 4.7 per cent in March 2015.
NCDEX has proposed an action plan for banks till they are allowed to hedge risk on behalf of borrowers on comexes. Banks could mandate borrowers to list their risk exposure and on a risk mitigation strategy. The Reserve Bank had, two years earlier, advised banks to do so. They could also provide guidance and advisory services on borrower risk exposure
NCDEX has also introduced a 'Hedge Passport' programme to help enable banks to assess their borrowers' risks vis-a-vis commodity price risks. And, to facilitate reduction of those risks. Hedging will help lower the probability of credit default. Hedged collateral on exchanges will enable a bank to lower the collateral requirement and lend at reduced rates, increase the loan to value ratio and so on.
Innovation
However, financing for agri products entails several risks - on prices, quality and those associated with the warehouses where the commodities have been stored. Banks would have a lien on the commodities financed but, explains Aditya Gandhi, director (technology), Sapient Global Markets (a global derivatives advisory): "A challenge in the physical commodity space is the need to verify because of lack of tight control over inventory, its quality or authenticity of title."
WDRA had only a few days earlier issued a proposed set of rules for inspection of registered warehouses, warehousemen, and oversight inspection agencies. For WR trading, which provides real negotiability, Gandhi advises use of block chain technology, which made bitcoins possible. The latter hasn't got government approval but RBI has endorsed block chain.
Says Gandhi, "Using block chain, the physical or digital proof of ownership of a commodity can be captured in a block. Whenever ownership changes, this is reflected in the new block created and the chain passes on to the next owner. The transaction can itself be governed by rules that are embedded in a smart contract in the block. Since this chain is secured and the history cannot be alerted, there is no risk of tampering or duplication ensuring proof of ownership and right to transact. This eliminates risk of fraud and reduces the cost of reconciliation and eliminates need for a number of intermediaries."
How does this arrangement work? A note by Sapient explains how block chain technology can be used for making trading in WRs tamper-proof. "Let's say each bale of cotton is given a RFID tag and based off the tag and information like location of origin, grading, etc, a block is created. As it moves through its value chain e.g loaded on a ship, sold to a trader, etc, a full history of each transaction and change of ownership is tracked. As these enter warehouses, these can be linked to WRs, ensuring tight coupling and tracking. If a bank needs to give loans based on WRs, enter into repurchase agreements, etc, they are ensured of authenticity. If traded or unloaded from the warehouse, then again the link to the physical commodity is maintained. As no one can duplicate this, tamper it and it is available for all to verify, it creates full traceability and transparency, ensuring quality while reducing risk of fraud."
Ahead
However, to get this implemented is a big challenge. The first is governance of warehouses, under process, with both WDRA and Sebi working on this. The next is giving RFID tags to all comsignments of commodities by an exchange, ensuring these aren't stored or moved without their knowledge. Then, the issue of maintaining quality of the stored goods and generating trust in the WR issued against such stored goods, which would be freely transferable - the receipt holder becomes owner and, hence, that receipt has to be electronic and secure. This is a long process. And, dispute resolution and addressing investors' grievances has to be ensured.
NCDEX recently became the first comex to introduce RFID tagging in its warehouses, integrated with its Comtrack repository.
"This is a milestone development in the storage and management of agri commodities in warehouses. Our efforts are directed towards bringing high-technology solutions to the warehousing space, that will bring in higher efficiency and trust to the entire agri eco-system," says Samir Shah, managing director of NCDEX.
Adding: "We have also developed a warehouse and warehouse service provider rating system. This will give a competitive business edge to warehouses with higher ratings and banks can also provide finance for goods stored in warehouses, with higher ratings at easier terms. Adopting technologies like block chain when they become mature for WR trading will possibly follow."
NATIONAL AGRI-MARKET
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A project of linking major national mandis through an electronic platform is being tested. Similar projects are already being implemented at state levels.
- The aim is wider market choice to farmers, making warehousing receipts issued against the deposited commodities a negotiable instrument, and tradable. This will smoothen financing for traders and farmers
* Warehousing regulator is finalising regulations for commodity repositories, a rating mechanism for warehouses and norms for independent inspection agencies
* Sebi is strengthening the warehousing regulations to be recognised by commodity exchanges
* NCDEX has started a project under which commodities in its recognised warehouses will be provided identification tags and record all transactions in that commodity. Setting the stage for trade in negotiable warehousing receipts
