Moving the wrong way

The recommendation by a committee of the Forward Markets Commission (FMC) to make physical delivery compulsory for outstanding positions on the expiry of a commodity futures contract has raised a controversy and with good reason.

The validity of some of its other recommendations, notably the ban on evening trading, can also be disputed. The mandatory delivery, though proposed to be introduced in a phased manner, may lead to some unsavoury repercussions.

The measure may have been conceived to protect the interests of farmers as commodity sellers, but the number of such operators on the markets is minuscule.

Its other objective could be to discourage speculators who have, at times, managed to manipulate the markets for their vested interests, as in the case of commodities like guar gum and jeera (cumin seed).

But mandatory delivery is bound to reduce trading volumes by pushing a lot of traders out of the market.

It might prove counter-productive from another angle as well as it may force traders to buy the stuff from the spot market prior to the delivery date, thus pushing up spot market prices and adding to price volatility.

What is worse, these fluctuations may also get reflected in similar unrealistic price movements in futures contracts as well.

This apart, since the necessary delivery mechanisms are still to be evolved, any hasty step would only create problems.

The suggestion for barring evening trading also seems ill-conceived. Though the ban is meant largely to keep non-stakeholders at bay, it will actually impede the necessary linking of Indian commodity markets with exchanges abroad.

Now that the government is amending the laws concerning the FMC and warehousing regulations, as announced by the agriculture and food minister, Sharad Pawar, on Friday, the whole gamut of issues concerning commodity futures needs to be viewed in its totality.

The past couple of years' experience in commodity futures has brought out several weaknesses of the existing regulatory mechanism.

These range from arbitrary settlement procedures to the lack of safe and enforceable margin systems. On the whole, trading still lacks the kind of transparency that is necessary for fair transactions.

What is needed is the introduction of options trading to address the delivery issue and simultaneously strengthening of the supervisory and regulatory mechanism for the commodity exchanges through the Securities and Exchange Board of India (Sebi).

In fact, the ban on options trading should have been lifted along with that on commodity futures trading. For, this is the best way to protect the interests of farmers as sellers of agri-commodities on the exchanges by giving them the right, but not the obligation, to deliver.

Farmers will, thus, be able to take advantage of any anticipated price rise at a later date""something they cannot do now.

Besides, banks and financial investment institutions should also be permitted to enter the commodity futures field. The use of commodity exchanges even for government purchases, such as procurement of wheat and rice, can be another step to strengthen this mode of marketing.

Considering the pace at which trading volumes are growing at the commodity exchanges, the government should lose no time in undertaking these badly-needed reforms.