Chapter 2. Overview of Commodity Futures Exchanges and Its Governance in India

Transcription

1 Chapter 2 Overview of Commodity Futures Exchanges and Its Governance in India 2.1 Introduction India has a long history of commodity trading in forward and futures contracts (Lokare, 2007; Raipuria, 2002). It has received much attention after the introduction of three major National Commodity Exchanges namely Multi Commodity Exchange (MCX), National Commodity Derivative Exchange (NCDEX) and National Multi Commodity Exchange (NMCE) with online commodity trading in 2003 (Expert Committee, 2008). These national commodity exchanges are engaged in trading of both agricultural and non-agricultural commodities. The objective of this chapter is to present the trends in the growth and development of commodity futures exchanges and trading in India. The chapter also discusses the various development programmes and activities conducted by the Forward Market Commission (FMC) 20 and commodity exchanges for the smooth functioning of futures markets in India. As the present study deals with farmers and traders participation in commodity futures trading, it is useful to understand the extent to which such training programmes aid their participation. 20 Forward Market Commission (FMC) is merged into Securities Exchange Board of India (SEBI) from September 2015 onwards. 40

2 This chapter is arranged in six sections. Second section presents a brief history of commodity futures trading in India. The execution process of commodity futures trading is discussed in the third section. Fourth section presents the growth and development of commodity futures trading in India. Details on awareness programmes, capacity building programmes and price dissemination project organised and implemented by the Forward Market Commission and commodity exchanges are also discussed. The fifth section presents the regulatory framework governing commodity futures trading in India. The final section concludes the chapter. 2.2 History of Commodity Futures Trading in India The first commodity futures exchange of India was set up in 1875, in Mumbai, under the aegis of Bombay Cotton Traders Association. A clearing house for clearing and settlement of the trade was set up in Following this, futures trading in oilseeds was established in 1900 and wheat futures market was initiated in Hapur in 1913 (Lokare, 2007). Similarly, futures trading in raw jute were set up in Calcutta during 1912 and in bullion in Bombay during 1920 (ibid). During the post- independence period, commodity trading has gone through several changes. The Forward Contract (Regulation) Act was enacted in 1952 and the Forward Market Commission (FMC) was established in 1953 under the Ministry of Consumers Affairs (Forward Market Commission, 2009). FMC is a regulatory body of the government for the commodity futures exchanges in India. The1960s and 1970s witnessed high inflation as a result of unprecedented rise in the prices of oil products and agricultural commodities. Subsequently, futures trade was banned in most of the commodities except for pepper and turmeric to contain speculation in prices (Raizada and Sahi, 2006). The government appointed the Dantawala Committee (1966) and Khusro Committee (1980) to study the problems faced by the commodity futures exchanges and suggest steps to revive futures trading in agricultural commodities. On the basis of recommendations of the Khusro Committee, futures trading was permitted in commodities like gur (Muzaffarnagar and Hapur, 1982), potatoes (Hapur, 1985) and castor seed (Mumbai and Ahmadabad, 1985) (Raipuria, 2002). 41

3 Subsequent to liberalization of Indian economy in 1991, a series of steps were taken to liberalize commodity futures exchanges. The Kabra committee (1994), the earliest post reform committee had recommended the opening up of futures trading in some more commodities and recommended futures trading not be resumed in case of wheat, pulses, nonbasmati rice, dry chilly, maize and vanaspati considering the price situations. On the recommendations of Kabra Committee, futures trading was introduced in Coffee (Bangalore, 1998), Cotton (Mumbai, 1999), Soya oil (Indore, 1999), sugar (2001), tea (2002) and bullion (2003) and the international futures trading was started in pepper (Cochin, 1997) and castor oil (Mumbai, 1999) 21. The World Bank and UNCTAD joint mission report (1996) highlighted the role of futures market as market based instruments for managing risk and suggested the strengthening of institutional capacity for efficient performance of commodity futures exchanges. The report has also noted that government intervention is pervasive in sensitive commodities like wheat, rice and sugar in necessary situations to prevent the bad consequences of futures trading. Subsequently, the National Agricultural Policy (2000) and Guru Committee (2001) expressed support for commodity futures exchanges and emphasized the need for and role of futures trading in price risk management and marketing of agricultural produce (Expert Committee, 2008). The turning point in the history of commodity futures market was 2003 when a group of prohibited commodities were reopened up for futures trading along with establishment and recognition of three national commodity exchanges namely Multi Commodity Exchange (MCX), National Multi Commodity Exchange (NMCE) and National Commodity Derivative Exchange (NCDEX) with online and standardised trading (Expert Committee, 2008) 22. These commodity exchanges are engaged in trading of both agricultural and non-agricultural commodities. In the wake of consistent rise of inflation during the first quarter of 2007 and responding to the concerns expressed at various forums and by various opinions including that expressed by the Parliamentary Standing Committee of the Ministry of Consumer Affairs, Food and Public Distribution in its 17 th Report, an Expert Committee was set up under the Chairmanship of Prof. Abhijit Sen to examine whether and to what extent futures trading has 21 The details of various committees on commodity futures trading and their terms of references are given in Annexure table A2.1& A The major milestones of commodity market are provided in Annexure table A

4 contributed to price rise in agricultural commodities (Expert Committee, 2008). The empirical analysis of the report in respect of 21 commodities (accounting for about 98 % of share in total futures trade in agricultural commodities) show that the annual trend growth in agricultural commodity price accelerated after the introduction of futures trading in the case of 14 commodities (Chana, Pepper, Jeera, Urad, Chillies, Wheat, Sugar, Tur, Raw Cotton, Rubber, Cardamom, Maize, Raw Jute and Rice) and price decelerated in the post futures trading (2004 onwards) period for the remaining 7 commodities (Soy oil, Soy bean, Rape seed/mustard seed, Potato, Turmeric, Castor seed and Gur). The report further stated that agricultural price inflation accelerated during the post futures period does not, however, necessarily mean that this was caused by futures trading. One of the reasons for the acceleration of price increase in the post futures period was that the immediate pre-futures period had been one of relatively low agricultural price inflation, reflecting an international downturn in commodity prices (ibid). The Expert Committee (2008) also recommended that commodity futures exchanges have to decide the appropriateness and usefulness of commencing futures trading in agricultural commodities based on the concrete study of feasibility on a case-to-case basis. It however, noted that all the agricultural commodities are not suitable for futures trading and came up with a set of characteristics for identifying commodities for which futures trade may be allowed. These characteristics include, firstly, commodity that possesses suitable demand and supply conditions such that mean volume and marketable surplus is large. Secondly, the price should be volatile to necessitate hedging through futures trading and there would be demand for hedging activities as the spot market actors face price risk. Thirdly, commodity should be free from substantial control from government regulations (or other bodies) imposing restrictions on supply, distribution and price of the commodity. Fourthly, the commodity should be homogenous or alternatively it must be possible to specify a standard grade and to measure deviations from that grade. This condition is necessary for futures exchanges to deal with standardized contracts. Lastly, the commodity should be storable. In the absence of these conditions arbitrage would not be possible and there would be no relationship between spot and futures markets (Expert Committee, 2008; Periasamy and Satish, 2014). 43

5 As part of development of commodity exchanges, in 2008, the Commission (FMC) issued guidelines on setting up of new national multi commodity exchange. In 2009, Indian Commodity Exchange (ICEX) was recognised as fourth national commodity exchange. Subsequently, the 5 th national commodity exchange i.e., Ahmadabad Commodity Exchange (ACE) was recognised in Followed by this the 6 th national commodity exchange, Universal Commodity Exchange (UCE) was recognised in 2012 (Forward Market Commission, 2013). In 2014, the Government of India appointed Kolamkar Committee to suggest steps for fulfilling the objectives of Price discovery and risk management of commodity futures market. The Committee findings suggests that futures market is relatively well on price discovery and poor on hedging and therefore recommended policies to improve hedging and reduce price risk. The Ministry of Finance has proposed to merge FMC with SEBI in the budget. The merger is expected to solve the problems of inadequate manpower, research and monitoring capabilities of FMC to have a strong regulation (Lingareddy, 2015). The Forward Market Commission (FMC) has been merged with Securities and Exchange Board of India (SEBI) with effect from September 28 th, The details of national and regional commodity exchanges, commodities traded in various exchanges and the details of inception of futures trading in various commodities are given in the annexure (table A2.4, A 2.5 &A 2.6). 2.3 Execution of Commodity Futures Trading The traditional version of commodity futures trading is through open outcry method. In the modern electronic commodity futures trading, transactions take place through a computer system where bidding takes place between the buyers and sellers. The parties authorized to use the system (trading terminal) make public the prices they are offering, decide to pick up orders from the system and a central computer matches the bids and offers between the buyers and sellers (UNCTAD, 1998; Raipuria, 2002). The details of the execution of online commodity futures trading is presented in the following diagram (chart 2.1). 44

6 Chart 2.1: Order and Execution flows in Electronic Futures Trade Buyer Order input Order input Seller Confirmation Computer Verification of order Check credit risk Electronic trading Computer Verification of order Check credit risk Confirmation Orders are matched Execution Transfer of positions Clearinghouse Position and Margin settlement Clearing member Clearing member Source: UNCTAD (1998): Page number 15 As shown in the chart, buyers and sellers are the two key players of the commodity futures market like in any other market. The centralized trading terminal receives the buying and selling orders from different investors from different locations and bid take place once the orders are matched, verified and authenticated. After the bid take place, execution of futures trade take place by transferring positions (buying and selling of futures market contracts). Next step is the clearing house where positions and margin settlement take place and the final stage is clearance of contracts. 45

7 Next, we look into the present status of commodity futures trading in India in terms of volume/value of futures trade, commodity groups and their shares. 2.4 Current State of Commodity Futures Trading in India The national commodity exchanges have online commodity trading across the country. The introduction of online futures trading and decentralised trading system has led to the increase in volume and value of futures trade across the exchanges (Expert Committee, 2008). The agricultural commodities traded at the commodity futures exchanges include chana, mentha, pepper, cardamom, rubber, sugar, mustard seed, castor seed etc. Bullion, base metals and energy products are the major non-agricultural commodities traded at the commodity futures exchanges (Forward Market Commission, ). The following sections provide overall trends in the volume and value of futures trade across exchanges and across commodity groups to provide a background for subsequent analysis : Trends in Value of Futures Trading The following figure (figure 2.1) deals with the total value of futures trade in India. As seen in the figure, there is tremendous growth in the overall value of futures trade over a decade. The value of futures trade for the financial year was Rs crore as against Rs crore in the financial year Last two years shows a slight decline in the value of futures trade from Rs crore in to Rs crore in financial years (FMC Annual Report, ). 46

8 Figure 2.1: Trends in the Value of Futures Trade (Rs. Crore) Source: FMC, Annual Report, various years The exchange wise value of futures trade (turnover) which is provided in table 2.1shows that MCX contributes highest share (about 85 percent) to the total value of futures trade for the last few years ( to ) followed by NCDEX (11 percent) and NMCE (1.5 percent). The turnover has increased sharply from 32.7 percent in to 85 percent in at MCX whereas it has declined from 52.8 percent in to 11 percent in in NCDEX (Forward Market Commission, & Economic Survey, 2012). One of the reasons for the decline in the turnover at NCDEX could be the downturn in the share of agricultural commodities to the total value of futures trade and increase in the share of nonagricultural commodities in futures trading (Expert Committee, 2008). The NCDEX and NMCE are dominated by the agricultural commodities whereas MCX is dominated by nonagricultural commodities (Forward Market Commission, ). The other commodity exchanges (NMCE, ICEX, ACE, NBOT and others) contribute a meagre share to the total value of futures trade. 47

9 Table 2.1: Exchange wise Value of Futures Trade (Value in Rs. crore) Name of the Exchange Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) Value (% share) MCX, Mumbai 2456 (3) (33) (45) (59) (75) (85) ( 82) ( 82) ( 86) (87) (85) NCDEX, Mumbai 1490 (2) ( 53) (51) (35) (21) (12) ( 12) (1 2) (10) (10) (11) NMCE, Ahmadabad ICEX, Mumbai ACE, Mumbai NBOT, Indore Others (100) Grand Total (100) 4572 (12) (88) (100) (30) (66) (100) (3) (11) (100) (0.8) (3) (100) (4) (0.6) (2) (3) (100) (100) (0.7) (2) (100) ( 3) ( 2) ( 0.8) (0.4) (100) ( 2) (3) (0.3) (0.4) (0.2) (100) (1.5) (1) (0.7) (0.3) (100) (1) (1) (1) (0.01) (100) (1.5) (0.8) (0.5) (1) (100) Source: Forward Market Commission (FMC) Annual Report, , & and Economic Survey, Various years, Ministry of Food and Consumers Affairs, Government of India (Figures in bracket indicate percentage to total value) 48

10 Further details on commodities traded in the national commodity exchanges 23 shows that MCX trade majority of non-agricultural commodities and in that silver, gold and crude oil contributes about 80 percent of total value of trade over years (Annexure table A2.7). On the other hand, agricultural commodities constitute the highest in the share of total volume and value of futures trade in NCDEX compared to MCX (Annexure table A2.8). Among the agriculture commodities, soya oil, guar seed and chana accounts for more than 50 percent of the share of total value of trade in Whereas both the agricultural and nonagricultural commodities are traded in NMCE. The commodities like nickel, aluminium, zinc, rubber and soy oil constitute highest in the total value of futures trade in NMCE in (Annexure table A2.9). In Indian Commodity Exchange (ICEX) Mumbai, the share of non-agricultural commodities to the total value of futures trade is higher compared to agricultural commodities. Gold, silver, crude oil and copper cathode accounts about 90 percent of the total value of trade during to (Annexure table A2.10). Like ICEX, ACE Derivatives and Commodity Exchange, Mumbai, is a new national commodity exchange started in The share of agricultural commodities is higher in ACE compared to non-agricultural commodity. It is seen that refined soy oil, soybean, mustard, chana and guar seed contributes highest in the share of value of futures trade to total value of futures trade in ACE (Annexure table A2.11). The National Board of Trade (NBOT) Indore accounted for 0.43 percent of the total value of trade during In actual terms the total value of trade in NBOT, Indore was Rs crore during the same period. During the year, soya bean, soy oil and mustard seed were traded at NBOT, Indore. Of these, soya oil contributed 99 percent to the total value of future trade to agriculture commodities (Annexure table A2.12) Commodity Group wise Trends in Value of Futures Trading Commodity group wise volume and value of futures trade shows that there is tremendous increase in the value of futures trade for energy, bullion and other metals. While there is 23 Multi Commodity Exchange (MCX) Mumbai, National Commodity Derivative Exchange (NCDEX), Mumbai, National Multi Commodity Exchange (NMCE), Ahmadabad, Indian Commodity Exchange (ICEX), Mumbai, ACE, Derivatives and Commodity Exchange, Mumbai and National Board of Trade (NBOT), Indore. 49

11 slight increase in the value of futures trade for agricultural commodities from to , the share of agricultural commodity to the total value of trade has declined sharply from 68 percent in to 16 percent in with a negative growth rate compared to other commodity groups. The share of bullion and other metals have increased from percent in to 60 percent in The same trend is visible for energy products (table 2.2, figure 2.2 and figure 2.3). Table 2.2: Commodity group wise Value of Futures Trade (Rs. lakh crore) (36.15) (35.82) Commodity Groups 05 Bullion and 1.8 other (31.47) metals Agriculture 3.9 (68.18) (57.9) (64.55) 9.41 (23.15) (15.69) (12.2) (12.12) (63.95) (68.5) (72.15) (64.68) (13.21) (60) (16) (55.31) Energy (0.35) (8.45) (6.28) (12.3) (20.32) (19.3) (15.73) (22.1) (24) Others (0.09) Total (100) (100) (100) (100) (100) (100) (100) (100) (100) Source: Expert Committee (2008) & Forward Market Commission, Annual Reports, various years. Figures in bracket indicate percentage to total value Figure 2.2: Share of Bullion, Metals, Agriculture Commodities and Energy in the Volume of Futures Trade in % 31% Bullion and other metals Agriculture Energy 68% Source: Drawn using FMC data (Annual Reports, various years) 50

12 Figure 2.3: Share of Bullion, Metals, Agriculture Commodities and Energy in the Volume of Futures Trade in % Bullion and other metals Agriculture 16% 60% Energy Source: Drawn using FMC data (Annual Reports, various years) Although agricultural commodities led the initial spurt and constituted the largest proportion of the total value of trade till , this place was taken over by bullion and other metals and energy products. This was mainly due to stringent regulations like margins and open interest limits imposed on agriculture commodities and the dampening sentiments due to suspension of trade in few commodities. 24 Futures market growth from onwards appears to have bypassed agriculture commodities. There has been significant decline in 24 Margin also called clearing margins are the good-faith deposits kept with a clearinghouse usually in the form of cash. There are two types of margins to be maintained by the trader with the clearinghouse: initial margin and maintenance or variation margins. Initial margin is a fixed amount per contract and does not vary with the current value of the commodity traded. Margins are deposited with the clearing house in advance against the expected exposure of the trading member on his account and on account of the clients (Sahadevan, 2002). Open interest means the total number of futures contracts long or short in a delivery month or market that has been entered into and not yet liquidated by an offsetting transaction or fulfilled by delivery. It is the total number of outstanding commodity contract that have not been settled or offset by delivery. It is also called open contracts or open commitments (UNCTAD, 2011). 51

13 volume of futures trade in agriculture commodities from The overwhelming bulk of this decline is accounted for chana, maize, mentha oil, guar seed, potato, guar gum, chillies and cardamom. The decline in volume of these commodities exceeded the decline of futures trading volumes in all agriculture commodities taken together (Expert Committee, 2008). Further break up of individual commodity of each product group in volume and value of future trade in the commodity exchanges indicate that gold and silver accounts highest in the share of future trade in bullion. Whereas copper, lead, nickel and zinc contributes highest in other metals and chana, soy oil, mentha oil, guar seed, guar gum, pepper and rubber accounts highest in the agriculture commodities (table 2.3). The fast growing futures market and its efficient functioning needs complete participation of its various stakeholders. Considering this, the following section discusses various awareness programmes and other development activities conducted by the Forward Market Commission and the commodity exchanges to improve the functions of commodity futures trading in India. 52

14 Table 2.3: Commodity wise Volume and Value of Futures Trade (Volume in lakh ton & Value in Rs. Crore) Sl. Commodity No Volume Value Volume Value Volume Value Volume Value Volume Value 1 Bullion Gold Silver Platinum Bullion Total Metals other than Bullion Aluminium Copper Lead Nickel Steel Tin Zinc Iron Metals Total Agricultural Commodities Chana/Gram Wheat Maize Soy oil Menthe oil Guar seed Guar gum Potato Chilli Jeera (cumin seed)

15 Cardamom Pepper Rubber Other Agricultural Commodities Agricultural Commodities Total 4 Energy Plastic Others Grand Total Source: Forward Market Commission (FMC), Annual Reports, , , , and Note: natural gas, heating oil and gasoline volumes are not included in the total volume 54

16 2.4.3 Awareness Programmes As we emphasised in chapter one, efficient functioning of commodity futures market warrants active participation of physical market stakeholders. This would enable it to serve as a meaningful and effective platform for price discovery and price risk management and provide significant economic inputs to the physical market players, especially farmers, to support their production and marketing related decision making process. Creation of awareness among farmers and related bodies and organizations including the ones which could be potential hedgers/aggregators about the economic functions and benefits of the commodity futures market has been one of the major activities of the Commission. Apart from emphasizing the utility of markets, the programmes educate the participants about how to participate in the market, the precautions to be taken in this regard and the use of information generated by the market in their decision making process (FMC, ). The programmes are designed to meet the specific requirements of each category of participants. For example, the programmes for farmers are delivered in the local language in a simple format to understand. The awareness programmes for various categories of stakeholders are being organized on a regular basis by the FMC in collaboration with National Commodity Exchanges, various education institutions and other organizations including training and research institutions, viz., National Bank for Agriculture and Rural Development (NABARD), National Institute of Agricultural Marketing (NIAM), National Institute of Agricultural Extension Management (MANAGE) 25, Agricultural Universities and Commodity Boards. In addition to the programmes conducted jointly with the FMC, the exchanges also organize various programmes independently. Maximum emphasis is being given to awareness creation among the farmers. The programmes are being conducted at different locations all over the country. These awareness programmes are attended by different categories of market participants ranging from farmers, traders and members of commodity exchanges to bankers, teachers, researchers and students of universities, Government functionaries, warehouse professionals etc. 25 manage.gov.in 55

17 The table (table 2.4) below gives the details of awareness programmes organized by the FMC and commodity exchanges for the last six years. Table 2.4: Stakeholder wise number of Awareness Programmes No. of Programmes Percentage of Farmers programme Year Farmers Others Total to total Source: FMC, Ministry of consumer Affairs, Food and Public Distribution, GOI It is seen that there is a slight increase in the total awareness programmes from 114 in to 1027 in Similarly, the programmes conducted exclusively for farmers and other stakeholders have also increased (figure 2.4 and 2.5). But the absolute number of programmes is less. The demand for such programmes has been increasing over the years and in response, the number of programmes has also increased. The farmers response has been especially encouraging. Commodity exchanges (MCX knowledge hub, MCX IG& Arbitration, NCDEX, NMCE, ACE and ICEX) have also been undertaking various types of activities to increase the awareness and improve participation in the commodity futures market. Such awareness programmes conducted for physical market participants includes farmers, producers, traders, processors, importers, exporters and other stakeholders in the supply chain. 56

18 Figure 2.4: Stakeholder wise number of Awareness Programmes in farmers others Source: Drawn using FMC data (Annual Reports, various years) Figure 2.5: Stakeholder wise number of Awareness Programmes in farmers others Source: Drawn using FMC data (Annual Report, ) 57

19 The commodity exchange and institution wise number of awareness programme conducted indicates that more number of programmes are organsied by the national commodity exchanges followed by NABARD consultancy services (NABCONS), Multi Commodity Exchange Gramin Suvidha Kendra (MCX GSK) and National Institute of Agricultural Marketing (NIAM). Figure 2.6: Commodity Exchanges and Institution wise number of Awareness Programmes in MCX GSK National Exchanges NIAM, Jaipur NABCONS, Mumbai Source: Drawn using FMC data (Annual Report, ) Capacity Building Programmes Capacity building programmes are intensive training programmes held for two to three days duration. They are residential programmes aimed at building capacities of important stakeholders in the eco-system of commodity futures markets and to sensitize policy makers about the utility of futures markets. These programmes too are conducted for various categories of stakeholders like policy makers at the State and Central Government level, bankers, students and faculty members of agriculture universities, office bearers and members of partner institutes and agriculture universities which conduct capacity building programmes for and on behalf of the commission. Table 2.5 presents number of capacity building programmes conducted by various institutions for the last six years. 58

20 Table 2.5: Number of Capacity Building Programmes No. of Capacity Building Year Programmes Source: FMC, Ministry of Consumer Affairs, Food and Public distribution, GOI As the table (table 2.5) shows, eight capacity building programmes were conducted during which was increased to 103 (88 for general states and 15 for north eastern region) in These capacity building programmes mainly arranged for the exchange officials, researchers and staff of the training institutions to learn techniques of futures trading and to organise stakeholders trainings. Below figures (figure 2.7 and 2.8) presents stakeholders and institution wise number of capacity building programmes conducted during It is the students and faculty of research organisations, co-operatives and bankers who were the major participants of capacity building programmes. Figure 2.7: Stakeholder wise number of Capacity Building Programmes Co-operatives bankers students and faculty police officers 3 23 govt. officers Source: Drawn using FMC data (Annual Report, ) 59

21 Organisations such as NABARD Consultancies (NABCONS), Institute of Cooperative Management (ICM), Dehradun and various universities too have organised majority of the capacity building programmes. Figure 2.8: Institution wise Capacity Building Programmes ICM TOPIC NIAM 9 RICM BIRD NABCONS Universities Others Source: Drawn using FMC data (Annual Report, ) Price Dissemination Project (PDP) The dissemination of spot and futures prices of agricultural commodities to all agriculture sector participants, especially the farming community across the country has been identified as an important activity in the 11 th five year plan by the Planning Commission. The FMC as the regulator of the Commodity Futures Market in India has been given the mandate for implementing the directives of the planning commission for dissemination of agricultural commodity prices across the country. In response to this directive, the FMC formulated the price dissemination scheme which is being implemented by it across the country in partnership with the Department of Agriculture and Marketing, Ministry of Agriculture and the five national commodity exchanges- MCX, NCDEX, NMCE, ACE Derivatives and Commodity Exchange Limited, Indian Commodity Exchange Limited (ICEX) (Price Dissemination Project, 11th five year plan project). 60

22 The FMC in association with commodity exchanges initiated a process of dissemination of futures and spot market prices of agricultural commodities by installing price ticker boards at various locations across the country. FMC proposes to extend the project to post offices, rural branches of banks, warehouses, offices of cooperatives, panchayat offices and other areas frequented by the farmers. The dissemination of price information is expected to help various hedger groups, especially farmers, in their pre-sowing and post-harvest decision making process and hedging their price risks in the market. As on , 2130 price ticker boards have been installed at various locations spread across 28 states/uts. During the year , 267 GPRS based LED price ticker boards were installed (FMC, Annual report ) Price Discovery and Dissemination The commodity futures market in India comprises six national commodity exchanges- MCX, NCDEX, NMCE, ACE, ICEX, UCE and 18 commodity specific (regional) commodity exchanges. These exchanges perform critical economic functions of price discovery and price risk management. The prices discovered on the exchange are driven by commercial decisions on supply and demand and on the willingness to buy and sell price risk. Commodity futures prices, thus, serve as a mechanism for price discovery either for the present price or for determining expected future prices and therefore acts as a good predictor of what prices will be in future. Here it may be clarified that the exchange platform does not control prices in any way and that they only provide a platform for discovery of prices by traders using the exchange platform. The PDP endeavours to capture the prices discovered on the exchange platform on a real time basis and make it available to all stakeholders in the agriculture supply chain, especially farmers to enable them to take rational and informed decisions about cropping pattern and marketing strategies and thereby increase their farm income (Price Dissemination Project, 11th five year plan project). The price dissemination project envisages placement of electronic price ticker boards in mandis/agricultural Produce Market Committee (APMCs) which are networked under the Agriculture Marketing (AGMARKNET) project for display of physical and futures market prices of agricultural commodities. The project is implemented by the FMC and five national 61

23 exchanges MCX, NCDEX, NMCE, ICEX and ACE in coordination with the project team of AGMARKNET and National Informative Centres (NIC) under the overall guidance of FMC. The national commodity exchanges would upload physical market prices (polled price) and futures market prices of agricultural commodities discovered by the commodity exchanges and AGMARKNET prices into a central server at the Exchange from where it would be transmitted to the APMCs via the internet/leased line. These prices would be available on PCs placed in the APMC s premises. The futures and spot market prices of the three exchanges and the spot prices of AGMARKNET would be run on price tickers placed in the APMC premises connected to the APMC PC in the local language (chart 2.2). Chart 2.2: Network Diagram and Data Flow (Price Ticker Board) NCDE MCX AGMARKNET NMCE MANDI A DISPLAY BOARD A INTERNET MANDI B DISPLAY BOARD B DATABASE SERVER INTERNET MANDI C MANDI D DISPLAY BOARD C DISPLAY BOARD D WEB SERVER FTP/http SERVER MANDI E DISPLAY BOARD E Source: Price Dissemination Project Report, Forward Market Commission The operation of the price ticker board at the mandi level would be handled by the mandi authority. The price ticker board contains two line display board for displaying futures market prices of commodity exchanges and spot prices of AGMARKNET in the following format (table 2.6). 62

24 Table 2.6: Structure of Price Ticker Board Commodity Exchange/AGMARKNET spot name prices (scrolling) Exchange Future price of three Exchanges name (scrolling) Source: Forward Market Commission (FMC) Each exchange has been assigned a number of states for installing price ticker boards. A total of 28 states/uts are covered under this project (table 2.7). Table 2.7: States allotted for each Exchange for fixing Price Ticker Boards Exchange/ States MCX NCDEX NMCE ICEX ACE Punjab Rajasthan Gujarat Andhra Pradesh Goa Uttar Pradesh Chattisgarh Karnataka Bihar Delhi Madhya Pradesh Maharashtra Tamil Nadu Nagaland Uttarakhand Jharkhand Orissa Kerala Arunachal Pradesh Himachal Pradesh Jammu and Kashmir Sikkim Haryana West Bengal Mizoram Tripura Assam Manipur Meghalaya Source: Price Dissemination Project Report, Forward Market Commission (FMC) 2.5 Regulatory Framework for Commodity Futures Trading in India The Forward Market Commission (FMC) was set up under the Forward Contract (Regulation) Act, 1952 as formal regulatory institution. The associations organising forward trading have to seek recognition from FMC and the rules and bye laws of the association are approved by the Commission. The regular oversight of the market was done by approving suitable contract designs, fixing of price limits, trade margin requirements, open interest limits and clearing and settlement of the contracts. A continuous and daily reporting of trade details to the FMC is mandatory. Reasons for abnormal market behaviour are thoroughly probed to take remedial action to protect market and financial integrity. Any violations of 63

25 regulations and attempt to manipulate the market are investigated and penal actions taken against the participants can only be suspended or debarred from trade (this was done by the commodity exchanges). But the Forward Contract (Regulation) amendment Bill 2007 makes provisions to impose monetary penalty for violations of regulations and abuse of market practices. The autonomous status envisaged for the regulator by Amendment Bill is designed to provide it powers and capacity to intervene in the market more effectively and with greater agility to prevent any misadventure. These changes will enable the Regulator to maintain discipline in the market to generate trust in fairness and efficiency of the market (Expert Committee, 2008). The Forward Contract (Regulation) Act, 1952 envisages three-tier regulation: (1) The exchange which organises forward trading in commodities can regulate trading on a day-today basis; (2) the Forward Markets Commission provides regulatory oversight under the powers delegated to it by the central government and (3) the central government, Department of Consumer Affairs, Ministry of Consumer Affairs, Food and Public Distribution, is the ultimate regulatory authority. Chart 2.3: Three-Tier Regulatory System Ministry of Consumer Affairs FMC Commodity Exchange National Exchanges Regional Exchanges NCDE MCX NMCE ACE ICE UCE NBO 11 other regional exchanges Source: Forward Market Commission (FMC),

26 The need for a stronger and well planned regulatory system was felt from the beginning and concerns were expressed suggesting the empowerment of the FMC and amendment of Forward Contracts (Regulation) Act, Despite this, commodity futures trading on online commodity exchanges was allowed without taking adequate steps to strengthen the FMC and not putting a functioning regulatory mechanism in place (Sahadevan 2012). As a result, the FMC with its inadequate staff and regulatory strength has been able to address problems after they occur, rather than prevent them (for example, when the futures exchanges were allowed to function, no limits were specified on the number of open positions a client or a member can take per contract and there was no regulation towards the compliance of delivery of commodities). Taking advantage of this, some market participants tried to manipulate markets and as a result futures market prices witnessed extreme volatility for some commodities (Lingareddy, 2015). Considering these problems, there was a proposal on the merger of FMC with SEBI over a decade, ever since the start of futures trading in Finally in budget, Union Finance Minister proposed to merge FMC with SEBI. The merger is expected to solve the problems of FMC. The Forward Market Commission has been merged with Securities and Exchange Board of India (SEBI) with effect from September 28 th, At present, SEBI is the regulatory authority of commodity futures trading in India. 2.6 Conclusion This chapter provided an overview of commodity futures trading in India, with a history of the introduction of futures trading in different crops and elaborating the trends and patterns in the volume and value of futures trade both exchange wise and commodity wise. The exchange wise value of futures trade (turnover) shows that MCX contributes highest share (about 85 percent) to the total value of futures trade for the last few years followed by NCDEX and NMCE. The turnover has increased sharply from 32.7 percent in to 85 percent in at MCX whereas it has declined from 52.8 percent in to 11 percent in in NCDEX (Forward Market Commission, 2012 & Economic Survey, 65

27 2012). One of the reasons for the decline in the turnover at NCDEX could be the downturn in the share of agricultural commodities to the total value of futures trade and increase in the share of non-agricultural commodities in futures trading (Expert Committee, 2008). The NCDEX and NMCE are dominated by the agricultural commodities whereas MCX trades more in non-agricultural commodities (Forward Market Commission, ). The other commodity exchanges (NMCE, ICEX, ACE, NBOT and others) contribute meagre share to the total value of futures trade. There is slight increase in the value of futures trade for agricultural commodities from to But the share of agricultural commodity to the total value of trade has declined sharply from 68 percent in to 16 percent in Although agricultural commodities led the initial spurt and constituted the largest proportion of the total value of trade till , this place was taken over by bullion and other metals and energy products. This was mainly due to the regulations like margins and open interest limits imposed on agriculture commodities and the dampening sentiments due to suspension of trade in few commodities. Futures market growth in onwards appears to have bypassed agriculture commodities. There has been a decline in volume of futures trade in agriculture commodities from compared to non-agriculture commodities. The overwhelming bulk of this decline is accounted for chana, maize, menthe oil, guar seed, potato, guar gum, chillies and cardamom. The decline in the volume of these commodities exceeded the decline of futures trading volumes in all agriculture commodities taken together (Expert Committee, 2008). This chapter has also analyzed various awareness programmes and capacity building programmes organized by the Forward Market Commission and other institutions. It is seen that there is a small increase in the total awareness programmes from 114 in to 1027 in Similarly, the programmes conducted exclusively for farmers and other stakeholders have also increased. Commodity exchanges (MCX knowledge hub, MCX IG& Arbitration, NCDEX, NMCE, ACE and ICEX) have also been undertaking various types of activities for increasing awareness and improving stakeholders participation in the 66

28 commodity futures exchanges. Eight capacity building programmes were conducted during which was increased to 103 (88 for general states and 15 for north eastern region) in The final section of the chapter discussed the price dissemination project adopted by the FMC. As on , 2130 price ticker boards have been installed at various locations spread across 28 states/uts. During the year , 267 GPRS based LED price ticker boards were installed (FMC, Annual report ). It would therefore be interesting to see the extent to which all these initiatives have influenced the extent and nature of participation of stakeholders along the respective commodity supply chains. 67

29 Annexure Table A 2.1: Committees on Commodity Futures Trading in India Name of the Committee Year Committee on Major Recommendations Shroff Committee An expert committee on the futures markets Setting up of Forward Market Commission to regulate the functions futures 1950 Regulation bill, 1950 markets Dantwalla Committee 1966 A Forward Markets Review Committee Recommended steps to revive futures trading in more commodities Khusro Committee 1979 A Committee on Forward Markets Recommended steps to revive futures trading in more commodities Kabra Committee Recommended opening up of futures trading in 17 selected commodities and also recommended that futures trading not be resumed in case of wheat, 1993 A Committee on Forward Markets pulses, non-basmati rice, tea, coffee, dry chilly, maize, vanaspati and sugar Guru Committee Expert Committee on Strengthening and Expressed support for commodity futures and emphasized the need for and 2001 Developing Agricultural Marketing role of futures trading in price risk management and marketing of agricultural produce The committee has been unable to determine any conclusive causal relationship in view of short time period during which futures markets have functioned and the complexities that arise because a large number of variables impact spot prices. The committee has therefore concentrated on the steps necessary to make futures markets accessible to farmers. Expert Committee 2008 Expert Committee to study the impact of Futures Trading on Agricultural Commodity Prices Kolamkar Committee 2014 Committee to Suggest Steps for Fulfilling the Objectives of Price Discovery and Risk Management of Commodity Derivatives Market Source: Author s Compilation Transactions costs on the futures market are an impediment to arbitrage. FMC should pursue a program of market development, including promoting a diverse array of firms as members in order to improve market liquidity. 68

30 Table A 2.2: Terms of References of Committees on Commodity Futures Trading Shroff Committee (1957) 1. To scrutinize and, if necessary, revise the draft Futures Market (Regulation) Bill in the light of the comments received from various commercial organizations. 2. To submit a short report together with the revised draft bill and a memorandum explaining in brief the reasons for each clause of the Bill. 3. To express views on Model Rules for Associations, possible abuses of the proposed system of regulation and methods of checking them. Dantwalla Committee (1960) 1. To review the working of the Forward Markets Commission during the last 10 years, to find out the extent to which the Commission has been able to carry out the objectives as embodied in the statement of Objectives and Reasons of the Statute 2. To assess the role that the forward markets can play in future in the light of the changed economic conditions in the country. 3. To suggest amendments to the existing Act in order to effect improvements. 4. To examine and suggest what other functions can be entrusted to the Forward Market Commission. Khusro Committee (1980) 1. Review the role that forward trading has played during the last 10 years. 2. Assess the role that forward trading can play in the prevailing economic conditions and marketing and distribution system in the commodities in which forward trading is possible, particularly in commodities in which resumption of forward trading is generally demanded 3. Examine the extent to which forward trading in commodities in which such trading may be permitted could be of direct or indirect benefit to producers and consumers of the commodities. 4. Examine the extent to which forward trading has special role to play in promoting exports. 5. Suggest measures to ensure that forward trading in commodities in which it is allowed to be operative remains constructive and helps in maintaining prices within reasonable limits. 6. Suggest amendments to the Act in the light of its recommendations particularly with a view to efficient enforcement of the Act to check illegal forward trading when such trading is prohibited under the Act. 7. Suggest measures for strengthening the Forward Markets Commission to achieve the objectives of making futures trading socially purposeful. 69