India's Agri-Business Sector and FDI in Retail Sector - VRK100 - 15Oct2012

Rama Krishna Vadlamudi, HYDERABAD   15 October 2012
www.ramakrishnavadlamudi.blogspot.com

Agri-business plays a large role in India now. Agri-business consists of all operations involved in the manufacture and distribution of farm produce; production operations of the farm; and the storage, processing and distribution of farm commodities and items made from them. Even though the share of agriculture sector in India’s gross domestic product (GDP or national income) is only 14 per cent, more than 60 per cent of India’s population depends on agriculture and related sectors.

In the context of developing Agri-business sector in India, we have to see the decision of Government of India to open up foreign direct investment or FDI in the multi-brand retail sector. It is vital to encourage private sector investment in agri-business by removing unhealthy controls and curbs. The growth of agri-business is also a pre-requisite for reining in inflation, especially food inflation.

India’s food inflation has been very high for several years due to numerous bottlenecks in the supply chain mechanism. There is a need to bring in some reforms to clear the bottlenecks. As per a study, global food inflation is going to rise substantially in the next decade impacting mostly the world’s poor.  

Need to Reform the Archaic APMC Act

The Central and State governments need to reform the Agricultural Produce Marketing Committees (Regulation) Act or APMC Act, which has proved to be a drag on agri-business economy. In India, as of March 2010, there are about 7,150 agricultural produce markets (APMCs) regulated under the APMC Act, which is archaic and does not serve the current needs of farmers and other stakeholders. And these markets (known as mandis locally) are highly inefficient and unprofessional and they charge very high taxes on farmers owing to various intermediaries and middlemen.

Farmers pay outrageously high and multiple taxes – like, market cess, octroi/entry tax, sales tax and weighing charges – amounting to more than 12 per cent of the total value of produce marketed. These multiple taxes are in addition to commission charged in the range of one per cent to eight per cent. As it is the terms of trade in farming are not in favour of them – farmers pay very high input costs such as pesticides, fertilizers, and labour chargers even though the procurement/support prices have been raised substantially in recent years. Another source of worry for Indian farmers is non-availability of power.

Traders and middlemen have a stranglehold on the markets (APMCs) for several years and are enjoying monopoly and distorting agricultural trade. It is found that these regulated markets have constricted investments in increasing the storage capacity, hampered the development of effective market institutions and lowered the capacity of agricultural producers. The result is that farmers have not been able to get a fair price for their produce, while consumers have been paying higher prices for the produce.

Woeful Lack of Agri-Biz Infrastructure

India has a woeful shortage of warehouses, which are essential for storing agricultural commodities. The existing warehousing capacity is around 109 million tonnes (Public sector – 75; Coop. sector – 15 and Private sector – 19) and this is not enough to store the food grains produced. It is estimated the gap in storage capacity is going to be around 35 million tonnes by 2017.

It is horrendous to find that the government-owned Food Corporation of India’s warehouses have been overflowing with food grains resulting in sheer wastage.

It is appalling to note that cold storage facilities are available for only 10 per cent of fruits and vegetables. It is an irony that around 30-40 per cent of fruits and vegetables and 10 per cent of food grains produced are wasted due to inadequate post-harvest storage and transportation facilities even though India is the world’s second largest producer of fruits and vegetables. Only seven per cent of value addition takes place and only about two per cent of produce is processed commercially. Value addition activities are like grading, cleaning, sorting, packaging and primary processing.

According to a latest study by Boston Consulting Group, agricultural produce to the tune of Rs 50,000-60,000 crore is wasted every year due to inadequate post-harvest infrastructure and insufficient supply chain management. Lack of scientific and technical facilities have been hampering most warehouses and logistics providers.

  

On top of the outdated APMC Act, we have an Essential Commodities (EC) Act which hinders free movement, storage and transport of agricultural produce across the country. Manufacturer of any product can sell anywhere in the country, but not a farmer due to various restrictions on goods movement inter-state and intra-state!

There is a need to shift the focus from agricultural subsidies to massive agricultural investment. Ashok Gulati, a veteran in the field of agricultural economics, has recently suggested that we need to invest massively in cold storages, developing agricultural markets, bring in agriculture research to fields, building rural roads and other infrastructure to give a boost to agricultural output and to increase farm incomes.

Government’s new FDI Policy in Retail Sector

Government of India on 14 September 2012 allowed foreign direct investment (FDI) in multi-brand retail sector and it made a few changes to FDI in single-brand retail. The details are as follows:

FDI In Multi-Brand Retail:

1. Foreign Direct Investment of up to 51 per cent is now allowed in multi-brand retail trading (This decision was kept in abeyance since November 2011 in the face of opposition from various quarters)

2. The foreign investor will have to bring in a minimum investment of $100 million (or Rs 530 crore as per current exchange rate) as FDI

3. State Governments can allow setting up the retail outlets as per state laws

4. Such retail outlets can be set up only in cities with population of more than 10 lakh as per 2011 Census

5. At least 50 per cent of the total FDI brought in must be spent in ‘backend infrastructure’ – within three years of the induction of FDI

FDI in single-brand retail:

1. For FDI in single-brand retail exceeding 51 per cent, at least 30 per cent of the goods purchased will be done from India, preferably from medium, small and micro enterprises, where it is feasible

2. It may be recalled that in January 2012, the Government enhanced the limit of FDI in single-brand product retail trading to 100 per cent

The Case for FDI in multi-brand retail sector

India is hungry for capital as it is deficient in it. Foreign investment, mainly foreign direct investment or FDI, helps the country in generating employment, providing innovation and ushering in new products for consumers.

With a view to bridging the gap between available resources and required capital, foreign investment is needed for the country. There are two sources of foreign investment – foreign direct investment (FDI) route and foreign institutional investors (FII). FDI is preferable to FII in view of the fact that FDI is long-term in nature and more sustainable. On the other hand, FII is considered ‘hot money’ and is prone to volatility in the markets. India attracted FDI to the tune of USD 48 billion in 2011-12. Since Jan.2012, India has attracted more than USD 20 billion of FII inflows (including equities and bonds).

In view of the very low and poor growth rate of 5.4 per cent GDP in the half-year beginning from January to June 2012 and the possibility and threat of a sovereign rating downgrade from rating agency Standard & Poor, the Government of India has decided to push for economic reforms in which opening up of FDI in multi-brand retail sector is a part.

As per the latest FDI policy on multi-brand retail sector, respective state governments are vested with powers to give licenses to companies that want to bring in FDI in multi-brand retail outlets. The central government’s decision to allow FDI is enabling provision for state governments to act. If a specific state government is not comfortable with central government’s FDI policy, the state government is free to not allow such outlets.

As part of the new policy, a lot of investments will be made in the back-end infrastructure, which includes, investment in processing, manufacturing, distribution, design improvement, quality control, packaging, transport, logistics, storage, ware-house, agriculture market produce infrastructure; excluding investments on front-end units.

New investments in agri-business sector will help improve agriculture productivity. One should not be shocked to know that India’s productivity in paddy and wheat is much lower than that of poorer countries, like, Bangladesh.

Foreign investment has the potential to decrease losses in the entire supply chain from farm to market. Wastages have to be removed and efficiency has to be built up in supply chain mechanism with the help of foreign investment. FDI in retail sector will benefit farmers through better supply chain management, newer technologies for warehouses and logistics, better prices for their produce and improved cold-storage and air-conditioning transportation system.

FDI in retail sector is likely to increase the government’s tax revenues. Modern trade in the form of cash-and-carry outlets, Indian corporate retail sector and FDI will help widening the tax net for the government.

The iron grip of commission agents and other vested interests on agriculture marketing needs to be cut to size for the growth of agri-business sector. Choice of new and wider product base for consumers will be widened. Consumers will also gain from lower prices due to higher competition.

Why some people are afraid of FDI in retail sector?

One criticism against FDI in retail sector is that it will lead to corporatization of the farming sector and corporates will take over all the farms in India. Here it may be noted that more than 60 per cent of India’s population depends on agriculture and land holdings are highly fragmented. In such a scenario on the ground, it is illogical to think that all the agricultural land will be infested with corporates.

Skepticism is also expressed that farmers will not get attractive prices from big retailers and small and medium enterprises will be shortchanged by the multi-national retailers. I think these fears are from stemmed from some sort of colonial hangover (from the British Raj) some of us suffer even after Independence.

Indian companies have survived global competition and in fact some companies have effectively repulsed frontal attack from reputed transnational companies.

Small retail outlets (known as kirana stores locally) have survived even though Indian corporate retail sector (organized retail) has been in existence in India since 2001. Many small retailers have been buying goods from cash-and-carry wholesale retailers, like, Metro and Carrefour for a decade because wholesalers offer good discounts to small retailers. It may be noted that India permitted 100 per cent FDI in cash-and-carry wholesale trade in January 1997 – based on which Metro of Germany opened its first store in Bangalore in 2003. And 51 per cent FDI in single-brand-retail was allowed in January 2006.

Concluding Remarks

What India needs urgently is to develop agri-business as a nationwide common market for agricultural produce and to provide (to farmers) free access to agriculture markets. At the same time, there is a need to cut down the role of intermediaries and middlemen so that the total taxes and commission charged from farmers is reduced drastically. Radical reform of the AMPC and Essential Commodities Acts is quite crucial, if not outright abolition of these outdated acts.

India is evolving and we need to welcome a lot of changes in policies that are suitable for current and future needs of younger India. There is no basis to feel apprehensive that FDI in retail will devastate millions of livelihoods in India.  

People generally invite reforms because reforms are capable of breaking the stranglehold of existing players who stifle competitive forces as well as widening the scope and landscape for other newer players to enter the markets.

My sense is that fears about what happened in the US and other countries are misplaced. India seems to be following its own policies suited to local needs. What happened in the US will, in all probability, not happen in India provided the policies are implemented well while protecting the interests of farmers and other stakeholders. The Government has some in-built safeguards in the FDI policy like, allowing FDI in multi-brand retail outlets only in cities with population of more than 10 lakh, 30 per cent local sourcing from medium and small enterprises, and minimum 50 per cent of the FDI must be spent on back-end infrastructure.

The new FDI policy on multi-brand retail outlets is expected to be beneficial to farmers as well as consumers in the sense that it would increase the prices for farmers, reducing prices for consumers, and evaporating the margins of middlemen and intermediaries. There are some misgivings whether the modern retail trade or organized retail trade (bet it foreign or Indian retailers) will be able to reduce prices for consumers. It is here that the Governments need to be vigilant while implementing the policies on modern retail trade.

Will the Governments do their job of protecting the interests of Indian population and implement the safeguards in policies, if it is found later that the modern retail trade has not benefited farmers and consumers? Considering the past record of Governments, my guess is as good as yours!

Having said that I would like to add that there is a ray of hope that India’s vibrant democracy is capable of withstanding any possible negatives from modern trade.

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Reference: Report on Agriculture Marketing by India’s Planning Commission, December 2011.

Disclaimer: The author is an investment analyst and freelance writer. His articles on financial markets and Indian economy can be reached at:

http://ramakrishnavadlamudi.blogspot.in/