From regulated to free markets
The role of strategic grain reserves
The collapse of Soviet Union has led to a general recognition that the adoption of central planning as the role model for economic development had failed to live-up to its expectations. As a result, and with encouragement from the International Monetary Fund (IMF), the World Bank and the donor community, many governments which had followed the interventionist path have now embarked, or are in the process of embarking, on a programme of structural adjustment. A cornerstone of this transition process is market liberalisation.
Within the agriculture sector the ultimate objective of market liberalisation is the abolition of existing regulations controlling and/or restricting the production and marketing of agricultural commodities in favour of a free, and competitive, market in which the private sector is the major participant and government intervention, if not eliminated, is minimised. Achievement of this objective will require that many long and closely held political convictions, conceived in the interests of developing social equality, will have to be revised. Chief amongst these are the concepts of government price regulation, in particular pan-territorial and pan-temporal prices, and the use of subsidies to keep prices of basic commodities below their true economic levels. If the proper market signals are to be sent to producers and consumers alike and the private sector encouraged to participate in the marketing process, prices have to be free to move in accordance with the prevailing market conditions. The private sector will, however, only be interested in investing in the grain market if an acceptable margin can be made by either moving grain from surplus to deficit areas, i.e. there are spatial price differences, and/or by storing grain early in the season for sale later in the marketing year when prices rise, i.e. there are temporal price differences. An essential first step in the liberalisation process is therefore to allow prices to vary from location to location and throughout the marketing year to reflect local and ultimately national availability and demand. Initially the extent to which prices are allowed to vary may be limited to avoid too great a shock on the existing system and to allow time for the private sector, and consumers, to adjust to the new circumstances. Subsidies, which have a distorting influence on the production and market decision making processes, also need to be abolished at an early stage to ensure that the correct market signals are sent to producers and market participants alike.
While full market liberalisation may remain the ultimate objective, due to the political sensitivity of the cereal sub-sector, it is probable that many governments will want to retain some supervisory influence, or involvement, to ensure that the market is adequately providing for the needs of producers and consumers and that attempts to manipulate the market by the unscrupulous are prevented. The extent to which there should continue to be a residual government role will depend on the efficiency and transparency with which the free market is operating and the danger, perceived or real, of circumstances arising in which the private sector is unable, or unwilling, to cater adequately for the needs of consumers. It is thus in the government's long-term interests to allay, to the extent possible, any lingering concerns which the private sector may have with respect to the market to encourage their fall and active participation the market. Any residual government involvement in the market should therefore be undertaken in support of, and in cooperation with, the private sector rather than in competition with it. This requires that the government gains the confidence of the private sector. Progress towards this goal can be made if the government is prepared to be open about the role it intends to play during the coming marketing year and under which circumstances, and in which manner, it will intervene in the market. Failure by government to recognise the importance of cooperating with the private sector will result in a loss of confidence by traders in the government's intentions which, in turn, will result in them curtailing, or discontinuing, their activities when trader perceptions of the risk of incurring losses through government intervention are high. To promote this spirit of cooperation consideration needs to be given to using private sector channels when government intervention is considered necessary, e.g. by purchasing grain for the reserve and selling grain from the reserve through private sector traders.
There are two routes open to governments considering moving from an existing regulated to a free market, the "big bang" and the gradual transition. Under the "big bang" major changes are introduced immediately with final restructuring of the market completed within one or two years. The major changes would include: the abolition of subsidies and fixed prices in favour of market determined prices; opening the market to private sector traders and companies; privatising or abolishing parastatal grain agencies or, where they continue to function for the time being in the public sector, requiring them to operate commercially and without access to privileges which are unavailable to private sector traders, e.g. access to cheap credit; removal of restrictions concerning the free movement of grain in the country and opening the import/export markets.
The gradual approach, as it implies, involves a more cautious liberalisation process in which the government progressively relaxes control of, and involvement in, the market while simultaneously encouraging the private sector to take over market activities. The period of time taken to complete the transformation process would depend on circumstances but could typically be spread over 4-5 marketing years. The rate of progress would depend on the rate at which confidence can be built-up in government circles that the private sector is sufficiently developed and responsible to undertake market operations in an orderly manner. Similarly, it would also depend on the response of the private sector to the market opportunities offered and the extent to which their interest can be encouraged. Clearly moving along the liberalisation process one or two steps at a time provides all participants; i.e. government, producers, traders, processors and consumers; with the opportunity for gradually acclimatising and adjusting to changing market conditions. However, as the private sector is motivated by profit, market regulations need to be relaxed sufficiently from the outset to provide scope for traders to make an adequate margin on their transactions if they are to be encouraged to invest in grain trading. The gradual approach also helps to avoid the likelihood of major shocks occurring in the marketing system which could have serious humanitarian and/or political implications. This is particularly the case for those countries which have operated a strictly regulated market over a prolonged period where it would be unrealistic to expect private sector traders, who have undergone years of suppression, to be able to step into the gap left by a sudden government withdrawal from the market. Traders will need time to build-up their capacities, in particular marketing chains and working capital, as well as their confidence and experience under the new marketing conditions. While petty traders, many of whom were previously operating informally in the parallel markets, will quickly become established trading small quantities and taking advantage of short-term arbitrage opportunities, traders with the resources to take longer-term positions, or to trade in sizable quantities, will take longer to become established. Market infrastructure will also need to be developed to meet the new conditions, e.g. privately owned or operated storage facilities and marketplaces, in particular assembly and wholesale markets, where grains can be freely traded. Similarly, processors, retailers and consumers will have to learn how to operate in a free market, and government needs to be assured that the market can operate effectively and not against the interests of producers and consumers, i.e. through manipulation of prices and supplies, or against national interests.
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Zambia Each year prior to the start of the marketing season the Ministry of Agriculture Food and Fisheries | issuer a pamphlet "Maize and Agricultural Input Marketing Arrangement for the coming marketing year. Relevant extracts from the 1996/97 pamphlet are given below. Market Supply and Demand Conditions wilt Determine Prices There will be: no producer or floor prices of maize.... the formation of regionally and seasonally differentiated prices for maize, or any other crop..., will be determined by market supply and demand conditions, Anybody may Buy or Sell Maize There will be no Government appointed Maize Buying Agents for the 1997/97 season. Anybody may participate m the buying and selling of maize on their own account. Registration of Maize and Input traders By the Food Reserve Agency All persons or companies interested in trading in maize and agricultural inputs must register with the Food Reserve Agency,.... to collect, and disseminate market information for the benefit of all marketing; participants,... Maize Import/Export Trade The 1995/96 export ban on maize and mealie meal will expire on the 30th April 1996 All intending importers/exporters will be required to register with the Ministry of Agriculture, Food and Fisheries...,the registration is only for the purposes of statistical information, Transitory Marketing Support for Outlying Area The Food Reserve Agency will undertake its purchases for replenishing the National Food Security Reserve in economically disadvantaged areas which may face depressed maize market, conditions. This Is expected to ease the burden of transition in these areas, where private sector operators are unlikely to venture. Prevision of Market Information The government will continue to provide market information to farmers, traders, cooperatives etc. By disseminating crop and input prices prevalent in various markets....the Food Reserve Agency is; expected to start providing such information for the Southern African sub-region and internationally.... National Food Security Reserve The Food Reserve Agency...will manage and operate the National Food Security Reserve on behalf of Government, The Agency will buys $tore and sell reserve stocks on the basis 01 an open tendering process. This will allow any interested party to sell, store for, or buy from the Agency under prevailing market conditions and at the ruling market prices. Details... will be announced and gazetted prior to 1st May 1996. |
Coping with food emergencies
Price stabilisation
Loan operations
In addition to their prime function of helping to cope with food emergencies strategic grain reserves can also be used to serve other functions. Most commonly they are given a price stabilisation role and occasionally the role of providing loans of grain to recognised organisations/agencies, e.g. when they experience delays in the arrival of their regular supplies. In determining whether it would be appropriate for a reserve to be used for undertaking such functions an assessment needs to be made of the possible additional risk if the reserve is unable fulfill its prime function as a result of such additional activities. This in turn will depend on the ability of the government, through its early warning or similar systems, to determine the likelihood of a food emergency arising during the current, or approaching marketing year, and the likely quantities of grain which would be required from the reserve to meet any such emergency. Quantities of grain held in the reserve which are surplus to these requirements could be assigned for other purposes.
As a general rule, the greater the number of responsibilities which a strategic grain reserve is required to undertake the larger will be the size of the reserve, or the resources required by the reserve. Government has therefore to make a value judgement of the additional benefits which could be obtained from broadening the role of the reserve against the likely additional cost.
With a long history of suppression of the private sector and government intervention in the market, it is to be expected that private sector traders will, for some time, be suspicious of government's intentions with respect to the use and operation of a strategic grain reserve and thus be wary of being too exposed in the event of an unexpected government intervention in the market. To allay these concerns government needs to adopt a transparent approach to the management and operation of the reserve by keeping traders fully informed of its intentions and avoiding actions involving use of the reserve in ways which could undermine confidence amongst traders.
Over the last twenty years many of the countries of Sahelian and Sub-Saharan Africa have experienced food emergencies of varying severity on several occasions, the most common cause of which has been drought. While the area has always been susceptible to erratic rainfall, the frequency with which the rains have failed in recent years appears to have increased with two or three poor rainfall years occurring together. Thus, while people may be able to cope with a single year of drought they face increasing difficulty in sustaining themselves over a period of sequential droughts as occurred in the Sahel in the early 1970s and in Ethiopia in the early 1980s. Although drought is the dominant cause of food emergencies, the countries are also susceptible to other events which can lead to food shortages either on a localised, national or regional scale. These include: floods, pest attack, i.e. locusts, and man-made events such as war and violent civil disorder which destroy the production base and/or the distribution structure, as have occurred in Burundi, Mozambique, Rwanda and Somalia.
The prime function of a strategic grain reserve is to provide a first line of defence in the event of a food emergency. Excluding the chronically food insecure, the sectors of the population that are vulnerable to periodic food emergencies fall into two broad categories. The first are those who are normally dependent on the market for their supplies, i.e. the urban population. This group is particularly important in Zambia where some 60 per cent of the population are urban based. Urban dwellers would normally have the resources to purchase their food needs from the market, but they can be vulnerable to shortfalls in market supplies and/or exceptionally high prices which, in a free market, are a reflection of supply shortfalls. When shortages start to appear in the market, or when prices reach unaffordable levels, this group can normally be catered for by ensuring that additional supplies are released into the market, e.g. through imports or sales from a grain reserve, thereby exerting a downward pressure on prices. The second group comprises those people in the rural areas who are normally self-sufficient but, in times of food shortages resulting from poor harvests or damage to their on-farm stocks, do not have the resources necessary for purchasing their additional food needs from the market. This is the typical situation of the vulnerable population groups in Malawi which has a rural subsistence economy. For these groups releasing grain into the market does not resolve their plight as, due to a lack of purchasing power, they are unable to gain access to it. Under these circumstances special relief programmes such as food-for-work, food stamps and supplementary feeding programmes, are required to provide for these people. The availability of a strategic grain reserve would enable such humanitarian programmes to be rapidly initiated, however, unlike market releases of grain from the reserve, releases of grain for relief operations do not generate income with which the reserve can be replenished by subsequent market purchases. To replenish the grain government will either have to make additional financing available, which given the precarious state of national finances in most countries is usually problematic, or, more commonly, through an appeal to the donor community.
The concept of price stabilisation can only be applied under circumstances in which market prices, producer and/or consumer, are allowed adjust to reflect market availabilities, otherwise there would be no price fluctuations to stabilise, i.e. they would remain constant at the price set by government. It also implies that there is a government agency, i.e. a parastatal, to intervene in the market as well as other operators, e.g. cooperatives, private traders, and mills, who have a degree of flexibility to set prices and whose actions bring about price fluctuations in the market. Under a system of price stabilisation government would typically attempt to maintain prices within a range, i.e. a price band. This price band would be bounded at the lower end by a floor or producer price and at the higher end by a consumer or ceiling price. Once prices move outside these limits the responsible grain agency would be required to enter the market and either buy at the floor price when farmgate prices fell below it or sell grain into the market if consumer prices exceeded the ceiling. The objective being to keep prices within the preset price band.
It has to be recognised that private sector involvement in any business activity is driven by the profit motive. Unless there is a clear indication that the potential profit from an investment is adequate to cover the perceived risk the private sector will not be interested in participating in the market. Therefore when determining the limits of the price band sufficient difference has to be made between the floor and ceiling price to enable an adequate profit to be made after all costs have been taken into account; i.e. handling, storage, transportation and financing; if the private sector is to be stimulated to invest in grain marketing.
Price stabilisation comprises two concepts, producer price support and consumer price stabilisation. Under producer price support a floor price is set at which the agency charged with operating the price stabilisation policy, normally the parastatal grain agency, is required to buy all grain offered which meets a quality specification, i.e. the agency becomes the buyer of last resort. Although it may sometimes be set at an incentive level, in an attempt to encourage additional production, the floor price would normally be set at about the cost of production to minimise any production and marketing distortions which a higher price would tend to encourage1 For countries which regularly have production surpluses, due notice needs to be taken of the export parity price when setting the floor price, as this is likely to approximate to a free market purchase price in years of surplus.
1 By offering so called "incentive" prices to producers for white maize on a pan-territorial basis countries such as Tanzania and Zambia encouraged its production in areas which were better suited to more drought resistant crops. As a result, in years of poor rains, farmers in these areas experienced disastrous reductions in production, often leading into transitory food insecurity. The severity of such calamities would probably have been significantly lower had millet and sorghum production been encouraged in these areas rather than maize.
A producer price support system is more feasible to operate if the obligation to maintain pan-territorial prices is abandoned in favour of declaring a few key points at which the floor price would be maintained. These would normally be at key storage locations of the parastatal agency. Producer prices away from these buying points would be allowed to vary according to market forces from the floor price. For example, in years of surplus producers distant from these buying points would receive a price lower than the floor price to reflect the costs incurred by the traders moving grain from the farmgate to the buying point. In years of surplus the buying agency would expect to buy substantial quantities of grain, particularly after harvest when the market price is at its lowest, while in years of deficit production the producer price would normally be higher than the floor price with the result that the quantities of grain offered to the buying agency would be minimal. However, depending on the size of the shortfall in production and the proportion of the crop marketed at harvest, there may be a period when producer prices, even in poor production years, fall below the floor level. To provide some support to remote or disadvantaged areas, where prices would normally be expected to be low, consideration could be given to making preferential purchases in these areas. Because of their remoteness and the cost of moving the grain to a consumption area, it is likely that the cost would be higher for purchases in these areas1 but government may consider that the social benefits out-weigh the higher financial cost. Care should, however, be taken to ensure that such support purchases due not unduly distort the normal functioning of the market.
1 If it was commercially profitable to buy grain in these areas private sector buyers would already be active in the market.
Abolition of pan-territorial pricing and limiting the number of points at which the floor price will be supported can lead to political pressure to increase the number of buying points as politicians attempt to curry favour with their electorate. As the establishment of prices which reflect the true market value of commodities at specific locations is the cornerstone of a free market, such political manoeuvring needs to be resisted if a free market structure is to be realised.
The quantities of grain purchased under a producer price support programme could either be used as part of the parastatal grain agency's normal operating stock, become part of the nation's strategic grain reserve or form part of the stocks used by government under its relief programmes for combating chronic food insecurity. It should be borne in mind, however, that in the years when the grain agency purchases substantial quantities of grain, i.e. when market prices are low, there is likely to be a surplus of grain in the market and thus, the likelihood that the reserve will be called upon to meet food shortages will be low. Conversely, in years when the agency buys little or no grain, because the producer price is above the floor price, i.e. years of relatively poor production, the likelihood that the reserve will be required to meet shortages is relatively high.
Consumer price stabilisation aims at capping consumer price levels at a declared ceiling price. This would usually occur in the later part of the marketing year when there is pressure on prices to rise as stocks start to run low. Once consumer prices reach the ceiling, or trigger price, grain would be released from the reserve into the market in an attempt to hold prices at the ceiling level. Care needs to be taken of the manner in which releases are made from the reserve to ensure that disturbances to the normal functioning of the market are minimised, and that private sector participants are not discouraged from participating in the market. This is particularly important when the private sector is being actively encouraged to import grain to make good shortfalls in market availabilities. Private sector importers will only be prepared to make arrangements for imports on their own account if they are assured that the government will not release grain into the market from the reserve, or any other source, at prices below the prevailing import parity price at the point of sale, i.e. the price at which grain can be purchased on the international market and delivered to a specific location within the country. Thus, if traders are to import grain, they need to be assured that the government will not release grain from the reserve into the market a prices below the import parity price.
Circumstances can arise when the import parity price is too high for the market to bear, i.e. consumers would be unable to afford to pay the real market price even though grain was available on the market, the government has the option of, either importing directly itself and then releasing the grain into the market at a price below the import price, or providing an import subsidy to traders to compensate them for the losses they would have incurred. Forced into a situation where one of these two options has to be used, the government would probably be better advised to adopt the former, i.e. to arrange for the imports directly, for the following reasons:
- when government is responsible for making import arrangements under circumstances of high international prices and/or high transport costs from a port to the required location, e.g. land-locked countries such as Malawi and Zambia, there is always the possibility of government being able to negotiate for a proportion of the required imports to be supplied on concessionary terms by a donor. This would reduce the average cost per tonne of the imports to government and therefore the potential loss if the grain has to be released into the market at a subsidised price;- as there are likely to be shortages throughout the country, the government, which would control the imported stocks, has a social responsibility to ensure that there is a fair distribution of the available stocks throughout the country. This would normally not be of concern to private sector traders, who would be wanting to maximise their profits;
- import subsidies are open to abuse by unscrupulous traders.
To avoid disturbing the normal functioning of the market and risking the alienation of private sector participants as well as to minimise the operational cost to government of intervening in the market, the private sector should be actively involved in the process of consumer price stabilisation. This can be achieved by government releasing grain from the reserve into the market through sales to traders. The traders would then distribute the grain to the market using their established marketing channels. The advantage to the government would be that there would be no need to establish costly distribution systems alongside those of the traders. Such sales could be made at a fixed price set by the government or by public auction.
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Zambia Safes from Food Security To avoid the impact that releases from the reserve could have on the normal functioning of the market the government of Zambia adopted in 1995 a system of open public leaders for the sale of grain from the reserve. Under this system stated quantities of gram in specified locations were offered for sale through press advertisements. An independent organisation was appointed to administer the tendering process and subsequent sale of the grain on behalf of the government. During the first half of W5 a total of 1,5 million bags were auctioned in three equal tranches. To ensure that as wide spectrum as possible of private sector operators could participate in the tendering process, a two tier system was adopted. This enabled various bidders to submit bids for varying tot sizes, e.g. milling companies could bid for up to 10 lots of 5,000 bags, while hammermills and traders could bid for up to i& lots of 500 hags. The bidding process was on a "where is and as is" basis. Bidders in addition to stating the number of lots, price per lot and location from which they wished to buy were also required to make a deposit equivalent to 1,0 per cent of the value of the bid on, submission of the bid. The opening of the bids was undertaken publicly with alt bidders being invited to attend. For the first auction a total of 179 bids were received, of which i4& were from hammermills and traders. Approximately 58 per cent of the- bids were successful. |
By reducing the risk of major price escalation or fluctuations, price stabilisation can provide government with a useful mechanism for the smooth transition from a regulated to a liberalised market. It could also provide the parastatal agency with the time it requires to restructure so that it is able to operate commercially in a competitive environment.
Although the necessary action may have been taken to arrange for the supply of grain to meet particular needs, e.g. imports by private sector traders to meet a market shortfall and food aid shipments for relief programmes targeted at the chronically food insecure, events outside the control of the responsible agencies can result in a delay in the receipt of the shipment, e.g. shipping delays, grain quality below contract specification. Such circumstances can result in shortages occurring in the market or in relief programmes having to be suspended pending the arrival of the shipment. Provided that there are no imminent demands likely on the grain reserve for meeting food emergencies, consideration could be given to authorising "loans" from the reserve to the agency concerned. Such loans would be "repaid" from the shipment, when it arrives. Care needs to be taken to ensure that grain quality requirements for replenishment, as well as quantity are adequately specified. To guard against possible default, particularly when the borrower is a commercial or public sector organisation, proof needs to be given as to how the loan is to be repaid and the transaction is covered by a legally binding agreement. Consideration could also be given to requiring an irrevocable bank guarantee for the value of the loan which would be redeemable in the event of a default.
Using the strategic grain reserve in this manner was a common feature in operations of the Ethiopian food security reserve during the 1980s, when loans were made to NGOs who were experiencing delays in the arrival of food aid or who had under-estimated the needs of their relief programmes and were awaiting the arrival of additional shipments. These loans were then repaid by the NGO immediately after the arrival of the shipment. During the 1994 refugee crisis when large numbers of people were suddenly forced to flee from Rwanda, the Tanzanian strategic grain reserve was used to supply grain "on loan" to donors, in particular WFP, to enable relief operations to be initiated. Had the reserve not been in position considerable delays would probably have been encountered in mobilising alternative supplies, with a resultant increase in human suffering.
