IN THE ensuing debate after the imposition of commodity transaction tax (CTT) in a newly inserted chapter VII of Finance Bill, 2008 (Para 179 of the Budget speech), the commodity exchanges (commexes) through the ministry of consumer affairs, have represented to the finance ministry asking for removal of CTT as it would lead to the transaction cost going up by over six times. Since bulk of the traded volumes is attributable to arbitrageurs and speculators, these market participants are likely to migrate to international commexes where such taxes do not exist. Also the participation in domestic commexes is not broadbased since 30-40% of the volumes are derived from top 10 customers. Thus, our commexes are primarily arbitrage exchanges dominated by arbitrageurs and speculators who make money on price spreads between domestic and international markets. Government and policymakers need to take urgent measures to address the structural weaknesses for improving market efficiency.
The efficient market hypothesis (EMH), first propounded in 1900 by French mathematician Louis Bachelier in his dissertation, ‘The Theory of speculation’, emerged as a prominent theoretical position after mid-1960s based on doctoral thesis of Eugene Fama. According to EMH, the prices of traded assets reflect all known information and is a collective belief of all investors about future prospects. Thus, it is not possible to have guaranteed profit as a result of pure trading process.
During recent years, the government has been following a reformist approach but some measures such as banning futures trading in wheat, rice, tur and urad; recent imposition of CTT; taxing of commodity options even before their introduction; and making capital gains applicable to commodity markets etc., act as a deterrent to growth of commexes. The debate on CTT has also highlighted an urgent need to address some market deficiencies to enable them to become centres of price discovery independent of the international markets.
First, for convergence of spot and futures prices, there is a need for rationalisation of multiple levies such as excise, customs, VAT, CST, market fees, cess, octroi imposed by the Union, state and local governments.
Second, the state-level APMC legislations should be amended to permit direct selling by farmers to producers, which would encourage contract farming and improve realisation of farmers and also bank financing.
Third, the Essential Commodities Act, 1955, originally enacted to curb hoarding is redundant now and should be scrapped. This would attract increased corporate investment in agricultural sector.
Fourth, the Banking Regulation Act, 1949 should be amended to permit banks to trade in commodity derivatives which would provide a protective cover to banks against default of agricultural loans by linking bank lending with simultaneous selling of futures contracts. This may also limit or obviate the need for subsidy and loan waivers as in the recent Union budget. Also institutional investors such as mutual funds, FIIs etc., should be permitted to participate in the commodity markets to attract enough liquidity for efficient price discovery. The corporates still prefer hedging their price risks at international commexes thus depriving domestic exchanges of the much-needed liquidity.
Fifth, to treat all commodity derivative transactions as business transactions and not speculative transactions by amending section 43(5) of Income Tax Act, 1961.
Sixth, the definition of ‘goods’ in Forward Contract Regulation Act, 1952 (FCRA) should include intangibles such as weather, freight, electricity, rainfall index, index futures, carbon credits etc., since they serve important economic functions of risk management.
Seventh, to permit options trading in commodities by amending section 19 of FCRA.
Eighth, FMC should have a role in regulation of spot markets also.
In addition, minimal government intervention in commodity markets as stipulated in Agreement on Agriculture of WTO, stable macroeconomic and capital control policy would reduce sovereign risk and improve market confidence.
While the primary purpose of commexes is price discovery and risk management to serve needs of actual users and hedgers, the need of arbitrageurs and speculators is to enable transfer of risk among a large number of market participants. The government needs to take suitable measures to attract liquidity in new generation technology-driven commexes. This is necessary if the Indian commexes have to reach international benchmarks of ratio of commodity futures versus physical trade of 10:1 as against 3:1 presently. Only then can Indian commexes become efficient markets useful for performing the function of price risk management on the same lines as established international exchanges.
(The author is a Fellow of the Indian Institute of Foreign Trade, New Delhi. Views are personal.)
• Our commexes are dominated by arbitrageurs and speculators who make money on price spreads between domestic and international markets
• There is a need for rationalisation of multiple levies such as VAT, cess, octroi
• FMC should also have a role in regulation of spot markets
No comments:
Post a Comment