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It seems the incumbents in Islamabad won’t ever catch a break. Two and a half years into its rule at the centre, the PTI government is still bogged down with administering control over prices of basic essential commodities. As if a resurgence in domestic retail sugar prices wasn’t enough, wheat prices are also on a rise, climbing by 14 percent in Lahore during the past three weeks.

An interesting anecdote is making rounds on social media as to why prices are rising. The theory is premised over the recent bull run in the international commodity prices. Over the past 6 months, commodity prices of many food items as tracked by World Bank CMO have risen by one-third, with US SRW Wheat price marching ahead by 20 percent. Higher international demand is fuelling a tendency towards smuggling to Afghanistan, especially as domestic market has been flushed with duty free imports of 2.5 million tons imported during the last quarter.

And then the theory takes things up a notch. Because government has refused to increase the minimum support price to levels demanded by growers of Rs 1,800 – 2,000 per 40kg, traders are better off smuggling the commodity out of the country at a higher rate, rather than maintaining stocks for local consumption where they face the additional risk of raids by price control authorities.

Thus, in order to maintain price equilibrium in the domestic market and deter traders from smuggling, the government should set MSP at equivalence with current international price (Rs 1,800 – 2,000), especially since the bull run is expected to continue in the upcoming months.

It does not take a rocket scientist to figure out that the theory has its roots among local farmer-based advocacy groups, unhappy with provincial agricultural departments’ insistence that farmer plant wheat instead of maize or oilseeds in the ongoing rabi season on one hand, and refusal to increase MSP on the other. But what is wrong with the theory?

There are few ways to prove or disprove whether smuggling is taking place or not. Does it warrant increasing MSP is dubious, explained in this space several times before (For more, read “Increasing MSP: playing with fire?”, published by BR Research on 02 November 2020). However, as wheat harvest season fast approaches, members of federal cabinet and ECC may once again find themselves under fire for not raising the guaranteed base rate. For their benefit:

It is correct that when MSP is substantially lower than the secondary market prices (set equivalent to international commodity rates), traders and wholesalers earn abnormal profits at the expense of farming community who are forced to surrender stocks to provincial Food Departments at government demanded rates. At the same time, consumers end up purchasing the kitchen essential at import parity prices or higher – leaving them no better off than the farmers.

But consider the corollary where international prices crash but domestic prices don’t fall in tandem. Why? Because a floor is set for domestic prices in the form of MSP since the government is the biggest buyer in town buying at that rate. At a time when prices are on a rise globally, the only way government can make sure that farmers receive fair price for their output is to let them sell their produce to wholesalers and traders at market prices, which the government routinely fails to control anyway.

The PTI government has vowed to do things differently from its predecessors. The only way to fix the broken domestic wheat market is to show all participants a mirror: the reason why growers are fleeced out of fair price in a bull market is because government forces farmers to sell at a guaranteed rate. If it wishes to subsidize the price at which consumers procure wheat, the volume of wheat supplied to Utility Store Corporation should be increased instead.

The upcoming wheat harvest and procurement season will prove to be the litmus test. The government must keep the MSP intact, and instead let growers reap profits by lowering the official procurement target. If government’s procurement quota/target is reduced, farmers will sell to willing buyers in the private sector at mutually agreed prices. Meanwhile, it should ensure that imports continue to flow in freely, ensuring that secondary market prices are set equivalent to import parity.

If the government succumbs under pressure and increases MSP or sets an ambitious procurement target, rest assured that another wheat price spiral is on the cards beginning mid-2021.