Sugar: cease and desist!

The TCP hopes to import 0.1 million tons of sugar before Independence Day. As tender for $527 per ton C&F was already approved nearly a month ago, the landed cost is expected to be close to Rs 84-85 per kg at current exchange rate. Incidentally, this is close to the ex-factory price of sugar (inclusive of GST) recommended by Ministry of Industries & Production last week. But will it push the brakes on upward pressure on prices?

Two developments make it patently obvious how government intervention is discouraging fundamental-driven price discovery of sugar. First, even though sugar production during marketing year 2020-2021 is 16 percent higher than last year, volume of sugar pledged with the banks is much lower. Estimates based on SBP data indicate that sugar stocks held under bank pledge at the beginning of July are 12 percent lower than last year, and may be barely sufficient to last through November. But how did we get here?

Regular readers would recall that the milling industry borrows heavily from banks during crushing season to finance its liquidity needs. However, even though the industry reportedly paid higher price for raw material on average during the latest crushing season, it appears to have financed a greater proportion of grower payments by liquidating stocks in the open market, rather than relying on increased bank credit and holding on to stocks for sale later.

This either indicates that market appetite for sugar is significantly higher this season compared to last year and demand has outstripped increased supply. Or, that the mills believed ex-factory price during crushing season (November – April) to be sufficiently high, and anticipated price uncertainty during the latter part of the marketing year (May – September). The latter possibility is particularly interesting, considering that market prices not only remained high, they still show no sign of abatement. Moreover, inventory carrying cost was significantly lower in the current season compared to last year, as the policy rate was at least 6 percentage points lower (policy rate changed gears in April 2020, when the crushing season was long over, and mills had already pledged their stock at higher rate between Dec – Mar 2020).

Thus, if mills did not hold on to stocks and open market was abundantly supplied from the very on set, are wholesalers and stockists responsible for upward pressure on prices witnessed recently? The Sugar Price Control Order issued by Controller General of Prices, MoIP earlier this month would indicate otherwise. According to the MoIP calculations, distributors and wholesalers retain margin of Rs 1 per kilogram of sugar sold. If MoIP is correct, even a mid-sized dealer with an annual turnover of 50 thousand tons of sugar (less than one percent of national output) would have to deploy Rs 4 billion worth of capital to turn a profit of Rs 50 million or 1 percent. Never mind that market price may move adversely between purchase-and-sale dates, and the wholesaler may not make any profit at all!

Clearly then, stockists and wholesalers also have little incentive in holding on to stocks, especially when administrative scrutiny of sugar prices is at an all time high, and arrest/raids have become increasingly common. Which raises the question: if both mills and wholesalers are sellers in a rising market while the administrative machinery is somersaulting to cap the rise in prices, what is driving the price upwards?

While there is no way to answer this question conclusively, it is possible that commercial users of sugar may be responsible for maintaining the price at current level. If the past three crushing seasons – since PTI came to power – are any guide, prices have only inched upwards. Market players may have little hope that the party will bury its axe with its jilted lover, and let the industry function freely, allowing supply and demand to reach equilibrium in due course.

Instead, endless insistence on early start of crushing might make sure that the sucrose recovery level may remain low even in the next marketing year, and any hopes of surplus sugar output – backed by improved crop forecast – may come to naught. Mills will also face increased pressure for timely and full payments to growers – inclusive of premium – as election year may be a bad time to fleece farmers and alienate the rural vote, as PML-N learned bitterly.

Easing of lockdowns, economic recovery, another round of consumption-led growth cycle, disenchanted sugar industry, cautious bankers, delayed – and astonishingly little - imports by TCP, higher price for growers, and greater administrative scrutiny for wholesalers: all point in one direction. That the supply gap in the market may be far from over, and may only exacerbate in coming months.

If that’s the case, commercial users – who consume up to 80 percent of national sugar production by some estimates – may have already priced in Rs 100 kg. They are also the best placed to be able to pass on the price increase to end consumers, whether its in the form of higher retail prices for beverages, soft drinks, tea stalls, bakeries, juices, sweat meat, or biscuits, cookies, and ice creams.

Repetitive administrative intervention has – expectedly – exacerbated the speculative activity in the market. Only this time, it may not be the profiteers, but genuine buyers concerned over adverse future price movement. If the GoP does not cease and desist even now, it will only have itself to blame.