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2021 may very well be named the year of Pakistan’s agriculture revival. Whether it is the return of Pakistan’s most important cash crop cotton, to record crop yields in other major crops, or launch of tech startups in agri-space, agriculture seems to have finally broken through the 5’o clock news barrier and become part of mainstream economic discourse. Some lead commercial banks have also jumped into the fray, announcing launch of ‘disruptive interventions to augment Pakistan’s agricultural value chain’.

Of course, any attempt to reform Pakistan’s agricultural sector is welcome. However, it may be wise to raise caution when the call for “disruption” comes from the biggest beneficiary of status quo: namely, commercial banks.

BR Research has previously highlighted how Pakistan’s commercial banking industry may be one of the major beneficiaries of public sector commodity procurement operations, in the form of profits on commodity operations debt stock. Building on a new research paper titled “Friendly fire: Wheat subsidy in Punjab” published in Pakistan Development Review (2021), fresh estimates by BR Research suggest that commercial banks may be the single largest beneficiary of public sector wheat procurement, at least at the provincial levels (PASSCO operations are not included in this analysis).

Using 3-month Kibor (daily average) for quarterly markup calculation and publicly available data from SBP on provincial commodity operations debt, average mark up amount accrued annually on provincial commodity debt comes out at Rs 50 billion over the last three fiscal years (FY19 to FY21). BR Research’s calculations assume bank lending to provincial food departments at 3M Kibor + zero spread, when in reality commercial banks may charge much higher markup rate.

Why is the markup amount paid significant? Because markup accrued on incremental debt obtained each season for fresh wheat procurement (averaging 5 million tons) is no more than Rs 12 – 15 billion. Remember, provinces procure wheat worth less than Rs 200 billion each year, yet much of the outstanding commodity debt stock - ~ total of Rs 550 billion – represents past outstanding borrowing, which in principle should be self-liquidating, but has turned increasingly hardcore over the years.

Another (tiny) public sector circular debt in the making? That is hardly news in Pakistan. Until you put things in context. Although it is true that government procures wheat from farmers on above market prices at the expense of consumer welfare, turns out even farmers are not the biggest beneficiary of wheat operations. How?

Over the last 10 years, federal and provincial government have paid farmers an additional Rs 100 to Rs 250 (per 40kg) above global prices in the in the form of minimum support price. Yet, even at maximum official procurement target – witnessed in FY20 – the incremental transfers to farmers pile up to Rs 25 billion. Remember, this is discounting both the landed cost of imports (which may be significantly higher than prevailing prices in the international market, as well as marketing expenses incurred in selling wheat to provincial food departments such as cost of bardana, labour, transportation etc).

Of course, public sector borrowing behaviour – and not banks’ lending decision – are at fault for mounting commodity debt stock at provincial level. However, it is hard to believe that it has escaped the attention of banking leadership. In FY12, provincial food departments borrowed Rs 100 billion to procure 3.9 million tons of wheat; in FY21, it borrowed Rs 185 billion, even though the procurement volume has remained largely unchanged. Meanwhile, a major chunk of the debt stock has to be rolled over each year - Rs 350 billion as per last counting (June 30, 2021).

At current outstanding, provincial food departments would need wheat stock equivalent to at least 12 million tons as collateral to cover their borrowing, when in fact PFD stocks at the end of latest procurement were no more than 6.5 million tons. Thus, in absence of primary security (hypothecation over wheat stocks), commodity debt must be secured against governments’ letter of guarantee. This means commercial banks are earning competitive interest rates on (effectively) lending to sovereign.

In an ideal word, lenders would demand immediate settlement of debt stock (loaned for working capital) purposes that has turned hardcore for now over a decade (as wheat procured in the past is no longer there!). But lucrative interest income earned means banks’ have every incentive not to do so. Lending to public sector is such a lucrative proposition that private sector wheat processors are barred from borrowing in the months when food departments are in the market to meet their own procurement targets. Moral hazard anyone?

The worst kept secret of Pakistan’s agricultural policy space is that any meaningful reform of agri-value chains must begin with the way the political economy of public sector commodity procurement is structured. If Pakistan’s banking leadership wants to walk the talk, it should persuade its favourite borrower to change its ways.

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