The dynamics of cotton in terms of supply, demand, stock, trade, and hence its prices are changing faster than anticipated. The patterns and paradigms of its availability and consumption have also been distinguished in the last five years. Revival in demand for cotton after the world economic crisis of 2008-09 strengthened its prices during 2009-10, then scarcity and hyper trade activities pushed the prices at unprecedented levels during 2010-11.The ratio of cotton to man-made fibre (MMF) had tilted towards MMF in the post-2011 periods substantially, when international cotton prices zoomed to cross 200 cents per pound. It resulted in demand destruction in the cotton value chain globally.
It is also an irony that when India is becoming the largest cotton producer in the world, a situation of supply glut has emerged globally. The reactionary policies to handle the situation would bring, once again, a permanent loss in the cotton value chain. This article has explored some of the tenets in the world cotton conundrum in recent times and offers clues for responsive policies to mitigate the adversaries and hence avoidable losses for the Indian cotton value chain specifically.
State of World Cotton
The top five consumers of cotton in 2014-15 are China, India, Pakistan, Turkey and Bangladesh. Except Pakistan, there is a positive growth in cotton consumption by all major cotton consuming countries in 2014-15. So, a low but positive increment in world cotton consumption in cotton season 2015-16 has been projected by international cotton agencies. However, world production would be exceeding consumption by around 2 million tons. In fact, the global cotton consumption has been lower than production since 2011-12 and hence international stocks are building up.
Chinese cotton reserve policy had been also supporting this phenomenon. Year-end stocks are estimated at 21.5 million tons during 2014-15 which is 10 per cent higher than estimated stocks of 19.5 million tons in 2013-14. The volume of ending stocks amounts to 89 per cent of the projected consumption in 2014-15 and is forcing the prices down. The average world stock-to-use ratio in the last 25 years was 47 per cent. So, present world cotton stocks are almost double than the average.
The largest player of cotton in the world China- has influenced international cotton prices in a substantive way. There was a continuous fall in international prices since June 2014, as reflected by 'Cotlook A Index'. The Index was above 90 cents/lb till June 2014 and now hovering around 70 cents/lb. Though, in response to the low prices cotton consumption has been increasing in some major cotton consumption countries like China, India, Bangladesh and Vietnam. Yet, these increments are not big enough to bring demand pull inflationary pressure to reverse the moderation in international cotton prices. The A Index is expected to remain around 70 for the remaining period of current cotton season.
Chinese cotton policies during last three years have played a vital role in the present world stock build-ups. Their cotton state reserves bureau had started to buy cotton aggressively at higher than market prices since 2011. By October 2013, Chinese stock of cotton was over 58 per cent of global stock and was estimated to be around 13.6 million tons in the last cotton season.
Now, China is importing substantially lower quantity (40 per cent lower than the previous level) of cotton. China has started to supply cotton out of its reserves to domestic mills. It has limited the demand in cotton export markets in particularly for largest cotton surplus producers like USA and India. So, the international cotton prices have lessened the demand support to sustain the prevailed prices.
Already Cotlook-A Index has gone below its previous five years low mark of 70 cents/lbs level. Many cotton producing countries including India have support price policies to safeguard cotton producers. The US has already been providing direct support by compensating cotton producers against price decline below certain benchmark levels. Many others have also activated support mechanisms.
Among major producers and exporters of cotton, the US and Brazil have significant safeguards and capability to absorb any losses for the farmers. Though they claim that the support mechanisms are price neutralization measures, the fact is they actively distort trade. And because of the very size of its operations, China is able to dictate cotton trends globally and compensate their cotton farmers in various ways. In fact, the present world cotton conundrum has its origin in Chinese cotton stock and trade policies.
Support prices, directly or indirectly, interfere with free market principles of supply, demand and equilibrium prices. Fundamentally, demand factors either for exports or domestic mill consumption and the requisite restraint on speculators can set discernible price trends. Absence of these factors fail to support better prices and also bring unpredictability in cotton prices. If cotton prices decline significantly, traders may incur losses and planting of cotton may be discouraged in many countries including India. On the basis of these factors, international cotton body has forecasted 6-7 percent drop in world cotton production and land under cotton crop in 2015-16. In this situation, it becomes important to explore the state of cotton in India.
Approximately 7 million farmers own around 12.6 million hectares of the land with cotton cultivation in India. There are over 40 million people directly engaged in main agricultural activities, ginning/pressing activities and trading of cotton. Another 45 million people are employed into Indian textiles manufacturing sector that has mainstay of cotton. Cotton has been achieving the highest average growth rates of area, production and yield among all principal crops in India since 2000.
At present, India has largest number of people, productions and area under cotton in the world. Cotton and cotton textile exports from India are around Rs. 23,000 crore and Rs. 110,000 crore respectively and is steadily growing. However, all growth factors and sustenance in cotton economy highly depended on prices of cotton in India. India has now emerged as the largest cotton producer and has the highest average growth in cotton consumption in the world. Though there has been a substantive expansion in cotton consumption through mill demands, which has increased by around 60 per cent during last ten years. But, crop production has increased at relative better rate, that is, by 65 per cent during the same period. Thus, the country is likely to remain a cotton surplus country at least for some more years, until the domestic textiles industry is able to expand more to consume all our cotton for value added products. Therefore, currently our farmers are susceptible to global price trends and we have serious stakes in cotton exports.
China's new cotton policy under which direct subsidy is given with buying from its cotton reserves since April 2014 has led to a steep decline in international prices of cotton and this has impacted Indian domestic prices. Cotton exports have declined substantially in recent months mainly because of the demand recession in China. But more worrying is the fact that Indian cotton textiles industry is getting seriously impacted by the decline in prices and demand for yarn and fabrics both in domestic and global markets which may restrict cotton consumption in the country.
Cotton advisory board (CAB) has forecasted for a record crop this year and any decline or even stagnation in domestic cotton consumption can lead to increased stress in the cotton market. So, a bumper crop and uncertainty in both domestic consumption and exports pose a real challenge to our cotton economy at this juncture.
Growth in Cotton Consumption
India has registered a consistent growth trend in cotton consumption among major cotton textile producers with increasing share in world cotton consumption from 14% in 2002/03 to 22% in 2014/15 while China's cotton consumption and its share in world consumption have been declining in recent years. Most of the other major textile exporting countries follow the Chinese pattern while the focus continues to be on cotton and cotton products in India. In fact, Indian textile industry has an inherent strength and competitive advantage in cotton which it should not lose while intensifying its efforts to diversify into manmade fibre textiles.
Among major cotton producing countries, India is the only one where cotton consumption has been growing consistently. Studies show that India's competitiveness in the textile sector has improved over the last decade against most of the competing countries and there is immense scope for increasing our exports further.
Cotton price trend, MSP and way forward
There is a continuous decline in the average raw cotton prices in India since July 2014. The cotton season 2014-15, which begins on 1st October 2014, has been started with unique challenge of record production. There are waning exports to China due to change in its reserve policy that has priority to use Chinese domestic cotton rather import. There would be positive increments in domestic consumption for cotton by mills around 4 per cent, but this could not hedge the lowering down in export demand for Indian cotton by around 20-25 per cent in this year in comparison to the last year. Thus, prices would remain suppressed.
Average spot rates of Kapas opened this cotton year ( 1st October 2014 -30 September 2015) lower than minimum support prices (MSP) of Rs 3950 per quintal for in three states initially, that is, Andhra Pradesh, Telangana and Maharashtra. Cotton Corporation of India (CCI) was extensively procuring cotton from farmers directly in these regions under MSP operations.
Shankar-4/6 with MSP of Rs. 4,000 per quintal, Bunny/Brahma with minimum support prices (MSP) of Rs. 4,050 and DCH-32 of Rs 4,450 are mainly concentrated in the regions of Gujarat, Rajasthan, Madhya Pradesh and North India where their market prices were higher than MSPs. But subsequently the market prices had been decreasing with arrival of more cotton in the domestic markets. So, MSP operations became necessary in these States also. Many cotton analysts project that cotton procurement under MSP operations this year may surpass the last record of 9 million bales in 2008-09. Procurement this year may have already surpassed 8 million bales by now.
An alternate policy as direct transfer of subsidy to farmers
As the largest producer of cotton in the world, India has now become a critical factor with the prices and demand trends for world cotton as well as cotton textiles. MSPs have a decisive influence on domestic cotton prices. While massive MSP operations may protect the livelihood issues of farmers, they may also push up our cotton prices above international prices and render our cotton textiles uncompetitive in the global markets.
More pragmatic approach could be augmenting the domestic cotton mill consumption along the supporting the farmers income. MSP operations through the mechanism of government procurement also entail heavy cost to government exchequer directly. Therefore, it is necessary to explore the possibilities of ensuring that the farmers get the benefits of MSPs through some alternative measures.
Most of the other major cotton growing countries are supporting the farmers. The US and Brazil have direct transfer of subsidy to farmers. China, which had massive procurement operations during the last few years, is currently exploring other alternatives since its cotton procurements have pushed up domestic cotton prices substantially above international prices.
If a scheme can be devised for direct transfer of subsidies to the extent of the gap between market prices and MSPs whenever market rates fall below MSPs, this would provide the same extent of relief to cotton farmers without affecting the cotton textiles industry and its exports and with lesser cost to government. If this scheme of direct subsidy can be ensured then will surely prove to be better for cotton growers as well as cotton textile industry. A rough estimates show that the direct subsidy transfer to farmer would cost only 10-12 percent of total direct expenditure incurred through procurements and disbursals of cotton through CCI or any other similar agencies.
Quality of the cotton in terms of ginning, pressing as well as grading of the cotton will be also better ensured. Government will get rid of complete hassles of procuring, ginning & pressing, grading, logistics, warehousing of the material as well as sale of cotton seed. Seed cotton will be available in the open market and its price will be derived freely by the market forces of demand & supply.
With present system, high procurement costs to honour the MSP commitments are becoming unsustainable with huge subsidy costs and it is also against the competitiveness for domestic cotton textiles in value chain. This is a situation where all the stakeholders have to come together and help the government to devise a mechanism which is sustainable and will augur well with potential increments in cotton despite unfavourable global cotton situation. If not, then at present situation of depressed prices of cotton for farmers, huge procurement costs for government and non-market prices for industrial usages cumulatively bring uncompetitive and unsustainable factors into cotton ecosystem.
About the Author
The author is an Economist with CITI and Senior Research Associate with Centre for Policy Research
Comments