Notes

Markets as cruel rationing systems

The price system operates through a harsh but effective logic. When tomato supply drops from 100 units to 90 units, markets must somehow convince exactly 10% of potential buyers to walk away. This happens through price increases that continue rising until enough people decide they'd rather not purchase tomatoes at that price.

The cruelty lies in how people respond differently to price changes. Some might switch to tomato puree or paste. Others might alter recipes to use more beetroot and less tomato in their pav bhaji. But the more essential a food becomes to people's daily consumption, the higher prices must rise to generate the necessary demand reduction.

Ajay illustrates this principle:

"Think about it. If the price of tomatoes goes up by 20%, is that material? Maybe tomatoes are so fundamental to making a pav bhaji that people say, "Look, I'll grin and bear it, and I'll just pay through my nose." In that case, that price has to go up even higher."

This explains why staple foods like wheat and rice experience more dramatic price swings than luxury items like avocados. When avocado supply drops, a modest price increase quickly convinces buyers to skip their avocado toast. But when wheat supply drops, prices must rise dramatically before people reduce their chapati consumption.

The cobweb model and agricultural dysfunction

Paul Samuelson's cobweb model describes how agricultural markets can become trapped in boom-bust cycles when farmers make planting decisions based on current prices rather than future market conditions. The model assumes farmers are not particularly sophisticated and simply react to whatever prices they observed during the last harvest.

When farmers see tomatoes selling for 200-300 rupees per kilogram, many decide to plant more tomatoes and invest heavily in fertilizers, pesticides, and labor. This coordinated response creates a surge in tomato production, leading to oversupply and price crashes down to 2 rupees per kilogram. Faced with such low prices, farmers might literally dump truckloads on highways rather than pay transportation costs to market.

The next season, having learned that "tomatoes are a very bad idea," farmers plant something else, reducing tomato supply and restarting the cycle. This dysfunction occurs when three critical decisions go wrong: what to plant, how much to invest in inputs, and how much to store.

The cobweb model requires farmers to be somewhat naive about market dynamics. In reality, healthy agricultural markets develop mechanisms that break these cycles and create more stable pricing.

Four mechanisms that stabilize agricultural markets

Healthy agricultural markets rely on four key mechanisms that India systematically undermines. First, futures markets allow farmers to see predicted prices for their harvest dates and even lock in sales contracts before planting. These markets create a public good through price discovery—even farmers who never trade futures benefit from seeing market predictions.

Ajay explains the fundamental concept:

"What you want in every country is active, vibrant, dynamic futures markets where a farmer can see that, "I'm sowing something today. At a future date, the crop will arrive. What is the prediction for the price of tomatoes on my harvest date?""

Second, storage systems allow private parties to buy excess production during abundance and release it during scarcity. This includes not just cold storage but also food processing that converts fresh tomatoes into paste, puree, or other preserved forms. Storage is inherently speculative—investors put money at risk buying cheap produce and betting they can sell it profitably later.

Third, domestic trade should allow seamless movement of goods across the country. When tomatoes cost 2 rupees in Andhra Pradesh but 200 rupees in Maharashtra, traders should be able to arbitrage this difference, stabilizing prices in both locations.

Fourth, international trade provides the ultimate buffer. Global markets are vastly larger than any domestic market, so countries should be able to import during shortages and export during surpluses, using the world economy to smooth local fluctuations.

How India systematically destroys these mechanisms

India interferes with each stabilizing mechanism through well-intentioned but economically destructive policies. Futures markets remain heavily restricted despite being moved from the Forward Markets Commission to SEBI. Policymakers continue to view futures markets with suspicion, often banning trading when prices rise, essentially shooting the messenger.

The Essential Commodities Act outlaws much private storage, treating it as illegal "hoarding" rather than recognizing storage as essential market infrastructure. This populist hatred of storage stems partly from Bengali movies that demonized traders, leading to legal frameworks that prevent private parties from performing the socially beneficial function of carrying goods from times of abundance to times of scarcity.

Ajay notes the intellectual origins:

"It's all the fault of you Bengalis that because there were so many Bengali movies around hoarders, that storage just got a bad name. It went by the name "hoarding." And the Indian state, sure enough, under the influence of all these sad movies, organized itself to outlaw storage."

Domestic trade suffers from APMC (Agricultural Produce Market Committee) restrictions that force farmers to sell only through designated local markets. This creates artificial monopsonies where farmers face limited competition for their produce, while buyers face limited competition in sourcing. The result is farmers receiving very low prices while consumers pay very high prices, with the difference captured by APMC-licensed traders.

International trade faces arbitrary import and export bans imposed whenever policymakers want to "stabilize" domestic prices. When global wheat prices rose due to the Ukraine war, India banned wheat exports, preventing farmers from accessing better international prices. Conversely, when domestic shortages occur, import restrictions often remain in place.

The APMC system and negative subsidies

APMCs represent perhaps the most destructive aspect of India's agricultural policy. These government-mandated monopolies force farmers to sell through designated local markets while requiring buyers to purchase through the same system. This eliminates competition on both sides of the market, creating what economists call a bilateral monopoly.

The human cost becomes clear through specific examples. Studies have found farmers selling tomatoes to APMCs for 2 rupees per unit while consumers buy the same tomatoes for 20 rupees. In a competitive market, farmers might receive 10 rupees while consumers pay 12 rupees, with the 2-rupee difference covering legitimate middleman services.

Sharad Joshi, the great farmer-economist, captured this tragedy in verse. Speaking from a farmer to a consumer:

"I die, my friend, and so do you. I sell my produce cheap and die; you pay so much that you die too."

This represents a negative-sum game created by state intervention. Both farmers and consumers lose while APMC-licensed traders capture the rent. Sharad Joshi termed this a "negative subsidy"—rather than receiving government support, farmers effectively pay hidden taxes through artificially suppressed prices.

The concept of negative subsidies extends beyond APMCs. When international prices for Indian crops rise but export bans prevent farmers from accessing global markets, farmers lose the difference between domestic and international prices. These losses often dwarf any direct subsidies like free electricity or fertilizer support.

MSPs and the distortion of agricultural incentives

Minimum Support Prices create systematic distortions by subsidizing specific crops regardless of market demand. When the government guaranteed MSPs for cereals but not pulses, farmers rationally shifted production toward cereals. This created a protein deficiency crisis since vegetarian Indians rely heavily on pulses for protein.

The health consequences compound over time. Government subsidies for cereals, combined with taxes on proteins, contribute to India's diabetes epidemic. The same policies that were meant to ensure food security end up promoting consumption of exactly the foods that public health experts recommend eating less of.

MSPs also create absurd environmental outcomes. In Punjab, MSPs for rice combined with free electricity incentivize farmers to grow water-intensive rice in an arid region. Farmers use subsidized electricity to pump groundwater, depleting aquifers while producing rice that would be better grown in water-abundant regions.

The environmental damage cascades beyond Punjab. Farmers burn rice stubble after harvest, and winds carry this pollution to Delhi, creating the capital's notorious air quality crisis. A policy intended to help farmers ends up damaging groundwater resources, contributing to climate change, and causing respiratory illness across north India.

Ajay captures the full policy disaster:

"You raise rupees one from the people as taxes, which imposes roughly a rupees three cost to the society. You use that to subsidize rice and wheat growing in Punjab, Haryana. That cheap price and wheat goes out into the country and spoils the health of people first. It damages groundwater resources, makes demands upon the electricity system, and emits solid particulate matter that damages the health of the entire Hindi heartland."

Sharad Joshi and the possibility of grassroots economic literacy

Sharad Joshi represents proof that sophisticated economic ideas can resonate with ordinary people when those ideas align with lived experience. Born in 1935, Joshi had an impressive career as a civil servant working in Switzerland and the UN before returning to India in 1977 to become a farmer on 23 acres in Maharashtra.

His direct experience with India's agricultural policies led him to diagnose the same problems that academic economists identify: state interference preventing markets from functioning. But rather than accepting that these ideas were too complex for farmers to understand, Joshi built a mass movement around them.

The Shetkari Sanghatana organized rallies attended by hundreds of thousands of farmers who understood intuitively that they were being exploited by the very policies supposedly designed to help them. Joshi also recognized the particular burden these policies placed on women, creating the Shetkari Mahila Aghadi that organized a legendary rally of 200,000 women farmers.

Joshi's greatest moment came during the BT cotton controversy. When the government moved to destroy the only successful cotton crops during a widespread crop failure—because they used banned genetically modified seeds—Joshi organized farmers from across the country to physically protect those fields. The satyagraha succeeded, the ban was lifted, and India became the world's largest cotton producer.

Amit reflects on meeting Joshi's followers:

"I met farmer leader after farmer leader, farmer after farmer who had the same beliefs about the world as me, but it had come to them from experience. They had not read Hayek and Bastiat, but they agreed with every word that Bastiat or Hayek would have written because it was a lived experience."

This demonstrates that economic literacy need not be confined to urban elites. When policies systematically transfer wealth from farmers to rent-seeking middlemen, farmers can recognize this exploitation and organize against it, even without formal economic training.

Scale and the future of Indian agriculture

Indian agriculture suffers from extreme fragmentation, with average farm sizes of just 1-2 acres. At this scale, farming cannot function as a proper business with professional management, access to technology, and economies of scale in purchasing inputs or marketing outputs. Small farmers often become dependent on local moneylenders who provide credit, sell inputs, and purchase crops, creating semi-feudal relationships that prevent farmers from accessing competitive markets.

The solution requires allowing consolidation through land markets, land leasing, and corporate participation in agriculture. This doesn't necessarily mean large corporations taking over—it could mean individual entrepreneurs managing 100 or 1,000 acres, or groups of farmers forming companies to achieve scale.

The romantic notion that cooperatives will solve these problems ignores the reality that agriculture requires professional business management. Running a cooperative is itself a business skill distinct from farming, and there's no reason to believe that farmers automatically possess cooperative management abilities any more than they automatically possess individual entrepreneurship skills.

Opposition to agricultural consolidation often stems from misplaced paternalism toward farmers and fear of corporate exploitation. But this ignores that farmers are rational economic actors perfectly capable of evaluating whether employment on larger farms provides better opportunities than subsistence farming on tiny plots.

The current system already creates exploitation through monopsonistic APMCs and predatory local credit markets. Allowing competitive labor markets and professional farm management could provide farmers with better opportunities while increasing agricultural productivity and reducing food prices for consumers.

Supplementary Resources

• India: An Agricultural Trade Powerhouse by Ajay Shah (Article, Business Standard)
• Diagnosing and Overcoming Sustained Food Price Volatility by Anirudh Burman, Ila Patnaik, Shubho Roy, and Ajay Shah (NIPFP Working Paper)
• Economic Freedom in Agriculture by Ajay Shah (Article, Business Standard)
• Climate Change for Practical People by Ajay Shah (Article, Business Standard)
• Price Distortions in Indian Agriculture by Shweta Saini and Ashok Gulati (ICRIER--World Bank Report)
• Six Puzzles in Indian Agriculture by Shoumitro Chatterjee and Devesh Kapur (Journal article, India Policy Forum)

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