Indian policy makers have traditionally coped with the uncertainty and risks associated with price volatility by resorting to policy instruments.

These instruments, because of their fiscal and economic costs are now progressively and selectively being relinquished by the government in an effort to spur agricultural growth. An alternative strategy to manage this uncertainty and risks inherent in agricultural markets would be the introduction of futures contracts in basmati rice, cotton seeds, raw jute and jute products, most oilseeds and their oils, major oilcakes, linseedand onions.

Agricultural futures are a market-based instrument for managing risks that potentially could form part and contribute to the orderly establishment of a more open and liberalised agricultural sector. India has a long experience in operating and managing commodity futures markets, but they have been operating under highly restrictive policies, providing them little chance to contribute in a significant way.

One must understand the economic role of the Commodity Futures Markets. Futures markets have emerged out of the need to deal with the risks associated with agricultural production, storage, trade and processing. They have also emerged in response to the counter-party default risk associated with forward markets.

Futures markets are used to hedge i.e.; cover for commodity price risks by providing a vehicle for market participants to exchange risks. Futures markets also serve as a low cost, highly efficient and transparent mechanism for discovering prices in the future, by providing a forumfor exchanging information about supply and demand conditions.

Participation in futures markets is not restricted to those directly involved with the actual physical (spot) commodity markets. In fact speculators play a critical role by providing for much of the needed liquidity in futures markets and generally represent the largest group of users. In contrast farmers are rarely active on futures markets, even in the US, but instead farmers benefit indirectly from the existence of futures markerts through easier access to better information about future prices and through higher prices resulting from lower marketing and processing costs. Indian commodity exchanges would benefit from foreign participation. It would enhance market liquidity, bring in valuable foreign exchange, as well as promote the development of a warehousing and financial service industry. From the point of view of the foreign entities, participation in Indian commodity exchanges can provide new portfolio investment and risk managementopportunities. Accommodating foreign accounts in Indian exchanges will not be difficult, by-laws were formulated in accordance with international standards.

There is no economic reason for a country to insist that all its risk management activities take place through a domestic exchange. International markets could provide similar services. In fact if a well-functioning international market already exists which adequately reflects Indian market conditions, Indian companies would gain little from the creation of a futures market in India. At least in theory, valuable foreign exchange may be saved if the local rather than the foreign market is used. On the other hand, interest in this market may well be limited, reducing its usefulness. However, risks associated with exchange rate fluctuations will generally involve trade-offs between basis and liquidity risks, unless instruments are available to hedge against exchange risks.

A stronger case can be made for commodity futures markets that offer riskmanagement opportunities not available elsewhere. This may indeed be the case for most of India's agricultural products. Domestically-oriented futures exchanges provide a price discovery and risk management mechanism where none would exist otherwise. While domestically focussed futures contracts may be of little interest to foreign users, regionally-oriented contracts are; in such an instance, contracts would need to be defined to balance the interest of both domestic and international players.

(The author is a commodity trader and operates through his firm, Prophecy Investments)