South Asia Economic Focus

A Review of Economic Developments in South Asian Countries
Food Inflation
June 2011
THE WORLD BANK
Washington, D.C.
South Asia Region
South Asia Economic Focus
A Review of Economic Developments in South Asian Countries
Food Inflation
June 2011
South Asia Region
THE WORLD BANK
Washington, D.C.
iii South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Table of Contents
A Note on Fiscal Years and Financial Reporting by South Asian Countries . . . . . . . . . . . . . . . . . . . . . . . . . vi
Foreword . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . vii
Executive Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ix
CHAPTER 1: Why Food Prices Matter . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
CHAPTER 2: Determinants of Food Inflation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1. The Trajectory of Inflation in Recent Years . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
2. Short-term Pressures: Global Food Prices, Aggregate Demand, and Domestic Supply Shocks . . . . . . . 7
3. Long-term Effects: Productivity Slow-down and Structural Demand Shifts . . . . . . . . . . . . . . . . . . . . . 10
CHAPTER 3: The Impact of Agricultural Policies on Food Supply . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
1. Historical Perspective . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
2. Government Involvement in Agricultural Marketing . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
3. Policies for Agricultural Inputs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
CHAPTER 4: The Human Impact of Food Price Inflation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
1. Impact on Poverty . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
2. Mitigating the Impact . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
3. Bank Support to Safety Net Programs in South Asia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
CHAPTER 5: Policy Options . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39
Country Pages: Eight countries – Eight Graphic Economic Narratives . . . . . . . . . . . . . . . . . . . . . . . . 41
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 51
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries iv
ANNEX 1: Developments in Global Commodity Markets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55
ANNEX 2: Speculation, Financialization of Commodities, and the “New” Money . . . . . . . . . . . . . . . .63
ANNEX 3: South Asian Food Demand and Supply Balances . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71
ANNEX 4: Impact on Poverty of the Increase in Food Prices – Methodology and More Results . . . . 73
ANNEX 5: Selected Food Crisis Response Projects . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 77
ANNEX 6: Commodity Risk Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81
Boxes
2.1 Inflation In China – What is Different? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
3.1 The Opium Economy in the Context of Afghanistan’s Agriculture and Food Security . . . . . . . . . . 20
3.2 Agricultural Produce Markets Act (APMA) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
3.3 From the Arabian Nights – A Cautionary Tale from History . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26
3.4 Gujarat’s Agricultural Success . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
4.1 Recommendations for Safety-Net Policy Responses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
Figures
1.1 South Asia: Food Prices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
2.1 WPI Inflation in Major Emerging Market Economies . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
2.2 South Asia: Consumer Prices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
2.3 India: Food Articles’ Contribution to WPI Food Inflation. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
2.4 South Asia: Contribution to CPI Inflation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
2.5 Global Food Price Index and Its Components . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
2.6 Agriculture and Energy Prices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
2.7 International Commodity Prices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
2.8 The Price Spikes of 2007/08 and 2010/11 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
2.9 Imports of Rice, Wheat and Edible Oils . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
2.10 Domestic and International Prices of Rice . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
2.11 Domestic and International Prices of Wheat . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
2.12 Subsidization of Diesel Retail Fuel Prices Remains Particularly High in Bangladesh and
Sri Lanka . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
2.13 India: Household Inflation Expectations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
2.14 General Government Balances . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
2.15 Total Government Debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
2.16 India: Monetary Conditions Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
2.17 Industrial Production . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
2.18 Production Growth of Major Staple Food Items . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
2.19 India: Growth Rates in Consumption . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
2.20 India: Terms of Trade between Agriculture, Industry, and Services . . . . . . . . . . . . . . . . . . . . . . . . 16
2.21 Annual Per Capita Consumption . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
2.22 India: Household Survey Data on Consumption of Food and Non-Food. . . . . . . . . . . . . . . . . . . . . 17
2.23 India: Shares of Food Types in Food Baskets, 1987/88–2007/08 . . . . . . . . . . . . . . . . . . . . . . . . . . 17
3.1 Average Food Supply: Crops . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
3.2 India: Food and Fertilizer Subsidies, 1990–2012 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
3.3 India: Rice and Wheat Yields in Major Producing States, 2006–2009 . . . . . . . . . . . . . . . . . . . . . . 23
3.4 India: Groundwater Use Over Net Availability . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
4.1 Poverty Impacts of Recent Price Rises . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
Table of Contents v
A1.1 Rising World Consumption, Variable Supply, and Stock Draw-Downs have Fueled
Consecutive Grain Price Spikes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56
A1.2 Commodity Price Index (Nominal prices) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57
A1.3 Commodity Price Index (Real prices) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58
A1.4 Food Price Trends . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58
A1.5 Food Price Volatility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59
A1.6 Grain Consumption and Stocks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59
A1.7 Fertilizer vs Crude Oil Price Index . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61
A1.8 Food vs Fertilizer Prices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61
A1.9 Copper and Aluminium Prices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62
A4.1 Decomposition of Net Poverty Headcount Change by Commodity . . . . . . . . . . . . . . . . . . . . . . . . 74
A4.2 Decomposition of Net Poverty Gap Change by Commodity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 74
Tables
4.1 Changes in Poverty Headcount . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
4.2 Safety Net Readiness Assessment in South Asia . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
4.3 India: Household Consumption vs. Grain Delivieries to the PDS, 2007 . . . . . . . . . . . . . . . . . . . . . 34
A1.1 World Wheat and Rice Balances (million tons) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55
A2.1 Types of “Speculative Activity” . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 64
A2.2 Summary of Empirical Evidence . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67
A3.1 Bangladesh: Production and Imports of Food Grain . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71
A3.2 India: Agricultural Production, 2003–11 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 72
A6.1 Overview of Commodity Risk Management Instruments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 84
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries vi
A Note on Fiscal Years and Financial Reporting by South Asian Countries
South Asian countries’ national income and product account data refer to fiscal years that cut across calendar
years, except for Maldives and Sri Lanka which report according to calendar year.
The fiscal years for the respective countries are:
• Bangladesh and Pakistan: July 1–June 30
• Nepal: July 16–July 15
• India: April 1–March 31
• Bhutan: July 1–June 30
• Maldives and Sri Lanka: January 1–December 31
• Afghanistan: 1 April–31 March
Reporting practices vary. Bangladesh, Nepal, and Pakistan report their fiscal data in the second year of the
split, while India and Afghanistan report at the beginning of the fiscal year split.
Picture Credits
Cover, pp. ix, 11: Michael Foley, pp. vii, 29: Simone McCourtie, pp. 19, 25, 39, 83: Ulrich Bartsch, Copyright
World Bank.
vii South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Foreword
W
ELCOME TO THE FIRST ISSUE OF
South Asia Economic Focus, a biannual
series prepared under the aegis of the Chief
Economist’s office. This series reviews contemporary
economic developments in South Asian countries,
with each issue examining a single subject in depth.
The analysis seeks to identify key factors underlying
the issue, outline the policy challenges it poses to indi-
vidual countries and the region, and offer practical
solutions where possible. The publication is intended
for audiences within the Bank, its partners and client
countries in order to enrich fruitful discussion and
policymaking.
The current issue was prepared by Ulrich Bartsch
and Chandana Kularatne with inputs from John Baffes,
Sudeshna Banerjee, Julie Dana, Madhur Gautam,
Mohinder Gulati, Maros Ivanic, Maria Mini Jos, Ashi
Kathuria, Annette de Kleine, Jie Li, Luc Laviolette,
Nkosinathi Mbuya, Cem Mete, Mohua Mukherjee,
Claudia Nassif, Shilpa Phadke, Martin Rama, Mansoora
Rashid, Cristina Savescu, Monika Sharma, Hassan
Zaman, TG Srinivasan and the World Bank’s country
economists in the region, and with editorial support
from Peter Honey and Robert Reinecke.
ix South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Executive Summary
W
HILE SOUTH ASIAN COUNTRIES
weathered the Global Financial Crisis (GFC)
relatively well, and have since emerged from
their economic slowdowns, inflation has accelerated
above comfort levels. Food prices were the biggest
contributor to CPI inflation, although core infla-
tion (calculated by excluding food and energy items)
is accelerating in most countries. In fact, it overtook
food inflation in India by the end of 2010.
This report focuses on the impact of policies and
exogenous shocks on food inflation. It deals with
four elements: 1) the pass-through of global food
(and other commodity) prices, 2) macroeconomic
policies, 3) market regulation and short-term supply
shocks, and 4) long-term structural shifts and the
terms of trade between agriculture and other sectors
of the economy.
1. Food inflation is partly caused by increases in
global food prices. They have risen markedly
since mid-2010, which is part of a more general
phenomenon of rising global commodity prices.
Policies in the region differ in the extent to which
they allow external trade of food commodi-
ties, and pass-through of international prices to
consumer prices.
2. While South Asian countries have made cautious
progress toward rolling back macroeconomic stim-
ulus measures they had adopted in the wake of
the GFC, they have some way to go to reset their
macroeconomic policy stances to neutral. South
Asian countries have relatively high fiscal defi-
cits and public debt burdens, and fiscal policies
are still more expansionary than before the GFC.
Monetary policy rates are low, and have not risen
as fast as inflation. Policy rates are lower than rates
in other regions, but growth in monetary aggregates
is broadly in line with macroeconomic stability in
most countries.
3. Short-term supply shocks to agriculture are mostly
weather related. While sharp, often geographically
concentrated price spikes are to a large extent caused
by insufficient infrastructure (roads, cold storage),
red tape also restricts food markets in some coun-
tries from discharging their resource allocation
function smoothly.
4. Demand for food is undergoing structural shifts
as incomes rise. Growth in consumption of
pulses, fruits, meat, eggs, and dairy items is more
than double the consumption growth in cereals.
Inflation in these items has been higher than
in cereals. Public intervention in agricultural
marketing in India and Pakistan has high fiscal
costs and narrowly supports cereal production,
while high food inflation and continuing high
rates of food insecurity are linked to an inade-
quate supply response in non-cereal food prod-
ucts. Input subsidies, on the other hand, contribute
to the overuse of water resources, high losses of
electricity utilities, and deteriorating soil condi-
tions because of skewed application of fertilizer.
While these policies therefore do not contribute
to increasing agricultural productivity, their fiscal
costs divert resources away from interventions that
actually could expand production: for example,
investments in agricultural research, education,
and rural roads are amongst the most effective
public spending items in promoting agricultural
growth and reducing poverty.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries x
The poverty and nutritional impact of food price
spikes on the poor is significant since they spend a
larger fraction of their income on food than relatively
better-off individuals. Since the last food price spike
in 2008, governments in South Asia have strength-
ened safety nets, but gaps persist. The largest safety
net interventions in the region—India’s and Pakistan’s
public distribution systems for staple foods—are char-
acterized by high leakages and therefore costs, while
errors of exclusion are actually larger than the reverse;
that is, large numbers of the deserving poor are not
covered. These food based safety net interventions spill
over into agricultural policies, which lower the agri-
cultural supply response to rising non-cereal prices.
The report proposes five policy options for consid-
eration: 1) in the face of rising inflation caused by
rising food prices, demand management policies in
South Asia may need to be deployed earlier than in
advanced countries because of the high share of food
items in consumer baskets; fiscal consolidation would
be a priority; 2) foodgrain stock management needs
to improve, in particular in India; 3) over the longer
term, policies aimed at increasing agricultural output
and productivity would alleviate pressures on food
prices; these would include a focus on technology,
improved water management, rural infrastructure,
agricultural diversification, and private sector invest-
ment in marketing and the agro industry; 4) govern-
ments should exploit the efficiency gains they could
achieve (in terms of protecting and improving nutri-
tional status) through provision of more nutritious
foods (e.g. foods fortified with essential vitamins and
minerals) and by increasing beneficiary knowledge
on how to maximize household resources for nutri-
tional impact; and 5) governments should explore
developments of market-based tools and assistance
for managing risks, particularly those that affect the
government’s budget.
1 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
I
Why Food Prices Matter
I
NTERNATIONAL FOOD PRICES ARE ON
the rise again for the second time in four years, and
are raising concerns about the impact on poverty,
overall inflation, and external and fiscal balances in
developing countries. Higher and more volatile food
prices threaten food security by diminishing the ability
of people to access food when they need it. In partic-
ular, sudden and large food price increases—by eroding
household purchasing power—complicate their efforts
to adjust and often result in reduced calorie intake and
deteriorating nutritional content, in turn pushing more
people into poverty.
This report examines food and overall inflation
trends in South Asia, which is experiencing relatively
high inflation, and is home to a large number of poor.
There are many more poor people who are net buyers
of food than there are those who benefit from higher
prices of agricultural products even in the predomi-
nantly rural countries of South Asia. The report exam-
ines both short-term and longer-term drivers of rising
food prices in the region, including developments
in international commodity prices, domestic supply
shocks, accommodative demand side policies, struc-
tural changes in demand patterns, and long-term agri-
cultural productivity trends. The impact on poverty
is examined, as is the region’s preparedness for food
price shocks.
The priorities laid out in the Bank’s Post-Crisis
Directions paper (2010) and the mandate given to the
Bank by the G20 are to focus on food price volatility,
agriculture and food security, and agricultural produc-
tivity. In line with these priorities, the report ends with
some policy directions to manage the macroeconomic
impact of food price inflation, and the potential spill-
over into generalized inflation, to manage the social
impact of the food price hikes, and to hedge against
risks associated with food price volatility.
The report is organized as follows: Section II
discusses the anatomy and short- and longer-run
drivers of food and overall inflation in South Asia.
Section III discusses the impact of government poli-
cies affecting agricultural marketing, inputs and trade
FIGURE 1.1 South Asia: Food Prices
(y-o-y change in percent)
Bangladesh India Pakistan Sri Lanka Nepal Afghanistan World
–40
–20
0
20
40
60
80
1
/
2
0
0
7
4
/
2
0
0
7
7
/
2
0
0
7
1
0
/
2
0
0
7
1
/
2
0
0
8
4
/
2
0
0
8
7
/
2
0
0
8
1
0
/
2
0
0
8
1
/
2
0
0
9
4
/
2
0
0
9
7
/
2
0
0
9
1
0
/
2
0
0
9
1
/
2
0
1
0
4
/
2
0
1
0
7
/
2
0
1
0
1
0
/
2
0
1
0
1
/
2
0
1
1
Sources: CEIC and FAO.
Note: Country series show food component of consumer price index changes, World series shows changes in FAO Food Price Index, which is based on international
commodity prices.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 2
in South Asian countries. Section IV presents an assess-
ment of the impact of food price increases on poverty
and an assessment of the preparedness of South Asian
countries social protection schemes to cope with this
impact. Section V concludes with some policy direc-
tions that could be pursued by South Asia to improve
agricultural productivity and mitigate the impact of
food price volatility on its population.
3 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Determinants of Food Inflation
1. The Trajectory of Inflation in
Recent Years
Inflation rates in South Asia averaged close to 10 percent
in the years leading up to the global commodity price
boom of 2007–08, reached a high of 20 percent in the
summer of 2008, and slowed markedly with the collapse
of international commodity prices and economic slow-
downs associated with the GFC. Inflation in most
countries fell to the low single digits toward the end
of 2009. Since then, average inflation has been on
an upward trajectory and reached 10 percent by the
end of 2010. South Asian countries broadly share
this rebound in inflation with other emerging-market
countries because the rebound is driven in part by
the trajectory of international commodity prices (see
Figures 2.1 and 2.2, Box 2.1).
Food prices were the biggest contributor to CPI
inflation, although core inflation (calculated after
removing food and energy prices) was trending up
in most countries. In fact, in India core inflation
was driving overall inflation in 2010, although food
inflation was the biggest contributor to inflation in
the years prior to 2010. Inflation in India has risen
every year since 2007, notwithstanding the see-saw
trajectory in global commodity prices over 2007–09.
Non-cereal prices are rising fastest during the
current food inflation episode, unlike during the last
such episode in 2007–08, when cereal price increases
were responsible for a larger share of food inflation.
In India for example, the recent surge in food prices
is due to a spike in fruit and vegetable prices, which
increased by 22.8 percent (Figures 2.3 and 2.4). Items
such as milk, eggs, meat, fish and spices also experi-
enced double-digit inflation rates. The same is true for
Bhutan and Nepal as prices there closely track food
prices in India.
1
The South Asian countries have different infla-
tion stories:
Prices in Afghanistan rose at the end of 2010
because of difficulties in trade relations with its neigh-
boring countries. Economic growth is high because
of largely donor-financed construction spending.
Substantial differences between the Afghan and
Pakistani governments regarding the interpretation
of the Afghanistan-Pakistan Transit Trade Agreement
II
FIGURE 2.1 WPI Inflation in Major Emerging Market Economies
(y-o-y change in percent)
India Brazil China Thailand Philippines Malaysia Korea
0
–15
–10
–5
5
10
15
20
25
M
1

2
0
0
6
M
3

2
0
0
6
M
5

2
0
0
6
M
7

2
0
0
6
M
9

2
0
0
6
M
1
1

2
0
0
6
M
1

2
0
0
7
M
3

2
0
0
7
M
5

2
0
0
7
M
7

2
0
0
7
M
9

2
0
0
7
M
1
1

2
0
0
7
M
1

2
0
0
8
M
3

2
0
0
8
M
5

2
0
0
8
M
7

2
0
0
8
M
9

2
0
0
8
M
1
1

2
0
0
8
M
1

2
0
0
9
M
3

2
0
0
9
M
5

2
0
0
9
M
7

2
0
0
9
M
9

2
0
0
9
M
1
1

2
0
0
9
M
1

2
0
1
0
M
3

2
0
1
0
M
5

2
0
1
0
M
7

2
0
1
0
M
9

2
0
1
0
M
1
1

2
0
1
0
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 4
(APTTA) have resulted in a postponement of its
implementation. The areas of contention relate to
bank guarantees, international requirements for sealed
trucks, biometric systems and the installation of
tracking systems. Meanwhile, thousands of containers
bound for Afghanistan are stranded in Pakistani
ports. Iran blocked fuel supplies to Afghanistan in
December 2010. It is estimated that 30–40 percent of
Afghanistan’s fuel is imported from Iran. The blockade
halted 2,500 trucks and led to a 70 percent increase
in fuel prices in January 2011. The ban was lifted in
early February, but the government has since tried
to source fuel from other countries. Price increases
in transportation and fuels were 12.2 percent and
FIGURE 2.3 India: Food Articles’ Contribution to WPI Food Inflation
(percent change, y-o-y)
–5
0
5
10
15
20
25
Cereals Pulses Fruits & Veg. Milk Egg, Meat and Fish
1
/
2
0
0
8
3
/
2
0
0
8
5
/
2
0
0
8
7
/
2
0
0
8
9
/
2
0
0
8
1
1
/
2
0
0
8
1
/
2
0
0
9
3
/
2
0
0
9
5
/
2
0
0
9
7
/
2
0
0
9
9
/
2
0
0
9
1
1
/
2
0
0
9
1
/
2
0
1
0
3
/
2
0
1
0
1
/
2
0
1
1
3
/
2
0
1
1
5
/
2
0
1
0
7
/
2
0
1
0
9
/
2
0
1
0
1
1
/
2
0
1
0
Source: CEIC.
FIGURE 2.2 South Asia: Consumer Prices
(y-o-y change in percent)
Bangladesh India Pakistan Sri Lanka Nepal Afghanistan Average
–20
–10
0
10
20
30
40
50
1
/
2
0
0
7
3
/
2
0
0
7
5
/
2
0
0
7
7
/
2
0
0
7
9
/
2
0
0
7
1
1
/
2
0
0
7
1
/
2
0
0
8
3
/
2
0
0
8
5
/
2
0
0
8
7
/
2
0
0
8
9
/
2
0
0
8
1
1
/
2
0
0
8
1
/
2
0
0
9
3
/
2
0
0
9
5
/
2
0
0
9
7
/
2
0
0
9
9
/
2
0
0
9
1
1
/
2
0
0
9
1
/
2
0
1
0
3
/
2
0
1
0
5
/
2
0
1
0
7
/
2
0
1
0
9
/
2
0
1
0
1
1
/
2
0
1
0
1
/
2
0
1
1
3
/
2
0
1
1
Source: CEIC.
Note: Consumer price index (CPI) based; CPI for Industrial Workers for India.
Determinants of Food Inflation 5
FIGURE 2.4 South Asia: Contribution to CPI Inflation
(percent change, y-o-y)
Afghanistan
–20
–10
0
10
20
30
40
2007 2008
2008
2008
2009
2009
2009
2010
India
2007 2010
Srilanka
2007 2010
0
2
4
6
8
10
0
2
4
6
8
10
12
14
0
3
6
9
12
15
18
21
24
Miscellaneous Housing and Fuel Clothing Food
0
3
6
9
12
15
18
21
Bangladesh
2007 2008 2009 2010
0
2
4
6
8
10
Nepal
2007 2008 2009 2010
Pakistan
2007 2008 2009 2010
Source: CEIC, CSO-Afghanistan.
Notes: For India: CPI Industrial Workers; Afghanistan, Bangladesh, Nepal, Sri Lanka and Pakistan: National CPI, Calendar Year (January–December).
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 6
26.2 percent, which indirectly affected the price of
food items.
In Bangladesh, food price increases are the main
driver of overall inflation, and are driven by interna-
tional prices. Non-food inflation was 3.8 percent in
January 2011. Growth in monetary aggregates is high
and above the government’s target because of high
growth in credit to public and private enterprises.
Budget execution is better than expected, despite
pressures from rising food and fuel prices, because
of high revenue buoyancy. However, the fiscal stance
for 2011 is likely to be expansionary with a deficit
of 4.6 percent of GDP, compared to 3.1 percent in
fiscal 2010.
Price developments in Bhutan closely track Indian
prices. The Bhutanese currency, the ngultrum, is
pegged to the Indian rupee, and India is Bhutan’s key
trading partner.
India’s inflation was lower than the regional average
prior to the international commodity price boom and
only reached the low double digits at end 2008, partly
because government policies shielded consumers from
higher international energy prices. Inflation started
rising in mid-2009 because of the impact of deficient
monsoon rains on agricultural production and food
prices, and some delayed pass-through of higher oil
prices. Indian inflation reached a high of 16 percent
in January 2010, the highest in the region at the time,
but has since declined to slightly below 10 percent,
which is about average. Core inflation has been on a
rising trend since mid-2009 and reached 8.9 percent
in March 2011. If the recent momentum is main-
tained, WPI inflation will again reach double digits
by September 2011.
Maldives is one of the most open economies in
the world, largely because imports are so significant
(almost 70 percent of GDP in 2010). Food and fuel
products make up almost 40 percent of imports and
comprise 40 percent of the CPI basket. The recent
rise in international food and fuel prices, therefore,
raises concerns over a mounting balance-of-payments
deficit and consumer price inflation. Economic growth
is dominated by developments in the fiscal balance,
which has been improving but is still not in line with
macroeconomic stability.
With accommodative monetary policy leading to
high liquidity associated with remittances, inflation
in Nepal rose to nearly 15 percent in 2008 and has
remained in double digits since. In addition, during
most of fiscal 2010, Indian inflation was higher
than that of Nepal which, given the open border,
resulted in imported inflation. However, the two
rates have been converging in recent months. As of
mid-January 2011, annualized inflation was running
at 11.3 percent.
Pakistan not only imported higher inflation from
international commodity prices, but macroeconomic
imbalances and the floods of 2010 also provided
domestic sources for price rises. Inflation hovered
around 25 percent from mid-2008 to early 2009,
came down somewhat at the end of 2009, but is now
again around 14 percent, the highest in the region. The
surge after January 2011 resulted from supply short-
ages mainly in food items after the devastating floods
Determinants of Food Inflation 7
of 2010, a widening fiscal stance partly because of a
50 percent wage hike for civil servants, financing of
the fiscal deficit through monetization, but also from
otherwise welcome adjustments to unsustainable struc-
tural policies: an upward revision in electricity tariffs
by 17 percent, and an end to interventions by the
State Bank of Pakistan in the foreign exchange market
to finance oil imports, which resulted in some rupee
depreciation. However, the rupee has rebounded some-
what in recent months.
In Sri Lanka, inflation remained under 7 percent
throughout 2010, but rose to 9.8 percent in April 2011.
Food prices have determined inflation. Fuel prices
have had a minimal impact on inflation, because inter-
national oil prices were not passed on to consumers
until April 2011. Retail gasoline and diesel prices are
unchanged since the end of 2009, as the government
absorbed price increases by lowering fuel taxes.
Inflation rates in Sri Lanka and Afghanistan show
the strongest correlations with international commodity
prices, rising in 2008 before falling sharply in the last
quarter of the year. However, while Sri Lanka’s infla-
tion was close to zero through mid-2009, Afghanistan’s
was strongly negative.
2. Short-term Pressures: Global
Food Prices, Aggregate
Demand, and Domestic Supply
Shocks
Global Commodity Prices
From mid-2010, there has been a steep rise in the
prices of most agricultural commodities, including
food crops. In February 2011, the World Bank Food
Price Index surpassed the record high of June 2008
(Figure 2.5). It had registered the largest annual increase
since July 2008. A large contributor to the increase in
global food prices on the supply side is the rising cost
of energy (Figure 2.6).
2
Higher energy prices translate
into increased costs of fertilizers, costs of fuel for trans-
portation and running machinery, and lower produc-
tion of food stuffs because of competition for land from
the production of crops for biofuel. On the demand
side, fast income growth in large developing countries
has put pressures on the supply-demand balance (See
Annex 1).
Wheat prices have risen markedly since mid-2010
while rice prices have remained mostly flat. However,
unlike the food price hike of 2007–08, where 48 percent
of the increase in the overall food index was due to
rising grain prices, fats and oils, meat, soybeans sugar
are contributing the bulk of the rise in food prices
(Figures 2.7 and 2.8).
Moreover, food prices have displayed extraor-
dinary volatility over 2007–2010 with volatility in
grains, vegetable oil, and soybeans rising. Since the
1960s, sugar has consistently been the most volatile
FIGURE 2.6 Agriculture and Energy Prices
Nominal indices, 2000 = 100
0
100
200
300
400
1
9
8
6
1
9
8
9
1
9
9
2
1
9
9
5
1
9
9
8
2
0
0
1
2
0
0
4
2
0
0
7
2
0
1
0
Agriculture Energy
223% up
50% up
Source: World Bank.
FIGURE 2.5 Global Food Price Index and Its Components
Soybean Meal
Meat
Sugar
Fruits Oils Grains
Soybeans
2
0
0
5
H
1
2
0
0
5
H
2
2
0
0
6
H
1
0
50
100
150
200
250
300
2
0
0
6
H
2
2
0
0
7
H
1
2
0
0
7
H
2
2
0
0
8
H
1
2
0
0
8
H
2
2
0
0
9
H
1
2
0
0
9
H
2
2
0
1
0
H
1
2
0
1
0
H
2
2
0
1
1
Q
1
Total Food
Source: World Bank.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 8
agricultural commodity over each decade, while meat
prices have been least volatile on average. The increase
in volatility is due to an increase in the frequency of
supply shocks combined with limited reserves and an
increase in the production of biofuels, and an increase
in global macroeconomic volatility post-2000.
Increasing investment fund activity in commodity
futures exchanges is frequently cited as a contributor
to commodity price inflation. Despite much conten-
tion over the issue, however, empirical evidence shows
small or no impact. Most of the evidence suggests that
investment fund activity will probably not alter long
term price trends, but it may induce higher price vari-
ability by exacerbating the length and amplitude of
price cycles (see Annex 2).
Global Price Pass-through
South Asian countries vary in the extent to which inter-
national food prices feed through to consumer prices
depending on their openness to global markets and the
extent to which food prices are insulated from interna-
tional prices through subsidies and price caps. Inflation
rates in Maldives, Sri Lanka and Afghanistan show the
strongest correlations with international commodity
prices.
3
All countries in the region import a large share
of their consumption requirements of edible oil (see
Figure 2.9).
The degree of pass-through of international prices
depends on the commodity. Bangladesh, India and
Nepal allow limited pass-through of international
rice prices to the domestic market. For instance, in
Bangladesh the pass-through of rice prices is estimated
at only 16 percent while there is complete pass-through
of international wheat prices where imports account
for 80 percent of domestic consumption. Overall, for
Bangladesh, the domestic food price change (caloric-
weighted) between 2009Q1 and 2010Q4 is approx-
imately 38 percent while for international prices it
is 35 percent. Therefore in general, food prices in
Bangladesh rose with international prices (Figures
2.10 and 2.11).
FIGURE 2.8 The Price Spikes of 2007/08 and 2010/11
(percent change, Apr–Jun 2008 from a year earlier and Dec 2010–Feb 2011 from
a year earlier)
2007/2008 2010/2011
Beverages
Grains
Food
Agriculture
0 20 40 60 80 100
Source: World Bank, DEC Prospects Group.
FIGURE 2.7 International Commodity Prices
(Index, 2000 = 100)
50
100
150
200
250
300
350
400
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Wheat Rice Soybeans Crude oil Palm oil
Forecast
Source: World Bank, DEC Prospects Group.
Determinants of Food Inflation 9
Link Between Energy and Food
Prices in South Asia
While there is a clear link between energy prices and
food prices globally, the relationship is tenuous in
South Asia because governments regulate domestic
energy prices and pass-through of international prices is
limited. Therefore, the contribution of domestic energy
prices to food price inflation has been limited so far. In
India, the prices of diesel, kerosene and LPG are regu-
lated while petrol prices were deregulated in principle
last year but still have been adjusted only partially.
4

Bangladesh and Sri Lanka allow gasoline prices to
adjust over time, but keep diesel heavily subsidized in
order to protect their farmers.
5
Only Pakistan has a
formula-based price adjustment mechanism for both
diesel and gasoline (Figure 2.12).
6
Governments in the
region are keeping electricity prices artificially low to
the agricultural sector and, therefore, electricity prices
do not play a major role in food prices. In India, many
farmers receive free, unmetered electricity.
Domestic Supply Shocks
Domestic supply shocks contributed to food price infla-
tion in some South Asian countries. For instance, Pakistan
faced higher wheat prices given the crop damage from the
flooding of August-September 2010. This led to a jump
in food inflation to 21.2 percent in September 2010,
from 12.8 percent in July 2010 (y-o-y). The impact of
higher wheat prices has been particularly large since
wheat is the main grain staple. In India, inflation started
rising in mid-2009 because of the impact of deficient
monsoon rains on agricultural production, and unsea-
sonal rains and transport disruptions in November 2010.
7

In Sri Lanka, vegetable prices surged after devastating
floods in early January. Bean prices rose 55 percent and
coconut prices 70 percent compared to a year earlier.
Some non-essential foods that are preferred additions
to dishes rose even more over the year—red onions by
245 percent and chilies by 77 percent.
Macroeconomic Policies
Even though the main driver of inflation in South
Asia is food inflation, core inflation has been rising
from 2009 pointing to general demand side pres-
sures. Current account deficits are also widening in
the region. While the level is not worrying as such,
the widening supports the view that aggregate demand
is getting ahead of supply. On average, the countries
had current account deficits of 2.4 percent in 2010
as compared with 1.7 percent in 2009. The deterio-
ration in the current account deficit also reflects the
real appreciation of regional currencies with the rising
inflation rate differential between South Asian coun-
tries and their trading partners.
8
FIGURE 2.9 Imports of Rice, Wheat and Edible Oils
Shares of domestic consumption, 2008/9–2010/11 period averages, zeros
indicate no data available, ranked by wheat
0
20
40
60
80
100
120
140
N
e
p
a
l
I
n
d
i
a
P
a
k
i
s
t
a
n
A
f
g
h
a
n
i
s
t
a
n
B
a
n
g
l
a
d
e
s
h
S
r
i

L
a
n
k
a
*
Rice Wheat Edible oils
Source: FAO.
FIGURE 2.10 Domestic and International Prices of Rice
(Index, LCU, January 2007 = 100)
100
0
50
150
200
250
300
350
J
a
n
-
0
7
A
p
r
-
0
7
J
u
l
-
0
7
O
c
t
-
0
7
J
a
n
-
0
8
A
p
r
-
0
8
J
u
l
-
0
8
O
c
t
-
0
8
J
a
n
-
0
9
A
p
r
-
0
9
J
u
l
-
0
9
O
c
t
-
0
9
J
a
n
-
1
0
A
p
r
-
1
0
J
u
l
-
1
0
O
c
t
-
1
0
J
a
n
-
1
1
Bangladesh Pakistan
Sri Lanka India
International rice price
Source: FAO.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 10
Meanwhile, surveys show that inflation expecta-
tions are rising and this holds risks for further upward
pressure on core inflation.
9
For example, household
surveys in India reveal 1-year ahead expected inflation
has risen to 13.1 percent in 2010Q4 from 6.2 percent
in 2009Q1.
10
The perceived current rate of inflation
has also risen to 11.8 percent from 5.8 percent over the
same period. If this trend continues, households could
revise their inflation expectations upwards in tandem
with perceived inflation in 2011 (Figure 2.13). Rising
inflation expectations and escalating food inflation are
encouraging workers to demand higher wages, which
contributes to higher core inflation.
11
The growth in aggregate demand in the region
is supported by an accommodative macroeconomic
policy stance. South Asian governments widened their
policy stances in the wake of the GFC, but for most it
is probably now time to reset macroeconomic policies
to neutral. Steps toward fiscal consolidation have been
cautious at best so far despite the fact that South Asia’s
deficit and public debt to GDP ratios are amongst the
highest in the world (Figures 2.14 and 2.15).
12
With regard to monetary policy, monetary aggre-
gates expanded in line with the economic recovery
in most countries despite low policy rates compared
with other regions.
13
Credit expansion is still mostly
low compared with the growth rates prevalent during
2004–07.
14
Monetary conditions in India have been
tightened since late-2009, and are broadly neutral
as indicated by a monetary conditions index (MCI,
Figure 2.16).
15
The index combines money supply
growth, interest rates and changes in the exchange
rate. IMF research shows that changes in the first two
account for about 25 percent of inflation and changes
in the latter about 10 percent.
16
While rising core inflation and widening current
account deficits hint at general demand-side pres-
sures, capacity utilization rates draw a mixed picture.
In India, capacity utilization indicators are stable,
while the recent industrial production and imports
data point to a slowdown rather than overheating
(Figure 2.17). Different estimates of potential output
measures across the region’s economies (Afghanistan,
Bangladesh, India, Sri Lanka) suggest output gaps
narrowed or closed in 2010.
3. Long-term Effects: Productivity
Slow-down and Structural
Demand Shifts
After the rapid advances during the “Green
Revolution” in the 1960s and 1970s, agricultural
growth rates in South Asia have been low and fairly
stable, although short-term volatility of agricultural
output has been high. The production of cereals and
pulses has been increasing by around 2 percent per
year since the early 1980s, while the growth in the
production of vegetables and fruits has been around
4 percent. There are, however, weak indications of
FIGURE 2.11 Domestic and International Prices of Wheat
(Index, LCU, January 2007 = 100)
Bangladesh Pakistan
Sri Lanka India
International rice price
100
0
50
150
200
250
300
350
J
a
n
-
0
7
A
p
r
-
0
7
J
u
l
-
0
7
O
c
t
-
0
7
J
a
n
-
0
8
A
p
r
-
0
8
J
u
l
-
0
8
O
c
t
-
0
8
J
a
n
-
0
9
A
p
r
-
0
9
J
u
l
-
0
9
O
c
t
-
0
9
J
a
n
-
1
0
A
p
r
-
1
0
J
u
l
-
1
0
O
c
t
-
1
0
J
a
n
-
1
1
Source: World Oil, U.S. Department of Agriculture and World Bank.
* Sri Lanka’s wheat imports as a share of consumption is above 100% due to re-exports.
FIGURE 2.12 Subsidization of Diesel Retail Fuel Prices
Remains Particularly High in Bangladesh and Sri Lanka
(US cents per liter prices as of November 2010, and U.S. retail price reference
band of 84 for diesel and 76 for gasoline)
United States
China
Pakistan
Nepal
India
Sri Lanka
Bangladesh
84
104
92
91
82
66
63
76
111
86
118
115
119
125
Gasoline Diesel
Sources: GTZ, International Fuel Prices 2011, and World Bank.
Determinants of Food Inflation 11
FIGURE 2.13 India: Household Inflation Expectations
(Price change in percent)
0
2
4
6
8
10
12
14
16
S
e
p
-
0
6
D
e
c
-
0
6
M
a
r
-
0
6
J
u
n
-
0
6
S
e
p
-
0
7
D
e
c
-
0
7
M
a
r
-
0
7
J
u
n
-
0
7
S
e
p
-
0
8
D
e
c
-
0
8
M
a
r
-
0
8
J
u
n
-
0
8
S
e
p
-
0
9
D
e
c
-
0
9
M
a
r
-
0
9
J
u
n
-
0
9
S
e
p
-
1
0
D
e
c
-
1
0
Current 3-Months Ahead 1-Year ahead
%
Source: Reserve Bank of India.
FIGURE 2.14 General Government Balances
(Percent share of GDP)
–9
–8
–7
–6
–5
–4
–3
–2
–1
0
1
2
S
o
u
t
h

A
s
i
a
H
i
g
h
-
I
n
c
o
m
e
c
o
u
n
t
r
i
e
s
M
i
d
d
l
e

E
a
s
t

a
n
d
N
o
r
t
h

A
f
r
i
c
a
E
a
s
t

A
s
i
a
a
n
d

P
a
c
i
f
i
c
L
a
t
i
n

A
m
e
r
i
c
a
a
n
d

C
a
r
i
b
b
e
a
n
S
u
b

S
a
h
a
r
a
n
A
f
r
i
c
a
2007 2010 2013
Source: World Bank Databases and DEC Prospects Group Projections.
declining growth rates of agricultural production in
the region (Figure 2.18).
17
With population growth continuing at around 2
percent per year and income growth accelerating, it is
not surprising that imports of the staple items: wheat,
rice, maize, and vegetable oil, have increased sharply
FIGURE 2.15 Total Government Debt
(Percent share of GDP for fiscal years (*calendar years 2008 and 2009))
2007–08 2009–10
0
10
20
30
40
50
60
70
80
90
100
A
f
g
h
a
n
i
s
t
a
n
N
e
p
a
l
B
a
n
g
l
a
d
e
s
h
P
a
k
i
s
t
a
n
B
h
u
t
a
n
I
n
d
i
a
S
r
i

L
a
n
k
a
*
M
a
l
d
i
v
e
s
*
E
m
e
r
g
i
n
g
*
H
i
g
h
-
i
n
c
o
m
e
*
Source: Reserve Bank of India.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 12
FIGURE 2.16 India: Monetary Conditions Index
I
n
d
e
x
–10
–8
–6
–4
–2
0
2
4
2
0
0
7
m
1
2
0
0
7
m
3
2
0
0
7
m
5
2
0
0
7
m
7
2
0
0
7
m
9
2
0
0
7
m
1
1
2
0
0
8
m
1
2
0
0
8
m
3
2
0
0
8
m
5
2
0
0
8
m
7
2
0
0
8
m
9
2
0
0
8
m
1
1
2
0
0
9
m
1
2
0
0
9
m
3
2
0
0
9
m
5
2
0
0
9
m
7
2
0
0
9
m
9
2
0
0
9
m
1
1
2
0
1
0
m
1
2
0
1
0
m
3
2
0
1
0
m
5
2
0
1
0
m
7
2
0
1
0
m
9
2
0
1
0
m
1
1
Narrow Broad
Tightening
Loosening
Source: Authors calculations
FIGURE 2.17 Industrial Production
(Annual percent change)
J
u
n
-
0
8
A
u
g
-
0
8
O
c
t
-
0
8
D
e
c
-
0
8
F
e
b
-
0
9
A
p
r
-
0
9
J
u
n
-
0
9
A
u
g
-
0
9
O
c
t
-
0
9
D
e
c
-
0
9
F
e
b
-
1
0
F
e
b
-
1
1
A
p
r
-
1
0
J
u
n
-
1
0
A
u
g
-
1
0
O
c
t
-
1
0
D
e
c
-
1
0
25
20
15
10
5
0
5
10
15
20
25
30
Bangladesh India Sri Lanka Pakistan
Sources: Thomson Datastream, Haver and World Bank, DEC Prospects Group.
from around 5 million metric tons in the early 1990s
to double that level at the end of the 2010 decade.
With rising incomes, consumption growth has
been accelerating and is now significantly higher
than production growth for major food groups. This
is most notable in India, where household surveys
suggest that the consumption of food is increasing
by around 3 percent per year. Within the food group,
however, growth in consumption of pulses, fruits,
meat, eggs, and dairy items is around 4 percent, while
the growth rate in consumption of cereals is around
1.5 percent (Figure 2.19). While the data from the
Indian household surveys are highly volatile, they
do indicate a gap between accelerating demand and
slowing supply growth. Accordingly, the domestic
terms of trade have been shifting in favor of agri-
culture ever since the late 1980s, when the produc-
tivity advances of the “Green Revolution” petered
out (Figure 2.20).
Within this overall picture, the demand pressure
on cereals is relatively lower as demand is shifting
toward a higher-protein diet. Accordingly, higher-
protein food articles and fruits and vegetables have
been the main drivers of food inflation since 2008.
The shift to higher protein foods is noticeable across
the region (Figure 2.21).
Determinants of Food Inflation 13
The shift to a higher-protein, fruit- and vegetable-
rich diet is also supported by Indian household survey
data showing consumption baskets for different house-
hold groups: richer households spend a higher share
of their incomes on non-food items and, for food, a
higher share on pulses, fruits, vegetables, eggs, meat,
and dairy (Figure 2.22). Therefore, as incomes rise,
households’ consumption patterns shift. This shift also
emerges in comparing the average shares of various
food items in household consumption, based on Indian
household surveys of the last 20 years (Figure 2.23).
For example, in 1987–88 rural Indian households spent
over 40 percent of their food budgets on cereals, but
by the 2007–08 survey this had fallen to around 30
percent. A similar shift occurred among urban house-
holds, though less pronounced. Such shifts represent
differential growth rates of consumption for different
food items.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 14
BOX 2.1 Inflation in China – What is Different?
China and India have many characteristics in com-
mon. Notably, both countries have more than 1 billion
people each; they are the fastest growing economies
in the world; and food prices have played a signifi-
cant role in recent increases in their inflation rates. In
China, inflation rose to 5.4 percent (y-o-y) in March
2011, a 32-month high. A combination of domestic
weather-related shocks and the global food price
increase contributed to rising food prices. Vegetable
prices, the key driver of inflation in 2010, peaked in
February 2011 and have moderated since. Unlike in
India, non-food inflation in China has been relatively
moderate, registering 2.3 percent in March 2011.
However, throughout 2010 and the first quarter of
2011, non-food inflation has been rising and is a grow-
ing cause for concern among policy makers. Rising
residential property prices—with inflation averaging 12
percent for new housing in 70 major cities—have also
been a feature of inflation in China, and have been
fueled by rapid credit growth.
The Chinese government has taken several steps
to contain inflation. First, it ended the large fiscal stim-
ulus implemented in 2008 to support the economy
in the wake of the global financial crisis, reducing the
budget deficit from 2.8 percent in 2009 to 1.6 percent
in 2010. Second, the central bank raised the reserve
requirement for banks six times in 2010 and three
times in the first quarter of 2011 (to 20.0 percent
for large banks). It also lifted the benchmark interest
rate between January 2010 and March 2011 to 6.06
percent. These actions helped moderate growth in
domestic credit to the private sector to 20.3 percent
in December 2010 from 33.1 percent a year earlier.
Third, China took actions to curb house prices, includ-
ing raising mortgage interest rates and down pay-
ments, and directing banks not to lend for purchases
of third (or more) homes. Fourth, the real apprecia-
tion of the yuan, by about 4 percent, helped tighten
monetary conditions. In addition to normalizing the
overall macroeconomic policy stance, the government
took measures to boost food supply and reduce the
cost of production and logistics, including releasing
grain from China’s large reserves, increasing subsidies
to farmers, exempting transport of vegetables from
road toll, and boosting food imports. More recently,
it limited the increase in domestic fuel prices arising
from higher oil prices, and applied moral suasion on
manufacturers of food and consumer products.
%

Y
e
a
r

o
n

Y
e
a
r
J
a
n
-
0
9
M
a
r
-
0
9
M
a
y
-
0
9
J
u
l
-
0
9
S
e
p
-
0
9
N
o
v
-
0
9
J
a
n
-
1
0
M
a
r
-
1
0
M
a
y
-
1
0
J
u
l
-
1
0
S
e
p
-
1
0
N
o
v
-
1
0
J
a
n
-
1
1
M
a
r
-
1
1
–5
0
5
10
15
Rising rates of headline, core and food inflation…
CPI Food Non-food
–5
With GDP rebounding driven by investment…
0
5
10
15
20
2005 2006 2007 2008 2009 2010
NX Invest Gov cons HH cons GDP
%

Y
e
a
r

o
n

Y
e
a
r
Determinants of Food Inflation 15
BOX 2.1 Inflation in China – What is Different? (continued)
%

Y
e
a
r

o
n

Y
e
a
r
J
a
n
-
0
9
0
1
-
J
a
n
-
1
0
0
1
-
F
e
b
-
1
0
0
1
-
M
a
r
-
1
0
0
1
-
A
p
r
-
1
0
0
1
-
M
a
y
-
1
0
0
1
-
J
u
n
-
1
0
0
1
-
J
u
l
-
1
0
0
1
-
A
u
g
-
1
0
0
1
-
S
e
p
-
1
0
0
1
-
O
c
t
-
1
0
0
1
-
N
o
v
-
1
0
0
1
-
D
e
v
-
1
0
0
1
-
J
a
n
-
1
1
0
1
-
F
e
b
-
1
1
0
1
-
M
a
r
-
1
1
M
a
r
-
0
9
M
a
y
-
0
9
J
u
l
-
0
9
S
e
p
-
0
9
N
o
v
-
0
9
J
a
n
-
1
0
M
a
r
-
1
0
M
a
y
-
1
0
J
u
l
-
1
0
S
e
p
-
1
0
N
o
v
-
1
0
–5
0
5
10
15
Property prices are still rising but at a lower rate ....
L
e
n
d
i
n
g

r
a
t
e
s

(
%
)
G
r
o
w
t
h

i
n

M
2
/
R
e
q
u
i
r
e

r
e
s
e
r
v
e
s

(
%
)
As monetary policy tightens…
20
New housing
15
17
19
21
23
25
27
4.8
5
5.2
5.4
5.6
5.8
6
6.2
Lending rates Money supply Overall property prices Required reserves
FIGURE 2.18 Production Growth of Major Staple
Food Items
(y-o-y change in percent, actuals and long term averages)
Cereals Veg.&Fruits Pulses
–20
–15
–10
–5
0
5
10
15
20
25
1
9
8
1
1
9
8
2
1
9
8
3
1
9
8
4
1
9
8
5
1
9
8
6
1
9
8
7
1
9
8
8
1
9
8
9
1
9
9
0
1
9
9
1
1
9
9
2
1
9
9
3
1
9
9
4
1
9
9
5
1
9
9
6
1
9
9
7
1
9
9
8
1
9
9
9
2
0
0
0
2
0
0
1
2
0
0
2
2
0
0
3
2
0
0
4
2
0
0
5
2
0
0
6
2
0
0
7
2
0
0
8
2
0
0
9
Source: FAO.
FIGURE 2.19 India: Growth Rates in Consumption
(per capita, in percent)
Consumption Food Cereal Pulse_fruit
–2
0
2
4
6
8
10
1993/94 2001/02 2004/05 2005/06 2006/07 2007/08
Source: CSO NSS different rounds, author’s calculations.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 16
FIGURE 2.20 India: Terms of Trade between Agriculture, Industry, and Services
1
9
5
1
1
9
5
3
1
9
5
5
1
9
5
7
1
9
5
9
1
9
6
1
1
9
6
3
1
9
6
5
1
9
6
7
1
9
6
9
1
9
7
1
1
9
7
3
1
9
7
5
1
9
7
7
1
9
7
9
1
9
8
1
1
9
8
3
1
9
8
5
1
9
8
7
1
9
8
9
1
9
9
1
1
9
9
3
1
9
9
5
1
9
9
7
1
9
9
9
2
0
0
1
2
0
0
3
2
0
0
5
2
0
0
7
2
0
0
9
Agric-to-Industry Agric-to-Services
0.6
0.7
0.8
0.9
1
1.1
1.2
1.3
A
x
i
s

T
i
t
l
e
Source: CEIC.
FIGURE 2.21 Annual Per Capita Consumption
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Bangladesh India Nepal Pakistan Sri Lanka Average
Total cereals Pulses Roots & Tubers Edible Oils Vegetables
Fruits Milk Meat Eggs Fish
1990 2010 1990 2010 1990 2010 1990 2010 1990 2010 1990 2010
Source: Joshi et al. (2007).
Determinants of Food Inflation 17
FIGURE 2.22 India: Household Survey Data on Consumption of Food and Non-Food
(Consumption pattern across mean per capita expenditure deciles, 2004–05)
cereal pulse fruit oil bev salt spice non food
Urban
0

1
0
1
0

2
0
2
0

3
0
3
0

4
0
4
0

5
0
5
0

6
0
6
0

7
0
7
0

8
0
8
0

9
0
9
0

1
0
0
Rural
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
0

1
0
1
0

2
0
2
0

3
0
3
0

4
0
4
0

5
0
5
0

6
0
6
0

7
0
7
0

8
0
8
0

9
0
9
0

1
0
0
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Notes: Computed from unit-level data using 61st round of NSS, Consumption Expenditure (Schedule1); the last thick round. MPCE refers to monthly per capita
consumption expenditure. Households were split into consumption quintiles, and then average expenditure of households in each quintile of the different consump-
tion categories were computed. The components of the food subcategories are: cereals—cereals and cereal substitutes; pulse fruit—pulses and pulse products,
milk and milk products, egg, fish and meat, vegetables and fruits; oil bev—edible oil, sugar and beverages; salt spice: salt and spices; non-food 30—total non-food
expenditure computed on the base of a 30-day recall period.
FIGURE 2.23 India: Shares of Food Types in Food Baskets, 1987/88–2007/08
(in percent)
cereal pulse fruit oil bev salt spice
Rural
1
9
8
7
/
8
8
1
9
9
3
/
9
4
2
0
0
1
/
0
2
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
1
9
8
7
/
8
8
1
9
9
3
/
9
4
2
0
0
1
/
0
2
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
Urban
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Source: CSO NSS.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 18
Notes
1. The Bhutanese currency, the ngultrum, is pegged to
the Indian rupee.
2. Econometric evidence suggests a 10 percent increase
in energy prices leads to a 2–3 percent increase in
food prices (Baffes, 2010). Oil prices increased by 223
percent increase between 2004 and 2010 leading to a
50 percent increase in food prices.
3. Maldives is one of the most open economies in the
world, largely because imports are so significant (almost
70 percent of GDP in 2010) while in Sri Lanka domestic
prices follow world prices even though it produces 95
percent of the food it consumes.
4. Although in India there is sometimes a considerable
lag between change in international gasoline price
and domestic gasoline price. The Indian government
increased both diesel and petrol prices in May 2011 with
petrol prices rising by 44 percent since February 2010.
5. In both Bangladesh and Sri Lanka the loss is borne by
the Bangladesh Petroleum Corporation and the Ceylon
Petroleum Corporation, respectively. As such, it is not
a direct transfer from the government but recorded
in the respective company’s profit and loss accounts.
6. For instance, in January, the Pakistan government
increased fuel prices, decreased them a few days later
and increased them yet again in early March, before
halving them once again.
7. Some delayed pass-through of higher oil prices also
contributed to higher overall inflation during this period.
8. Between January 2007 and December 2010, there
was a real appreciation of the Sri Lankan rupee of 27
percent, the most amongst all South Asian currencies.
9. IMF (2010) finds a 1 percentage point increase in
expected inflation leads to a 0.2–0.4 percentage point
increase in core inflation for India.
10. See The Reserve Bank of India’s Inflation Expectations
Survey of Households conducted in 2010Q4 (Round 22),
11. In Sri Lanka, the minimum wages for formal private
sector employees under Wage Boards increased, raising
the overall nominal wage rate index for the whole sector
by 32.0 percent in 2010. Informal sector wages in the
Agriculture and Construction sectors also increased by
9.1 per cent and 7.3 per cent, respectively, in 2010.
Monthly minimum wage hikes in Bangladesh for
government workers of 80.4 percent occurred with
effect from July 2010 and in India the average wage
rates in the Indian Railways increased by 30.2 percent
in 2009–10. Pakistan experienced a 50 percent wage
hike for civil servants.
12. South Asia had the largest fiscal deficit among devel-
oping countries in 2010, estimated at 8.4 percent,
as compared with 6.7 percent on average during the
period 2007–09. There is wide variation in fiscal defi-
cits in the region in 2010, ranging from 2.5 percent for
Bangladesh to 22.5 percent for the Maldives. In India,
the general government deficit rose to 9 percent of GDP
in FY2009–10, with 6.8 percent of GDP central govern-
ment deficit. Only a marginal contraction in central
government deficit is estimated to have been achieved
with 6.7 percent of GDP in FY2010–11, although some
further contractionary impulse was probably coming
from India’s states, where borrowing limits were tight-
ened. Maldives is struggling to correct macroeconomic
imbalances driven by large fiscal deficits of 20.7 percent
in 2010 while in Sri Lanka the deficit expanded to
6.8 percent. Large outlays for interest payments are
slowing progress toward fiscal consolidation, and while
improving in some countries (Afghanistan, Maldives,
and Sri Lanka, for example), and the low tax base in
countries such as Pakistan makes consolidation partic-
ularly challenging. Domestic commodity price distor-
tions continue to raise big fiscal concerns for South Asia.
13. In 2009 and 2010, real policy interest rates have been
consistently negative in India, reaching a low of –11.5
percent in January 2010 (real interest rate calculated
as the difference between the Reserve Bank of India’s
repo rate and the concurrent CPI inflation rate). In
Bangladesh and Pakistan, real interest rates were nega-
tive throughout 2010. During 2010, the authorities
began tightening monetary policy. India’s central bank
has raised interest rates nine times since end-2009, but
policy rates were still negative in real terms in early May
2011 (the nominal benchmark repo rate was set to 7.25
percent on May 3, 2011, while WPI inflation was 9
percent in March). Only in Sri Lanka, policy rates have
been moving in the opposite direction, with declining
policy rates and positive real interest rates during 2010.
With real interest rates at 0.2 percent in January 2011,
the monetary policy stance is relatively accommodative.
14. In Sri Lanka, growth in credit extension to the commer-
cial sector rose steadily in 2010 to 27 percent of GDP, its
highest rate since July 2007. In Bangladesh, credit to the
private sector also grew steadily at 27.6 percent, in 2010,
up from 19.2 percent in 2009. Broad money supply has
been climbing between 2009 and 2010 in Bangladesh,
Pakistan and Sri Lanka, growing at 22.2 percent, 14.9
percent and 18 percent at the end of 2010, respectively.
In India, growth in non-food credit accelerated to 23
percent in the first quarter of 2011. Credit to industry
was up by 26.5 percent from the previous year, signif-
icantly driven by the financing of telecom license fees.
15. The MCI uses coefficients from Kannan, Sanyal and
Bhoi (2006).
16. See IMF (2010).
17. Closer analysis of the data shows that changes in trend
growth for pulses and cereals are not statistically signifi-
cant; i.e., it is uncertain that production growth rates are
indeed declining. Production of vegetables and fruits is
so unstable that there is no certainty of a growth trend;
i.e., the production increase between 1981 and 2009
is not statistically significant.
19 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
I
S
OUTH ASIAN GOVERNMENTS TODAY
follow very different approaches to marketing
staple foods, but are quite uniform in their
attempts to support farmers and food production with
input subsidies. While India and Pakistan maintain
heavy government control over the marketing of wheat
and India also of rice, the other countries have liberal-
ized their agricultural sectors to a much larger extent.
The Indian and Pakistani systems reduce the ability of
the private sector to manage temporary, geographically
limited supply disruptions. They are partly responsible
for high food inflation over the short-term. On a more
structural level, they distort agricultural incentives, and
have high fiscal costs. They are maintained by the two
governments’ reliance on large-scale distribution of
subsidized food items as crucial safety net measures.
Input subsidies in the major countries contribute
to overuse of water resources, high losses of electricity
utilities, and deteriorating soil conditions because of
wrong application of fertilizer, and therefore contribute
to the long-term slow-down in productivity growth
in agriculture. The fiscal costs of current policies
divert resources from more efficient interventions: for
example, investments in agricultural research, educa-
tion, and rural roads are amongst the most effective
public spending items in promoting agricultural growth
and reducing povert.
1. Historical Perspective
In the 1950s and 1960s, South Asian countries had
similar policies with regard to government involvement
in the marketing of food commodities, but their poli-
cies started diverging in the late 1970s. Liberalization
started first in Sri Lanka, then in Bangladesh, and finally
in Nepal in 1998. India and Pakistan, in contrast, still
maintain a lot of the features of the systems they had
established in the 1960s for their main staples, wheat
and rice. Especially in India, the government maintains
a pervasive system of public procurement, storage, and
The Impact of Agricultural Policies
on Food Supply
III
distribution which gives the private sector only a limited
role in the handling of the two staples. Pakistan main-
tains a similar system for wheat only, because rice is far
less important in consumption.
1
Afghanistan faces the
uphill struggle of rebuilding its economy after decades
of conflict, and the agricultural sector is affected by
the widespread cultivation of poppy (see Box 3.1).
Systems for government intervention were set up
with three main objectives: to increase production,
stabilize market prices and risks, and provide subsi-
dized food to vulnerable households. In the first of these
objectives, the countries were remarkably successful.
Cereal production in most countries more than doubled
between 1961 and the early 2000s, while it almost
quadrupled in Pakistan. Per capita availability of food
increased in most countries (Figure 3.1). However,
production increases were most impressive in the 1960s
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 20
BOX 3.1 The Opium Economy in the Context of Afghanistan’s Agriculture and
Food Security
Afghanistan produces more than 90 percent of the
world’s opium supply on small portions of its agricul-
tural land, generating about 15 percent of national
GDP. Opium is Afghanistan’s most important agri-
cultural crop in value terms, providing much-needed
livelihoods and jobs for segments of the rural popula-
tion in the short run—but distorting the incentives for
developing a sustainable, formal agricultural sector
in the long run. In addition, the large criminal profits
associated with the drug industry seriously undermine
governance and fuel corruption, dysfunctional politics,
and ultimately insecurity and conflict. Thus moving
away from reliance on opium is a priority development
objective for the medium term. But, since opium is a
high-value, storable commodity with a ready market
and a secure cash crop for an insecure environment,
this will be no easy task.
Progress in eliminating opium cultivation in some
areas over a number of years suggests that phasing
out opium in Afghanistan over the next 10–20 years is
not impossible. Success factors are multi-faceted: In
addition to having a credible threat of law enforcement
against opium cultivation and trade (but not massive
eradication of standing crops in the fields, which is a
symptom of failure to deter and fuels resentment and
conflict), key ingredients include:
• Reasonably good local resource endowment (agri-
cultural land and irrigation) to encourage a variety of
agricultural activities, not just opium;
• Close access to markets for licit agricultural crops
(e.g., city vegetable markets), so farmers can sell
produce without traveling far, crossing many check-
points, or paying many bribes;
• Proximity and access to sizable labor markets
(found in cities), so family members of rural house-
holds can seek work but also return home if there
is no day-labor available, thereby avoiding transport
and lodging costs associated with more distant
labor markets;
• Opportunities for a variety of other activities such
as dairy, transport and other services; and
• The modicum of security usually found near larger
cities is most suited to development of sustainable,
non-opium agriculture.
The success stories usually associated with areas
around cities, such as Jalalabad in the east, will not
be easy to duplicate in more remote regions lacking
infrastructure. What is required is sustained, broad-
based, programmatic rural development, ranging
from irrigation investments to horticulture, com-
munity development, and better health for livestock
(see DFID and World Bank, Economic Incentives and
Development Initiatives to Reduce Opium Production,
2008). Value chain development for both exports and
import substitution will be critical, and encouraging
the private sector through innovative programs will be
much more effective than fragmented investments in
parts of the value chain.
Yet, it is also clear that wheat is not the crop of
Afghanistan’s future; nor can it replace opium. Export
prospects for wheat are extremely limited given the
large production of neighboring countries. Moreover,
as a low-value, relatively less labor-intensive, yet rela-
tively water-intensive crop, wheat is not well-suited
for expansion in a country with Afghanistan’s resource
endowment: limited arable land, sparse irrigation,
water a binding constraint, and abundant labor supply.
Shifting all of Afghanistan’s land currently devoted to
opium cultivation to wheat, even if it were possible,
would leave significant parts of the rural population
less employed, poorer, less food-secure, and more
vulnerable, with many households forced to take ex-
treme measures, such as cutting health expenditures,
stopping education of children, or even out-migrating
to neighboring countries.
Thus, although efforts to enhance Afghanistan’s
self-sufficiency in wheat are justified and have good
prospects for success, the way forward for Afghan ag-
riculture as a whole—which will also help address the
opium problem—is to develop licit, high-value, labor-
intensive cash crops. This will only be achieved with
necessary investments and improvements (including
private-sector milling and increased grain storage
capacity) in key factors such as those listed above.
The Impact of Agricultural Policies on Food Supply 21
and 1970s, while the 1990s saw a distinct slowing down
in agricultural production growth, and some studies
show that total factor productivity actually declined.
2

India and Pakistan became net exporters of cereals in
the 1990s. With strong production growth, Sri Lanka
continues to depend on rice imports, but the share of
net imports in availability has declined significantly. In
contrast, net imports of cereals as a percentage of avail-
ability remained fairly stable in Bangladesh, whereas
Nepal has gone from net exporter to importer since
the 1980s, although the share of imports in avail-
ability is small.
After several bumper harvests, India actually now
faces a “problem of plenty”: stocks of wheat and rice
far exceed requirements and storage capacity. Given
the current international concerns about rapidly rising
food prices, in particular those of wheat, the “problem
of plenty” could easily turn into an “embarrassment
of plenty”: a lifting of India’s ban on exports could
have a significant downward impact on international
wheat prices.
The question is whether the systems that served
India and Pakistan well in the last fifty years are
likely to prove equally successful in meeting the
considerable challenges of the coming decades: fast
income growth and continuing population growth
in the context of increasingly binding land and water
scarcity. Evidence in the form of an emerging gap
between demand and production growth highlighted
in Section II, the rising fiscal costs of the systems,
and the continuing gaps in providing food security
to large segments of the population tilt the likely
answer to the negative.
3
The systems’ concentration
on grains also reduces farmers’ incentives to respond
to structural shifts in demand.
2. Government Involvement in
Agricultural Marketing
Governments in the region are active in the agricultural
sectors by providing public investments in infrastruc-
ture and research, and various input subsidies. Only
in India and Pakistan, however, do governments play
an intricate part in the marketing of food grains and
impose strong restrictions on private-sector storage and
trading.
4
This section discusses government involvement
in wheat and rice marketing in India and Pakistan, and
effects of other (input) policies in the South Asia region.
India
The government notifies Minimum Support Prices
(MSPs) for 24 food articles on the basis of costs
for procurement by the Food Corporation of India
(FCI), although only wheat, rice, and coarse grains
are procured in meaningful quantities.
5
Covering
sometimes vast distances, the FCI transports grains
from surplus to deficit states and releases grains to
the Public Distribution System (PDS) to be sold at
subsidized prices (see Section IV). The FCI also holds
buffer stocks in wheat and rice. It procures about one
third of overall production of wheat and rice.
6
The
FCI maintains an open procurement policy, which
means it buys at the MSPs any quantities of grain
being delivered to its procurement centers within a
specified time period. The amount of procurement
therefore depends on the attractiveness of the MSPs
relative to the prevailing market conditions.
7
Record quantities of procurement after the MSP
increases in 2008 resulted in stocks of 40–50 million
tons in 2010, which was roughly twice the level the
government deems necessary as buffer stocks and
far exceeded the FCI’s secure storage capacity. The
“problem of plenty” of the large accumulation of stocks
is not new: in 2002, stocks had reached 60 million tons
under similar circumstances.
8

FIGURE 3.1 Average Food Supply: Crops
(kg/capita/yr)
Cereals Fruits Vegetables
0
20
40
60
80
100
120
140
160
180
1
9
6
1

1
9
8
4
1
9
8
5

2
0
0
7
1
9
6
1

1
9
8
4
1
9
8
5

2
0
0
7
1
9
6
1

1
9
8
4
1
9
8
5

2
0
0
7
1
9
6
1

1
9
8
4
1
9
8
5

2
0
0
7
1
9
6
1

1
9
8
4
1
9
8
5

2
0
0
7
Bangladesh India Nepal Pakistan Sri Lanka
Source: Joshi et al. (2007).
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 22
High stocks lead to high wastage because of inade-
quate storage capacity and technology. The Word Bank
has estimated that the FCI lost 10–16 million tons of
grains in 2000.
9
The FCI’s inefficiencies not only lead
to high losses of the grains it handles, they also drive
up the costs of food handling. Comparisons show that
the FCI’s handling and storage costs are significantly
higher than those of the private sector.
10
The increase in procurement has led to a signifi-
cant increase in the fiscal costs of the system. Food and
fertilizer subsidies have increased to over 1.5 percent
of GDP since fiscal 2009, from around 1 percent in
the mid-1990s (Figure 3.2). The last time subsidies
approached 1.5 percent of GDP was in fiscal 2003,
another year in which procurement expanded strongly
and grain stocks reached 60 million tons. Outlays on
food subsidies are far higher than public investment
in agriculture and outlays for extension services, which
could increase agricultural production and lead to lower
prices over time.
Pakistan
The government employs a system similar to India’s
for public procurement, storage, and subsidized distri-
bution of wheat only. Provincial Food Departments
(PFDs) and the Pakistan Agricultural Storage and
Supply Corporation (PASSCO) are responsible for
implementing the procurement targets set at the federal
level. Public procurement absorbs 15–40 percent of
total production of wheat. About 95 percent of procure-
ment by PFDs is undertaken in Punjab province.
Restrictions on the transport of wheat between prov-
inces and ad hoc trade restrictions are used to protect
prices. International trade of agricultural commodities
is handled exclusively by the Trading Corporation of
Pakistan (TCP). Trading decisions are not always well
designed: the 2008 harvest was overestimated and 3
million tons of exports were allowed, forcing the govern-
ment to import almost the same quantity at higher
prices later. In the face of an expected bumper crop
harvest, the government allowed exports of 1 million
tons of wheat in January 2011, the first time since the
wheat price rally in 2007.
Bangladesh
The country has come a long way from the pervasive
food rationing and government procurement system
it maintained prior to the 1980s. There is currently no
large-scale government intervention in grain markets.
Competitive private traders purchase and retail food;
their numbers rose to 48,000 in the 1990s from about
4,000 in the 1960s. Public distribution of grains is
limited to cover social safety schemes, the military,
police and low-paid public servants. The government
maintains public grain stocks for its safety-net programs
and emergencies. It targets a level of 1.5 million tons for
its public grain stocks, including emergency reserves of
1 million tons (equivalent to two weeks of consump-
tion) with the remainder as safety net.
Nepal
The government initiated liberalization reforms in
1986, including removal of the MSP. The government
also removed some agricultural subsidies as part of the
structural adjustment program supported by the IMF
in the 1980s. In 1998, the government downsized its
public distribution system, through the Nepal Food
Corporation (NFC) and began restructuring it in 2000.
Increasing open market operations led to a decline
in food procurement by the NFC and consequent
declines in government stocks. Liberalization followed
estimates that marketing costs for private traders were
lower than those of the NFC by over 40 percent prior
to 2000. The government also liberalized trade policy:
it eliminated all quantitative restrictions and lowered
FIGURE 3.2 India: Food and Fertilizer Subsidies, 1990–2012
(in percent of GDP)
Food Fertilizer
0.0
0.5
1.0
1.5
2.0
2.5
1
9
9
0

9
1
1
9
9
1

9
2
1
9
9
2

9
3
1
9
9
3

9
4
1
9
9
4

9
5
1
9
9
5

9
6
1
9
9
6

9
7
1
9
9
7

9
8
1
9
9
8

9
9
1
9
9
9

0
0
2
0
0
0

0
1
2
0
0
1

0
2
2
0
0
2

0
3
2
0
0
3

0
4
2
0
0
4

0
5
2
0
0
5

0
6
2
0
0
6

0
7
2
0
0
7

0
8
2
0
0
8

0
9
2
0
0
9

1
0
2
0
1
0

1
1
2
0
1
1

1
2
*
Sources: MinFin, CSO, author’s estimates.
Note: GDP data fis based on the old seriesup to 2003–04, new series from then on.
* Figures for 2011–12 are author’s estimates.
The Impact of Agricultural Policies on Food Supply 23
tariffs to the lowest average in South Asia. However,
a ban on exports was imposed in 2008 to safeguard
domestic supply of food. The reforms have improved
some indicators of food security in Nepal (rising per-
capita food availability and lower malnourishment),
notably in the Terai plains, but the benefits have not
spread evenly; remoter areas, such as the Hills, remain
relatively insulated from the improvements.
Government Policies and Short-term Inflation
In India and to a lesser degree in Pakistan, large-scale
public procurement hampers the private sector not
only by pre-emption, but also by taxes and rules for
moving grains across state borders, and caps on storage
of grains designed to facilitate public procurement.
Indian traders also face a requirement of transport in
jute bags rather than in bulk.
11
The private sector’s costs
are increased by the uncertainty created by frequent
ad-hoc changes of rules, in particular the stipulations
under the Essential Commodities Act (ECA).
12
The low
private sector involvement in grain marketing leads to
insufficient investment in the supply chain, and espe-
cially in storage facilities.
Marketing rules go beyond grains and put a wedge
between retail and farm-gate prices for agricultural
produce in general. Farmers in most places are obliged
to sell products exclusively through mandis or wholesale
markets, where a relatively small number of licensed
traders can engage in oligopolistic behavior. While many
states have made changes to the Agricultural Product
Marketing Act (APMA), the system is still in place in
many areas (see Box 3.2). The margin between whole-
sale and retail prices has been increasing over a number
of years. Reforms to APMAs in some states opened
the doors for contract farming, which has resulted in
increased incomes for farmers, higher private investment
in agriculture, and improvements to the supply chain.
13
The lack of development of market infrastructure
in the wider sense (including oligopolistic conditions
in mandis) exacerbates food price volatility. Markets
are not integrated across areas, and buffer stocks are
not available to tide over temporary disruptions.
14

Apart from policies in India and Pakistan, the dearth
of physical infrastructure across South Asian countries
is to blame to a large extent, in particular rural roads
and cold storage facilities, which leads to large losses
of perishable goods, or lowers incentives to produce
these goods in the first place.
In India, the simultaneous occurrence of high food
inflation and large food-grain stocks has become a
matter of widespread concern. In the past, domestic
open market sales were often announced, but the
take-up by the private sector usually fell well short of
target. The reason was the FCI’s attempt to sell grain
at prices higher than the procurement prices to cover
some of its costs, which resulted in low or no off-take
when MSPs were relatively high. Stringent controls
were also imposed on buyers, partly to avoid the sale
of grains back to the FCI during the next procurement
round. Grain released through open market operations
was therefore sold only to millers in bulk.
15
Structural Effects of Government Marketing Rules
The concentration of the government’s food policies on
the FCI in India, and PASSCO in Pakistan, and their
concentration on cereals from a few surplus producing
states have in turn resulted in a skewed development
of agriculture. Farmers in areas where the government
is most active have little incentive to respond to struc-
tural demand shifts and diversify production, because
that would greatly increase their exposure to risks. Food
production (but not necessarily that of wheat and rice)
could also increase through extending the benefits of
the Green Revolution to eastern states. Yields on the
most productive land are multiples of the yields in
more traditionally operated farms (Figure 3.3). Use
FIGURE 3.3 India: Rice and Wheat Yields in Major
Producing States, 2006–2009
(3-year average, in million MT)
Rice Wheat
0
M
a
d
h
y
a

P
r
a
d
e
s
h
C
h
h
a
t
t
i
s
g
a
r
h
B
i
h
a
r
A
s
s
a
m
O
r
i
s
s
a
M
a
h
a
r
a
s
h
t
r
a
G
u
j
r
a
t
J
h
a
r
k
h
a
n
d
U
t
t
a
r

P
r
a
d
e
s
h
K
a
r
n
a
t
a
k
a
W
e
s
t

B
e
n
g
a
l
T
a
m
i
l

N
a
d
u
H
a
r
y
a
n
a
A
n
d
h
r
a

P
r
a
d
e
s
h
P
u
n
j
a
b
500
1,000
1,500
2,000
2,500
3,000
3,500
4,000
4,500
5,000
All India Averages
Source: CEIC.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 24
of high-yield varieties and fertilizer is still much lower
in rain-fed areas.
16
3. Policies for Agricultural Inputs
Countries in South Asia broadly share their approaches
to agricultural inputs: subsidies for credit, fertilizer, and
irrigation are meant to improve small-farmer livelihoods
and agricultural production. They fail on both fronts.
While they probably have been the key to small-scale
farmers adopting new technologies, especially during
the initial stages of the Green Revolution in the late
1960s and 1970s, it is increasingly apparent that large-
scale farmers now reap the most benefits from input
subsidies, and public procurement.
17
Subsidies also
command important shares of government budgets,
BOX 3.2 Agricultural Produce Markets Act (APMA)
The Agricultural Produce Markets Act regulates the
buying and selling of agricultural products in India’s
states. Through the act, or local versions of it, states
have established more than 7,000 wholesale markets
(also known as mandi or APMC markets), and regulate
all aspects of marketing, including the levy of a user
fee, or cess.
The acts make mandis mandatory for the trading
of agricultural produce. A limited number of licenses
issued to traders and commission agents restrict the
choice of sellers and buyers. This stifles competition,
and generates economic rents for license holders. It
also leads to under-investment in physical infrastruc-
ture and, ultimately, lowers prices received by farmers
and increases prices paid by consumers.
Recognizing the “malfunctioning of regulated mar-
kets” and the “need for more transparency and ac-
countability in the functioning of these markets”,
a
the
government of India (GoI) proposed that states adopt
reforms along the lines of a model state APMA. The
model act provides for, among others, establishment
of private markets, direct purchase centers, consumer
and farmers markets for direct sale, contract farming,
electronic trading, and promotion of public-private
partnerships in the management and development of
agricultural markets in the country. Twenty-five states
and union territories have amended their APMAs or
made various provisions for the purpose.
b
India has twenty-eight states and seven union ter-
ritories, and progress in modifying their legislation has
been slow; as the GoI noted last year, “the manner of
implementation in most states reveals serious weak-
nesses which discourage the entrance of new play-
ers”. While some direct marketing options have been
allowed in selected states, often with significant posi-
tive impacts on farmers and consumers, restrictive
clauses remain in most areas—either in the modified
act or new rules, such as restricting private markets to
a specified distance from existing regulated markets,
registration requirements for contract farming, and
variable or short lengths of time in permitting for direct
purchase from farmers, all of which deter investments
in storage and logistics.
a
GoI, 2007: “Report of the Steering Committee of Agriculture and Allied Sectors for the Formulation of the Eleventh Five Year Plan
2007–2012.
b
GoI 2010: “Mid-Term Appraisal for Eleventh Five Year Plan 2007–2012”, Planning Commission, New Delhi.
though investments in agricultural research, educa-
tion, and rural roads are more effective public spending
tools for promoting agricultural growth and reducing
poverty.
18
Public investment in agriculture is crowded
out by food and input subsidies.
19
Input subsidies have the detrimental side effects of
“too much of a good thing”. Fertilizer subsidies lead
to a skewed application of different types of fertil-
izer and nutrient deficiencies in the most intensively
farmed areas.
20
Water subsidies (through lower prices
of diesel and free electricity for irrigation pumps) have
led to widespread overuse of underground aquifers
and increased salinity of soils. In fact, a water crisis
may be looming in a number of districts in India and
Pakistan, which have seen a rapid decline in ground-
water levels Figure 3.4).
21
Water access exacerbates
inequities, while under-pricing of canal irrigation
The Impact of Agricultural Policies on Food Supply 25
water leads to chronic funding problems for opera-
tions and maintenance.
22
Free or heavily subsidized
electricity for irrigation also plays havoc with the
finances of electricity utilities, which have become a
major fiscal burden. Among the states with the worst
overexploitation of groundwater in India are two,
Punjab and Haryana, from which the FCI procures
most farms’ output.
The access to water and water-use efficiency are
some of the most pressing challenges Pakistani agri-
culture is facing. Some studies show an intricate, well
entrenched system of “facilitation payments” made by
farmers to increase access to canal irrigation water in
the absence of official water pricing.
23
The Indus Basin
irrigation system in Pakistan is the largest integrated
irrigation system in the world. It covers 13.5 million
ha of cultivable land, of which nearly 9 million ha can
be irrigated throughout the year. Waterlogging and soil
salinity have become the major problems impeding
agricultural growth and development. Agricultural
productivity declines unless adequate drainage and salt
export facilities are available, which have high energy
and capital requirements, or water use efficiency is
increased significantly to reduce negative impacts on
the environment.
24
Efforts led by NGOs for Poverty Reduction through
Irrigation and Smallholder Markets (PRISM) combine
small-plot irrigation technology and integrated service
provision (ISP) to enhance small farmers’ ability to
participate effectively in markets for high-value agricul-
tural commodities. Data from field projects in Nepal
and India suggest that the PRISM approach can lead
to significant additional income for small farmers
and other micro and small enterprises in agricultural
value chains.
25
FIGURE 3.4 India: Groundwater Use Over Net Availability
(in percent)
0
P
u
n
j
a
b
20
40
60
80
100
120
140
O
t
h
e
r

S
t
a
t
e
s
J
a
m
m
u

&

K
a
s
h
m
i
r
O
r
i
s
s
a
C
h
h
a
t
t
i
s
g
a
r
h
J
h
a
r
k
h
a
n
d
A
s
s
a
m
B
i
h
a
r
W
e
s
t

B
e
n
g
a
l
A
n
d
h
r
a

P
r
a
d
e
s
h
K
e
r
a
l
a
M
a
h
a
r
a
s
h
t
r
a
M
a
d
h
y
a

P
r
a
d
e
s
h
A
l
l

I
n
d
i
a
U
t
t
a
r
a
k
h
a
n
d
U
t
t
a
r

P
r
a
d
e
s
h
K
a
r
n
a
t
a
k
a
G
u
j
a
r
a
t
T
a
m
i
l

N
a
d
u
H
a
r
y
a
n
a
R
a
j
a
s
t
h
a
n
Source: CentralGround Water Board, cited in: Shankar, Kulkarni, and Krishnan (2011).
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 26
BOX 3.3 From the Arabian Nights – A Cautionary Tale from History
Irrigation has been the key to agricultural production in
Mesopotamia (parts of present day Iraq and Iran) for
6,000 years. The region has low rainfall and is supplied
with surface water by two major rivers, the Tigris and
the Euphrates.
The main challenges to irrigated agriculture in
ancient Mesopotamia have always included:
• Silting of canals – silt built up quickly in the canal
beds, threatening to block them;
• Soil salinity – evidence points to significant events
in about 2000 BC, 1100 BC, and after 1200 AD;
• Water politics – Tensions often arose between up-
stream and downstream users. For instance, long
ago in Sumeria, the people of Lagash felt disadvan-
taged because their city was far downstream in the
Euphrates canal system. So they cut a canal to tap
Tigris water rather than rely solely on the Euphra-
tes. But after doing so they were dismayed to find
the Tigris water brackish, which rapidly salinized
the soil and destroyed their farming culture.
• Over-exploitation of resources – After a wave of
Moslem expansion overtook Mesopotamia, the
Abassid Caliphate rose up to rule Baghdad for
500 years, from 762 AD. It renovated and greatly
extended existing irrigation schemes in huge
projects. This elaborate system provided the basis
for the enormously rich culture of Baghdad, which
is still remembered in legends such as those of
Scheherezade, the Caliph of Baghdad, and the
Arabian Nights.
• Institutional failure – When the Abbasid economy
began to fail in the 12th century (mostly from
overspending), the canals became silt-choked, the
irrigation system deteriorated, and the lands be-
came more salinized. The deathblow was an act of
nature: massive floods in about 1200 AD changed
the courses of the Tigris and Euphrates, cutting off
most of the water supply to the Nahrwan Canal.
The government was too weak (or bankrupt) by
then to institute repairs, and the agricultural system
collapsed. By the time the Mongols conquered
the region in 1258 AD, they occupied what was
effectively a wasteland. Iraq has remained mostly a
desert ever since.
Source: Khan et al. (2004).
The Impact of Agricultural Policies on Food Supply 27
BOX 3.4 Gujarat’s Agricultural Success
India’s western state of Gujarat is an outstanding per-
former in agriculture—agricultural output has grown
by almost 10 percent per year over the last decade,
more than three times the all-India figure. Research
by the International Food Policy Research Institute
(IFPRI) points to three main sources of rapid growth
in Gujarat’s agriculture: (1) cotton output growth (from
3.05 million bales in fiscal 2003 to 11.2 million bales
in fiscal 2008, driven primarily by Bt, or insecticidal,
cotton since 2002); (2) output from the high value
segment (i.e., livestock, fruits and vegetables); and (3)
wheat, which grew at an average of 28 percent annu-
ally between fiscal 2001 and 2008, when production
jumped from 0.6 million tons to 3.8 million tons.
Four areas of reform have contributed to Gujarat’s
agricultural success:
Technology development and diffusion. While the
public sector has played a role in production and dis-
tribution of high-yielding variety seeds such as wheat,
the private seed sector has taken a lead in developing
and promoting the use of Bt cotton seeds. In Gujarat
alone, 26 private seed companies have registered 113
varieties of Bt cotton. Not only has the yield more than
doubled in five to six years, more than 50 percent of
the total cotton area in Gujarat is now under Bt cotton.
A holistic approach to electricity and water use.
Gujarat is a drought-prone state, with irrigation cover
of just 36 percent of gross cropped area. Better water
management includes concerted efforts to recharge
the water table, regulate electricity for agricultural
use (by separating feeder lines for irrigation and other
uses) and providing subsidies to farmers who use
water-saving technologies, such as drip irrigation.
Programs include:
• Sujalam Safalam (Water Harvesting) Scheme –
Aims to improve surface water supply and
recharge the water table through construction
of check-dams and deepening of existing tanks
so that farmers will use surface water instead of
pumping from wells, which uses more energy.
• Drip Irrigation Scheme – This ambitious irrigation
scheme aims to conserve energy by assigning
80,000 ha of land (with 50 percent grants) to farm-
ers on condition they use drip irrigation. It is ex-
pected to cut the agricultural sector’s dependence
on electric power.
• Jyotigram Yojana for rural electrification – This
scheme provides agricultural consumers with con-
tinuous power from dedicated agricultural feeders
for eight hours each day at preannounced hours.
• Mass awareness drive for energy conservation –
This extensive public education program employs
various agencies to lead energy-conservation
workshops, seminars, exhibitions and live demon-
strations. Energy audits of industries and the use
of capacitors are promoted.
Legislative reform. Gujarat was one of the first
states to amend the laws governing the marketing
of agricultural produce and allow farmers to sell their
output directly to private buyers rather than official
procurement outlets. In fiscal 2005, Gujarat allowed
companies to buy crops from farmers one year in
advance, reducing their market risks by allowing them
to hedge against price fluctuation. The hedging guar-
anteed a minimum price and allowed some flexibility
to account higher prices at the time of a transaction.
It also has encouraged contract farming by attracting
private companies—for example, ITC and Pepsi—to
enter into contracts with farmers.
Technological advancement. Rejuvenation of
the agricultural research systems and introduction
of innovative extension services made research and
know-how available directly to farmers on their farms.
Under the “Krushi Mahotsav” program, agricultural
scientists, elected representatives, and farmers spend
a month, during April/May, touring rural areas demon-
strating the best technologies for soil health, organic
farming, farming inputs, irrigation, etc.
Source: Gulati and Shreedhar (2009).
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 28
Notes
1. Ganesh-Kumar et al. (2010).
2. Fang, Hazell and Haque (2000).
3. See Deaton and Dreze (2009) on the long-term decline
in availability of food in India.
4. Bhutan has a bilateral agreement with India for the
duty-free import of food articles. Food markets are influ-
enced by the Food Corporation of Bhutan (FCB), which
manages the acquisition, management and disposal of
a small public reserve of rice, wheat, vegetable oil and
sugar, and purchases of selected food commodities
from India and subsequent selling at controlled prices
in district-level retail shops. The FCB’s strategic food
stocks consist of: rice (1,400 tons), wheat (180 tons),
vegetable oil (58 tons) and sugar (200 tons).
5. Purchases are made in bulk only, which excludes
marginal and small farmers from the price guarantee
offered by FCI.
6. Procurement by the FCI absorbed 57 million tons and
55 million tons of mainly rice and wheat in fiscal 2009
and 2010. Procurement of other crops is limited and
may not influence prices as much.
7. This is true to the extent that farmers are able to decide
whether to sell to the FCI or private traders, a choice
which is not always available because of crowding out
of the private sector.
8. Basu (2010). See also World Bank (2004). A high
proportion of the grains are stored by building pyra-
mids of sacks of grain on cement platforms and covering
them with polyester tarpaulins. The system leads to
high losses from pests and moisture, and does not allow
adequate “first in, first out” rotation, which results in
ageing of stocks.
9. World Bank (2004).
10. Ibid.
11. Ganesh-Kumar et al. (2007).
12. World Bank (2004).
13. Chakraborty (2009).
14. Ministry of Finance of the Government of India (2011).
15. Basu (2010).
16. Fan, Hazell and Haque (2000).
17. Sharma and Thaker (2009).
18. Fan, Gulati, and Thorat (2008).
19. Kumar and Mittal (2006).
20. World Bank (2004).
21. Shankar, V., H. Kulkarni, S. Krishnan (2011).
22. Kumar and Mittal (2006).
23. Rinaudo (2002), Wade (1990).
24. Khan et al. (2004).
25. Magistro et al.(2004).
29 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
IV
The Human Impact of Food Price
Inflation
T
HE POVERTY AND NUTRITIONAL
impact of food price spikes on the poor is signif-
icant since they spend a larger fraction of their
income on food than relatively better off individuals.
The malnutrition status of poor households in South
Asia—a result of poor diet, lack of access to health
services, poor sanitary environment and lack of aware-
ness—was already precarious before the increase in
food prices. Afghanistan, for example, has the highest
levels of chronic child malnutrition in world. Most
countries in South Asia have double the rates of child
malnutrition of many Sub-Saharan African countries.
The food price increase has further exacerbated this
vulnerability. Since the last food price spike in 2008,
governments in South Asia have strengthened safety
nets, but gaps continue to exist. The largest safety net
interventions in the region—India’s and Pakistan’s
public distribution systems for staple foods—are
characterized by high leakages and therefore costs,
while errors of exclusion are actually larger than the
reverse, i.e. a large number of the deserving poor is
not covered. This section presents results of a simula-
tion exercise aimed at estimating the likely impact of
recent food price increases on the poor. The second
part discusses safety net approaches and their effects
on food security, and the World Bank’s engagement
with governments in the region on safety nets.
1. Impact on Poverty
1
The poor experience large declines in their real incomes
and poor food producers have little opportunity to
respond by increasing output within a short period
of time. The evidence from the 2008 food price spike
suggests that in most countries poverty increases
when food prices rise substantially, even in rural areas,
because both rural and urban poor are typically net
consumers of food.
2
In 2010–11, the rise in food prices is showing
across a larger range of commodities than in 2008
when it was mostly confined to traded grains, which
will make it more difficult for the poor to compen-
sate for price increases by shifting their purchases to
cheaper calories, foods which are poorer in protein
and vitamins and minerals, as was the case during the
2008 crisis. Even short-lived food price hikes reduce
calorie intake, compromise dietary diversity reducing
access to proteins and essential micronutrient rich food
and tend to have long-term consequences, especially
on infants and young children.
3
To understand the magnitude of the problem, we
simulated the likely poverty impact of the food price
increases that occurred between June and December
2010. The analysis is based on survey data for house-
hold food production, sales and consumption of key
agricultural commodities.
4
Given the relatively fast
change in food prices, the analysis assumed that price
changes have not yet translated into noticeable changes
in wages. In addition, we have not incorporated possible
policy measures that might insulate poor net buyers of
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 30
food from the price hike. The results presented below
are therefore indicative only.
The simulations suggest that the number of poor
increased by 1.4 percentage points in South Asian coun-
tries (Figure 4.1). In India and Nepal, the increase in
the poverty headcount is less than the median while
Bangladesh and Pakistan are above, with Sri Lanka at the
median. For the impact on the poverty gap, in Nepal,
Pakistan and Sri Lanka, the increase in the poverty gap
is less than the median while the opposite is true for
Bangladesh and India. Except for Nepal, the net change
in the poverty headcount is greater than the impact on
the poverty gap. Pakistan experiences the highest net
percentage increase in the poverty headcount whereas
Bangladesh experiences the highest percentage increase
in the poverty gap due to the food price increase. Nepal
faces the least net change in both poverty headcount
and gap among the South Asian countries.
Across all the South Asian economies, the median
of people exiting poverty is 0.06 percent while those
entering poverty are 1.49 percent, driving 15 million
South Asians into poverty. (Table 4.1). Of the South
FIGURE 4.1 Poverty Impacts of Recent Price Rises
Into poverty Out of poverty Net change Urban Rural
Change in poverty gap % Net change in poverty headcount Beef Rice Sugar Oils and fats Wheat
Change in Poverty Headcount
–0.6
–0.1
0.4
P
e
r
c
e
n
t
a
g
e

p
o
i
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t
s
0.9
1.4
1.9
2.4
B
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g
l
a
d
e
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d
i
a
N
e
p
a
l
P
a
k
i
s
t
a
n
S
r
i

L
a
n
k
a
Net Change in Poverty Headcount: Rural vs Urban
0.0
0.5
1.0
P
e
r
c
e
n
t
a
g
e

p
o
i
n
t
s
1.5
2.0
2.5
3.0
B
a
n
g
l
a
d
e
s
h
I
n
d
i
a
N
e
p
a
l
P
a
k
i
s
t
a
n
S
r
i

L
a
n
k
a
Impact on Poverty Gap vs Poverty Headcount
0.0
0.5
P
e
r
c
e
n
t
a
g
e

p
o
i
n
t
s
1.0
1.5
2.0
2.5
B
a
n
g
l
a
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e
s
h
I
n
d
i
a
N
e
p
a
l
P
a
k
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s
t
a
n
S
r
i

L
a
n
k
a
Estimated or Observed Price Change (June–Dec 2010)
0.0
0.5
1.0
P
e
r
c
e
n
t
a
g
e

p
o
i
n
t
s
1.5
2.0
2.5
3.0
B
a
n
g
l
a
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s
h
I
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d
i
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N
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k
i
s
t
a
n
S
r
i

L
a
n
k
a
Source: Ivanic et al. (2011).
The Human Impact of Food Price Inflation 31
Asian countries, while Bangladesh has the largest
percentage change of individuals exiting poverty with
the food price hike, it also has the greatest percentage of
individuals moving below the poverty line. In Pakistan,
there is no decline in poverty.
2. Mitigating the Impact
As shown in the previous section, the current food price
shock is likely to increase the poverty headcount and
the poverty gap in the region. Given that poverty is
still a pressing problem in South Asia, governments are
called upon to scale up and improve targeting of existing
social protection programs, and where such programs
are weak and nonexistent, to implement safety nets to
mitigate the impact on the large number of poor. If food
is distributed as part of a safety net response, it should
be fortified with essential micronutrients to ensure its
high nutritive value safety nets can have a greater impact
upon protecting and improving nutritional status,
through provision of more nutritious foods when food
is distributed (e.g. foods fortified with essential vitamins
and minerals) and by increasing beneficiary knowledge
on how to maximize limited household resources for
nutritional impact (e.g. adequate intra-household allo-
cation of food to women and children).
Social Protection in South Asia since
the last food crisis
Numerous social protection schemes currently exist in
South Asia, including subsidies on food and energy,
cash transfers, social pensions, social assistance, food
transfers, workfare, stipends, and social care services.
The largest South Asian countries have large systems for
the distribution of subsidized food, while cash transfer
programs are very small-scale, often short-term, and
lacking robust systems for administration and delivery of
program benefits and services. This has been changing
in recent years, with growing investment in well targeted
and administered safety net programs (SNPs) in the
region. India, for example, has recently introduced a
health insurance program for the poor (RSBY), which
features a cashless and paper less system, with strong
private partnerships and a robust monitoring and eval-
uation system. Pakistan has also recently initiated a
national cash based safety net program (BISP), which
relies on a modern targeting, administration and delivery
system. As the development of safety net systems takes
time, the current preparedness for a food price shock
with respect to coverage of the poor, and the targeting
and quality of administrative systems varies markedly
across South Asian countries (Table 4.2).
The 2008 food crisis provides important lessons
regarding the effectiveness of different safety net
programs (see Box 4.1). At the time of the previous
crisis, it became clear that emergency response
TABLE 4.2 Safety Net Readiness Assessment in South Asia
Assessment Criteria Countries
Crisis Ready Have one or more programs with high coverage of poor, highly progressive
targeting and good administration
None
Moderate Base Have one or more operating and progressively targeted programs to
build on, but with less than full coverage and/or a need for administrative
improvements
Bangladesh, Pakistan,
India
Weak Base A large scale response would require fundamental changes to range, size,
or targeting of programs and significant building of institutional capacity
Sri Lanka, Nepal, Maldives
Unprepared Very small programs with little institutional development, often geared only
to specific sub-groups of the population
Afghanistan, Bhutan
Source: Authors.
TABLE 4.1 Changes in Poverty Headcount
(‘000)
Out In Total
Bangladesh –700 3,000 2300
India –5,000 14,000 9,000
Nepal –18 61 43
Pakistan 0 3,300 3,300
Sri Lanka –10 300 290
Source: Ivanic et al. (2011).
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 32
BOX 4.1 Recommendations for Safety-Net Policy Responses
Policy responses should be designed according to
country context and need to be administered effec-
tively and efficiently to reach the target group. A loose
ranking of programs for the short-run response could
look as follows.
Direct Transfers
• Where Conditional Cash Transfer (CCT) programs
already exist, increasing their benefit or coverage
may be a key part of the response. However, es-
tablishing new CCTs may take too long and exclude
the neediest or those suffering from acute but
transitory income shocks.
• Other good options would include raising benefits
across a large spectrum of social transfers, such
as social pensions, survivorship pensions, disability
pensions, and unemployment benefits, where they
cover the poor. Food stamps or vouchers have
slightly higher administrative costs than cash, but
can be politically popular.
• Food distribution in-kind is appropriate where
markets are functioning poorly, where foreign as-
sistance is only available in-kind, or where stra-
tegic grain reserves need to be rotated. In other
circumstances, in-kind programs will have higher
than necessary administrative costs per unit of
value transferred as well as potential leakage as in
Bangladesh. They also have a limit on how much
support can be transferred per beneficiary. Different
types of food distribution include take-home rations,
school feeding programs, distribution of fortified
foods, onsite feeding through health centers, and
ready-to-use therapeutic foods in the home.
• Public works programs rarely achieve sufficient
coverage to be the whole response to rising food
prices, however, where public works programs ex-
ist, increasing their benefit or coverage may help.
It is also important to ensure that public works
programs, which often involve heavy physical
labor, be designed so as to not further compromise
the poor nutritional status of poor beneficiaries.
For example, heavy labor during pregnancy may
compromise the health of the pregnant woman
and the development of the unborn child. Women’s
participation in public works programs may also
limit their ability to care for their children and thus
compromise the growth and development of these
children.
• Immediate across-the-board wage increases
through public sector and minimum wages are not
desirable. Both instruments represent a permanent
increase in wages in response to a shock that may
be temporary, thereby fueling inflation and fiscal
expenditures over the long run. Moreover, they
fail to increase wages among the poor, who are
concentrated in the private, informal sectors.
Indirect transfers
• Fee waivers or vouchers for health and scholar-
ships for education help households maintain
access to services even if households become
poorer.
• Lifeline pricing for networked utilities can be ap-
propriate where the poor are connected to the net-
work, have individual meters, volume differentiated
tariffs are used, and the subsidized block of service
is consonant with use by low-income households.
• General food price subsidies are distortive, costly,
and hard to eliminate, although sometimes adroit
choice of commodities can result in transfers that
are nearly neutral in incidence and inclusive of the
poor. They also have physical limitations (quantities
of specific food items consumed) on how much
income can be transferred in this way. General fuel
subsidies tend to be very regressive and often not
well targeted.
Further considerations:
• In some, but not all, cases it will be appropriate to
scale back emergency social protection interven-
tions again as food prices find their new long-term
level and households and wages adjust to it. How-
ever, where safety nets were grossly inadequate it
may be desirable to keep them at scale.
• Specific nutrition and health interventions are often
needed to complement social protection programs.
Source: World Bank (2011).
The Human Impact of Food Price Inflation 33
mechanisms were not well developed and that putting
in place best-practice safety net programs was required.
As these programs would take time to be crisis ready,
second-best options were therefore needed to respond
to the immediate crisis needs. Improving coordination
among related (small scale) programs enhances their
ability for effective service delivery. Consolidation of
various duplicative safety net interventions under one
government authority, where politically feasible, is
important for enabling efficient and timely responses
to future crises.
Country Stories
5
Afghanistan is the least prepared country in South
Asia because it currently has no scalable, targeted SNP.
Existing interventions in Afghanistan remain small in
terms of coverage and funding. The majority of the
poor and vulnerable are not assisted directly through
any government-sponsored programs. Food aid is the
core safety net, delivered via small and scattered inter-
ventions including a mix of school feeding, food for
work, and emergency feeding.
Over the course of 2010, the Ministry of Labor
and Social Affairs, the line ministry responsible for
social protection has been working intensively on
preparations for an IDA-funded unconditional cash
transfer (UCT) pilot, in close cooperation with other
ministries and non-governmental bodies. It is antic-
ipated that by early summer 2011, evaluation of the
pilot would be completed and the scale-up of activi-
ties would be considered. The new program, if eval-
uated as a success, could become an intervention to
respond to various shocks including increased food
prices. A pilot community and geographic targeting
approach is being put in place in response to the rising
food prices. The World Bank supports this effort with
US$2.5 million.
The capacity to respond to the food crisis by the
government of Bangladesh is spread among several
programs in operation for at least five years, each
progressively targeted but with coverage of less than
ten percent of the poorest quintile and concentrated
in rural areas. The key programs used to respond to
the food crisis are fairly well targeted to the poor.
The main program providing coarse rice in rationed
quantities in open markets (OMS) is a self-targeted
program for the poor as the non-poor have few incen-
tives to stand in long lines for small quantities of infe-
rior quality rice. Thus OMS is self-targeting because it
provides low-quality rice, which is not of interest for
better-off consumers. Rice is sold at a subsidized price
of 25 taka per kilogram for up to 5 kg per household
using licensed dealers, which are allowed a commission
of 1.5 taka per kilogram. The government increased
the number of OMS dealers in Dhaka and coverage
has been extended nationwide involving about 3,000
dealers. During the first eight months of fiscal 2011,
396,000 tons of rice was distributed through OMS,
representing 72 percent of the annual target.
6
The second scheme employs Fair Price Cards
targeted at the most vulnerable as identified by commit-
tees composed of government officials, people’s represen-
tatives and school teachers. The government has so far
distributed 69,600 tons of rice through Fair Price Cards
in FY2010–11, and plans to increase the number of
these cards to 2.23 million to cover the ultra-poor house-
holds, village defense police, and third- and fourth-
class employees of public and private organizations. In
addition to these main schemes, the government also
allocates rice under Vulnerable Group Feeding (village
level help in periods of distress), Vulnerable Group
Development (food and training for women), Test
Relief (food for worker as disaster response), Gratuitous
Relief (food grants disaster relief ), and Food for Work
(rural infrastructure projects for women).
The Vulnerable Group Feeding (VGF) program is
targeted at the more geographically food-insecure parts
of Bangladesh using a food-vulnerability map devel-
oped by World Food Program (WFP). Within these
districts, various targeting criteria are used to identify
the extreme poor—around 60 percent of VGF benefi-
ciaries are from the bottom 40 percent of the popula-
tion. The recently established Employment Generation
Program has been recently assessed as well targeted
and generally effective. It could potentially be used as
an additional mechanism of response and its ongoing
presence already assists more than half a million poor
households every year.
Current programs spend over 2.8 percent of GDP
and reach 4–5 million beneficiaries (15 percent in
rural and 5 percent in urban areas). Programs provide
in-kind transfers, cash, or a combination of the two
which could be scaled up to respond to a crisis.
The government has started a significant process
to enhance decentralized service delivery and social
accountability. Bangladesh is also aligning itself to
promote a more efficient response during a crisis, in
particular through the strengthening of results-based
monitoring and evaluation (M&E).
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 34
In India, a plethora of SNPs exist, including for
the provision of subsidized food, various other in-kind
transfers (e.g., school feeding), public works, and other
cash transfers such as social pensions for the elderly,
widows, and disabled; housing; scholarships, and as
noted above has a fairly recently-introduced social
insurance (RSBY, a subsidized health insurance) and
subsidized rural credit. Centrally-sponsored schemes
and state-level programs exist side by side. Most of
these programs still do not fortify the food which is
distributed, despite this being a low cost and techni-
cally feasible approach which would yield significant
nutritional benefits to poor households.
The largest program provides subsidized food
through the Public Distribution System (PDS).
Inefficiencies in the procurement and storage of food
by the FCI were discussed in Chapter II. In addition,
sales through the PDS are fraught with high leakages,
on the one hand because of failures to identify the
poor—both failures of inclusion of non-poor house-
holds and exclusion of poor households who really
should have had access—and on the other hand by
diversion of subsidized stocks to the open market.
One recent study shows that 44 percent of persons
who should have had access were excluded.
7
Another
study shows that a large share of relatively better-off
households buy grains from the PDS, while only 30
percent of households in the lowest expenditure quin-
tile buy from the PDS.
8
Data on food provisions to and purchases from PDS
stores shows large differences between states (Table 4.3).
Some states suffer from large-scale diversion of food
meant for distribution to the poor, while others have
plugged leaks quite successfully. A comparison of data
TABLE 4.3 India: Household Consumption vs. Grain Delivieries to the PDS, 2007
Consumption from PDS
as per HH survey Grain deliveries to the PDS Consumption/Deliveries
Rice Wheat Total Rice Wheat Total Rice Wheat Total
(in thousands tons) (in percent)
Bihar 80 100 170 970 660 1,630 7.9 14.7 10.7
Jharkhand 100 50 150 540 290 830 18.5 16.0 17.6
West Bengal 350 210 560 1,030 1,500 2,530 34.3 13.8 22.1
Assam 330 10 330 1,130 260 1,400 28.7 2.8 23.9
Gujarat 120 220 340 450 440 880 27.5 49.5 38.4
Rajasthan 40 470 510 160 990 1,140 25.0 47.7 44.6
Uttar Pradesh 1,220 800 2,020 2,580 1,640 4,220 47.2 49.1 47.9
Haryana 20 140 160 60 260 320 35.6 53.2 49.8
Orissa 860 0 860 1,460 130 1,590 58.8 2.7 54.1
Karnatak 980 190 1,170 1,630 270 1,910 60.0 69.4 61.4
Maharashtra 720 780 1,490 1,120 1,270 2,400 63.7 60.9 62.2
Madhya Pradesh 330 810 1,140 430 1,320 1,750 75.5 61.5 64.9
Andhra Pradesh 3,010 20 3,030 3,600 40 3,640 83.6 46.8 83.2
Kerala 840 120 960 860 290 1,150 97.1 43.2 83.6
Himachal Praddesh 200 190 400 230 220 460 86.9 86.3 86.6
Tamil Nadu 3,260 120 3,380 3,620 90 3,710 90.1 133.3 91.1
Punjab 0 150 150 10 150 160 18.4 98.8 94.8
Chhattisgarh 790 10 800 750 30 780 106.3 28.0 103.0
All-India 14,290 4,640 18,930 22,290 10,830 33,120 64.1 42.8 57.2
Source: Himanshu and Sen (2011).
The Human Impact of Food Price Inflation 35
on quantities of grains released to “fair price stores” on
one hand, and household-survey data on the purchases
of such grains on the other, shows nearly two-thirds
of the wheat and 40 percent of the rice that is meant
to go to poor households ends up in the open market.
In Bihar and Jarkhand, for example, only 11 percent
and 18 percent of the grain delivered to the PDS is
accounted for in the 2007–08 round of the household
survey.
9
On the side of the spectrum are Chhattisgarh,
Punjab, and Tamil Nadu, where nearly 100 percent of
food delivered to the PDS is purchased through offi-
cial channels.
The Government of India announced pilot
programs for transforming subsidies on LPG and
kerosene into direct cash transfers in the FY2011–12
Budget. While the modalities still have to be worked
out, it is hoped that targeting can be improved and
fiscal savings therefore realized. A successful implemen-
tation of these pilot programs would open the door
for broader move away from subsidies toward cash
transfers, although there is a vigorous debate in India
about whether cash transfers can be a viable alterna-
tive to food subsidies.
As in India, the government of Pakistan maintains
a large system to provide subsidized wheat and a few
other goods to poor households. PASSCO and PFDs
release wheat to flour mills at predetermined, uniform
prices across the country. The release prices are gener-
ally below the open market prices and give the govern-
ment a handle on wholesale wheat prices, although the
wheat subsidy mainly benefits flour mills, which use
wheat from public stores for some of their processing
and buy additional wheat in the open market, while
they sell their entire output at higher prices to shops.
Wheat and other commodities are also sold at subsi-
dized prices directly to urban consumers by the Utility
Store Corporation (USC) at prices that are 3–15 percent
below market prices.
Wheat subsidy is incurred at both federal and
provincial level. At the federal level, the government
absorbs the cost differential between the domestic
support and sales price, and extends budgetary support
to the Trading Corporation of Pakistan (TCP) and
PASSCO for losses incurred in their wheat trading
operations. At the provincial level, wheat subsidies are
incurred to meet the shortfall that occurs in the trans-
action of wheat by the Provincial Food Departments
(PFDs), particularly incidental charges being borne by
the provinces, and direct subsidies to the consumer via
various schemes (e.g., Ramzan package or Sasti Roti). To
the extent comparisons are possible, the costs incurred
by PASSCO and PFDs are significantly higher than
those of private traders, indicating inefficiencies in
handling wheat.
10
The system of government intervention is inef-
ficient in the sense that producer surplus losses and
budgetary costs from subsidies are significantly higher
than gains for consumers. A recent partial equilibrium
analysis of costs and benefits of the government’s wheat
policy concluded that the millers absorb most of the
benefits from government subsidies, while consumers
benefit at the expense of farmers.
11
Lower farm-gate
prices lead to lower production of wheat, as shown
by another recent study which uses a computable
general equilibrium model to simulate the effects of a
removal of producer taxes and consumer subsidies.
12

The authors conclude that removal of the distortions
in wheat prices would be welfare-improving across all
household groups. Income effects would dominate
price effects; i.e., income from increases in factor prices
would outweigh welfare losses from higher prices of
wheat. Higher prices of wheat from a removal of subsi-
dies would be mitigated by increasing production.
To provide a more direct safety net support, and
eventually phase out untargeted subsidies, Pakistan
has initiated a new cash transfer program, the Benazir
Income Support Program (BISP), to protect vulner-
able households against chronic poverty and adverse
economic or agro-climatic shocks. Over the last two
years, targeting, administrative and technical capacity
has been strengthened considerably. By early July,
beneficiaries will be determined on the basis of a new
transparent targeting system. The introduction of this
national safety net has led Pakistan to more than double
its SSN spending-to-GDP ratio from 0.4 percent to
nearly 1 percent. The volatile security situation still
presents a challenge for program implementation in
parts of Pakistan.
Sri Lanka has the large-scale Samurdhi program.
It was conceived to alleviate poverty and create oppor-
tunities for the youth, women, and the disadvan-
taged. The bulk of program resources are distributed
as consumption grants to households, with eligibility
determined by a community based targeting system.
Consumption grants are provided in the form of food
stamps, which account for 80 percent of the program’s
budget. Samurdhi also provides basic banking services,
insurance, and food-for-work schemes. Food stamps can
only be used in “cooperative” stores, which are a part
of a de facto government owned distribution network.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 36
The program also employs a large number of village
level community workers, the niyamakas.
The Samurdhi program shares the targeting diffi-
culties of the Indian PDS: Samurdhi misses almost
40 percent of households ranked in the lowest expen-
diture quintile, while a substantial number of house-
holds with higher relative welfare receive Samurdhi
consumption grants and other forms of Samurdhi
assistance. Around 44 percent of the total Samurdhi
transfer budget is spent on households from the third,
fourth, and fifth quintiles—those who are well-off in
relative terms.
13
The Government is currently investing
in a modern administration and targeting system for
the Samurdhi program to improve its ability to read
the poor.
In the Maldives, the government provides small
cash transfers, alongside energy subsidies meant to assist
poor households. To phase out untargeted subsidies
and ensure transfers reach the poor, the Government is
developing a national targeting system to better direct
cash transfers and subsidies to the poorest households
in the country.
In Nepal, according to a recent survey of 1,680
rural households, two thirds of the poor faced shocks
in the last year, and a majority of these were drought
and weather related. Coping mechanisms are still largely
informal with only 5 percent reporting government
or NGO support as a coping strategy. However, that
said, quarter of all surveyed households participate in
at least one safety net program.
Compared to other South Asian countries, Nepal
has seen the sharpest increase in social protection
spending over the last three years. Spending on social
protection (including civil service pensions, social
assistance, and unconditional cash transfers) went up
to 2 percent of GDP in 2010/11, from 0.5 percent of
GDP in 2004/05. The expansion is primarily due to
increases in the target population, such as lowering the
age criteria for the old age allowance, and the individual
benefits for the unconditional cash transfer programs,
as well as the introduction of new programs. Benefit
levels in existing programs, including the old age and
single women’s allowances, have been raised to keep pace
with inflationary pressures. The cash transfer programs
through Ministry of Local Development alone reach
almost 1 million beneficiaries. A recent Bank study
finds that given that categorical nature of the programs,
the social pension programs reach all income groups,
but that limited resources and weak administration
systems mean that the programs does not reach all
eligible beneficiaries. That said, individuals that the
program does reach register a high level of beneficiary
satisfaction with program delivery. Cognizant of these
issues, the Government is investing in improving the
financing, governance and administration of its main
cash transfer program.
3. Bank Support to Safety Net
Programs in South Asia
The Bank has been engaged on safety net issues in
South Asia (with the exception of Bhutan). The partic-
ular focus of our engagement is to improve the design
and administration of safety net systems (including
their coherence and coordination) so that countries
are better able to both address chronic poverty and
help households cope with economic or agro-climactic
crisis. The Bank has been active for several years in this
area and our assistance involves not just diagnostics on
program effectiveness but also both analytic and advi-
sory services as well as financial support to improve
program design and implementation The specific nature
of our engagement is detailed below.
The World Bank has helped Bangladesh by modi-
fying and supporting the 100-day employment guar-
antee program with a $150 million loan. With the
revised design, which includes improvements in for
example program registry, MIS and the payment
system, the program should be more responsive during
any future crisis. With World Bank grant support, the
Government is also in the process of designing a cash
transfer program conditional on beneficiary households
utilizing nutrition services for their children under the
age of two, and for continued attendance at schools by
their children. The pilot will also include a base uncon-
ditional amount to act as a safety net.
In the Maldives, the Bank supported the design
and implementation of social pensions for those older
than 65 through the Bank’s pensions and social protec-
tion project. The Bank is also providing technical assis-
tance through this project to support the development
of a national targeting system.
The modernization of administration and delivery
of the government of Nepal’s safety net program,
both workfare and social pension program, is being
strengthened through the Bank’s Social Safety Net
Project. A conditional cash transfer is also being
piloted and evaluated to assess how safety nets can
support improvements in human capital of the poorest
The Human Impact of Food Price Inflation 37
and most vulnerable groups (and protect this against
income shocks).
In Afghanistan, the Bank is supporting the devel-
opment of safety nets through the Afghanistan Pensions
and Social Safety Net project. A pilot program is
being designed and evaluated for potential scale up
nationwide.
The Bank is supporting the development of a
modern safety net through the BISP program in
Pakistan. As the development of the national system
will take time, the bank has also financed short term
emergency support for militancy affected families
through the KP/FATA project and emergency cash
support to families affected by the recent flood through
the Flood Emergency Cash transfer project. The Bank
is also supporting the Government transform its uncon-
ditional cash transfer program to a conditional cash
transfer program to support human capital develop-
ment of the poorest populations, including avoiding
adverse impact on health and education of the poor
during crisis.
The Bank is also supporting the Government of
Sri Lanka’s Samurdhi program through IDF and other
financing to improve its targeting and administration.
Given the lessons learnt from the crises, going
forward the Bank will focus on these priority areas:
• Developing real time monitoring instruments to
understand the level of risk and response read-
iness of client countries;
• Developing and strengthening safety net systems,
including establishing modern targeting, gover-
nance and administrative structures to ensure
effective delivery to target groups;
• Linking safety net programs to participation
of the poor in health/nutrition and education
programs and employment schemes to (i) reduce
the impact of crisis or chronic poverty on human
capital formation and (ii) to reduce benefit
dependency and promote economic integration
• Promoting an integrated response of actions,
combining diverse safety net instruments, along
with other sectoral interventions in nutrition
and agricultural investment;
• Making financing and technical expertise avail-
able in a timely manner, yet ensuring consis-
tency of short term response with longer term
investment in safety nets; and
• Working to enhance the evidence base of how
impacts are manifest and what works in times
of crises.
Notes
1. See Annex 4 for more details. This section and the
annex are based on Ivanic, Martin and Zaman (2011),
Estimating the Short-Run Poverty Impacts of the 2010–11
Surge in Food Prices, World Bank Policy Research
Working Paper 5633.
2. See Ivanic & Martin (2008), Dessus, Herrera, & de
Hoyos (2008) and Wodon & Zaman (2010) for further
discussion.
3. See Skoufias, Tiwari and Zaman (2011), Alderman,
Hoogeveen and Rossi, (2006), Mghenyi (2009),
D’Souza and Jolliffe (2010), and Ahmed and Jansen
(2010).
4. Where available, we used country-level data on actual
changes in domestic food prices from Food Price Watch
(World Bank, 2011). For other commodities, where
prices are unavailable, import shares reported in Version
7 of the GTAP database to link global prices with
domestic consumer prices is used (see Hertel, 1997).
In the case of Afghanistan, we were unable to estimate
the impact of price changes on each household’s real
income because an estimate of the quantity of goods
produced by each household is unavailable. Instead we
estimated the net change in food consumption from
the increase in price, as observed through household
consumption data.
5. See also Annex 5 for a table on food crisis response
safety nets in South Asian countries.
6. To improve the quality of the diet of households who
benefit from the schemes, this rice could be readily
fortified with essential vitamins and minerals.
7. Khera (2010).
8. Himanshu and Sen (2011).
9. Ibid.
10. Slam (2003).
11. Ahmad et al. (2010).
12. Ibid.
13. Glinskaya, E. (2003).
39 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Policy Options
W
ITH FOOD BEING SUCH A LARGE
component of consumption basket and even
without formal wage indexation, food infla-
tion—whether their origin is from supply shocks
or from excess demand—can get passed through to
overall inflation. Unlike advanced countries, where the
received wisdom is to “look through” these increases,
this may not be the best strategy in South Asia, and
this means that demand management policies need to
be deployed earlier than in advanced countries. In the
case of South Asia, many central banks have begun the
process of normalizing monetary policy with interest
rate hikes, but in many of them, ex-post real rates are
still negative suggesting room for further tightening.
Some tightening of monetary conditions has been
achieved by appreciating real exchange rates. In nearly
all countries in the region, the process of normal-
ization of fiscal policy is not complete and in many
cases, fiscal balances have deteriorated. Fiscal consol-
idation is therefore a priority in many countries both
for demand management and to rebuild fiscal space
to cope with future shocks.
Foodgrain stock management. Important in the whole
region, but especially in India given the current situ-
ation of high prices coexisting with excessive stocks,
and potentially a new more extensive “right to food”
based entitlement. A study is underway by CACP
covering optimal level of stocks, efficient manage-
ment of food grains, and the role of the private sector
in procurement and distribution. More could be done
to expand the fortification of stocks with essential vita-
mins and minerals.
Increasing agricultural output and productivity.
Considerable work exists on the necessary policies.
For example, the Government of India recognizes the
need for a comprehensive strategy with a focus on
technology, improved water management, rural infra-
structure, agricultural diversification, food security,
and private sector investment in marketing and agro
industry. The success of Gujarat offers salutary exam-
ples of how such a comprehensive approach could work.
Safety nets. Increasing the role of the private sector in
food grain marketing in India and Pakistan requires
delinking of safety nets from direct public procure-
ment of wheat and rice from farmers. This does not
necessarily entail an end to the distribution of subsi-
dized food from public stores as shown by the exam-
ples of Sri Lanka and Bangladesh. Also, countries could
better protect and improve nutritional status through
provision of more nutritious foods (e.g. foods fortified
with essential vitamins and minerals) and by increasing
beneficiary knowledge on how to maximize household
resources for nutritional impact (e.g. adequate intra-
household allocation of food to women and children).
Managing Risks. Over the last few years, volatility in
exchange rates, interest rates, and commodity prices
V
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 40
has reached peaks similar to those seen during the
financial crisis, a trend which seems unlikely to ease
given uncertain political and economic conditions.
Increased market volatility has generated renewed
interest among borrowers in market-based tools and
assistance for managing risks, particularly those that
affect the government’s budget. (See Annex 6)
41 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Country Pages: Eight countries –
Eight Graphic Economic Narratives
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 42
Afghanistan
Private consumption is the motor of growth from
donor infows and the security economy...
FIGURE C Contribution to Real GDP Growth,
Expenditure
–20%
–10%
0%
10%
20%
30%
40%
50%
60%
0
5
10
15
20
25
Strong, but volatile real GDP growth...
FIGURE A GDP Growth
... driven by the services sector and fuctuating
agriculture ouput.
FIGURE B Contribution to Real GDP Growth,
Production
2003/04 2004/05 2005/06 2006/07 2007/08 2008/09 2009/10
Source: CSO.
… the current account defcit has shrunk...
FIGURE E Balance of Payments
Source: DAB.
0%
20%
40%
60%
80%
100%
2005/06 2006/07 2007/08
–10
–5
0
5
10
15
20
25
30
Source: CSO, IMF and WB calculations. Source: DAB, IMF.
1.9
Investment (Gross Dom. Fixed) Real GDP Growth
Pvt Consumption Net Exports Govt. Consumption
Exports Imports
2004/05 2005/06
f
.
o
.
b

i
n

%

o
f

G
D
P
i
n

%

o
f

G
D
P
… but trade is declining,
FIGURE D Trade in Percent of GDP
2006/07 2007/08 2008/09 2010/11* 2009/10
Source: CSO, IMF and WB calculations.
Construction Industry-others GDP
Agriculture Services Manufacturing Mining
2004/05 2005/06 2006/07 2007/08 2008/09 2010/11* 2009/10
2010/11* 2009/10 2008/09
–80%
–70%
–60%
–50%
–40%
–30%
–20%
–10%
0%
10%
2005/06 2006/07 2007/08 2008/09 2009/10 2010/11*
…and the afghani continues to appreciate.
FIGURE F Nominal Exchange Rates, to Afs
(Index Mar,22, 2009=100)
Source: DAB.
70
75
80
85
90
95
100 Dollor
Euro
Pakistani Rupee
105
110
115
A
p
r
-
0
9
J
u
n
-
0
9
A
u
g
-
0
9
D
e
c
-
0
9
F
e
b
-
1
0
O
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t
-
0
9
A
p
r
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1
0
J
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n
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0
A
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0
D
e
c
-
1
0
F
e
b
-
1
1
O
c
t
-
1
0
Agricultural GDP Growth Overall GDP Growth
Current account (incl. grants)
Overall Balance Current Account Balance (excl. Grants)
Capital & Financial Account
Country Pages: Eight Countries – Eight Graphic Economic Narratives 43
Bangladesh
Real GDP growth is projected to rise on the back of
strong domestic demand, private investment, and exports...
FIGURE A GDP Growth (%)
…while infationary pressures have worsened, driven
largely by a double-digit rise in food prices...
FIGURE B Inflation(%) Y-o-Y
Source: Bangladesh Bureau of Statistics & WB Staff Estimate.
…narrowing the external current account surplus and
pushing down reserves…
FIGURE E Current Account Balance and
Foreign Exchange Reserves
Source: Bangladesh Bank and WB Staff Calculation.
0
5
10
15
20
25
30
Source: Bangladesh Bank. Source: Bangladesh Bank.
…with exports and imports rising in the frst part of the
year, in contrast to the sharp fall in remittance which
has since recovered slightly...
FIGURE D Cumulative Growth (%) in
Remittance and Imports
Source: Bangladesh Bureau of Statistics.
J
u
l
-
0
6
O
c
t
-
0
6
J
a
n
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0
7
A
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7
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O
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t
-
1
0
J
a
n
-
1
1
...leaving fscal space to deal with stresses likely to emerge
from high food and fuel prices.
FIGURE F Revenue and Annual Development
Program
Source: Ministry of Finance and IMED.
J
a
n
-
1
0
F
e
b
-
1
0
M
a
r
-
0
1
J
a
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-
1
1
F
e
b
-
1
1
M
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-
1
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M
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J
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.
1
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-
1
0
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t
-
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0
5.0
5.5
6.0
6.5
7.0
FY05 FY06 FY07 FY08 FY09 FY10 FY11 (P)
F
Y
0
5
F
Y
0
6
F
Y
0
7
F
Y
0
8
F
Y
0
9
F
Y
0
0
F
Y
0
1
F
Y
0
2
F
Y
0
3
F
Y
0
4
F
Y
1
0
F
Y
1
1
(
J
a
n
)
0
2
4
6
8
10
12
14
16
General Food
Private Sector Credit M2
CAB (US$ Million, left axis) Reserves (in months of import, right axis)
–25
–15
–5
5
15
25
35
45
Import Remittances
Non-Food
J
u
l
-
0
8
S
e
p
-
0
8
N
o
v
-
0
8
J
a
n
-
0
9
M
a
r
-
0
9
M
a
y
-
0
9
J
u
l
-
0
9
S
e
p
-
0
9
N
o
v
-
0
9
J
a
n
-
1
0
M
a
r
-
1
0
M
a
y
-
1
0
J
u
l
-
1
0
S
e
p
-
1
0
N
o
v
-
1
0
J
a
n
-
1
1
M
a
r
-
1
1
U
S
$

M
i
l
l
i
o
n
0
500
1000
1500
2000
2500
3000
3500
4000
6.0
6.6
6.4
6.2
5.7
5.8
6.2
…and growth in money and credit is expected to
remain high, as in 2010…
FIGURE C Money and Credit Growth (%)
4.0
4.5
5.0
5.5
6.0
ADP implementation in first 8 months (% of Total, right axis)
Revenue/GDP Ratio (left axis)
0 8
9
10
11
12
13
14
F
Y
0
1
F
Y
0
2
F
Y
0
3
F
Y
0
4
F
Y
0
5
F
Y
0
6
F
Y
0
7
F
Y
0
8
F
Y
0
9
F
Y
1
0
F
Y
1
1
10
20
30
40
50
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 44
Bhutan
0
3
6
9
12
15
Real GDP has averaged more than 8 percent of GDP, but
growth rates show high volatility…
FIGURE A GDP Level and Growth
…driven by fuctuating contributions from the electricity
and construction of hydropower projects…
FIGURE B Contribution to GDP Growth,
Production
…current account defcits averaged about 7 percent of
GDP, but strong donor infows brought positive balances…
FIGURE E Balance of Payment
Source: BMacroeconomic Framework Coordination Committee of Bhutan, Ministry of Finance, January2010. The 2010/11 figures are Revised Estimates.
...and fscal prudence has resulted in manageable fscal
balances in recent years…
FIGURE D Fiscal Balance
…the nominal exchange rate has fuctuated but
appreciated against the dollar in recent years.
FIGURE F Nominal Exchange Rate
Fiscal Balance to GDP Ratio
Current Account Overall Balance of Payments
Real GDP (Left Axis)
...grants and electricity, taxes and dividends are
government’s main sources of revenue…
FIGURE C Government Revenue
M
i
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l
i
o
n
s

o
f

2
0
0
0

N
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.
P
e
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c
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G
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(
Y
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)
0
10000
20000
30000
40000
50000
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
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C
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.
0
Construction Electricity, Gas, and Water All Other Sectors
P
e
r
c
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n
t
a
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e

C
o
n
t
r
i
b
u
t
i
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n

t
o
A
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u
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l

G
r
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w
t
h
–20%
0%
20%
–10%
–20%
–30%
–40%
0%
20%
10%
40%
60%
80%
100%
120%
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
2
0
0
8
/
0
9
2
0
0
9
/
1
0
2
0
1
0
/
1
1
Electricity Sector Grants Other Sources
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
2
0
0
8
/
0
9
2
0
0
9
/
1
0
2
0
1
0
/
1
1
5000
10000
15000
20000
25000
30000
35000
F
i
s
c
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l

B
a
l
a
n
c
e

a
s
P
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n
t

o
f

G
D
P
–8
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
2
0
0
8
/
0
9
2
0
0
9
/
1
0
2
0
1
0
/
1
1
–6
–4
–2
0
2
4
Exchange Rate
P
e
r
c
e
n
t
a
g
e

S
h
a
r
e

o
f

G
D
P
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
2
0
0
8
/
0
9
2
0
0
9
/
1
0
2
0
1
0
/
1
1
N
u
.

p
e
r

U
S

$
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
2
0
0
8
/
0
9
2
0
0
9
/
1
0
2
0
1
0
/
1
1
40
42
44
46
48
Country Pages: Eight Countries – Eight Graphic Economic Narratives 45
India
A strong agricultural rebound in 2010 bolstered GDP
growth, but industrial performance fell in Q3…
FIGURE A Quarterly GDP by Sector of Production
(y-o-y change, in percent)
…private demand was strong, while investment led the
recovery in 2010. But recent quarters saw a strong drop-of…
FIGURE B Quarterly GDP by Sector of Use
(y-o-y change, in percent)
With a strong revival in exports and slowing of imports in the
second half of 2010/11, the current account defcit stabilized...
FIGURE E Current Account Deficit
(in US$ billion)
Source: CSO, RBI, CEIC.
…and with a stable rupee-US dollar exchange rate, the infation
diferential with major trading partners led to real appreciation.
FIGURE D Real Exchange Rate
(1993=100)
…non-food credit growth recovered, but is still low
compared with the 2005–2007 period.
FIGURE F Non-food Credit
(y-o-y change, in percent)
While wholesale price infation moderated, core infation
increasingly drove overall infation...
FIGURE C Components of Wholesale Price Inflation
(y-o-y change, in percent)
Agriculture Services GDP Industry
–50
–40
–30
–20
–10
0
10
20
0
7

0
8

Q
1
0
7

0
8

Q
2
0
7

0
8

Q
3
0
7

0
8

Q
4
0
8

0
9

Q
1
0
8

0
9

Q
2
0
8

0
9

Q
3
0
8

0
9

Q
4
0
9

1
0

Q
1
0
9

1
0

Q
2
0
9

1
0

Q
3
0
9

1
0

Q
4
1
0

1
1

Q
1
–4%
–2%
0%
2%
4%
6%
8%
10%
12%
14%
16%
1
0

1
1

Q
2
1
0

1
1

Q
3
Total
Consumption
Investment Private
Consumption
Government
Consumption
0
7

0
8

Q
1
0
7

0
8

Q
2
0
7

0
8

Q
3
0
7

0
8

Q
4
0
8

0
9

Q
1
0
8

0
9

Q
2
0
8

0
9

Q
3
0
8

0
9

Q
4
0
9

1
0

Q
1
0
9

1
0

Q
2
0
9

1
0

Q
3
0
9

1
0

Q
4
1
0

1
1

Q
1
0%
1
0

1
1

Q
2
1
0

1
1

Q
3
–20%
–10%
10%
20%
30%
40%
50%
60%
70%
0
5

0
6

Q
1
0
5

0
6

Q
2
0
5

0
6

Q
3
0
5

0
6

Q
4
0
6

0
7

Q
1
0
6

0
7

Q
2
0
6

0
7

Q
3
0
6

0
7

Q
4
0
2
4
6
8
10
12
D
e
c
-
0
9
J
a
n
-
1
0
F
e
b
-
1
0
M
a
r
-
1
0
A
p
r
-
1
0
M
a
y
-
1
0
J
u
n
-
1
0
J
u
l
-
1
0
A
u
g
-
1
0
S
e
p
-
1
0
O
c
t
-
1
0
N
o
v
-
1
0
D
e
c
-
1
0
J
a
n
-
1
1
F
e
b
-
1
1
Core Food Energy
80
85
90
95
100
105
110
J
a
n
-
0
6
M
a
y
-
0
6
S
e
p
-
0
6
J
a
n
-
0
7
M
a
y
-
0
7
S
e
p
-
0
7
J
a
n
-
0
8
M
a
y
-
0
8
S
e
p
-
0
8
J
a
n
-
0
9
M
a
y
-
0
9
S
e
p
-
0
9
J
a
n
-
1
0
M
a
y
-
1
0
S
e
p
-
1
0
1
9
8
2

8
3
1
9
8
4

8
5
1
9
8
6

8
7
1
9
8
8

8
9
1
9
9
0

9
1
1
9
9
2

9
3
1
9
9
4

9
5
1
9
9
6

9
7
1
9
9
8

9
9
2
0
0
0

0
1
2
0
0
2

0
3
2
0
0
4

0
5
2
0
0
6

0
7
2
0
0
8

0
9
2
0
1
0

1
1
0
5
10
15
20
25
30
35
40
D
e
c
-
0
1
M
a
y
-
0
2
O
c
t
-
0
2
M
a
r
-
0
3
A
u
g
-
0
3
J
a
n
-
0
4
J
u
n
-
0
4
N
o
v
-
0
4
A
p
r
-
0
5
S
e
p
-
0
5
F
e
b
-
0
6
J
u
l
-
0
6
D
e
c
-
0
6
M
a
y
-
0
7
O
c
t
-
0
7
M
a
r
-
0
8
A
u
g
-
0
8
J
a
n
-
0
9
J
u
n
-
0
9
N
o
v
-
0
9
A
p
r
-
1
0
S
e
p
-
1
0
F
e
b
-
1
1
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 46
Nepal
J
a
n
-
0
8
M
a
r
-
0
8
M
a
y
-
0
8
J
u
l
-
0
8
S
e
p
-
0
8
N
o
v
-
0
8
J
a
n
-
0
9
M
a
r
-
0
9
M
a
y
-
0
9
J
u
l
-
0
9
S
e
p
-
0
9
N
o
v
-
0
9
J
a
n
-
1
0
M
a
r
-
1
0
M
a
y
-
1
0
J
u
l
-
1
0
S
e
p
-
1
0
N
o
v
-
1
0
J
a
n
-
1
1
2010 2011
First six
months
Growth accelerated to about 5 percent, post-confict, with
consumption the main driver and investment and exports
playing lesser roles…
FIGURE A Real GDP growth decomposition by
expenditure (in percent)
…leaving high food and imported infation to drive the CPI
into double digits, though non-food infation has been
contained…
FIGURE B CPI Nepal and India
(y/y change)
Rapid private sector credit expansion fueled a real estate boom,
now busting on a liquidity crunch, lower M2 growth and
central bank interventions...
FIGURE E Private credit growth and interbank
interest rates (in percent)
…but accommodative monetary policy and high remittance
allowed consumption-fueled imports and high trade defcits.
Slowing remittance brought reserve losses, lower M2 growth.
FIGURE D Remittances and Trade Deficit
(as percent of GDP)
…leading to fewer real estate transactions and a sharp rise
in speculative gold imports, while the asset quality of banks
with high real estate exposure looks threatened.
FIGURE F Land revenue and gold imports
(in NRs. million)
…partly because fscal prudence has been maintained...
FIGURE C Overall and Primary Balances
(in percent of GDP)
GDP growth
Primary Balance Overall Balance
Private credit
growth rate
M2 growth Weighted Average
Interbank Transaction Rate
Trade deficit
incl. sevice
India CPI
Industrial
Nepal CPI
Consumption
Exports
Gross fixed capital formation
Nepal Food Nepal Non-Food
Worker
remittances
Current
account balance
Reserves,
net change
0
FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 F10
–15
–10
–5
0
5
10
15
20
0
5
10
15
20
25
FY 02 FY 03 FY 04 FY 05 FY 06 FY 07 FY 08 FY 09 FY 10
(est.)
–7
–6
–5
–4
–3
–2
–1
0
1
–10
–5
0
5
10
15
20
25
30
F
Y

0
2
F
Y

0
3
F
Y

0
4
F
Y

0
5
F
Y

0
6
F
Y

0
7
F
Y

0
8
F
Y

0
9
F
Y

1
0
0
5
10
15
20
25
30
35
J
a
n
-
0
8
M
a
r
-
0
8
M
a
y
-
0
8
J
u
l
-
0
8
S
e
p
-
0
8
N
o
v
-
0
8
J
a
n
-
0
9
M
a
r
-
0
9
M
a
y
-
0
9
J
u
l
-
0
9
S
e
p
-
0
9
N
o
v
-
0
9
J
a
n
-
1
0
M
a
r
-
1
0
M
a
y
-
1
0
J
u
l
-
1
0
S
e
p
-
1
0
N
o
v
-
1
0
J
a
n
-
1
1
10000
15000
20000
25000
30000
35000
40000
45000
FY06 FY07 FY08 FY09 FY10 FY10 Six
months
FY11 six
months
Land revenue Gold imports
Country Pages: Eight Countries – Eight Graphic Economic Narratives 47
Maldives
Economic growth is in sync with the fortunes of tourism...
FIGURE A Real GDP Growth, %
…which outstrip the contributions of government and
construction...
FIGURE B Contribution to Real GDP
Trade plays a key role...
FIGURE E Trade, as a percent of GDP
(including Services)
Source: MMA.
…and Eastern visitors begin to overstep the Western trend.
FIGURE D Tourist Arrivals Composition
…while BOP pressure begins to undermine the currency peg.
FIGURE F Balance of Payments, % of GDP
…while higher import prices drive up food infation...
FIGURE C Inflation, Malé
Tourism GDP Growth
Food
Overall Balance
Non Food
0
–10
–5
0
5
10
15
20
Overall GDP Growth
GDP
Fisheries Tourism
Other Construction
China Others Europe Asia excl. China
Government Administration
0
10
–10
20
–20
30
–30
40
–40
–50
–60
2003
–40%
–30%
–20%
–10%
10%
20%
30%
40%
50%
0%
2004 2005 2006 2007 2008 2009 2010Est
2003 2004 2005 2006 2007 2008 2009 2010Est
Imports to GDP Exports to GDP
2003 2004 2005 2006 2007 2008 2009 2010Est
Current AC Bal Financial AC Bal
2003 2004 2005 2006 2007 2008 2009 2010Est
2003 2004 2005 2006 2007 2008 2009 2010Est
–0.15
–0.10
–0.05
0.00
0.05
0.10
0.15
0.20
0.25
0.30
0.35 2007
2010
73%
16%
5%
5%
64%
15%
15%
6%
20
40
60
80
100
120
140
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 48
Pakistan
6,000
8,000
10,000
12,000
14,000
16,000
Devastating foods in July–August 2010 interrupted
recovery and resulted in weak real GDP growth…
FIGURE A GDP Growth
...mitigated by strong growth in workers’ remittances,
bringing in a positive current account for the frst three
quarters of 2011...
FIGURE B Current Account Balance
…which contributes to persistent and worrisome
double-digit infation...
FIGURE E Trend in Inflation...
...but the biggest concern remains the large fscal defcit arising
from fat tax revenue collection and expansionary spending…
FIGURE D Fiscal performance (as % GDP)
…leading the central bank to keep the policy discount
rate high.
FIGURE F Interest Rates
…this, along with external disbursements, has improved
the international reserve position, with mild appreciation
of the exchange rate...
FIGURE C SBP Forex Reserves and Nominal
Exchange Rate
NER RS/US$ (LHS)
CAB
Trade Balance Current transfers
Income (net)
Services (net)
0%
SBP Reserves (US$ million)
1%
2%
3%
4%
5%
6%
7%
8%
9%
10%
2
0
0
0
/
0
1
2
0
0
1
/
0
2
2
0
0
2
/
0
3
2
0
0
3
/
0
4
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
2
0
0
8
/
0
9
2
0
0
9
/
1
0
2
0
1
0
/
1
1
U
S
$

b
i
l
l
i
o
n
s
FY06 FY07 FY08 FY09 FY10 (July–Mar)
FY11
–30
–25
–20
–15
–10
–5
0
5
10
15
76
77
78
79
80
81
82
83
84
85
86
1
4
-
J
a
n
-
0
9
1
4
-
M
a
r
-
0
9
1
4
-
M
a
y
-
0
9
1
4
-
J
u
l
-
0
9
1
4
-
S
e
p
-
0
9
N
o
v
-
0
9
1
4
-
J
a
n
-
1
0
1
4
-
M
a
r
-
1
0
1
4
-
M
a
y
-
0
9
1
4
-
J
u
l
-
1
0
1
4
-
S
e
p
-
1
0
1
4
-
N
o
v
-
1
0
1
4
-
J
a
n
-
1
1
1
4
-
M
a
r
-
1
1
Expenditure (RHS) Tax Revenue
Fiscal deficit excl grants
12 m moving Average Y-O-Y Policy Rate 6-m KIBOR Core Y-O-Y
4
6
8
10
12
14
16
0
4
8
12
16
20
24
2007/08 2008/09 2009/10 2010/11*
*Projected
8
10
12
14
16
18
20
22
24
F
e
b
-
0
9
A
p
r
-
0
9
J
u
n
-
0
9
A
u
g
-
0
9
O
c
t
-
0
9
D
e
c
-
0
9
F
e
b
-
1
0
A
p
r
-
1
0
J
u
n
-
1
0
A
u
g
-
1
0
O
c
t
-
1
0
D
e
c
-
1
0
F
e
b
-
1
1
12%
13%
14%
15%
5
-
J
u
n
-
0
9
1
0
-
J
u
l
-
0
9
1
4
-
A
u
g
-
0
9
1
8
-
S
e
p
-
0
9
2
3
-
O
c
t
-
0
9
2
7
-
N
o
v
-
0
9
1
-
J
a
n
-
1
0
5
-
F
e
b
-
1
0
1
2
-
M
a
r
-
1
0
1
6
-
A
p
r
-
1
0
2
1
-
M
a
y
-
1
0
2
5
-
J
u
n
-
1
0
3
0
-
J
u
l
-
1
0
3
-
S
e
p
-
1
0
8
-
O
c
t
-
1
0
1
2
-
N
o
v
-
1
0
1
7
-
D
e
c
-
1
0
2
1
-
J
a
n
-
1
1
2
5
-
F
e
b
-
1
1
1
-
A
p
r
-
1
1
Country Pages: Eight Countries – Eight Graphic Economic Narratives 49
Sri Lanka
Sterling Pound
Euro
US Dollar
Strong and consistent real GDP growth...
FIGURE A Real GDP Growth, %
…driven by services and supported by manufacturing and
construction…
FIGURE B Contribution to Real GDP, %
…but infows to fnancial account remain steady...
FIGURE E Balance of Payments, % of GDP
Source: CBSL .
…though trade declined...
FIGURE D Trade, as a percent of GDP
(Servicetrade not included)
…and the Sri Lankan rupee appreciated against many
major currencies.
FIGURE F Nominal Exchange Rates,
LKR / Foreign Currency
(Index, End April 2009 = 100)
4
/
2
0
0
9
5
/
2
0
0
9
6
/
2
0
0
9
7
/
2
0
0
9
8
/
2
0
0
9
9
/
2
0
0
9
1
0
/
2
0
0
9
1
1
/
2
0
0
9
1
2
/
2
0
0
9
1
/
2
0
1
0
2
/
2
0
1
0
3
/
2
0
1
0
4
/
2
0
1
0
5
/
2
0
1
0
6
/
2
0
1
0
7
/
2
0
1
0
8
/
2
0
1
0
9
/
2
0
1
0
1
0
/
2
0
1
0
1
1
/
2
0
1
0
1
2
/
2
0
1
0
1
/
2
0
1
1
…combined with higher consumption to fuel GDP growth…
FIGURE C Contribution to Real GDP Growth, %
Agricultural GDP Growth
–12
–10
–8
–6
–4
–2
0
2
4
6
8
0
4
3
2
1
5
6
7
8
9
Overall GDP Growth
GDP
Manufacturing Services Agriculture
Industry Others
Mining
Construction
2003
0%
2004 2005 2006 2007 2008 2009 2010Est
2003 2004 2005 2006 2007 2008 2009 2010Est
Imports to GDP Exports to GDP
2003 2004 2005 2006 2007 2008 2009
Current AC Bal Capital AC Bal Financial AC Bal
Overall Balance
2003 2004 2005 2006 2007 2008 2009
0
4
–4
2
–2
6
8
10
Real GDP Growth Investment
Pvt Consumption Net Exports Govt Consumption
2004 2005 2006 2007 2008 2009
0
1%
2%
3%
4%
5%
6%
7%
8%
9%
5
10
15
20
25
30
35
40
45
80
90
100
110
51 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
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55 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Developments in Global
Commodity Markets
Food Supply and Demand
Projections
1
According to FAO projections, the global cereals
market is expected to tighten considerably in 2011
with total utilization exceeding world production.
The evolution of global prices for the remainder of
2011 will depend mostly on harvests of the winter
crop, with any negative news on weather and harvest
leading to further price increases. The winter crop
accounts for the bulk of annual global wheat output
and the overall wheat area for 2011 is now forecast to
increase only marginally by about 1 percent over 2010.
Early indications suggest crop sowings were margin-
ally reduced in the Russian Federation but close to
last year’s levels in Ukraine.
Overall, the world stock-to-utilization balance for
cereals appears to be in a relatively healthier state than
in 2008. However, the wheat markets appear to be more
susceptible to price volatility than rice markets. The
stock-to-utilization ratio is forecast to be higher for
rice than for wheat, which largely explains the expec-
tations in wheat markets driving price increases in the
last few months (Table A1.1).
Modest but steady increase in global grains
consumption, variable global grains supply due to
weather shocks, trade policy responses to shocks, and
resulting draw-downs of stocks held by the major grains
exporting countries have combined to increase both
uncertainty in global grains markets and broader food
price volatility since 2005. Global grains consumption
has increased by 26 percent since 1998/99, driven by
1
Annex
TABLE A1.1 World Wheat and Rice Balances (million tons)
Wheat 2007/08 2008/09 2009/10 Estimate 2010/11 Forecast Change: 2010/11 over 2009/10 (%)
Production 611 685 682 653 –4.3
Supply 722 829 862 833 –3.4
Utilization 629 647 659 667 1.2
Ending stocks 144 180 202 189 –6.4
World stock- to
utilization-ratio %
22.2 27.1 30.2 27.7 –8.3
Rice 2007/08 2008/09 2009/10 Estimate 2010/11 Forecast Change: 2010/11 over 2009/10 (%)
Production 440 458 455 466 2.3
Supply 544 569 580 591 1.8
Utilization 436 445 449 460 2.5
Ending stocks 111 125 130 136 4.8
World stock- to
utilization-ratio %
24.9 27.4 27.2 29 6.6
Source: FAO. Production data refer to first year shown. Supply is measured by adding production to opening stock.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 56
population growth in developing countries, higher
consumption of animal protein in response to rising
incomes, and increased demand for biofuels. In the
same period grain production increased by 20 percent,
but with erratic weather causing significant produc-
tion variability over years. Global stock draw-downs
compensated for the production shortfalls with overall
stocks falling below 20 percent of consumption by
2006/07 (Figure A1.1). FAO projects annual cereals
demand growth of 1.4 percent between 2000 and
2030, including demand for grains used for biofuels,
compared to 2.2 percent during the preceding 40
year period.
2
While such a long-term rate of demand
growth may at first appear modest, it still requires an
increase in supply, and in this respect to a very large
base. This poses an increasing challenge for growth of
agricultural productivity in the face of growing land
and water constraints and greater incidence of extreme
weather events. In some regions demand is outstrip-
ping supply, and unless there is growth in productivity
they will become increasingly import dependent and
vulnerable to variations of global prices.
The world grains stock-to-use ratio is often cited
as a measure of both the physical liquidity of grain
markets and an indicator of the likelihood of grain
price increases. Historical evidence suggests that grain
prices spike when global stock-to-use ratios are low.
3

Both the FAO and USDA publish stock-to-use esti-
mates. They reflect the difference between estimated
production and carry-over stocks on the one hand,
and estimated consumption and trade on the other.
The stock-to-use measure thus includes (conceptually)
all commercial, public and household stocks, whether
or not the stocks in question are actually available for
international sale. Over half of global stocks of rice and
wheat are estimated to be held by China and India,
where public-sector stocks play a major role.
4
There
is global uncertainty as to the triggers for release of
these stocks, their actual magnitudes, and their condi-
tion, and it is not clear whether perceptions of these
factors are adequately reflected in international prices.
International markets, however, are clearly very sensitive
to changes in perceptions of stocks likely to be avail-
able for sale. When the USDA downsized its estimates
of US corn production in the fall of 2010, the upward
impact on global corn prices was sharp and immediate.
For the time being, stock-to-use ratios for major
individual exporters tend to be a better indicator of
grain price volatility than global stock-to-use measures.
The US, for example, which accounts for 55 percent of
global exports of corn, presently has a domestic corn
stock-to-use ratio of 5 percent, an all-time low.
5
This
can be compared with a published—and historically
ample—global corn stock-to-use ratio of 20 percent.
For wheat, France, a major exporter to North Africa,
has a 7 percent stock-to-use ratio, which is very low
compared to the global figure of 26 percent. The bottom
line is that improvements in understanding of which
stocks will actually influence international prices may
themselves help increase market price predictability.
The current global grains market situation is similar
to the food price spike in 2007/2008 in three respects,
as listed below.
6
• Higher energy prices. Agriculture is significantly
more energy intensive than industry with inputs
such as irrigation, fertilizers and transport most
heavily affected.
• Depreciation of the US dollar against major curren-
cies. Trade in many agricultural commodities is
denominated in US dollars. Expressed in other
currencies, price increases and volatility are less
dramatic.
7
• Financial investment in agricultural commodi-
ties remains high. The Chicago Board of Trade
alone accounted for an estimated US$ 5 trillion
in wheat, corn and soy futures trading in 2010
(28 percent over the previous year, but down
from US$ 6 trillion in 2008). Clearly the value
of these financial transactions far exceeds the
FIGURE A1.1 Rising World Consumption, Variable Supply,
and Stock Draw-Downs have Fueled Consecutive Grain Price
Spikes
1
9
9
8
/
1
9
9
9
2
0
0
0
/
2
0
0
1
2
0
0
2
/
2
0
0
3
2
0
0
4
/
2
0
0
5
2
0
0
6
/
2
0
0
7
2
0
0
8
/
2
0
0
9
2
0
1
0
/
2
0
1
1
Stock-to-Use
M
i
l
l
i
o
n
s


M
T

(
C
o
n
s
u
m
p
t
i
o
n
,

P
r
o
d
u
c
t
i
o
n
)
P
e
r
c
e
n
t

(
S
t
o
c
k
-
t
o
-
U
s
e
)
10
15
20
25
30
35
40
1,400
1,500
1,600
1,700
1,800
1,900
2,000
Production Consumption
Source: USDA.
Annex 1. Developments in Global Commodity Markets 57
respective US crops (although the exchange is
also used for hedging transactions for non-US
crops). However, there is no evidence that the
significant increase of financial investment in
agricultural derivatives influences the level of
prices (see Annex 5).
Yet, the current situation also differs from 2008
in several critical respects. Firstly, recent international
price increases are more widespread across agricultural
commodities than in 2008 and include increases in
sugar, edible oils, beverages, animal products, and raw
materials such as cotton, rather than being predom-
inantly driven by major grains. Secondly, weather
is more clearly a major factor, and the frequency of
droughts, floods and extreme temperatures seems to be
increasing. On the positive side, trade policy responses
so far have been less damaging than in 2008 when they
greatly exacerbated shortages.
The bottom line is that agricultural commodity
price uncertainty and volatility are likely to continue
in the foreseeable future, largely due to the continuing
uncertainty on the supply side. In the short-term,
assuming a normal 2011/12 crop year, international
food prices are expected to decline from the current
peak, but they are likely to remain above their pre-2007
levels. Over the longer term, energy prices and total
factor productivity are two key forces likely to shape
world food price levels.
Since prices of staples remained 25–35 percent
higher in many developing countries in 2009 compared
to 2006, even when global prices fell,
8
many farmers
had an incentive to increase production. Higher local
production allowed developing countries in aggre-
gate to enter 2010/11 with higher production (3.8
percent), higher stocks (3.4 percent), and more trade
(5.4 percent) than in 2009/10. This which helped
offset sharp, weather-induced production declines in
developed countries.
9
Commodity Prices
The recent rise in global commodity prices, from July
2010, is fueling headline inflation in both advanced and
emerging economies. Of all the different commodity
groups, the global price rises and price volatility of agri-
cultural commodities has percolated to the top of the
political agenda in many of the emerging economies
and, in particular, the South Asia region’s economies.
Moreover, the surge in wholesale food prices is slowly
filtering into retail prices in poor and rich nations alike.
This rise in commodity prices is not restricted to
a particular group of commodities but broadly affects
agricultural, energy and metal prices.
10
(Figure A1.2) In
nominal prices, between 2009 and 2010, agricultural
prices rose on average by 17.0 percent, energy prices by
26.5 percent and metals and minerals by 47.5 percent.
Both the average agricultural and energy price indices
have surpassed the peak reached during the food and
fuel price rise of 2008. In fact, prior to the current
price rise, agricultural, energy and metals and mineral
prices in 2008 reached their highest level since 1960.
Even though average real agricultural and metal and
mineral prices in 2010 surpassed their 2008 levels, the
average real agricultural price in 2010 is still below its
record high of 280.65 in 1974.
11
For 2010, the agri-
cultural average real price index is 191.81. Average real
commodity prices for agricultural energy and metals
and minerals are also on an upward trend in 2010 after
declining in 2009. The average real energy price in
2010 is 224.77, still below its historic high of 273.56
in 2008 (Figure A1.3).
Although each market has very different demand
and supply dynamics, the uniformity of the price
increases across a variety of commodity markets reflects
both the interconnectedness of markets and the macro-
economic trends influencing prices in these markets.
There are numerous factors that may be contributing
to this commodity price surge and each factor may
have a varying impact on the individual market’s price
increase. For example, buoyant demand from emerging
economies, supply constraints and restrictions to trade,
FIGURE A1.2 Commodity Price Index (Nominal Prices)
1
9
6
0
1
9
6
2
1
9
6
4
1
9
6
6
1
9
6
8
1
9
7
0
1
9
7
2
1
9
7
4
1
9
7
6
1
9
7
8
1
9
8
0
1
9
8
2
1
9
8
4
1
9
8
6
1
9
8
8
1
9
9
0
1
9
9
2
1
9
9
4
1
9
9
6
1
9
9
8
2
0
0
0
2
0
0
2
2
0
0
4
2
0
0
6
2
0
0
8
2
0
1
0
I
n
d
e
x
,

2
0
0
0
=
1
0
0
–40
10
60
110
160
210
260
310
360
Agriculture Energy Metals & minerals
Source: World Bank.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 58
particularly for food, have all contributed to the latest
global commodity price rise. The role of emerging
markets in driving this price hike is related to rising
income levels in these economies coupled with an
improved standard of living, population growth and
increased urbanization. Also, the weakness of the US
dollar has fueled the increase in commodity prices,
particularly crude oil.
Agriculture
From mid-2010 there has been a steep rise in the price
of most agricultural commodities, including food
crops. In February 2011, the World Bank Food Price
Index registered 292.61, slightly above the record high
of 292.60 recorded at the height of the food crisis in
June 2008. This is the largest annual increase since July
2008. The average growth for the first three months
of 2011 is 33.1 percent over the previous year. The
rise in nominal agricultural prices is a function of
recent supply shocks and long-term structural change
in global demand. In general, long-run worldwide
demand for food has been driven by three factors:
(1) rising population growth; (2) rising levels of afflu-
ence; and (3) increasing demand for biofuels.
12
For
instance, demand pressure from across the emerging
world, particularly in China and India—with 2.5bn
people between them—has placed upward pressure
on the cost of food. Additionally, arable land is being
lost with the increasing use of corn, wheat and sugar
cane for the production of biofuel, ethanol in partic-
ular. Record ethanol production in the US will also
swallow up nearly 40 per cent of the US corn crop in
2010/11, from 31 percent of output in 2008/09. This
jump in food prices may push up long-term general
price expectations. In addition, real food prices regis-
tered 249.9 in February 2011, which were last witnessed
in April 1975. Real food prices have been steadily rising
since January 2001 after declining from record highs
in November 1974. (Figure A1.4)
Average food price volatility has increased in the
2000s, with volatility in grains, vegetable oil and
soybeans rising each decade (Figure A1.5). Since the
1960s, sugar has consistently been the most volatile
agricultural commodity over each decade, while meat
prices have been least volatile on average. The increase
in volatility is due to an increase in the frequency of
supply shocks combined with limited reserves and
increase in the production of biofuels, increase in
global macroeconomic volatility post-2000 and the
emergence of India and China.
Falling stocks and rising consumption-to-
production drive up cereals prices (Figure A1.6).
In the second half of 2010, cereals prices grew by
17.9 percent on average, with corn prices contrib-
uting 73.2 percent to the increase. This trend has
continued, with February 2011 recording the highest
year-on-year growth for cereals: 54.1 percent since
August 2008.
13
A rapid rise in corn prices since July
2010 has been the main driver of growth in cereals
prices registering 15 percent and 33 percent quarter-
on-quarter growth in the third and fourth quarters
of 2010. Corn prices hit 30-year highs with stocks
dwindling rapidly. Given that the US is the world’s
FIGURE A1.3 Commodity Price Index (Real Prices)
1
9
6
0
1
9
6
2
1
9
6
4
1
9
6
6
1
9
6
8
1
9
7
0
1
9
7
2
1
9
7
4
1
9
7
6
1
9
7
8
1
9
8
0
1
9
8
2
1
9
8
4
1
9
8
6
1
9
8
8
1
9
9
0
1
9
9
2
1
9
9
4
1
9
9
6
1
9
9
8
2
0
0
0
2
0
0
2
2
0
0
4
2
0
0
6
2
0
0
8
2
0
1
0
I
n
d
e
x
,

2
0
0
0
=
1
0
0
–40
10
60
110
160
210
260
310
360
Agriculture Energy Metals & minerals
Source: World Bank.
FIGURE A1.4 Food Price Trends
1
9
6
0
M
0
1
1
9
6
3
M
0
1
1
9
6
6
M
0
1
1
9
6
9
M
0
1
1
9
7
2
M
0
1
1
9
7
5
M
0
1
1
9
7
8
M
0
1
1
9
8
1
M
0
1
1
9
8
4
M
0
1
1
9
8
7
M
0
1
1
9
9
0
M
0
1
1
9
9
3
M
0
1
1
9
9
6
M
0
1
1
9
9
9
M
0
1
2
0
0
2
M
0
1
2
0
0
5
M
0
1
2
0
0
8
M
0
1
2
0
1
1
M
0
1
F
o
o
d

P
r
i
c
e
s
0
50
100
150
200
250
300
350
400
450
Real Food Price Index Nominal Food Price Index
Source: World Bank.
Annex 1. Developments in Global Commodity Markets 59
largest corn producer, the decline in US corn stocks-
to-demand is a harbinger of higher corn prices in the
future. In 2009/10, for the first time since 2006/07,
consumption surpassed production with corn stocks
declining by 1.8 percent. Corn (US No. 2, Yellow)
prices rose by 52.9 percent in January 2011, its
highest annual growth rate since August 2008. The
growth rate in corn prices has been rising exponen-
tially since July 2010, averaging 34.6 percent in the
last seven months. The USDA expects corn stocks to
decline by 3.5 percent in February 2011 from those
of the previous month. Increased demand for high-
fructose corn syrup from countries such as Mexico,
as they substitute away from higher priced sugar,
contributes to higher demand for corn. China, after
years of self-sufficiency, was a net importer of corn in
2010, partly because of drought—bringing in nearly
1.3 million tons compared to 47 thousand metric
tons the previous year. This aggravated the global
shortage of corn stocks. In addition, rising wheat
prices prompted corn substitution, further raising
corn consumption, lowering stocks and raising prices.
In February 2011 wheat prices hit their highest
level in 34 months. In February benchmark wheat
prices escalated on average by 79.4 (y-o-y), reaching
a US$ 350 per ton. This is the highest rate of increase
since April 2008. Wheat prices have been affected
by a string of supply shocks: drought-induced crop
failures in leading cereals exporters Russia, Ukraine
and Kazakhstan; concern about the La Nina weather
phenomenon bringing dryness in the crop belts of
Argentina (the world’s second-largest corn exporter) and
Brazil; and a cold snap in the US, the world’s biggest
wheat exporter, all of which make approaching harvests
seem fragile. Poor harvests have led traditional wheat
exporters to impose export restrictions.
14
The cumula-
tive impact of these supply shocks has already dented
wheat stocks. February 2011 production fell by 218
thousand metric tons, a decline of 0.12 percent over
the previous month.
China, the world’s biggest wheat producer, with
18 percent of the global harvest, may have to buy
large quantities on global markets, putting even more
pressure on wheat prices.
15
These production shocks,
coupled with narrowing of domestic stocks world-
wide, have resulted in hoarding of wheat by North
African and Middle Eastern countries, which are rela-
tively dependent on international markets for food
supplies. Since wheat is a large contributor to food infla-
tion, governments are prone to hoarding it as a hedge
against shortages. This “accordion effect” of buying
more now to guard against higher prices later serves
to bring forward price increases. Between June 2010
and December 2010, the price of wheat increased by
large amounts in Kyrgyzstan (54 percent), Bangladesh
(45 percent), Tajikistan (37 percent), Mongolia (33
percent), Sri Lanka (31 percent), Azerbaijan (24
percent), Afghanistan (19 percent), Sudan (16 percent),
and Pakistan (16 percent). Overall, high prices have
induced farmers across key producing regions (the
European Union, Russia, and Ukraine) to increase
acreage. The concerns about fragility notwithstanding,
FIGURE A1.5 Food Price Volatility
(Average Coefficient of Variation)
1960–79
0.00
0.02
0.04
0.06
0.08
0.10
0.12
0.14
0.16
0.18
T
o
t
a
l

F
o
o
d
G
r
a
i
n
s
V
e
g
e
t
a
b
l
e
O
i
l
s
F
r
u
i
t
s
M
e
a
t
S
u
g
a
r
S
o
y
a
b
e
a
n
M
e
a
l
S
o
y
a
b
e
a
n
s
1980–99 2000–10
Source: Authors calculations.
FIGURE A1.6 Grain Consumption and Stocks
R
a
t
i
o
%
Consumption-to-Production Ratio
1
9
9
0
/
9
1
1
9
9
1
/
9
2
1
9
9
2
/
9
3
1
9
9
3
/
9
4
1
9
9
4
/
9
5
1
9
9
5
/
9
6
1
9
9
6
/
9
7
1
9
9
7
/
9
8
1
9
9
8
/
9
9
1
9
9
9
/
0
0
2
0
0
0
/
0
1
2
0
0
1
/
0
2
2
0
0
2
/
0
3
2
0
0
3
/
0
4
2
0
0
4
/
0
5
2
0
0
5
/
0
6
2
0
0
6
/
0
7
2
0
0
7
/
0
8
2
0
0
8
/
0
9
2
0
0
9
/
1
0
2
0
1
0
/
1
1
–30
–20
–10
0
10
20
30
0.50
1.00
1.50
2.00
2.50
Growth rate in Ending stocks (r.h.s.)
Source: FAO.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 60
better yields are expected for 2011, barring adverse
weather events similar to 2010.
Rice prices recorded in March 2011 declined 1.9
percent over the previous year. This represents 15
consecutive months of declining rice prices.
16
The
falling rice price is indicative of rising levels of produc-
tion and ample global stocks. Good harvests in Thailand
and Vietnam, the world’s two largest exporters, keep
the export market well supplied and the cost of the
rice below the record level of US$ 960 per ton in
May 2008. However, month-on-month the bench-
mark rice price has risen between July and December
2010—partly in response to rice importers in Asia
having stepped up buying. In the last week of January
2011, Bangladesh, one of the world’s top three rice
importers, raised its overseas buying target to 1.2m
tons, up from an initial estimate of 600,000 tons.
Coupled with this, crop failures in Indonesia brought
on by heavy rain are contributing to the recent price
rise, given that Indonesians eat more rice per capita
than any other country.
17
The domestic price of rice
was significantly higher in Vietnam (46 percent) and
Burundi (41 percent) between June–December 2010.
Rice prices have increased in line with global prices
in Indonesia (19 percent), Bangladesh (19 percent),
and Pakistan (19 percent). These Asian countries are
large rice consumers, especially among the poor. Rice
price increases in Sri Lanka (12 percent) and China
(9 percent) were relatively moderate in the second half
of 2010, while in Cambodia and the Philippines the
retail price of rice remained largely unchanged during
this period.
Both corn and soya bean meal are important ingre-
dients in animal feed as carbohydrate and protein.
18

The tightening market partly reflects stronger appe-
tites for meat in emerging markets. The rising
incomes in emerging markets have shifted consump-
tion towards middle-class foods with high protein
content. Beef prices rose from US$ 2,648 to US$
4,140 per ton between October 2009 and March
2011, representing close to a 56 percent increase.
The rising average price of meat and poultry is likely
to continue in 2011 if the forecast of rising demand
by mainly BRIC economies is realized. In addition,
rising demand for meat has increased imports of soya
bean meal which rose in China by 18.6 percent in
2009/10 (y-o-y). The demand for milk powder is
also a “middle-class” good whose price has risen in
the past year with increased demand from Brazil,
China and Russia.
Unlike the food price hike of 2007/08, there is a
shift in the composition of demand towards, not only
mean, but also fats and oils and sugar are contributing
more to the rise in food prices. Between July 2010 and
March 2011, fats and oils contributed 40 percent to
the average annual growth.
Sugar prices rose consistently throughout the global
financial crisis, hitting a 30-year high. US raw sugar
prices hovered close to 40 cents per pound between
January 2010 and March 2011, the highest since January
1975. World sugar prices rose by approximately 100
percent between May 2010 and January 2011, and
declined marginally by March 2011. Prices have been
driven by supply shortfalls from Brazil, the largest
exporter, and weather shocks in Australia. Globally,
stocks of sugar declined by 6.4 percent in the September-
October marketing seasons of 2008/09 and 2009/10.
Recently, cyclone Yasi provided a supply shock to world-
wide sugar output, damaging cane crops in Australia,
the world’s third-largest exporter of the sweetener. In
addition, falling expectations for the crucial Indian
crop, and speculation that Russian imports could be
brought forward, contributed to rising global sugar
prices. Rising sugar consumption in BRIC and devel-
oping countries has also helped fuel the price rise.
19
Vegetable oil prices have risen at an annual rate
since October 2009. Since the fourth quarter of 2010,
coconut oil prices risen rising every month above 100
percent annually. Coconut oil prices have risen by 192
percent between October 2009 and January 2010.
With most South Asian countries using coconut oil for
cooking, this will have an impact on the region. For
instance, the price of cooking oil rose by 43 percent
in Bangladesh over the past year.
Fertilizer prices have risen steadily by 47 percent
between September 2009 and January 2011. Fertilizer
prices are affected by crude oil prices, with modern
farming relying on hydrocarbons in the form of fertil-
izer and fuel for tractors and transport (Figure A1.7).
Thus, fuel prices influence fertilizer prices which in
turn influence food prices. Therefore, as the growth
of India and China impacts the cost of energy this
inflates the input cost and subsequently the price of
food. Moreover, food prices are less volatile than fertil-
izer prices; the latter having risen more than food prices
during the 2008 food price crisis, lowering the relative
food-to-fertilizer price ratio (Figure A1.8). The rela-
tive food-to-energy price ratio was constant during
the food-price crisis of 2008. This shows that farmers
may not be able to reap the full benefits of higher food
Annex 1. Developments in Global Commodity Markets 61
prices because input costs, such as fertilizer and fuel
prices, may be rising faster than the earnings from
their food production.
Energy and Metals
Crude oil prices reached their highest levels in two
years in January 2011, surpassing US$ 100 a barrel.
20

The surge continued through March, when they were
36 percent higher than a year earlier. The inability
of production to keep up with growing demand has
led to a decline in world stocks by 0.1 percent and
net demand rising by 0.7 percent annually in 2010.
Though stocks are falling, they are still at comfort-
able levels, unlike the 2008 fuel price crisis. When the
global financial crisis depressed world oil demand, the
Opec cartel’s effective idle capacity surged to a peak
of more than 6 million barrels per day in early 2009.
Since then, rising consumption in emerging markets
has eroded Opec’s effective spare capacity to below 5
million barrels per day, by the IEA’s estimate. Recent
political uncertainty in the Middle East-North Africa
region is limiting supply further.
Moreover, there has been a huge structural shift
in oil demand. Fifty years ago, the centre of gravity
for demand was in the US and Europe. Nowadays it
has shifted to Asia. Oil demand in emerging markets
provides the bulk of incremental growth. We expect
non-OECD oil demand growth to expand at four times
the rate of OECD growth in 2011.
With rising crude oil prices, alternate sources of
energy such as natural gas are becoming increasingly
popular. However, the rising supply of shale gas in
North America is keeping gas prices low. The US resi-
dential gas price has fallen steadily from US$ 15.50
per thousand cubic feet to US$ 9.80 between August
2010 and January 2011.
Since coal is relatively cheaper than crude oil, rising
demand has led to rising coal prices throughout 2010.
In January 2011, coal prices rose to US$ 137 per ton,
an annual increase of 41.2 percent. Bad weather has
hit key coal exporters Colombia and Australia, as
the market is extremely vulnerable to cold weather.
Furthermore, China is poorly endowed with alter-
native energy sources and the speed of its coal-based
electricity expansion has forced it to start importing
coal for the first time. China uses coal to produce elec-
tricity, needed for smelting aluminum. This too has
pushed up coal prices.
Although aluminum prices rose by 32 percent to
US$ 2,555 per ton from mid-2010 to March 2011,
aluminum remains a long way from its peak of US$
3,380 per ton, in July 2008. (Figure A1.9) Aluminum
is used for numerous consumer and industrial prod-
ucts, from cars and aircraft to drinks cans. Thus
aluminum prices are also rising with growing demand
from emerging markets, given that it is the most widely
used metal after steel. This has pushed the benchmark
aluminum price to US$ 2,500 per ton for the first time
since the collapse of Lehman Brothers. Aluminum
prices may continue on this upward trajectory due to
supply constraints in the market. China has curbed
FIGURE A1.8 Food Vs Fertilizer Prices
G
r
o
w
t
h

(
%
)
2
0
0
5
H
1
2
0
0
5
H
2
2
0
0
6
H
1
2
0
0
6
H
2
2
0
0
7
H
1
2
0
0
7
H
2
2
0
0
8
H
1
2
0
0
8
H
2
2
0
0
9
H
1
2
0
0
9
H
2
2
0
1
0
H
1
2
0
1
0
H
2
2
0
1
1
Q
1
0.00
0.20
0.40
0.60
0.80
1.00
1.20
–60
–40
–20
0
20
40
60
80
100
120
Fertilizers Nominal Food Price Index Energy
Ratio of Food to Fertilizer price Ratio of Food-to-Energy Price
Source: World Bank.
FIGURE A1.7 Fertilizer Vs Crude Oil Price Index
I
n
d
e
x
0
100
200
300
400
500
600
700
Fertilizers Petroleum crude
2
0
0
5
H
1
2
0
0
5
H
2
2
0
0
6
H
1
2
0
0
6
H
2
2
0
0
7
H
1
2
0
0
7
H
2
2
0
0
8
H
1
2
0
0
8
H
2
2
0
0
9
H
1
2
0
0
9
H
2
2
0
1
0
H
1
2
0
1
0
H
2
2
0
1
1
Q
1
Source: World Bank.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 62
production of aluminum in order to reduce energy
consumption.
21
Electricity accounts for 40 percent of
that country’s production costs, and
Copper prices have historically been higher than
aluminum prices. Indeed, copper is now nearly four
times as expensive as aluminum—the highest such ratio
on record, reaching a peak of US$ 9,868 per ton in
February 2011—a 52 percent increase over mid-2010.
Demand for copper is driven mostly by its use as a
conductor of electricity. China’s expansion of its elec-
tricity grid is fueling the worldwide price of copper,
with imports of the metal hitting record levels. The
limited supply response is contributing to the price
hike. Copper prices reached US$ 10,000 a ton in the
first week of February 2011.
Outlook
Food prices are expected to rise 8 percent above 2010
levels, assuming a normal crop year, and that oil prices
do not rise further wheat and maize are expected to
average 13 and 12 percent higher than 2010 levels while
rice prices are expected to remain almost unchanged.
Soybean and palm oil prices are expected to be 11 and
17 percent higher.
Metals prices are expected to rise by almost 20
percent in 2011 on persistently strong demand, led
by China, and weak supply response for some metals,
notably copper and tin.
Notes
1. This section draws heavily on World Bank (2011a,
2011b).
2. FAO (2002).
3. Wright (2009).
4. The USDA made major revisions to its estimates of
Chinese stocks in 2001, but this had little impact on
global price behavior at the time, possibly because
China in 2002/2003 was a significant grains exporter
(Wright 2009, op. cit).
5. USDA (2011).
6. World Bank (2011a).
7. World Bank (2011b).
8. World Bank Food Price Watch, various issues since
January 2009.
9. FAO (2010).
10. For instance, oil price increases impact the price of
food: a 10 percent increase in crude oil prices is asso-
ciated with a 2.7 percent increase in the World Bank
Food Price Index. See Baffes (2010).
11. The World Bank Food Price Index is deflated using the
World Bank Manufactures Unit Value Index.
12. In the run-up to the 2007/08 crisis, the OECD esti-
mated that about 60 percent of increased demand for
corn was due to policies on biofuels and energy in devel-
oped countries, which could lead to similar increases
in the future.
13. Cereals comprise corn, rice and wheat and barley.
14. Russia and Ukraine placed a moratorium on exports
with the onset of drought.
15. The United Nations’ Food and Agriculture Organization
announced that 12.75 million acres of China’s 35
million acres of wheat fields had been affected by
drought.
16. Rice was a key reason for the contagion that precip-
itated the 2008 crisis, when many large exporters
banned its export.
17. Indonesia imported 1.2m tons of rice this year.
18. It takes about 11 pounds of grain to produce 1 pound
of beef; 7 pounds of grain to produce 1 pound of pork;
3 pounds of grain to produce 1 pound of chicken.
19. BRIC countries represent 36.4 percent of total sugar
consumption in 2010/11, a rise 2 million metric tons
over previous year.
20. In late-February 2008, crude oil reached a record high,
above US$ 146 per barrel.
21. Aluminum production is energy intensive. It takes about
15.7 kilowatt hours of power on average to produce
one kilogram of workable aluminum.
FIGURE A1.9 Copper and Aluminium Prices
$
/
m
t
%
2
0
0
5
H
1
2
0
0
5
H
2
2
0
0
6
H
1
2
0
0
6
H
2
2
0
0
7
H
1
2
0
0
7
H
2
2
0
0
8
H
1
2
0
0
8
H
2
2
0
0
9
H
1
2
0
0
9
H
2
2
0
1
0
H
1
2
0
1
0
H
2
A
v
e

J
a
n

M
a
r

2
0
1
1
–60
–40
–20
0
20
40
60
80
100
0
2,000
4,000
6,000
8,000
10,000
12,000
Aluminum Copper Aluminum Copper
Source: World Bank.
63 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Speculation, Financialization of
Commodities, and the “New” Money
I
N THE CONTEXT OF THE POST-2005
commodity price boom, speculation has been one of
the most frequently discussed and, perhaps, poorly
understood concepts. We note that the financial and
popular media speculates widely, giving most atten-
tion to investment fund activity in commodity futures
exchanges; some say the funds have caused a speculative
bubble, while others argue that they have not only not
affected prices at all but that they have injected liquidity
into the market, thus facilitating price discovery. We
argue here that although the views on the effects of
such investment activity on commodity markets are
very strong and diverse, the empirical evidence is weak,
showing small or no impact. We conclude by noting
that while it is unlikely that investment fund activity
will alter long-term price trends, it may induce higher
price variability by exacerbating the length and the
amplitude of price cycles.
What Is Speculation?
Kaldor (1939) defined speculation as “…the purchase
(or sale) of goods with a view to resale (repurchase) at a
later date, where the motive behind such action is the
expectation of a change in the relevant prices relatively
to the ruling price and not a gain accruing through their
use, or any kind of transformation effected in them,
or their transfer between markets.” Thus, according to
Kaldor, most financial activities would be classified as
speculation. In the context of the current debate, six
types of “speculative” activities have been mentioned
in the literature (see Table A2.1). First is that it takes
place in the futures exchanges. These speculators are
indispensible entities of commodity futures exchanges
since they provide the necessary liquidity and ensure
that the market clears.
A second type of speculative activity is when
market participants hold inventories beyond what is
justified by business needs or when they hold large
quantities of commodities with the expectation that
an upward movement in prices will generate profits
(often referred to as hoarding). Unless such activity
entails market manipulation, holding inventories is the
inter-temporal equivalent of Adam Smith’s “invisible
hand”: traders buy at current prices to sell later when
(in their opinion) the market will be tight, thereby
balancing the market and hence reducing price vari-
ability. There is no evidence that hoarding took place
during the recent boom, as known inventories of most
(non-perishable) agricultural commodities reached
historical lows. Two exceptions may be rice, during
mid-2008 (in various East Asian countries), and cotton
in late 2010 (in China).
Third, market manipulation often takes place. There
have been many such cases. For example, in the 1950s
US onion producers argued that traders in the Chicago
Mercantile Exchange cornered the market. This led to
the passage of the Onions Futures Act which prohib-
ited futures contracts on onions. Other cases include
that of the Hunt brothers, who attempted to corner
the silver market in the late 1970s and early 1980s;
Sumitomo’s chief copper trader, Yasuo Hamanaka, who
cornered the copper market in the 1990s; and British
Petroleum’s cornering of the propane market in 2006
(it resulted in a US$ 300 million fine). Although there
are no known (or proven) cases for market manipu-
lation during the recent boom, even if cases become
known, they are likely to be isolated events.
The last three are financial activities often pinned to
speculation: hedge funds, commodity trading accounts
(or advisors), and investment funds (including various
investment, pension, and sovereign wealth funds):
• Hedge funds undertake investment and trading
activities in a broad range of assets, including
commodity markets. The fund may trade and
invest in commodity asset classes in order to
“hedge” the diverse risks inherent in their port-
folios. In such a case, taking a position in the
futures market for a particular commodity or
commodity class can represent an investment
2
1
Annex
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 64
in a non-correlated asset that provides diversi-
fication benefits to the overall portfolio. Hedge
funds have existed for decades and their effect
on commodity markets is typically short term
(i.e., they affect short-term price movements).
• Commodity trading advisors (CTAs) are asset
managers who operate almost exclusively in
commodity markets. They invest for portfo-
lios under management and for clients with the
objective of earning profits from market vola-
tility. Because CTAs use fundamentals and/or
technical analysis as their guiding principles,
they may enhance price discovery and thus
reduce market price variability since they iden-
tify movements in fundamentals in advance of
other market participants.
• Inves t ment f unds —r el at i vel y r ecent
phenomena—represent in many respects the
flow of “new” money into commodity markets.
It is this type of activity that rests (or should rest)
at the core of the current debate. The next para-
graphs elaborate on the origins of this invest-
ment activity.
The Origins of Investing in
Commodity Markets
The commodity price increases of the last decade
have often been linked to “new” money that found
its way into commodity markets, setting the stage
for the so-called “financialization” of commodities. A
number of events led to this. First, the publication of
an influential book argued that commodities should
have been part of every investor’s portfolio (Rogers
2004). A little later Gordon and Rouwenhorst (2006)
compared a hypothetical commodity-based portfolio
with bond and equity portfolios and concluded that
the risk premium on commodity futures is essentially
the same as equities, commodity futures returns are
negatively correlated with equity returns and bond
returns, a reflection of the different behavior of such
asset classes over the business cycle.
Second, during the early part of the past decade,
investment fund managers—including those of sover-
eign wealth and pension funds—noted that existing
classes of assets (such as money funds, equities, and
bonds in both developed and emerging economies) were
becoming increasingly correlated amongst themselves.
In their search for new uncorrelated assets they began
including commodities in their portfolios.
Third, during the past decade or so, many high-
income countries have pursued lax monetary poli-
cies which may have caused what many describe as
“excess liquidity”. Many authors (e.g., Eckaus (2008),
Wray (2008) and Calvo (2008)) have argued that such
liquidity may have found its way into commodity
markets, causing the “third” price bubble (following
the equity/dot.com and housing bubbles).
Finally, numerous authors argued that commodities
(especially in the extractive industries) have entered a
super cycle, that is, a prolonged period of increasing
TABLE A2.1 Types of “Speculative Activity”
Activity Function Effect
Speculation in futures
exchanges
Important activity for the functioning of futures
markets
Injects liquidity into the market and improves
price discovery
Market manipulation Isolated cases such as the cornering of the cop-
per and silver markets
These are illegal activities
Building up inventories Accumulation of physical stocks with the expec-
tation that price increases will generate profits
Traders buy at current prices to sell later, when
the market will be tight, thus balancing the
market and reducing price variability
Commodity Trading Accounts
(CTAs)
Professionally managed commodity invest-
ment vehicles that take consideration of market
fundamentals
They enhance price discovery since they ex-
amine the fundamentals very carefully and use
technical analysis
Hedge funds Short-term profit seeking Believed to be associated short term volatility
(i.e., day-to-day)
Investment funds Taking long positions in futures exchanges by in-
vestment, pension, and sovereign wealth funds
They may amplify commodity cycles due to their
size and nature of investment, but are unlikely
to affect long-term trends
Annex 2. Speculation, Financialization of Commodities, and the “New” Money 65
prices. Heap (2004), in an influential report argued
that a super cycle is underway, driven primarily by
economic growth (and hence commodity-demand
growth) in China. He noted that there have been two
super cycles over the past century (at the beginning of
the 20th century and during the Korean War). Indeed,
World Bank (2009) showed that as of the early 1990s,
demand for metals by China was so large that it effec-
tively reversed global metal intensity (i.e., metal use
per unit of world GDP) and by 2010 it reached levels
similar to those of the early 1970s. Econometric work
by Cuddington and Jerrett (2008) and Jerrett and
Cuddington (2008) for the metals market confirmed
the super cycle hypothesis.
Blaming “Speculators”: Who Said
What?
Historically, blaming speculation in futures markets
has originated from politicians and populists, often
reflecting ideology or the search for scapegoats to blame
for unpopular price increases (Jacks 2007). Most econ-
omists and market participants, however, have been
strong defenders of futures markets, which are viewed
(rightly) as the most important price discovery mech-
anisms. Surprisingly, the “speculation” debate of the
recent commodity boom appears to have divided even
economists and market participants, as the rest of this
section elaborates.
Krugman, in a series of blogs and editorials, rejected
the view that speculation fueled the commodity boom.
He argued (New York Times, May 13, 2008) that, “If the
price is above the level at which the demand from end-
users is equal to production, there’s an excess supply—
and that supply has to be going into inventories. End
of story. If oil isn’t building up in inventories, there
can’t be a bubble in the spot price.” Krugman also
dismissed the idea that commodity trading activity in
futures exchanges may have affected spot commodity
prices at all: “… a futures contract is a bet about the
future price. It has no, zero, nada direct effect on the
spot price” (New York Times, June 23, 2008).
Wolf shared similar views. He wrote in a Financial
Times editorial (May 13, 2008) that “if speculation were
raising prices above the warranted level, one would
expect to see inventories piling up rapidly, as supply
exceeds the rate at which oil is burned. Yet there is
no evidence of such a spike in inventories.” Similarly,
Wright (2009) noted that if long futures positions were
behind the grain price spike of 2008, stocks would have
increased. Frankel cited the Congressional testimony
by the chief economist of the Commodities Futures
Trading Commission to support in his weblog (July
25, 2008) that, “The evidence does not support the
claim that speculation has been the source of, or has
exacerbated the price increases.” The evidence refers
to Congressional testimony (April 3, 2008), which
concluded that: “Looking at the trends in the market-
place, combined with studies on herding behavior
and the impact of speculators in the markets, there is
little evidence that changes in speculative positions are
systematically driving up crude oil prices.”
Verleger (2009: 1), citing analysis and data from
the International Energy Agency (2009), concluded
at his US Commodity Futures Trading Commission
testimony that the 2007/08 crude oil price spike was
caused by the incompatibility of environmental regu-
lations with the global crude supply. Speculation, he
argued, had nothing to do with the price increases. Yet,
Verleger (p. 2) acknowledged that the possible liqui-
dation of futures positions was one of the key reasons
tied to the collapse of oil prices from July 2008 to
December 2008; which begs the question why the
decline in oil price would have been caused by liqui-
dation of futures positions when the increase was not
caused by activities in that sphere?
The IOSCO Task Force of Futures Markets (2009),
formed at the request of the G-8, reviewed several
reports by international organizations, central banks
and regulators and concluded that economic funda-
mentals, rather than speculative activity explained
commodity price changes during the boom period.
The report recommended that regulators should (p. 3):
(i) understand with greater clarity the role of speculative
and commercial activity in commodity futures markets;
(ii) gain a more comprehensive view of trading activ-
ities in, and the structure of, the underlying markets
that may affect price formation on commodity futures
markets; and (iii) detect, deter, and prosecute manipu-
lation and other trading abuses involving commodity
futures, and related commodity markets. IOSCO’s
conclusions, however, are somewhat inconsistent. If
regulators do not have clarity on the role of speculative
and commercial activity in commodity futures markets
and they need to gain a more comprehensive view of
trading activities, how did they conclude that such
activities did not play a role during the recent boom?
At the other end of the spectrum, Soros (2008)
called commodity index trading at his US congressional
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 66
testimony intellectually unsound, potentially destabi-
lizing, and distinctly harmful in its economic conse-
quences. Eckaus (2008) noted that while the most
frequently cited factors—increased demand, dollar
depreciation, geopolitical concerns, and issues regarding
depletion of resource—played some role in the crude oil
price increases after 2004, speculation played a much
larger role than most analysts believe. After comparing
the oil price increases with the dot.com and housing
bubbles, he asked (p. 8): “Is a speculative bubble irra-
tional? No, it is rational to ride along and trade in
a speculative bubble as long as it is expanding. The
moment of truth comes only at the end, when the
bubble bursts.”
Similarly, Khan (2009) examined a variety of indi-
cators that might have affected commodity prices and
concluded that while market fundamentals played a
key role in the run-up of the oil prices after 2003, the
price increase during the first half of 2008 was a price
bubble. He argued that in the absence of speculative
activity, oil prices would have been in the range of US$
80–90 per barrel (oil prices averaged a little more than
US$ 100 per barrel during the first half of 2008) and
concluded that in order to avoid similar episodes in
the future, more regulation should be put into place.
Medlock and Jaffee (2009) attributed the oil price
increase of 2008 to the presence of non-commercial
players, who (p. 3) “have increased their footprint in
the marketplace dramatically since the late 1990s”. They
also argued that trading strategies of financial players
may have influenced the correlation between the US
dollar and the price of oil. Wray (2008) argued that the
commodity price increases was the boom following the
equity and housing of the late-1990s and mid-2000s.
He linked all three booms to the excessive monetary
ease and limited degree of regulation and supervision
of financial institutions, and assigned responsibility
to various money managers who created numerous
esoteric and complex instruments and practices that (p.
7) “spread as quickly as a deadly virus in a sci-fi flick”.
Calvo (2008), responding to Krugman and other
commentators, noted that speculation and low inven-
tories are not necessarily inconsistent with each other,
and concluded that increases in commodity prices
during 2007/08 were a result of portfolio shift against
liquid assets by sovereign investors, sovereign wealth
funds, partly triggered by lax monetary policy in the
US. Roubini (2009) said of the early-2009 crude oil
price increase: “… improving fundamentals … justify
oil going from $30 to maybe $50. I think the other $30
is all speculative demand feeding on it—speculators
and herding behavior.” De Schutter (2010) concluded
that a significant portion of the increases in food price
and price volatility during 2007 and 2008 could only
be explained by the emergence of a speculative bubble.
Yet, the Empirical Evidence Has
Been Weak
The empirical evidence on whether financial invest-
ment in commodities contributed to the recent boom
is, at best, mixed (see Table A2.2). One of the first
empirical studies was the IMF’s 2006 World Economic
Outlook (IMF 2006). Based on a VECM model and
monthly data for the 1995–2006 period, it examined
the markets of crude oil, copper, sugar, coffee, and
cotton and found no evidence that speculative activity
affects price levels in either the short- or long-term. The
IMF reached a similar conclusion in its 2008 World
Economic Outlook when it examined 50 commodities
and weekly data for the 1997–2008 period. Büyükşahin
and Harris (2009) used daily data from 2000 to 2009
and, based on Granger causality tests, found no statis-
tical evidence that the numbers of contracts held by any
group (including index traders) affected crude oil prices.
A similar conclusion was reached by the US Commodity
Futures Trading Commission (CFTC 2008).
2
Haigh, Hranaiova and Overdahl (2007), using
VAR and daily data for the natural gas and crude oil
market, failed to observe a link between price vola-
tility and changes in hedge fund positions. Kilian
and Murphy (2010) examined the crude oil market
within a VAR framework over 1973–2009 and elim-
inated speculation as an explanation of the 2003–08
crude oil price surge.
Irwin, Sanders, and Merrin (2009), and subse-
quently Sanders and Irwin (2010), based on results
of Granger causality tests between open positions and
futures prices for various agricultural commodities,
expressed strong skepticism that futures trading activity
had led to bubbles in agricultural futures prices. Verleger
(2009) argued that money-flows into oil contracts did
not affect futures markets; his conclusion was based
on simple correlation analysis. Moreover, in a subse-
quent study Verleger (2010: 65) attributed the stability
of energy prices during December 2009 and January
2010 partly to the increase of passive investors who
allocated a portion of their portfolios to commodi-
ties, and noted further that credit for the absence of a
Annex 2. Speculation, Financialization of Commodities, and the “New” Money 67
price surge during these two months should be given
to the financial engineers who had the foresight to
integrate energy markets with investors. Till (2009),
based on daily data, examined the crude oil market and
concluded that the balance of speculators in the US oil
futures and options market was not excessive relative
to hedging. Stock and Whaley (2010) regressed finan-
cial returns of twelve agricultural commodity prices
(weekly data) on a number of variable including posi-
tions by speculators and concluded that inflows and
outflows from commodity index investments do not
cause futures prices to change.
Other authors have reached somewhat different
conclusions. Robles, Torero, and Braun (2009) iden-
tified speculative activity in the futures market as a
source of the 2007/08 agricultural commodity price
TABLE A2.2 Summary of Empirical Evidence
Study Model characteristics Key conclusion
LITTLE OR NO IMPACT
IMF (2006) VECM, monthly data, 1995–2006, crude oil, copper,
sugar, coffee, cotton
Little evidence that speculative activity affects either price
levels over the long run or price swings in the short run.
Haigh, Hranaiova, and
Overdahl (2007)
VAR, daily data, 2003–04, gas and crude oil Failed to observe a link between price volatility and changes
in hedge find positions.
IMF (2008) Financial returns, weekly data, 1997–2008, fifty com-
modities
No apparent systematic connection between financialization
and price changes.
CFTC (2008) Granger causality, daily data, crude oil Failed to find that changes of traders’ positions caused
changes in crude oil prices
Büyükşahin, and Harris
(2009)
Granger causality, daily data, crude oil Failed to find that changes of traders’ positions caused
changes in crude oil prices
Verleger (2009) Correlation analysis, crude oil Money-flows into oil contracts have not affected oil prices
Till (2009) T index, daily data, 2006–09, crude oil The balance of outright speculators in the US oil futures and
options markets was not excessive relative to hedging
Kilian and Murphy (2010) VAR, monthly data, 1973–2009, crude oil The results eliminate speculation as an explanation for the
2003–08 oil price surge
Irwin, Sanders, and Merrin
(2009)
Granger causality, daily data, 2003–08, ten agricultural
commodities
Positions of long-only index funds do not lead futures prices.
Sanders and Irwin (2010) Granger causality/T index, weekly data, 2006–09, twelve
agricultural commodities
The evidence that index-fund positions impact returns
across commodities is scant.
Stoll and Whaley (2010) Granger causality, weekly data, 2006–09, twelve agricul-
tural commodities
Inflows and outflows from commodity index investment do
not cause futures prices to change.
MODERATE IMPACT
Gilbert (2007) Granger causality, monthly data, 2003–08, five metals
and four food commodities
Some evidence that index investment may have been
responsible for raising some commodity prices during the
recent boom.
Plastina (2008) Granger causality, monthly data, 2006–08, cotton Investment fund activity might have pushed cotton prices
14 percent higher.
Robles, Torero, and Braun
(2009)
Granger causality, monthly data, 2002–2008, food com-
modities
Speculative activity might have been influential.
Gilbert (2010) 3SLS, monthly data, 2006–2009, food commodities Index-based investors appear to have inflated food com-
modity prices.
Tang and Xiong (2010) Co-movement analysis, daily data, 1998–2009, twenty-
four non-energy commodities
Large commodity price volatility of recent years was related
to the presence of index investors.
Silvennoinen and Thorp
(2010)
Bivariate conditional volatility, daily data, twenty-four
commodities (agriculture, metals, and energy)
Higher commodity returns volatility is predicted, among oth-
ers, by financial traders’ open positions.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 68
increases. Their conclusion was based on Granger
causality tests using monthly data during 2002–08
for a number of food commodities. Plastina (2008)
concluded that between January 2006 and February
2008, investment fund activity might have pushed
cotton prices 14 percent higher than they would other-
wise have been. Gilbert (2007) found that futures posi-
tions did not affect the prices of metals at the London
Metal Exchange but they strongly affected the prices
of soybeans at the US Chicago Board of Trade. In
a more recent paper, however, Gilbert (2010: 420)
concluded that by investing across many commodity
futures, index-based investors may have inflated food
commodity prices.
Tang and Xiong (2010) looked at co-movement
of daily prices for twenty-four non-energy commod-
ities traded at futures exchanges for the 1998–2009
period and concluded that the large price volatility of
recent years could be attributed, at least in part, to the
presence of index investors. Similarly, Silvennoinen
and Thorp (2010) used daily data for twenty-four
commodities (agriculture, metals, and energy) and,
by examining the conditional volatility and correla-
tion dynamics between these commodity prices and
other assets, concluded that commodity returns vola-
tility is predicted, among others, by financial traders’
open positions.
Can Investment Fund Activity
Affect Commodity Prices?
There are four reasons why that may be so. First, invest-
ment in commodities is a relatively new phenomenon,
and funds have to date flowed mostly in, not out,
implying that some markets may have been subject to
extrapolative price behavior; that is, high prices leading
to more buying by investment funds, in turn leading
to even higher prices, and so on.
Second, index funds invest on the basis of fixed
weights or past performance criteria. Hence, invest-
ment behaves differently from what market fundamen-
tals would dictate, especially in the short run.
Third, most of the sovereign wealth funds (a key
source of index-fund activity) are commodity-based.
Therefore, when commodity prices increase, the value
of these funds goes up, in turn increasing their expo-
sure to commodities.
Fourth, the large size of these funds compared
to commodity markets may exacerbate price move-
ments as well. While there are no precise estimates on
their size, a broadly accepted range, as of mid-2008
was US$ 250–300 billion (Masters 2008). A report
by a major commercial bank estimated that an addi-
tional US$ 60 billon went into commodities during
2009, placing the 2009 total estimate to US$ 230–240
billion, marginally lower than in 2008 due to lower
commodity prices. A more recent estimate by a major
investment bank (October 2010) placed the estimate
at US$ 350 billion. In view of the recent spike, it may
have exceeded US$ 400 billion. Almost two-thirds of
those funds are invested in energy markets. Although
these amounts represent a little more than 1 percent
of the global value of pension and sovereign wealth
fund holdings in 2009 (the global value of these two
groups was estimated at US$ 20 trillion and US$ 4 tril-
lion) they are large compared to the size of commodity
markets. Or, as Soros characteristically put it, “… the
institutions are piling in on one side of the market and
they have sufficient weight to unbalance it”.
Tentative Conclusion
In the context of the post-2005 commodity price boom,
the question is often formulated as to whether “spec-
ulation” was behind the commodity price increases.
There are two problems with the way in which the
question is posed. Firstly, among the numerous types
Annex 2. Speculation, Financialization of Commodities, and the “New” Money 69
of speculation often discussed in the literature, only one
matters: investment-fund activity in commodity futures
exchanges. Second, it is unlikely that even this type
of activity would have a monotonic (i.e., increasing)
impact on commodity prices.
Thus, the question should be reformulated along
the following lines. “Is investment fund activity partly
responsible for post-2005 commodity price move-
ments?” A likely answer to this question could be:
“Any commodity-related activity on the financial side
is unlikely to alter long-term price trends, which will
ultimately be determined by market fundamentals.
But, such activities can induce higher price variability
in the sense of exacerbating the length and the ampli-
tude of price cycles.”
Notes
1. John Baffes, 8–1880, jbaffes@worldbank.org, June
1, 2011.
2. Haigh, and Robe (2010) and Commodity Futures
Trading Commission (2008).
71 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
South Asian Food Demand and
Supply Balances
Afghanistan: Grain production for 2010 is projected
to be about 11 percent lower than in 2009, resulting
from a drop in wheat production, from 5.1 million
tons to 4.5 million tons. Afghanistan is therefore likely
to face a wheat deficit of at least 1 million tons this
year, with more details emerging toward the end of
the growing season that runs to April. Nevertheless,
the deficit is expected to be roughly twice that of the
annual average of about 0.5 million tons over the past
decade, although it has reached 2.3 million tons.
Bangladesh: Total rice production rose from 26.2
million tons in fiscal 2008 to 32.1 million tons in
2010. Aggregate rice (paddy) output in 2009 reached
a record 50 million tons. For 2010, the output of (irri-
gated) main season rice is 28.5 million tons, or 3 percent
above last year’s level. The winter wheat crop has also
been good, with production at 1 million tons. Total
wheat production has risen from 7.4 million tons in
fiscal 2006 to 8.5 million tons in 2010. Despite this,
rising grain consumption has led to an increasing need
for imports. Bangladesh is likely to require higher grain
imports this year above the 3 million tons of recent
years to be able to retain public stocks at their target
level of 1.5 million tons. Wheat imports have been
high, reaching 1.8 million tons, which is double the
level of domestic production. The Bangladesh govern-
ment has been issuing tenders and buying relatively
small shipments. The government is reportedly plan-
ning to purchase about 1 million tons by end-June
2011, but it has decided not to buy domestically in
order to avoid pressure on prices (Table A3.1).
India: Food-grain production suffered a significant
set-back following the 2009 shortfall in monsoon
rains, but recovered well with the near-normal 2010
monsoon. The estimate for fiscal 2011 pegs output at
around 232 million tons, about 6.4 percent above that
for 2010. Despite the good 2010 monsoon, production
is estimated to have been lower in fiscal 2011 than the
recent record in fiscal 2009. At the same time, grain
stocks (mainly rice and wheat) reached 40–50 million
tons, which far exceeds secure storage capacity. Food
grain output increased by only 1.6 percent in fiscal
2009, and is estimated to have declined by 7 percent
in 2010. Wheat is a winter crop and was not strongly
3
Annex
TABLE A3.1 Bangladesh: Production and Imports of Food Grain
Production (million MT) Import (million MT)
FY08 FY09 FY10 FY11 FY08 FY09 FY10 FY11
Actual Actual Actual Target Estimate Actual Actual Actual Target
Actual
(Till Mar 13, 2011)
Rice 28.9 30.9 32.3 35.4 … 2.1 0.6 0.1 1.3 1.2
Aus 1.5 1.9 1.7 2.7 2.1 … … … … …
Aman 9.7 11.2 12.2 13.5 12.8 … … … … …
Boro 17.8 17.8 18.3 19.2 … … … … … …
Wheat 0.8 0.8 1.0 1.2 … 1.4 2.4 3.4 2.4 2.3
Total 29.8 31.7 33.2 36.5 … 3.5 3.0 3.5 3.8 3.4
Source: BBS, DAE, and FPMU
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 72
affected by the monsoon shortfall in 2009. Production
in fiscal 2010 actually increased slightly above that of
2009, and may have increased by close to 1 percent in
2011, to a new record 81.5 million tons (Table A3.2).
Nepal: The principal staple food is rice, which
comprises two-thirds of total cereal consumption,
with wheat constituting another 12–15 percent. In
general, the price of rice is influenced by production
and demand on the domestic side and policy decisions
by India. As a net rice importer for most of the last two
decades, Nepal has relied heavily on imports—both
formal and informal—from India, despite India’s occa-
sional export bans. Because of Nepal’s long and largely
unregulated border with India, price levels in Nepal
are highly correlated with those in India. Even during
India’s rice export ban, quantities imported from India
were not notably affected. Because food availability
and access in Nepal are geographically very unevenly
distributed, the concept of national food security has
little meaning. Rice consumption varies from region
to region, because certain remote areas tend to be rice-
deficient and people substitute with wheat.
Pakistan: Wheat production for fiscal 2011 is projected
to be 23.9 million tons, about the same as in 2010.
However, due to an estimated increase in consump-
tion of 1 million tons, ending stocks are likely to be
lower; nevertheless, at 9 million tons they are at the
level envisaged for the strategic reserve, and the govern-
ment has lifted the ban on exports. Despite a sharp
decline in rice production resulting from flood damage
to 34 percent of the growing area, Pakistan is expected
to have an exportable surplus of 1.5–2.0 million tons,
from production of 5 million tons.
Sri Lanka: The supply of key food items such as fish,
poultry and vegetables continues to be disrupted by
the effects of adverse weather conditions leading to
sharp price pressures. The weather is also of concern
with respect to the forthcoming spring crop, with
lower supplies possibly raising prices and main-
taining food inflation at 10 percent for the first
half of 2011.
TABLE A3.2 India: Agricultural Production, 2003–11
(in million tons unless otherwise specified)
2003–04 2004–05 2005–06 2006–07 2007–08 2008–09 2009–10 2010–11
Foodgrains 213.2 198.4 208.6 217.3 230.8 234.5 218.1 232.1
Rice 88.5 83.1 91.8 93.4 96.7 99.2 89.1 94.0
Wheat 72.2 68.6 69.4 75.8 78.6 80.7 80.8 81.5
Coarse Cereals 37.6 33.5 34.1 33.9 40.8 40.0 33.6 40.1
Pulses 14.9 13.1 13.4 14.2 14.8 14.6 14.7 16.5
Oilseeds 25.2 24.4 28.0 24.3 29.8 27.7 24.9 27.9
Sugarcane
(million bales)
233.9 237.1 281.2 355.5 348.2 285.0 292.3 336.7
Cotton (million
bales)
13.7 16.4 18.5 22.6 25.9 22.3 24.2 33.9
Jute & Mesta
(million bales)
11.2 10.3 10.8 11.3 11.2 10.4 11.8 10.1
Memo item:
Procurement by
FCI (wheat+rice)
40.3 40.3 38.0 36.2 51.6 60.4 54.9 …
Procurement
by FCI (% of
production)
25.1 26.6 23.6 21.4 29.4 33.6 32.3 …
Source: Ministry of Agriculture, Government of India.
73 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Impact on Poverty of the Increase
in Food Prices – Methodology and
More Results
T
HE MODEL INCORPORATES A SET OF
observed and estimated changes in domestic
agricultural and food prices for the South Asia
region countries.
2
Where available, the model includes
country-level data on actual changes in domestic food
prices from Food Price Watch (World Bank, 2011). For
other commodities, where prices are unavailable, we
use import shares reported in version 7 of the GTAP
database
3
to link global prices with domestic consumer
prices.
4
We then calculate their implications for individual
households’ costs of living and agricultural incomes
using an expenditure function to characterize house-
hold consumption, and factor in supply behavior and
a profit function to represent household production
activities through unincorporated enterprises such as
family farms.
5
Based on the simulated changes in indi-
vidual households’ welfare relative to the US$ 1.25
extreme poverty line, we determine the changes in the
poverty headcount and poverty gap for each country.
6

Essentially, this involves estimating the impact of price
changes on each household’s real income by multi-
plying the price change experienced by the household
by the quantity of the good produced and by the nega-
tive of the quantity consumed by that household.
7
The
model also allows for households to substitute away
from commodities where prices increased.
8
Impact of the Current food
Price Hike
The median increase in the poverty headcount and
poverty gap for South Asia region is 1.4 percentage
points and 0.5 percentage points, respectively. In India
and Nepal the increase in the poverty headcount is less
than the median while Bangladesh’s and Pakistan’s are
above, with Sri Lanka’s at the median. For the impact
on the poverty gap, in Nepal, Pakistan and Sri Lanka,
the increase in the poverty gap is less than the median
while the opposite is true for Bangladesh and India.
Except for Nepal, the net change in the poverty head-
count is greater than the impact on the poverty gap.
Pakistan experiences the highest net percentage increase
in the poverty headcount whereas Bangladesh experi-
ences the highest percentage increase in the poverty
gap due to the food price increase. Nepal faces the
least net change in poverty headcount or poverty gap
amongst South Asia region countries.
Across all the South Asia region economies, the
median of people exiting poverty is 0.06 percent while
those entering poverty are 1.49 percent. Of the coun-
tries, although Bangladesh has the largest percentage
change of individuals exiting poverty with the food
price hike, it also has the greatest percentage of indi-
viduals moving below the poverty line. Pakistan has
no percentage change in the number of people exiting
poverty.
The current food price surge has had a varying
impact on the poverty headcount of South Asia region
countries according to the magnitude of the price
increase for each of the commodities and the consump-
tion and income pattern generated by the sale of these
commodities. The increase in rice price had the greatest
impact on the rise in the poverty headcount and for
the entire South Asia region. This is followed by wheat,
then fats and oils (Figure A4.1).
In Bangladesh, where rice and wheat prices rose
substantially, the rice price increase had the higher
impact on the increase in the poverty headcount, since
it has higher weighting on households’ net consump-
tion. In addition, Bangladesh is a net seller of wheat, to
the extent that an increase in the wheat price resulted
in 0.02 percent decrease in the poverty head count.
In Pakistan, people are net consumers of wheat
and wheat has higher weighting than rice in the
1
4
Annex
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 74
consumption basket. Therefore, even though the
increase in the domestic rice price is higher than that
of wheat, the impact of the poverty headcount is attrib-
utable more to higher wheat prices.
In India, the price increase in fats and oils contrib-
uted to 58 percent of the increase in the poverty head-
count, while in Sri Lanka the rise in the sugar price
had the highest impact on the increase in the poverty
headcount. Furthermore, although an increase in the
price of rice has had the greatest impact on the gross
reduction in poverty in India, since the country is net
consumer of rice, there is an increase in the poverty
headcount when rice prices rise.
On average across the region, the increase in the
rice price accounted for most of the increase in the
poverty gap, most notably Bangladesh (86 percent of
the increased gap) and India (39 percent) across all
commodities. In Nepal, 59 percent of the increase in
the poverty gap is attributed to the rise in oil and fats
while in India it is 38 percent. As in the increase in
the poverty headcount, wheat has the highest impact
in Pakistan (69 percent) and sugar in Sri Lanka (45
percent) (Figure A4.2).
In the case of Afghanistan, the model is unable to
estimate the impact of price changes on each house-
hold’s real income because an estimate of the quantity
of goods produced by each household is unavailable.
Instead the model estimates the net change in food
consumption from the increase in price, as observed
through household consumption data. From this anal-
ysis, Afghanistan appears to have been particularly hard
hit by the increase in wheat prices. Wheat is the main
staple of the Afghan diet, contributing 57 percent of
the caloric content in the average bundle of food items
consumed by the poor and near-poor. Furthermore,
due to large fluctuations in weather and insecurity,
wheat production is highly volatile and the country
is dependent on its trading partners to meet frequent
shortfalls. Analysis of the 2008 food price crisis sheds
insight into the poverty impact in Afghanistan.
9
The
2008 food price increases corresponded with a drought
year resulting in wheat prices essentially doubling in
rural and urban areas. This increase in wheat prices
had large effects on overall wellbeing. The doubling
in wheat prices resulted in an average decline of 20
percent in the real value of food consumption. With
many people consuming at levels near the poverty
line, subtracting from total consumption an amount
equal to 20 percent of food consumption implied a
12 percentage point rise in poverty.
Notes
1. This annex is based on Ivanic, Martin and Zaman
(2011), Estimating the Short-Run Poverty Impacts of
the 2010–11 Surge in Food Price”, World Bank Policy
Research Working Paper 5633.
2. The actual and imputed price change for the following
commodities is collected for the South Asia region
countries: wheat, maize, rice, other grains, beef, sugar,
fruits, coffee, cotton and oils and fats.
3. See Hertel (1997).
4. Note that the model focuses on the commodities
where actual price change or imputed price (based on
imports) for the South Asia region countries exists. The
FIGURE A4.1 Decomposition of Net Poverty Headcount
Change by Commodity
P
e
r
c
e
n
t
a
g
e

p
o
i
n
t
s
–0.50
0.00
0.50
1.00
1.50
2.00
Bangladesh India Nepal Pakistan Sri Lanka
Wheat Oils and fats Sugar Rice Beef
Source: Ivanic et al. (2011).
FIGURE A4.2 Decomposition of Net Poverty Gap Change
by Commodity
P
e
r
c
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t
a
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p
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0.50
0.70
0.90
1.10
1.30
1.50
Source: Ivanic et al. (2011).
Annex 4. Impact on Poverty of the Increase in Food Prices – Methodology and More Results 75
model accounts for price changes for the majority of
the food items.
5. Singh, Squire and Strauss (1986); and Deaton (1989).
6. We use the definition of Foster, Greer and Thornbecke
(1984).
7. See Deaton (1989) for a justification of this approach.
8. We do this by introducing constant difference of elas-
ticities (CDE) demand system parameters to allow us
to capture the second-order impacts of price changes on
households’ real incomes (Hanoch, 1975). Note that
this approach is consistent with imported goods being
imperfect substitutes for domestically-produced goods,
and the changes in domestic prices being a weighted
average of the prices of imported and domestic goods.
9. See D’Sousa and Jolliffe (2010).
77 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Selected Food Crisis Response
Projects
5
Annex
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 78
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Annex 5. Selected Food Crisis Response Projects 79
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81 South Asia Economic Focus – A Review of Economic Developments in South Asian Countries
Commodity Risk Management
1
E
VENTS IN RECENT YEARS HAVE HIGH-
lighted that governments face significant fiscal
risk from exogenous shocks. The fuel and food
crises of 2007–08, and subsequent price increases in
2010, as well as the greater economic impact of natural
disasters in populated areas, have a demonstrated nega-
tive impact on public finances and the availability
of resources for development priorities and essential
public services. For many of these risks, market-based
approaches may help governments mitigate the finan-
cial impact of these shocks. But in practical terms, typi-
cally, there are several constraints, including:
Governments typically do not focus on ex
ante management of food/oil price shocks and on
assessing the risk as a contingent liability with fiscal
implications.
Interactions between public and private actors
operating within food import/export supply chains are
complex. Since price volatility affects different actors in
different ways, there needs to be a range of solutions,
ranging from fiscal responses to trading decisions to
social safety net responses targeted directly to vulner-
able producers or consumers. Identifying specifically
who is at risk is an important first step.
• Governments may not have funds to cover
hedging costs, which, in the case of the purchase
of at-the-money option contracts (which create
a price cap or a price floor), can range from
7–12% of the price level protected.
• If funds are available, governments are often
reluctant to make the investment in hedging
since such decisions are vulnerable to ex-post
criticism (and associated political risk).
• Governments may lack the necessary legal and
institutional frameworks to support hedging
transactions.
• There may also be a lack of technical capacity
to manage hedging programs.
Since many member countries are vulnerable to
the risk of food and fuel price shocks, the World Bank
Group is scaling up assistance in this area in an effort
to a) sharpen the ability to diagnose the fiscal impact
of exogenous shocks, b) incorporate the use of financial
products into risk management strategies that are put
in place ahead of a crisis or shock, and c) strengthen
confidence in using market approaches and having
sound policy around them.
Advisory Services on Risk
Management
These customized technical assistance services can be
designed to help governments evaluate exposure to
and find ways to manage a wide set of fiscal risks and
contingent liabilities associated with exogenous shocks
such as natural disasters, commodity price shocks (in
particular food, fertilizer, and energy), and climate
change. The main components of a commodity risk
management advisory program can include:
a. Risk assessment to quantify the impact of
specific risks on a government’s balance sheet
and fiscal flows
b. Development of a risk management framework,
which includes specifying objectives of a risk
management strategy, analyzing the govern-
ment’s capacity to absorb risk, and evaluating
strategic alternatives
c. Cost/benefit comparison of available instru-
ments, approaches, and hedging strategies
d. Developing an enabling environment to imple-
ment transactions, which include governance
and legal framework, coordination with other
policies, information systems, public disclosure
and audit processes, and monitoring procedures
e. Education and capacity building of ministry staff,
stakeholders, and decision-makers.
Facilitation of Commodity Hedges
Because of the complexity of local market and policy
environments, solutions will need to be highly custom-
ized, drawing on a mix of different tools and responses.
Annex
6
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 82
Commodity hedging for governments and private sector
entities could be facilitated by:
a. Providing assistance to help governments and
private sector entities structure and execute phys-
ical hedging transactions with existing market
suppliers, and/or banks (for example for food
products that are not well integrated with inter-
national exchanges, such as rice, edible oils, and
for fertilizer)
b. Intermediation of financial commodity hedges
(for example for oil/energy products and
exchange-traded commodities).
The following table summarizes various commodity
risk management instruments, along with benefits and
costs/risks/constraints for each. Also included is a short
description of the government of Malawi’s approach
to hedging the risks associated with the price and
supply of maize.
Example – Malawi Government
Hedging of Maize Price & Supply
Risks
In 2005/06, Southern Africa experienced a severe
drought-related food shortage. Affected coun-
tries included Malawi, Zambia, Mozambique, and
Zimbabwe and it was estimated that the volumes
of imports needed to supply these countries would
range from 1.5–2 million metric tons. In the past,
Governments have attempted to manage this problem
by subsidizing the price of maize but such responses
tend to have a large cost both financially and in terms
of negative impact on local and regional trade.
In June of 2005, the Government of Malawi
announced that it would take an innovative approach
to management of the food shortage by using South
Africa Exchange Market (SAFEX)-based instruments
to help cap the cost. The World Bank provided tech-
nical assistance to support this operation. This included
training on futures and options and how the products
could be used to manage specific exposures, risk assess-
ment, communication with potential market providers,
comparison of proposals, negotiation of contracts, and
overall implementation.
Because the government was concerned not only
about price increases but also about logistics constraints
and delivery performance, the call option contract was
customized as an OTC (“over-the-counter”) contract
which would give more flexibility than a standard finan-
cial instrument. First, price protection was provided on
a delivered basis, thus combining the price for white
maize on the exchange in South Africa (SAFEX price)
plus transport costs to Malawi. Second, the option
contract carefully specified terms for physical settle-
ment so that it could be used as a contingent import
strategy if needed. Uncertainty about the extent of the
food shortage, levels of commercial imports, trans-
portation constraints, performance of local traders,
the humanitarian response, and efficiency of procure-
ment processes made the contingent import aspect of
the contract very attractive to the Government. The
contract with Standard Bank of South Africa, an OTC
call option, represented one of the first-ever instances
of macro level hedging by an African government. It
covered imports of 60,000 mt of white maize, had
a total value of approximately $17 million, and a
premium payment of $1.53 million.
In November and December, 2005 as prices were
increasing and the food shortage growing more severe,
the government exercised the call option, elected for
physical settlement, and allocated the majority of
the maize to humanitarian operations. The maize
purchased through the option contract had a better
delivery performance than most other procurement
procedures, and during the delivery period spot prices
rose USD $50–90/mt above the ceiling price of the
contract following increases in the SAFEX white maize
price and transport costs over the period October–
January. In May of 2006 and 2007, when the country
was facing a projected maize surplus, the World Bank
worked with the private sector to structure contin-
gent export contracts, which were presented to the
Government. The contingent export contracts (put
options) were structured to help manage concerns
about allowing exports and the risk of maize prices
falling. Although the contracts were not taken up,
they were useful as a demonstration of how contin-
gent contracting could be used to help manage risks
associated with maize surplus.
This approach has a number of indirect advan-
tages in addition to the hedging benefits. Contingent
import strategies based on call option structures help
in planning because they can be put in place well
ahead of eventual crises, then triggered or “called” on
an as-needed basis. The approach showed the bene-
fits of using customized risk management solutions
to reduce the risk of increasing commodity prices and
Annex 6. Commodity Risk Management1 83
supply uncertainty. It also demonstrated that market-
based strategies can be less costly and more efficient
than non-market based attempts to stabilize prices.
For the Government of Malawi, which spent an esti-
mated $110 million on the humanitarian response,
the call option was a success. The challenge will be
to test similar market-based approaches in an effort
to replace traditional ex post reactions which can be
costly, inefficient, and difficult to manage when the
country is already in crisis.
Notes
1. Prepared by Julie Dana,World Bank Treasury.
South Asia Economic Focus – A Review of Economic Developments in South Asian Countries 84
TABLE A6.1 Overview of Commodity Risk Management Instruments
Product Benefits Costs/Risks/Constraints
Forwards • Since forwards are physical supply contracts, the risk
management solution is embedded in the supply contract
and there is no need for a separate contract / documenta-
tion.
• Pricing of forward contracts can be customized to the
needs of the hedger—prices can be fixed, floating, or in-
clude caps/floors, and collars (a pre-agreed range or band).
• Depending on the pricing formula used, forwards will
have same benefits as the financial products described
below.
• May be complex for entities to implement if not directly
involved in physical importing.
• Depending on the pricing formulas used, forwards will have
same costs/risks/constraints as the financial products described
below.
Futures • No upfront costs.
• Provides ability to lock in forward prices through a finan-
cial contract.
• Prices are “locked in” and hedger has limited ability to take
advantage of positive price movements that may occur in the
future.
• Creates unknown and unpredictable future liability since hedger
will owe the market counterparty if the market moves in an
adverse direction.
• Requires financing of a credit line or a credit guarantee.
• Requires managing cash flow /liquidity requirements to support
(potential) daily margin calls.
Options • Provides ability to lock in maximum (minimum) prices
while still providing hedger with ability to take advantage
of positive price movements that may occur in the future.
• Has an upfront cost, which is market-driven and volatile but can
range from 5–12% of the value of the underlying price for a
6–18 month coverage.
Swaps • No upfront costs.
• Can be used to create similar price protection as with
futures contracts
• Provides ability to manage two commodity exposures, or
financial flows, at the same time.
• Creates unknown and unpredictable future liability.
• Requires financing of a credit line or credit guarantee.
• Requires managing cash flow requirements to support (poten-
tial) daily margin calls.
Commodity-
linked bonds or
loans
• Could be used on more macro level to connect borrowing
or financing programs to the performance of a specific
commodity index.
• Can be more complex to structure.
• May not be effective as a hedge for specific commercial
exposures.