Dec 28, 2010

Onion Ring

India. Bad weather, few onions. The price doubled within few days. Inflation started raising. India is a major producer and exporter of onions, which are also an important ingredient of many indian recipes. With large part of the population, about 25%, within the threshold of poverty, the problem has become a social and political issue. Possibly the onion crisis is more urgent the G2 mobile lines corruption case. Within few days export has been banned, while tariffs abolished. No export, free import of onions. Government even started to distribute them at a controlled price. All with the hope of calming down prices. Will it work?

Source: Business Line

On the trade side, if there has been a supply shock, producers need a higher price or they'll lose money. Banning export only means that this price is going to be paid by local consumers, who tend to be poor. Abolishing import tariffs is a good thing, but I don't really think it is going to calm down prices a lot. Controlling price may be good for consumers, but still producers need money: is government going to subsidize them? Not doing anything may cause social problems because indians are used to eat onions... So maybe there's not an easy answer.
However the subject is interesting, also because onions are a particular case. There's not such a thing as an onions future market and that makes is an interesitng natural experiment. USA banned the onion market in 1958 and the result seems to be that onion prices tend to be more volatile than other prices (Onion Future Act). Some people also say the opposite, but I don't know the whole story, so I'll stick to this graph (from Mark J. Perry) and take it with care. I don't know to what extent it is correct to compare oil to a perishable good like onion, however onion price seems to be more volatile than corn as well.
So the question is: are onion prices so volatile because there is not a future market? Would a future market ensure producer against the risk of poor crops and would that be sufficient to reduce price volatility?
Sure a future market is not going to reduce prices in the case of reduced production, since if there is a supply shock you very little can be done: price has to go up. But maybe volatility can be reduced and the market might be more transparent. And afterall, why are onion so special non to have a market like other goods?

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