Much like Chinese cotton program that we discussed last week, India also has a program that supports their farmers at prices above the current world price. Before I dive deeper into that situation, it must be noted that both China and India have programs that pay farmers based on their planted acreage. This is very different than the majority of US farm programs that pay farmers based on historical or “base” acres. For the discussion and short example below, this understanding is critical to understand how both China and India’s policies affect the current market.
India actually has it’s own company within its government to manage their cotton industry. The Cotton Corporation of India (CCI), not to be confused with Cotton Council International (CCI) – the US cotton industry’s export promotion arm, was established in 1970 to help manage the flow of cotton through and out of India, and to help support the price by buying cotton. The basic mechanism that CCI uses to accomplish this task is their Minimum Support Price (MSP) program. This is an old target price program that triggers CCI to buy cotton from Indian farmers when their internal price of cotton, which is generally close to the world price, falls below the MSP. The current MSP translates to about 70 cents/lb. Since the world price was in the 60s most of the 2014 harvest season, CCI bought a good bit of cotton. CCI has no limit to how much cotton they will buy and they have no set standard as to when they sell cotton. Since this program pays the Indian farmer for they cotton they grew that season, there is no incentive for the farmer to not grow cotton the next season since they know CCI will purchase it at 70 cents, assuming the farmer can break even at 70 cents. From some news sources, it seems like 70 cents may not be the break even point for some Indian farmers as they have been voicing their concerns to the Indian government. As long as the MSP is in place at a price above the world market, Indian farmers will keep producing regardless of the world price because they are guaranteed the MSP for their cotton.
As you can see from the above example graph of the world supply and demand for cotton, the current MSP (70 cents) is above the world price (65 cents) by 5 cents. This causes the Indian farmer to not be responsive to price and therefore will over produce cotton under this program. This over production can be seen as the difference in bales between where the red line (MSP) crosses the green line (supply) and where the red line crosses the blue line (demand); this difference is about 10 million bales in this example. Again, this is a rough example but it shows how farmers in other parts of the world suffer from lower prices while the Indian farmer is protected at a price above the current world price. Couple this with the Chinese cotton program discussed last week and everyone should be able to see why there is a 100+ million bales of cotton in storage around the world.
The tricky thing with CCI’s MSP program is they there is no formula for when they sell cotton. It seems that they watch the market but sell at random. The market was actually going down a few weeks ago and they sold. That sell was at a level lower than the MSP, so CCI lost money on that sell. It would seem that they are waiting to sell the bulk of their cotton in storage once price gets close to the MSP, but no one really knows except CCI because there is no published formula on how they sell cotton.
One final note. As mentioned earlier both the Chinese and Indian cotton programs pay their producers on their planted acres for that year. This may seem like a logical practice but as shown above and discussed last week, it causes a farmer to not be price responsive to the market and continue to produce when farmers should be growing less of that commodity. The US’s long standing base acre payment practice is a good example of a program that helps farmers when times are tough but still allows them to reduce acres to help the supply/demand equation settle out. Some argue otherwise, but the data on cotton price and cotton acres planted in the US suggest that even though we have had program to help US cotton producers, acres still decline when cotton prices fall.