Transcript Presentation - NCDEX Institute of Commodity Markets and Research

Reforms and Integration in
Commodity Markets
NICR Workshop
Presented by: Anshuman Jaswal
Outline of the Presentation
Purpose
 Literature Review
 Propositions
 Methodology
 Data

Proposed Research

Objective: To understand working of
Commodities’ Spot and Futures Markets
Effect of reform
 Transmission of world prices
 International Integration

Introduction
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First futures market in India in 1921 (Bombay Cotton
Exchange)
Post liberalization
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Committee on Forward Markets (1993)

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In 2003

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Government notification permitting futures trade in 103
commodities
Total notional turnover of commodity futures markets

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17 commodity groups allowed futures trading
4.6% of the GDP in 2003-04 to 90% of the GDP
The literature on futures markets in developing
countries is quite sparse (Ramaswami and Singh, 2006)
Theory

Defining a Market

Defined as “the area within which the price of a commodity tends
to uniformity, allowance being made for transportation costs”
(Stigler, 1969)

Price convergence through

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Market integration
Law of One Price (LOP)
For purposes of this study, two stages of reform


1992-93
2002-03
Literature Review

Ardeni (1989) proved (for Aus, Can, US, UK)
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LOP failed uniformly as a long-term relationship and
Deviations from the pattern were permanent
Baffes (1991)
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(LOP & Integration)
Supportive evidence for LOP with regard to specific commodities and
time periods
Failure of LOP could be due to transportation costs
Ravallion (1986) found (for Bangladesh)
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Conditions for short and long-term integration were not met
Possible reasons for this result were:
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Interference from the government that prevented free flow of food-grains
Frequent flooding affected transport costs and risk-taking ability of the
traders
Literature Review (Transmission of
prices)

Mundlak and Larson (1992)
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Quiroz and Soto (1993) found
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Transmission of global commodity prices did not really occur
Hazell, Jaramillo and Williamson (1990)

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Global commodity price variation constituted a major part of the
variation of the domestic commodity prices
Variability in world prices had been transmitted to LDCs in
export unit values ($), but not in average producer prices
Trade restrictions, exchange rate or domestic distortions
responsible for discrepancy between domestic and world prices
Morriset (1998)

Upward movement in world prices were clearly passed through
in domestic prices, downward movements were not
Literature Review (Reforms & stock
market)
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Ammer and Mei (1996)
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Henry (2000a)
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Higher abnormal stock returns in the period leading up to the stock
market liberalization
Post which there was a fall in the rates of return and lower cost of
capital
Henry (2000b)

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Found high real and financial integration between the U.S. and U.K.
economies
Concluded that stock market liberalizations lead to private
investment booms
Forbes and Rigobon (2002)
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Found high level of market co-movement between international stock
markets during stable periods as well as crises
Literature Review (Reform & commodity
market integration)
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Baffes and Gardner (2003)
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De Jong & De Roon (2005)
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Found integration of emerging stock markets into global stock markets
But to varying degrees due to the level of segmentation of the market
Jain (1981)
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Looked at the degree of integration into the global economy for eight
countries that underwent reforms in mid-1980s & early 1990s
Found only three countries had a high degree of integration
Commitment to reform lacking in rest
Commodity markets in U.S. & U.K integrated only imperfectly
Sekhar (2004)

Found volatility in Indian markets lower for most agricultural
commodities due to greater integration into world markets
Propositions
Proposition 1 a: Indian commodities markets
have become integrated into the global
commodity markets after the reforms
Proposition 1 b: There is a structural break in
the degree of integration following the reform
year
Methodology
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Follow Baffes & Gardner (2003) methodology, using regression analysis:
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Testing for units root in the following uni-variate process
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(pdt – pwt) ~ 1(0)
If the price differential as defined above is stationary, then one can conclude that domestic prices
follow world price movements in the long run
(Pdt -pdt-1)= μ + α (pwt-1- pdt-1) + β (pwt- pwt-1) + u t
pwt=world commodity prices
Where pdt = domestic prices
pdt-1= domestic prices with one lag
pwt-1 = world prices with one lag
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β indicates how much of a given change in world price of commodity will be
transmitted to the domestic price in the current period (short-run effect)
α indicates how much of the past price difference between domestic and world
prices is eliminated in each period thereafter (speed of adjustment effect)
Speed of adjustment at period n :
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k = 1 – (1 – β)(1 – α)n
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H0: k1 ≠ k2
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Subscripts 1 and 2 refer to pre-and post-reform periods
Data
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Domestic commodity prices will be taken from:
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Government publications
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NCDEX for 2004-07
World prices (mainly from the World Bank site) will be converted
by using the official exchange rate
Thank you