The sudden surge in sugar prices has made everyone redo their homework. Prices of sugar have seen a continuous bull run for the past few days. Even though the production this year was exceptionally good yet the prices are ruling firm. NCDEX December contract for M Grade Kolhapur is currently ruling at Rs.1835 a quintal which is Rs.187 more or 11 per cent higher than the August price of Rs.1648. Logically, prices should be lowest in December due to supply pressure. So, why the prices are heading northward? For this, we need to first understand the dynamics of sugar industry.
Dynamics of sugar Industry
India is the largest consumer and second largest producer of sugar in the world. Sugarcane occupies about 4.2% of the total kharif area under cultivated area and it is one of the most important cash crops in the country. Sugar is a sensitive issue in India just like onion. The economics of sugar in India is very complicated as compared to other countries. This is because in India there is two type of sugar industry; one the large mills and second, is the small cottage industries that manufacture specially gur (solidified cane juice) and khandsari (semi-white centrifugal sugar). Therefore, both these industries compete for sugar cane.
In India, sugar comes under the Essential Commodities Act, 1955 and the government involvement is at each level, right from fixing the Statutory Minimum Price (SMP) to the growers, to giving industrial licensing for establishment of sugar factory. In addition to it, the government also decides the quantity that can be sold in the open market, fixes the price of the levy quota sugar and determines the maximum stock levels for wholesalers, etc.
At present, sugar mills are forced to sell 10% of their output to government at cheaper rates (generally 20 per cent lower than the cost of the output). Government uses this sugar to meet its target under PDS (Public Distribution System) to sell sugar at cheap rates to the poor. At the same time, government authorities also decide how much of the remaining they can sell in the open market. This is done to keep the prices stable in the domestic market and is achieved through quota system wherein government announces the release of sugar quota for each quarter. For instance, the sugar quota released for this quarter, i.e., July, August and September is 30 lakh tonnes. Apart from that, buffer stock of 8 lakh tonnes is also supposed to be released in this quarter.
Government announces the SMP for sugarcane every year based on the recommendations of the Commission for Agricultural Costs and Prices (CACP). While the Central Government regulates the sugar industry, the State Governments exercise control over supply and distribution of cane as an agricultural crop. Thus, the State Government announces State Advised Prices (SAPs) for sugarcane in respect of cane supplied to mills within their boundaries. The SAPs which mills are required to pay are generally substantially higher than the SMP. Also, every mill is given a certain boundary region. All canes grown in that region are to be compulsorily sold to the mills allotted to that region.
Current Scenario
Over the past few weeks, sugar prices have been continuously rising. There are various factors for the rise in the sugar prices. As usual, first is the demand and supply scenario.
The demand for the sugar sector seems to be good in the coming days. With strong demand, weak price will be thing of the past. It is reported that sugar prospects in Brazil and India is not good. Production is expected to decline. With the re-entering of Russia, the largest importer, prices of sugar are expected to head northward.
The world sugar fundamentals are expected to tighten next season. In 2007-08, world sugar consumption is projected at about 160 million tonnes against the expected production of 170 million tonnes. The surplus is about 10 million tonnes. But, with reports coming from various corners of the world, the production would be about 160 million tonnes the year 2008-09. The production in India, China and Pakistan is expected to be lower than the previous year. Even reports from Brazil indicate that the crop is behind the schedule.
Indian Scenario
According to the Ministry of Agriculture, the area under sugarcane for the year 2008-09 is down to 4.3 million hectares from the 5.2 million hectares in the previous year. Aberrant monsoon in the Western states like Maharashtra, Karnataka and Andhra Pradesh has created a risk of yield loss. It believed that the total output for the country will fall to about 22 to 23 million tonnes against 27 million tonnes of previous year.
Indian exports for this season have already touched 3.5 million tonnes and is about to reach 4.5 million tonnes. The reason for this is weakening rupee and firm export price. However, with the production expected to decline next year, export would not materialize as the government may ban exports of sugar to reign in the domestic prices. There is high possibility of such actions with the elections of various states which are to be conducted next year.
The report from Maharashtra is even worse. The prolonged dry spell is inducing farmers to convert their standing cane for fodder. When the rains fail, the cattle have no fodder thereby pushing up the prices for fodder. So, the farmers then choose to harvest the cane for fodder rather than waiting for the crops to mature to sell it to the sugar mills. Cane availability for this year's crushing season is expected to go down to 50 million tonnes out of total cane production of 54.4 million tonnes due to diversion. If that happens then the production will be badly affected.
Indian sugar industry typically follows a 4 to 5 or 6 year cycle. The down trends in the sugar cycle starts with improved profitability of sugar mills. This results in prompt and higher payment to the farmers resulting in low sugarcane arrears. Good payment and low arrears lead to higher area under sugarcane cultivation and bumper production. All these lead to drop in prices of sugar. When the sugar prices fall drastically, it leads to losses or low profit to sugar mills. Hence, mills are not able to pay the farmers on time leading to increase in arrears. The farmers are ultimately forced to move towards other cash crops. The production falls and prices start moving up again. This whole viscous cycle continue for about 5 to 6 years. It is believed that the current year is a peak year on sugar cycle due to bumper production since last few years. Hence, prices are expected to peak this year leading to fall in production. However, long term trend of production is of increasing in nature.
Ethanol will play an important part in rising sugar prices. It is expected that Brazil will divert more of their sugar crop towards ethanol production due to rising crude prices which have affected almost every other commodities. Also, Indian government is toying with the idea of allowing petrol blending with 10 per cent of ethanol. This will drastically affect the sugar output.
Forward prices are firming and sugar prices will begin to surge with the beginning of the festival season by mid-August.Therefore, looking at various factors one should not be surprised if the prices touch Rs.2,000 a quintal.
Dynamics of sugar Industry
India is the largest consumer and second largest producer of sugar in the world. Sugarcane occupies about 4.2% of the total kharif area under cultivated area and it is one of the most important cash crops in the country. Sugar is a sensitive issue in India just like onion. The economics of sugar in India is very complicated as compared to other countries. This is because in India there is two type of sugar industry; one the large mills and second, is the small cottage industries that manufacture specially gur (solidified cane juice) and khandsari (semi-white centrifugal sugar). Therefore, both these industries compete for sugar cane.
In India, sugar comes under the Essential Commodities Act, 1955 and the government involvement is at each level, right from fixing the Statutory Minimum Price (SMP) to the growers, to giving industrial licensing for establishment of sugar factory. In addition to it, the government also decides the quantity that can be sold in the open market, fixes the price of the levy quota sugar and determines the maximum stock levels for wholesalers, etc.
At present, sugar mills are forced to sell 10% of their output to government at cheaper rates (generally 20 per cent lower than the cost of the output). Government uses this sugar to meet its target under PDS (Public Distribution System) to sell sugar at cheap rates to the poor. At the same time, government authorities also decide how much of the remaining they can sell in the open market. This is done to keep the prices stable in the domestic market and is achieved through quota system wherein government announces the release of sugar quota for each quarter. For instance, the sugar quota released for this quarter, i.e., July, August and September is 30 lakh tonnes. Apart from that, buffer stock of 8 lakh tonnes is also supposed to be released in this quarter.
Government announces the SMP for sugarcane every year based on the recommendations of the Commission for Agricultural Costs and Prices (CACP). While the Central Government regulates the sugar industry, the State Governments exercise control over supply and distribution of cane as an agricultural crop. Thus, the State Government announces State Advised Prices (SAPs) for sugarcane in respect of cane supplied to mills within their boundaries. The SAPs which mills are required to pay are generally substantially higher than the SMP. Also, every mill is given a certain boundary region. All canes grown in that region are to be compulsorily sold to the mills allotted to that region.
Current Scenario
Over the past few weeks, sugar prices have been continuously rising. There are various factors for the rise in the sugar prices. As usual, first is the demand and supply scenario.
The demand for the sugar sector seems to be good in the coming days. With strong demand, weak price will be thing of the past. It is reported that sugar prospects in Brazil and India is not good. Production is expected to decline. With the re-entering of Russia, the largest importer, prices of sugar are expected to head northward.
The world sugar fundamentals are expected to tighten next season. In 2007-08, world sugar consumption is projected at about 160 million tonnes against the expected production of 170 million tonnes. The surplus is about 10 million tonnes. But, with reports coming from various corners of the world, the production would be about 160 million tonnes the year 2008-09. The production in India, China and Pakistan is expected to be lower than the previous year. Even reports from Brazil indicate that the crop is behind the schedule.
Indian Scenario
According to the Ministry of Agriculture, the area under sugarcane for the year 2008-09 is down to 4.3 million hectares from the 5.2 million hectares in the previous year. Aberrant monsoon in the Western states like Maharashtra, Karnataka and Andhra Pradesh has created a risk of yield loss. It believed that the total output for the country will fall to about 22 to 23 million tonnes against 27 million tonnes of previous year.
Indian exports for this season have already touched 3.5 million tonnes and is about to reach 4.5 million tonnes. The reason for this is weakening rupee and firm export price. However, with the production expected to decline next year, export would not materialize as the government may ban exports of sugar to reign in the domestic prices. There is high possibility of such actions with the elections of various states which are to be conducted next year.
The report from Maharashtra is even worse. The prolonged dry spell is inducing farmers to convert their standing cane for fodder. When the rains fail, the cattle have no fodder thereby pushing up the prices for fodder. So, the farmers then choose to harvest the cane for fodder rather than waiting for the crops to mature to sell it to the sugar mills. Cane availability for this year's crushing season is expected to go down to 50 million tonnes out of total cane production of 54.4 million tonnes due to diversion. If that happens then the production will be badly affected.
Indian sugar industry typically follows a 4 to 5 or 6 year cycle. The down trends in the sugar cycle starts with improved profitability of sugar mills. This results in prompt and higher payment to the farmers resulting in low sugarcane arrears. Good payment and low arrears lead to higher area under sugarcane cultivation and bumper production. All these lead to drop in prices of sugar. When the sugar prices fall drastically, it leads to losses or low profit to sugar mills. Hence, mills are not able to pay the farmers on time leading to increase in arrears. The farmers are ultimately forced to move towards other cash crops. The production falls and prices start moving up again. This whole viscous cycle continue for about 5 to 6 years. It is believed that the current year is a peak year on sugar cycle due to bumper production since last few years. Hence, prices are expected to peak this year leading to fall in production. However, long term trend of production is of increasing in nature.
Ethanol will play an important part in rising sugar prices. It is expected that Brazil will divert more of their sugar crop towards ethanol production due to rising crude prices which have affected almost every other commodities. Also, Indian government is toying with the idea of allowing petrol blending with 10 per cent of ethanol. This will drastically affect the sugar output.
Forward prices are firming and sugar prices will begin to surge with the beginning of the festival season by mid-August.Therefore, looking at various factors one should not be surprised if the prices touch Rs.2,000 a quintal.
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