Blockchain: The key transparency in Indian commodity markets
With a shift of supply chains to India and deregulation of domestic agricultural markets in play, amidst the rollout of a $1.4 trillion National Infrastructure Pipeline, demand for transparency in physical commodity transactions will grow in line with rising trading volumes.
As India has a second shot at developing its manufacturing and modernising its agricultural base, the expected rise in demand for raw materials is set to boost transaction volumes. Privatisation of natural resource-purchasing Public Sector Units (PSUs) and the introduction of the much touted “Farm Bills” which enable farmers to sell their produce at fair market rates across the country, will propel this growth. These reforms will give depth to the physical agricultural products market as well as increase the participation of private players in a range of bulk and energy commodities. Creating transparency and lowering transaction costs will be crucial for broadening the spectrum of participants and adopting cutting edge technology like blockchain to enable these, will become increasingly important.
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Need for changes
From the execution of a trade to its settlement, a trade goes through a transition life cycle that involves trade entry, shipping and logistics, manual confirmation, sample testing, KYC processing, trade reconciliation, settlement, and finally, reporting. With the potential entry of small players into the vast domestic and imported commodities market in India, it would make sense to encourage the use of a distributed ledger system. It makes visible the ownership and control of a commodity through its sales and purchase chain, creating non-removable and non-editable records with verification possible across all participants. This improves the ability of traders and end users to be able to have easily accessible records that need little additional verification and paperwork. Taking it a step further, it gives confidence to banks and private financiers that back entities involved in the trade of products ranging from coal to wheat and from crude oil to pulses, to distribute credit through the economic system. A multiplier effect kicks in when small players with limited capital and lower margin requirements can engage in transactions, as they both deepen the market through better price discovery as well as secure the network through the introduction of multiple points of confirmation in the blockchain ledger.
Although in the early stages of adoption, this system has been steadily gaining traction with a consortium of energy and commodity merchants and producers who ship large volumes to customers around the world. For them, transaction costs drop sharply due to the economies of scale involved, yet it has taken over five years for them to slowly transition just parts of their operations to this new ledger. The process is costly and the design and implementation of a new architecture to support this is also proven cost prohibitive for small traders. New markets, however, have the distinct advantage of potentially adopting this early on.
The farm bills passed recently by both the upper and lower houses of the Indian parliament will provide farmers with direct access to end users and traders, bypassing state controlled “mandis” or intermediaries. The opening up of the system will enable nearly 400 million rural Indians who are digitally empowered, to find the best prices for their products. Going forward, it is expected that a thriving domestic market will be ably supported by the extensive road and rail connectivity projects underway through the National Infrastructure Pipeline (NIP). The NIP itself is set to push the demand for key commodities like bitumen, copper, iron ore and metallurgical coal, much of which are imported. Participating in an international blockchain-backed system would have a deflationary impact, lowering the costs of projects and reducing toll rates.
Economies of scale would become easy to realise with the size of the Indian market and with manufacturing supply chains moving to India, the demand for transparency by international firms must be met. India is in a unique position, where it can become an early adopter of leapfrogging technology to help it improve sector-wide cost efficiency and transparency.
Surya Kanegaonkar is a commodities professional with ten years of experience in research and trading for a hedge fund, utility and miner.