Farmers of primary commodities in developing countries face substantial income risk due to price fluctuations. Stockholding and price band schemes are a popular policy reaction to reduce income risk on the part of farmers. Are such schemes more efficient in reducing price risks relative to instruments that are available in the market? Price risks may also be hedged on futures exchanges: this is often believed to be an attractive alternative device to reduce income risk. What is the size of the welfare gains to be obtained from hedging price risks, and what is the size of the costs of using such a facility?
These questions constitute the centrepiece of this book and are explored on the basis of data on the Indian natural rubber market. The empirical work confirms that short run response to prices comes largely from arbitrage activities on the part of stockholders and this suggests that prices may be stabilized without government intervention. A centrally imposed price band scheme is not as effective. Hedging price risks on commodity exchanges, based on a hypothetical hedging scheme, increases welfare substantially, particularly welfare of growers.
The general lesson to be drawn from the empirical work is that the market offers adequate instruments to deal with income risk of farmers, and at a lower cost than intervention policies of the government. The analysis also suggests a number of areas where there is scope for government involvement: these would be in the area of promoting stockholding and establishing a regulatory framework that is fit to manage exchanges.