Sugar free?

In early September, Union Food and Agriculture Minister Sharad Pawar headed to the Prime Minister's Office (PMO) to make a very important presentation. He was carrying with him a set of proposals that could pave the way for a radical shift in the government's sugar policy. The enormity of the task clearly weighed on him. Convincing Prime Minister Manmohan Singh, he knew, would be the first big step for the sugar industry to taste freedom and finally escape the debilitating controls chaining it.

The strong consensus both within the government and in the industry on the issue of decontrol - probably seen for the first time in many decades - gave Pawar confidence. Unlike in the past, there was broad agreement on the timing of decontrol (in six months when the country's sugar stocks would neither be too high nor too low) and what it meant.

There was broad agreement that the government would let go of the industry and allow market forces to determine the amount of sugar that can be sold in the open market, price of the sugar and cost of sugarcane.

The government would announce only a minimum support price for farmers. The government was also open to take on the subsidy burden of over Rs 2,000 crore a year on sugar distributed through the public distribution system (PDS). At present, the industry bears this cost.

Under the proposed policy, farmers would also get their freedom. Their sugarcane produce would not be tied to a particular mill; instead, they would be free to supply cane to any miller who offers a better price. Once decontrolled, exports and imports of sugar would not be banned and only regulated, if required, through tariff measures. Pawar also drew strength from the fact that the recent deregulation of petroleum product prices had signalled the government's intent to proceed with the next leg of reforms in politically sensitive sectors.

Decontrol will Even out the sugar cycles Ensure remunerative and timely cane prices to farmers Lead to consolidation of capacity and economies of scale Double ethanol production and replace 3 per cent of India's gasoline consumption Generate close to 8,000 MW of green power against today's 900 MW Make India a consistent exporter of sugar in the world market

At the meeting, Pawar laid out his ministry's proposals on sugar decontrol, including the new sugar subsidy plan (for supplying sugar to the poor through PDS below the market price) and a new pricing formula for sugarcane. After an intense discussion, Singh decided to seek the views of state governments and also set up a committee under C. Rangarajan, a former governor of the country's central bank and Chairman of the Prime Minister's Economic Advisory Council, to arrive at a new pricing formula.

Singh's decision to take the opinion of the states surprised many. Some have interpreted it as a move to take the states on board this crucial and politically sensitive reform. After all, Uttar Pradesh and Tamil Nadu, big cane-growing states, interfere in the sugar sector at the state level through policy pronouncements and any reform without their involvement will ultimately fail. Others felt that it is a yet another case of a government developing cold feet at the last minute. The approvals sought from the state governments could delay the reform indefinitely.

Successive governments over the years have acknowledged that controls - imposed to ensure adequate availability of sugar (an essential commodity under law) at reasonable prices - do not work. They instead vitiate business cycles in sugar (see The Leveller), causing production to oscillate between shortage and surplus (see chart Abject Failure). Sugar prices flare up during a shortage and fall precipitously during times of surplus - much to the discomfiture of the government in power. But, no government has had the political will to free the industry.

Vivek Saraogi, President of the Indian Sugar Mills Association (ISMA) and Managing Director of Balrampur Chini Mills, is still hopeful. "If you can deregulate oil sector, I don't understand why sugar sector cannot be decontrolled. The government should see reason,'' he says.

Ironically, unshackling the sugar industry will deliver the very solutions that controls had promised. If, for example, the concept of a command area (sugarcane fields whose output is reserved for a mill) is abolished, better sugar mills will get an opportunity to expand by striking a long-term relationship with farmers for consistent cane supply.

Consolidation will begin to happen and average capacity of a sugar mill will inch towards the global average of 10,000 tonnes of cane crushed per day (TCD) against the current 3,000 TCD. Inefficient players will either close down or sell out. Production cost will go down, following the economies of scale.

Overall production will increase and exceed India's consumption (currently 23 million tonnes), allowing sugar mills to become consistent players in the export market. "We can comfortably export over four million tonnes of sugar every year and meet the demand in the Indian Ocean market," says K. Raghunandan, MD of EID Parry (India). This is what Brazil, the world's largest producer of sugar, experienced after it decontrolled its sugar sector.

During 1991-97, when that country's sugar sector was regulated, it produced seven million tonnes - just enough to meet its domestic demand. After 1997, when the industry was decontrolled, the production jumped and is 35 million tonnes today.

After meeting its domestic demand of about 10 million tonnes a year, Brazil exports 25 million tonnes and has cornered almost 60 per cent of the global sugar trade. "Brazil is the best example for India to follow if it is to achieve higher production on a sustained basis and put an end to periodical shortages once and for all," explains Saraogi. Each time sugar production falls in India, global sugar prices shoot up in anticipation of large scale imports by the world's secondfastest growing major economy.

Decontrol will also even out business cycles in the sugar industry, which is mostly hostage to government interventions. Fixing sugarcane prices is a case in point. While the Centre announces its FRP or fair and remunerative price, most cane-growing states top it up steeply by announcing what is called the state advised price or SAP.

The SAP, unlike FRP, is not arrived through any scientific calculations but is entirely political. For instance, the Tamil Nadu government has just announced a SAP of Rs 2,000 per tonne of cane, way higher than the FRP of Rs 1,391 set by the Centre. It is not a coincidence that Tamil Nadu is heading for Assembly elections next year. Such a high sugar price will encourage farmers to shift en masse to cane, leading to a massive sugar surplus. A freed sugar sector need not tackle such politically-determined cane pricing. Like any other product there will be some correlation between the price of raw material and the end product.

Controls decide The raw material (sugarcane) price The end product (sugar) price through monthly release mechanism The production by controlling the amount of cane that a mill can crush The availability of sugar in the domestic market by controlling exports and imports The mill a farmer can sell his cane to

"In a decontrolled era, the industry will be in a position to take preemptive steps to avoid massive surpluses and shortages in sugar by exporting or importing. Today, the government has to wait for stocks to build up before it takes a call on exports.

By then, domestic prices crash and so do international rates,'' says N. Ramanathan, MD of Ponni Sugars Erode, and President of the South India Sugar Mills Association. An efficient sugar sector with comfortable cash flows will also pave the way for greater vertical integration of the industry. Today, there are 651 sugar mills in the country but all they manage to produce is one billion litres of ethanol and 900 MW of cogenerated power. Lack of adequate profits today has rendered most sugar mills financially weak, if not sick, and they have not been able to invest in allied businesses.

"At current sugar capacity, the industry can generate 2.5 billion litres of ethanol and meet three per cent of India's gasoline requirement,'' says Raghunandan of EID Parry. With a consistent long-term policy it can even increase to five per cent. "The industry can also generate up to 8,000 MW of power by burning bagasse, a by-product of cane crushing,'' he adds.

Large, efficient and vertically integrated sugar mills could register higher profits and turn attractive for the investors. "Today, we take a limited exposure to the sugar sector as its performance is linked to governmental policies that are at most times inconsistent,'' says a fund manager with a leading mutual fund. "As we have seen in other sectors such as telecom and auto, foreign investment could well flow into a decontrolled sugar sector once investors are convinced of its long-term prospects,'' he adds, requesting anonymity.

The ball now lies in the court of a reformist prime minister whose government is in the best position to let go of the industry. If political pressure overwhelms him, the promising future of this sector will remain a sweet dream.