FDI is now necessary in retail sector: Financial Express: 10th July 2010

Food Bazaar, Reliance Fresh and commodity futures trading are sign-posts on the basis of which the story on FDI in multi-brand retail trading should be built. The issue is not really about how much FDI should be permitted or what the clauses that have to be adhered to should be, but whether or not we are prepared to write the script.

The Food Bazaar experience is a very good example of how organised retail can make a difference. This model has brought goods at the best possible price to the customer and also added the backward linkages that are required in the supply chain to deliver a superior product.

Organised retailing necessarily involves the creation of these linkages, where the requisite infrastructure is built and the value-chain truncated to lower intermediation costs. These costs could range between 20% and 65% depending on the product, with horticulture providing just a third of the final price to the farmer. The retail model involves direct procurement from farmers either through contract farming or the mandi, transporting the same to the collection centres where storage facilities are available for grading and processing, (cold storages would be created, if need be), transportation to stores across the region with the requisite packaging, thus reducing wastage. Wastage is currently around 30% of production for fruits and vegetables. In this process, intermediation costs are reduced as the multiple layers of adathiyas are lowered, thus bringing down the consumer price.

Getting FDI into this sector will certainly mean a sea change in the way food is retailed, as it would bring in these backward linkages as part of the business model. Thereby eliminating several points in Section 7 of the Discussion Paper put out by the government. More importantly, they have the financial wherewithal and are prepared for the gestation lags involved in breaking even.

The problem is in our mindset. This is where the stories of Reliance Fresh and the chequered history of futures trading come in. Reliance has been through choppy waters to expand its reach as there is opposition to organised retailing in some states. Any organised form of retailing will affect the ‘mom-and-pop stores’, which cannot compete with the price advantage of organised retailers. There will be displacement of this gentry wherever there is organised retail—Indian or foreign. This fact is inescapable once a market solution, i.e., organised retailing (or FDI in retail at a broader level) is introduced. The existence of foreign investment will only speed up the pace of growth of organised retailing. Integration of these players is a challenge that has to be tackled before a decision is taken.

Now, if one looks at futures trading in farm products, it is an example of how an important part of the derivative market has been stifled with a series of bans being imposed when futures trading were linked with inflation. The problem is really that the primary markets (mandis) are not integrated and futures trading came before mandi reforms, consequently creating a schism. This is unlike the securities market, where the futures market came after the cash market was established. The analogy here is that we need to have strong organised retail before we have FDI or else we will have to be prepared to face contradictions along the way. There is a catch here since organised retailing has not really taken off (3-4% of total retail) because of the absence of finance and sustainability that can only be brought about with FDI. But bringing FDI before we have organised retail will only invoke the strong xenophobic elements in the majority with undesirable consequences.

This is where policy comes in. Are we prepared to have FDI in a sector that will help the consumer but ruffle other constituencies along the way to the extent that the issue becomes politically and socially sensitive? One may recollect that when futures trading was banned in pulses, cereals and sugar, the motivating factor was less economic and more appeasement.

FDI in retail certainly makes eminent sense and has to be pursued in order to provide quality goods to the consumer while simultaneously building infrastructure. Going by the history of organised retail in India, the financial constraints in running such a business make it difficult to conceive of this exercise being completed without the help of FDI. But our psyche needs to change.

Therefore, any policy move should be taken only after considering these issues and when we do go ahead, there should really be no looking back. The creation of a new regulator (one more?) can be considered.