19 Jun 2015 15:24 IST

MSP's pros and cons

Minimum support price is a powerful tool to guide farmers and the market, if properly used

As part of its contingency plan, in case the monsoon fails this year, the Government on Wednesday announced an increase in the minimum support price (MSP) for a range of agricultural commodities, mainly food grain such as paddy, jowar, bajra, ragi and maize, and pulses such as tur dal, moong dal and urad dal. The increases range from around 3.7 per cent in the case of paddy to a little over 6 per cent in the case of tur and urad dal.

Incentive for farmers

What is MSP and how does it work? Why is the Government raising it to counter a weak monsoon?

MSP is the price that the government assures farmers that it will pay them when it procures grains from them. Public procurement of food grain is a regular activity of the government and is meant to build its stock, both as a reserve and also for release in the public distribution system (PDS).

The MSP set by the Government is a signal to both growers and the market on expected prices for the cereals, grains and pulses. It effectively forms the base price below which farmers would not sell their produce. To that extent, the MSP sets the price trends for the market. But more important is the signal the MSP sends to farmers themselves. A higher MSP acts as an incentive for farmers to shift to the particular commodity if they are not growing it already. And for those farmers who are already growing that commodity, it acts as an incentive to increase the acreage under cultivation.

For example, the Government’s intention in increasing the MSP for tur dal by a steep 6.4 per cent is to push farmers to cultivate more tur dal as it anticipates a shortage this year. Thus, farmers are expected to shift from cotton and soya bean this kharif season to pulses such as tur, urad and moong dal as they would be more remunerative. The consequent higher output, the government hopes, will bridge some of the deficit in demand-supply for pulses.

The MSP can also be used to send a negative signal to the market and farmers though it rarely happens. The Government could reduce the MSP if it is already sitting on large stocks of grains or is expecting a bountiful harvest. Last year, the government did not increase the MSP for food grain because its godowns were overflowing with existing stock.

Powerful instrument

The MSP is, thus, a powerful instrument to guide farmers and the market. Unfortunately, it has been misused on many occasions in the past for political reasons. It is not unknown for governments to increase MSP just to get farmers’ lobbies on its side. Indiscriminate increase in MSP can send wrong signals to the market and lead to a rise in prices and consequently, inflation.

This is what happened during the last Government when MSP was consistently increased for foodgrains and cereals even when the government godowns were overflowing. The result was a sharp rise in inflation as market prices for food grain rose even as procurement by the government increased and there was no space to store them in the Food Corporation of India godowns.

The consequent rise in farm incomes also pushed up prices in rural India as farmers with higher disposable income splurged on goods and commodities.