Anti-competitive Activities, the source of rice crisis

Rice, which is the staple food in Sri Lanka, has become the subject of a national issue today. Government appears to being in the dark as to how to tackle issues confronting rice in the context of a market economy. As it is well known, since independence, many successive governments through various public spending programmes, supported by foreign aid, developed the rice production sector with a vehement dedication with the aim of making Sri Lanka a rice self-sufficient country. However, neither producers nor consumers of rice appeared to have benefited to the best satisfaction due to various reasons.

There is a large number of small-sized rice producers scattered around the country. The smallness of their unit of operation precludes the fact that any single producer does not have the power to influence the outcomes of the rice market. On the other hand, the large number of rice consumers also does not individually have the power to influence the market outcomes. According to theory, this situation is best described as a competitive market. In a competitive market, however, the prices should be lower compared to other forms of markets, there should not be shortages of supply, and the quality of the products should be higher. Due to the peculiar nature of rice market, there are various types of anticompetitive activities.

The collection and distribution of rice – the chain linking the producers to the consumers – is comprised by a small number of large traders. This has become the most influential force in the rice market. Though from time to time the governments attempted to make anti-market interventions by creating state monopolistic institutions, the nature and characteristics of the rice market have not changed overtime. The selected intervention led to further distorting the rice market rather than correcting it. According to theory, these middlemen or rice traders are to get their share equal to the cost of their transactions. Even though producers of rice sell their products at very low prices, the consumers pay very high prices compared with the producer price. It is very essential to question as to why there is a huge gap between the producer price and the consumer price of rice in Sri Lanka. The gap should normally be the cost of collection and distribution of rice. But the size of the gap far exceeds the size of the cost that should incur by the traders. This may be due to two reasons.

First reason involves the size of transaction costs. The chain linking the paddy producer to the paddy consumer, there appears to be a considerable number of agents (or nodes) linking one another. The smaller traders collect rice from the producers and sell to the larger mill-owners. The mill-owners sell the products to the large distributing traders who sell the products to the small retailer. You can see here, there are at least four middlemen – small trader collecting paddy, large mill-owner, large distributor, and retailer – each of whom has to retain their share of profit equal to the cost incurred during their operations. For instance, suppose the smaller trader collects one and a half kilos of paddy (to make one kilo of rice) from the producer at 15 rupees and increase his selling price to 10 to cover up his cost of 5 rupees per unit. Then the large mill-owner buys at 20 rupees per one and a half kilos of paddy. The mill-over then converts paddy into rice. The mill-owner sells a kilo of rice to larger distributor at around 45 rupees adding 20 rupees per kilo of rice. This may include the cost for one and a half kilos of paddy (20 rupees), his production cost to convert paddy into rice, and transaction costs. The larger distributor then sells at 50 retaining 5 rupees per kilo of rice to cover up his cost of transaction. Then the smaller retailer sells at 55 rupees per kilo of rice retaining his share of profit of 5 rupees per unit. The producer price of paddy was just about 10 rupees per kilo so that one kilo of rice would cost 15 rupees for one and a half kilos of paddy. But the final price that is paid by the consumer for a kilo of rice is about 55 rupees. Moreover, the final price of rice tends to increase when the number of middlemen also gets increased. In order to reduce the prices of rice, the rice trading system must have to be developed so that transaction costs can be lowered. It is therefore the duty of the government to take measures to reduce large transaction costs taking place in the rice market.

However, this is not the main issue in the rice market. The major source of rice market distortion is related to anticompetitive activities of the rice traders.  These anticompetitive activities of the rice traders include: abuse of dominant positions by the rice traders, trading cartels created by rice traders, discriminatory pricing (such as predatory pricing and dumping), excessive pricing, discriminatory treatment, maintaining resale prices, creating artificial supply shortages, collusive dealings, and reciprocal dealings. The usual higher prices of rice and supply shortages are not due to the higher than normal demand for as rice demand in Sri Lanka is almost stable, but because of the anticompetitive activities of the rice traders. Therefore, the best solution for this kind of situation is not to create a state monopoly institution that further distorts the market but to introduce competition policies and laws to prevent anticompetitive activities in the rice market.

Sri Lanka currently has a functioning market economy with exogenously imposed market failures in the rice market. There are no competition laws to prevent these anticompetitive activities and to increase market competition. State intervention is necessary to correct these anticompetitive practices by rice traders. The anticompetitive activities of the rice traders have increased prices, created supply shortages, impeded innovations, and at the end, reduced consumer welfare. Competition laws are aimed at preventing these exogenous market failures, mainly by different regulatory interventions.

These market failures and distortions caused by the behavior of rice traders justify the introduction of competition laws to prevent and punish those conducts. Competition law is formed by a set of rules and regulations that prohibit anticompetitive behavior, monitor certain business decisions and transactions that may lead to anticompetitive outcomes.

In the rice market in Sri Lanka, despite small size, there are high concentration and entry barriers which give rise to conditions for anticompetitive practices to flourish.

Introduction of competition laws in the rice market creates a number of positive effects. Competition law will be greatly beneficial to rice producers and consumers. The consumers will benefit from lower prices and more availability of rice. Rice traders will be forced to be more efficient and to reduce transaction costs. It will also drive out some inefficient rice traders shortening the rice supply chain, which would help reduce transaction costs and the consumer price of rice. Competition law will lead to positive welfare effects as the intensifying competition may lead to cost savings weeding out inefficient traders, and retaining more efficient low cost traders.

Government should not further distort the rice market by intervening to buy and sell rice (paddy) through creating inefficient state monopolistic institutions such as Paddy Marketing Board. It should rather introduce competition laws to increase market competition eliminating anticompetitive activities in the market. It should also develop the rice trading system in order to reduce transaction costs reducing prices. It should be clearer that there is a new way of intervention by the government in the market through rules and regulations that would in fact increase market competition and enhance consumer and producer welfare.

This submission is from Groundview, an independent publication by CHA on humanitarian issues and peacebuilding in Sri Lanka with narratives and content produced by citizens.