Monday, December 5, 2011

The retail liberalization debate

The decision by the Union Government of India to liberalize Foreign Direct Investment (FDI) norms in multi-brand retail trade has sparked off an intense debate about fears of the WalMartization of India and massive job losses in the trading sector.

The liberalized retail norms include 100% FDI in single-brand retail, and 51% in multi-brand retail. Among other conditions, the liberalization would be implemented in million-plus cities in first phase, fresh farm produce cannot be branded and 30% of the inputs have to be sourced from small enterprises, and multi-brand entities will have to bring in an investment of $100 million. Retail constitutes a $430 bn market in India, with organized retail forming just 10% of the total and being confined to the larger cities. It is estimated that 30-40% of fresh produce goes waste and more than half of this can be brought to the market if the proper farm-to-fork infrastructure is in place.

There are primarily five stakeholders in retail market - organized retailers, unorganized retailers, farmers/producers, consumers, and governments. It is easy to rationalize the benefits for governments (infrastructure investments), consumers (choice and better quality of produce), and producers/farmers (better prices). Given the precedence of other markets which have been liberalized, it is safe to argue that organized retailers too will adjust to the changes, improve their productivity, embrace newer technologies and processes, and become more competitive. This means that the concerns about the liberalization of retail trade can be mainly confined to the unorganized retailers. The debate should therefore be focused on its impact on them and what can be done to mitigate it.

There is a need for careful strategic thinking on the details of this liberalization policy with regard to its impact on the unorganized retailers. How do we calibrate the first wave of liberalization, so that it is initially restricted to those areas - places and products - least likely to affect them? What should be the sequence of opening up so as to minimize its adverse consequences? What should be the conditions imposed on the retailers permitted to enter Indian markets? Discussion and analysis of the liberalization that addresses these issues will considerably enrich the debate and is certain to increase the effectiveness of policy making itself.

It is unfortunate that the mainstream debate in electronic and print media on the issue has been dominated by ideological sabre rattling. There has been very little objective empirical analysis of the underlying market trends. For example, given that the central concern is about the impact on unorganized retailers, certain questions follow. What is the share of these retailers in the cities proposed for liberalization in the first phase? Where are the existing unorganized retailers located and who are their customers? Are those located in these areas likely to be swamped by the larger retailers? What is the market share and structure of existing organized retailers in these cities? Who are the typical customers of the organized and unorganized retailers?

In fact, atleast in non-food retailing, the trend towards organized retailing has already moved far ahead in many states. For example in the southern states like Kerala, long the bastion of left-wing parties, the ubiquitous chain of Margin Free shops may have already marginalized the traditional mom-and-pop stores in all but the smaller villages. The widely acclaimed Rythu Bazars in Andhra Pradesh, which seek to offer producers an opportunity to directly market their farm produce, carry within them the seeds of crowding-out middlemen and unorganized retailers of perishables.

In the larger Indian cities, the big box Indian retail chains have already captured a major share of the market from unorganized retailers. Even without foreign competition, the Reliances, Mores, and Food Bazars are already expanding aggressively into neighbourhoods within smaller cities and towns and displacing the unorganized retailers. This trend will only continue apace. However, even with this assault, given the sheer size and diversity of the markets in urban India, neighbourhood mom-and-pop shops, with a long history of personal relationships, are likely to adapt and survive.

There is an important difference between the business models of big box retail chains in India and those in US and Europe. The market for big hyper-markets and malls in India is limited for variety of reasons - cost of space within cities, limited space availability, opportunity cost associated with shopping in these often distant shops etc. In the circumstances, the preferred model of expansion will be through smaller franchises spread out across the city. In this, the domestic organized retailers have already taken the pole position and the entry of foreign retailers will be significant more for the intensified competition among them rather than for the marginalization of small unorganized retailers.

At a purely intuitive level, a carefully calibrated liberalization of retail trade, with the first phase restricted to a handful of big cities, appears to be an excellent strategy. Given the massive size of markets in these cities, it is certain to generate a significant impact on the incentives in the downstream production and procurement segments. The infrastructure investment requirement will mean that it will spur substantial investments in cold storages and go-downs, transport logistics and so on.

Farmers will be able to deal directly with these large procurers (who and their agents can be held accountable), instead of the fragmented and largely invisible intermediaries, and thereby get better prices for their produce. Consumers will benefit by way of choice and better quality. All these developments take place at the back-end of the production-consumption chain. The impact on retailers will be taking place in cities where that impact is already felt and would have deepened, albeit less efficiently and more slowly, with already expanding domestic retailers.

This entry of retailers presents a great opportunity to deploy randomized control trials (RCTs) to a natural setting. For example, given that it would be implemented only in a few cities, it would be possible for researchers to locate or design an RCT setting. The impact of the entry of foreign retailers can be evaluated objectively to arrive at answers to some of the questions raised earlier in the post.

Update 1 (6/12/2011)

Good story in the Times. Barely 6% of India’s $470 billion in retail sales takes place in organized retail stores, in contrast to more than 20% in China, 36% in Brazil, and 85% in the United States.

I also feel that shopping habits may be an important factor in how customers take to retail liberalization. People use the big retail malls for large, monthly or weekly-once, purchases. For a number of reasons, the local kirana shop would be convenient for smaller purchases. How many people in India make bulk purchases? It would be surprise if more than a small share of people would be making such bulk purchases. And these people, with or without foreign retailers, would, in these million-plus cities, by now have already gravitated to the Indian retailers.


Rajesh said...

I think most of the points are valid. However, I am yet to come across one segment or one initiative in india that has been carried out by following RCT. The suggestion that farmers will be directly able to negotiate with big purchasers ( retailers) is an ideal wishful thinking.....the way our system and bureaucrats function it is a distant dream. May be the parliament is in log jam because nobody is tahr some sane person will follow up the issue and make rational decisions. Our bureaucrats, decide to take jobs that excite them ( mind you this RCT may not excite them) and grease their palms and when they do not do their basic mandate correct, tibias far fetched to expect them to do random trials.

Politician as suchnis omitted by the expenditure he has done, how yo recover and how to contest ...... In this scenario the only time the apprehensions at least could be voiced is the way it is dealt in parliament.

As long as bureaucrats who want exciting jobs and

Anil Nilugonda said...

There are times the farmer has to sell his produce far less than his production costs. this is a great boon for farmers. Is it really happened when McDonalds or KFC or any other western food chains introduced in India, Did People stopped eatng dosas, or Idly's ?, Instead they've made a more westernized dosas. and other thing is I still dont go to Big bazar to buy a tooth paste but I look to buy at a local retail shop.

Jayan said...

It is known that we have one of the worst food management. Question is will FDI improve anything? Or is FDI the only thing that could improve our food management?

The mandi is going to be controlled by local politician. Water and electricity will not be available when needed. Seeds will be low quality. Loans will be difficult. Farmers face problems in every step. Just having FDI is not going to help.

(I am puzzled about the tax payment made by local kirana shop. This area may improve with organized retail; doubtful on that too)

KP said...

Dear Gulzar,

this is part 1

At the outset let me state that I am not convinced about the way the policy was introduced.

As always in India policy introductions are preceded by little debate - and it appears that majority implies a mandate for anything the government deems to its convenience.

- Clearly if retail is expected to have improved the entire supply chain with large figures of savings touted - then somebody must explain why such fantastic savings have not already been achieved or why there is no will internally to invest and expand on that success?

- Cold chains / supply chains are not rocket science, so why were we waiting for Walmart (or whoever) all these years???

- The issue of front-end fragmentation is being linked with back end efficiency - but back end consolidation is already on - so what is keeping us back from massive savings and farmer prosperity in agriculture - does the market not have enough incentive to invest without FDI?

- the farm-gate to factory gate story has been deflated / and there is no explanation for the deep subsidies for agriculture in the developed markets that are more completely served by these chains - Arun Jaitley's column in economic times refutes the logic. (And, no I am not interested in the politics of you were for / you were against - I am more concerned about the dogma that opening markets is the solution to all our problems irrespective of party in power).

The sourcing argument using China as an example is flawed, and again I will not repeat the arguments in the link.

However, the government assurance of 30% sourcing from SME’s – monitored by the government – is more like a threat of expanded government - I am reminded daily that the government monitors / regulates fire safety - air pollution and hazardous waste - driving licenses – among other things - so do I need to explain ?

- The political issue of flip-flopping is a story that seems to get repeated play in a media that is mostly pro-FDI in all sectors except off-course in the media business - politicians should reflect street sentiment or shape it - the danger is in consistency for its sake - and worse when consistency or flip-flopping is to serve the establishments private gain. Dogma is the least preferred.

- Why does reform imply FDI? Is the government in the game of strengthening our economy - or is it in the game of providing exit options for a select few. The retail story does not seem to show the kind of profits that chains must automatically provide to Indian investors, but international investors find these rates of returns attractive.

- Beats logic why large captive buyers implies that sellers will benefit? I am sure there are instances both of this and its exact flipside operating - and that is purely dependent on the nature of the specific market - again the axiomatic argument is only one of convenience.

- The ‘reform through FDI’ appeared to be clearly addressed at business - but sold as a benefit for the consumer - and had all the makings of a slick PR exercise to satisfy select interests – again, fragmented retailing will theoretically have less capability to drive prices at the front end whereas big box retailers can ostensibly control pricing - here I am arguing against being sold entirely on axioms that are driving this policy.


KP said...

"If only the concrete and countable are admissible in arguments within the public sphere, then externalities that are harder to identify and quantify will be ignored and decisions will be made in incomplete knowledge. This is likely to result in suboptimal outcomes in the larger perspective and longer term...When pragmatists attempt to conceal the self-interests and ideological bases of their choices and assertions under the cover of pure rationality, pragmatism becomes even more deeply ideological (in the pejorative ‘‘deceptive’’ sense)...."
a quote from a recent paper by prof Kenneth Paul tan on the “ideology of pragmatism” in Singapore. ( the reference below)

There are a lot of questions unanswered - has there been a complete absence of will to improve the agricultural sector, as the knowledge of efficiency related advances have been in the public domain for a long time now –that it required till 2011 to talk supply chains / cold chains – was this a complete abdication of governments responsibility all these years – if this is the cause for more than 50% of foodstuff perishing?

Finally the credibility of politicians was what was at stake in the exercise – people are cynical about government intentions – in various states in various stages parts of the retail supply chain have been opened in various forms ( and maybe not in precisely the form that international retailers want it to be) retail is undergoing reform – but there is no coherent argument being made about the quantum leap of faith that “FDI with international players in front – end retail is all that is keeping us from making our farmers prosperous and increasing the spending power for consumers”.

The seemingly pragmatic state, appears to have faltered, for one additional reason – retail is culture – the uniqueness of production / local consumption that are tied to dietary habits and traditions are a part of the “unquantifiable” parts of the public sphere – and while there is a tendency towards an equivalence in urbanization / westernization – food and its cultural traditions ( apart from religion as a cultural tradition), may be the last of the bastions to fall to a purely pragmatic / consumerist / managerial and bland disposition of our politics.

We are left with little leadership / lot of confusion / and very low credibility of the political process.

Regards, KP.