The Narendra Modi government has included onions and potatoes under sections of the Essential Commodities Act.

This is in response to runaway price rise in these sensitive commodities. Onion is perhaps the only commodity in India that has the power to bring down a government.

But the policy response of the government unfortunately plays to the same old narrative—that hoarding is the cause of price rise.

Hoarding does happen, without a doubt. But the reason for this seasonal price rollercoaster lies elsewhere. The onion market is shaped by our laws and policies. And it is certainly not unique—all other crops harvested in the country have the same market structure. Onions simply get more press.

The current system, as I explain below, places too much pricing power in the hands of too few. To make matters worse, these few are often related by community and marriage, making it difficult for law enforcement to crack collusion and price manipulation.

The current market structure

Each state has its own version of the model Agricultural Produce Marketing Committee Act (APMC Act). This determines the market structure—who can buy and sell to whom, where, when and the charges and taxes to be paid at each stage—which has created the onion supply chain as we know it. About 97% of the country’s onion harvest is sold in 50 major onion market yards, regulated under the APMC Act.

And it’s because of this law that India’s onion farmer gets a poor price for his produce even as consumers pay a high price.

Typically, thousands of small farmers bring their produce to a small number of licensed commission agents, traders and exporters at their nearest market. Here, quantity is what counts, not quality. When a large number of farmers are trying to sell to a small number of licensed buyers, they have little bargaining power. They have no access to price information in other markets or about the pipeline of arrivals into the same market, which also has an impact on prices.

Under the APMC law, every commission agent and trader requires a license from every market yard they wish to do business in. So if you wanted to buy from all the established market yards in the country, you would need 7,200 licenses, one for each of the regulated market yards. The bigger catch, though, is that you can only get a license if you own a shop or a godown in that particular market yard.

Since most yards are decades old and unbearably stretched, finding space is virtually impossible. Old shops are prized more than heirlooms, passing on from father to son for generations. Existing traders and agents are organized into associations that fiercely protect their turf and oppose reforms. This requirement thus makes it impossible for new traders and commission agents to enter a market and offer better, market-linked prices.

The result is that traders and commission agents in every onion mandi (market) are an old boys’ club, where membership is hereditary and controlled by an intricate system of marriages and alliances. Collusion and price fixing are rampant but no one will expose his brother.

It also helps that the onion business is highly concentrated. Six of the top ten markets are in Maharashtra and Karnataka. Delhi, Gujarat and Rajasthan have one each. More than half of India’s daily arrivals pass through these ten markets, leaving it up to a small and closed group of powerful traders to set the prices in these markets.

Maharashtra traders often buy up onions in Karnataka markets when they sense a shortage. Politicians make noises, but onion traders are never charged or punished for “hoarding” or for behaving like a cartel, for complex political reasons. (Now, with ESA being clamped, things might change a bit.)

Onions bought from these wholesale traders/commission agents flow into grocery stores to serve over a billion consumers. There are no laws to prevent retailers from charging what they please. Consumers have little or no independent price information. Or indeed any mechanism to bypass this system.

So, essentially, that’s the market: Thousands of farmers funnelling 16 million tonnes of onions into the hands of a few hundred traders who then sell to the world’s largest consumption market in onions. Farmers receive at best 45 paise from every rupee spent by the consumer. Rest is pocketed by traders and retailers.

All of this is perfectly legitimate.

How can we set this restrictive supply pipeline right?

The answer is obvious. We need to allow more competition among traders. That way pricing power doesn’t get concentrated in a few hands. Karnataka is the lone onion-growing state that has seen the light in this regard.

The Karnataka experience

Last year, Karnataka introduced large-scale agricultural marketing reforms through a new law that requires just one license to operate in all of its 500 regulated market yards. It has also expanded the definition of a market yard. Now even a warehouse can be treated as a market yard and farmers can sell at a warehouse near their farm. Previously, they had to travel as much as 380 kms to sell their produce. Companies can set up private market yards and there are reduced charges for direct purchase centres. The fees for trading fruits and vegetables are lower. More traders means more competition and better prices to farmers.

More markets means less stretched infrastructure. Currently, more than one lakh farmers are serviced by one regulated market. The proliferation of new markets and warehousing will stop such crowding and encourage competition.

It doesn’t end there. Karnataka has also introduced an electronic market place that ensures that the quality and quantity of every bag of produce is entered into an online system as a farmer arrives at a mandi. Traders bid for each lot online, even by SMS, and everyone can see the prices being offered, solving to a great extent the bane of India’s agricultural markets—information asymmetry. Farmers are free to reject the offered price and wait for another day. Effectively, there is complete transparency in the daily arrivals, highest and lowest bids and bags sold. Farmers will soon also be paid electronically, thereby ending the commission agent’s control over their cash.

This unified market place has already been found to be successful for several commodities in about 30 markets in Karnataka. Two major onion markets in the state, Gadag and Hubli, have adopted the system. The platform can be easily extended elsewhere. (Disclosure: My employer works with the Karnataka government to implement the electronic marketplace.)

Eventually, the plan is to link all the large market yards in Karnataka into one unified market with seamless price discovery, price dissemination and freedom to enter and exit. The competition among farmers will be offset by competition among traders. And consumers will gain as the number of sellers increase.

We need a unified national market

Since each state is like a fiefdom when it comes to agriculture, Karnataka’s reforms are limited to its boundaries. But the ripple effect will be felt in neighbouring Maharashtra and Andhra Pradesh as local farmers start demanding similar transparency in their own markets. The trader associations will naturally protest. And it is here that the Modi government can step in.

Using the powers granted to it under Entry 42 of the Union List to enact a legislation for the entire country, the Central government can quickly revive the Agricultural Produce Inter-State Trade and Commerce (Development and Regulation) Bill, 2012. It seeks to integrate the fragmented domestic markets for farm produce into a single national market. The Bill was formulated by the ministry of agriculture two years ago based on a suggestion given by a committee of state agriculture ministers.

It provides a single-point registration for all inter-state agricultural trade operations, completely removing the need for multiple registration in each state to buy and sell farm produce. It also specifies that once a trader has a national license, he can’t be asked to pay any market fee on any farm produce brought from outside the state. In short, there is a ready-made Bill that can firmly straighten the distortions we see in our agricultural markets.

All it needs is political will.

The European Union created a single agricultural market with 29 countries. We need a law that unites our 29 states into single agricultural market.