The Influence of India's Export Restrictions on the World Cotton Market

Monday, November 01, 2010

Many people have emailed asking me to comment on the recent run-up in global cotton prices. To be sure, recent price gains have put quite a scare into the textile supply chain as everyone from cotton merchants to apparel brands have felt the effects of higher cotton prices and reduced margins. This squeeze, in turn, has left many wondering if these higher prices are here to stay or will ease before too long. I'm sure most will agree that prices will ease at some point, but knowing exactly when is anyone's guess.

At any rate, it is clear that several forces have collided resulting in record-high prices for cotton (at today's writing hovering around US $1.25/lb on the ICE Exchange). This confluence of forces includes increased demand for cotton by textile mills around the world thanks to a general replenishment of cotton inventories that were drawn down during the global recession, coupled with a poor crop in China, flooding in Pakistan and a restriction by the Indian government in cotton exports. Consequently, the market has had to deal with a classic case of too much demand for too little production resulting in dramatically higher prices for cotton -- in fact, as I read over the weekend, resulting in greater gains in cotton prices than those posted in gold so far this year!

Although the supply and demand issues are due primarily to the vagaries of market demand and the unpredictability of nature, the actions of the Indian government are clearly identifiable and have only made a difficult situation worse. In its efforts to ensure an expanded (and moderately priced) supply of cotton within India for local textile mills -- a competitive tool, to be sure -- the Indian government has artificially restricted the supply of cotton on world markets via its imposition of an export quota. Further, this has been made even worse by a government policy that has been imposed, then dropped, then reimposed several times which has only built insecurity into a global cotton market already reeling from an already tough supply and demand situation.

But the impact of these government policies on the market has been hard to quantify -- until now. A new analysis developed by the National Cotton Council (NCC) has helped to frame the impact of Indian government policy on the global cotton market. Needless to say, according to the NCC, the impact has been significant:

"India, the world’s second largest producer and processor of raw fiber, is a wildcard in the current cotton market. Over the past decade, increased production has allowed India to emerge as the 2nd largest exporter of cotton. However, since April, India’s use of various restrictions on cotton exports has greatly added to the volatility and uncertainty in the world cotton market.

Following the April 19 announcement of an export ban, the difference between the world price and India’s Shankar-6 internal price grew to 13 cents. Prior to the announcement, the differential between the two prices averaged 5 cents. By introducing an artificial gap between world and internal prices, India’s uncertain export regime conveys benefits to their textile industry at the expense of textile industries in other countries.

An analysis of India’s cotton situation indicates that absent any export restrictions, India’s cotton exports could have reached 7.76 million bales in ‘09/10, an increase of 1.21 million bales from actual levels. For ‘10/11, India’s exports under a scenario of no export restrictions are estimated at 5.46 million bales, or 660 thousand bales above USDA’s current estimate. Based on market share data for key importing countries, each 1-bale increase in imports of Indian cotton translates into a 0.85-bale decrease in imports of US cotton. In ‘09/10, applying the 0.85 coefficient gives a US export decline of 1.03 million bales. Consequently, US ending stocks would be 1.03 million bales above actual levels for the ‘09/10 marketing year. For the ‘10/11 marketing year, India’s increased exports under the scenario translate into 560 thousand bale reduction in US exports relative to the October World Agricultural Supply & Demand Estimates (WASDE). Combined with increased beginning stocks, total ‘10/11 supplies available to the US textile industry would be 1.59 million bales higher than projected levels that incorporate existing export restrictions."

I recommend reading NCC's full report, which you may download from their website HERE.

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