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The Viability of Warehouse Receipt Financing in Pakistan

Jan 23, 2018
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Tags :
  • Access to Finance,
  • agriculture,
  • financing in pakistan uptake study,
  • Agriculture is one of the biggest sectors in the economy, contributing 24 percent to Pakistan’s GDP.[1] It is also the largest employer in the country, accommodating 45 percent of the country’s labour force.[2] Like numerous other sectors, it faces a number of challenges that include but are not limited to shortage of and access to finance such as, volatility in input and output prices, natural disasters, power shortages and weak infrastructure. On the point of infrastructure, lack of proper storage and warehousing facilities impose a major cost on the sector. It is estimated that post-harvest losses for grains are 15-18 percent; while around 25-40 percent of the produce is lost in the case of fruits and vegetables.[3] An efficient mechanism of avoiding such high losses is Warehouse Receipt (WHR) financing, and has been employed by a number of agricultural economies.[4]

    WHR financing is a form of institutional credit extended by banks to farmers and traders against physical commodities stored in licensed warehouses. The system, by enabling farmers to desist from distress sales immediately after harvest, enables them to attain higher prices for their produce, resulting in improved returns. The WHR financing mechanism, supported by a developed ecosystem and strong linkages between farmers, financial institutions, warehousing and subsidiary service providers, may therefore prove vital for improving efficiency, transparency of the distribution of agricultural commodities, and benefit to all stakeholders.

    The mechanism was introduced in Ghana in 1989, in collaboration between the Department for Cooperatives (a technical service provider) and the Agricultural Development Bank (Ghana), with the objective to provide access to finance to farmers, along with reducing food insecurity and increasing resilience to natural disasters and climate change. As a result of the initiative, farmers’ profits increased by an average of 94 percent a few years later, reaching a total of 130 farmer groups and with 100 percent loan repayments. The system was launched officially in November 2017 and is anticipated to increase farmer income levels, reduce poverty and act as impetus for growth of other sectors of the economy.[5]

    In India, the warehousing industry is valued at around INR 560 billion, with a 10 percent annual growth. The WHR financing mechanism in the country came into effect in 2010, and since then, there has been an 800 percent increase in the amount of credit disbursed to farmers by formal financial institutions.[6] India also has a strong Warehouse Development and Regulatory Authority (WDRA) that aims to grow and develop the warehousing sector in the country. Some specific objectives of the authority include: [7]

    1. Implementation of the negotiable warehouse receipt system
    2. Improving trust in the system of banks and other financial institutions
    3. Encouraging scientific warehousing of goods

    Potential beneficiaries of the system in India include the farmers, financial institutions, insurance companies, commodity exchanges amongst others.

    The WHR financing mechanism essentially involves the interplay of three main components:

    1. The legal and regulatory framework: This is a core ingredient and is developed in two phases. The primary legislation provides the structural framework whereas the secondary legislation entails transfers of warehouse receipts and establishing transactional and operational procedures of the WHRs, amongst others. Two regulatory bodies are ideally required for effective WHR financing, including a government regulatory agency and a collateral management company (CMC). The former is responsible for defining the structural framework and for licencing, regulatory and inspection procedures of warehouses whereas the latter overlooks the implementation of licencing processes, maintains the database and undertakes inspection of warehouses and issues warehouse receipts.

    The State Bank of Pakistan (SBP) in 2014, developed a framework for the WHR financing mechanism. Thereafter the Securities and Exchange Commission (SECP) formulated the Collateral Management and Warehousing Regulations 2017, which have been approved by the Federal Cabinet in May 2017. Currently, concerted efforts are underway for the development of secondary legislation.

    1. Production and Storage of Commodities: Given that the WHR mechanism entails that commodities stored in warehouses are considered as collateral for financing, the storability, scalability and an increase in post-harvest price are necessary factors. Currently, the major crops in Pakistan, including cotton, sugarcane, rice, maize and wheat have an annual yield of greater than a million tonnes and are thus above the benchmark considered vital to be traded under the WHR financing mechanism. However, Pakistan lacks sufficient infrastructure for post-harvest treatments, preservation of quality, storage and other important components for efficient working of the WHR financing mechanism. Similarly, price adjustments after harvest can result in considerable profit or loss scenarios for farmers. However, trends for the previous five years show that price increases are generally prevalent in Pakistan for all major crops identified.

    1. The professional and financial services landscape: A network of professional and financial services, including insurance mechanisms, performance guarantees and quality verification services are the third component for efficient working of a WHR financing mechanism. A warehouse, the goods within it, and other risks related to the staff need to be insured in order to minimise risk for the farmer and the bank. Similarly, a performance guarantee providing compensation if there is a mismatch in the quality or quantity of the goods stored, has to be in place for the warehouse receipts to be accepted by the traders and the banks. Additionally, independent monitoring and standard verification services are also required to grade the quality of goods stored in warehouses.

     

    While Insurance markets are well developed in Pakistan, the mechanism for performance guarantees and indemnity funds is almost non-existent. Several organisations for quality grading, including SGS, Bureau Veritas and Cotechna are also present in the country, however it is imperative that standards and grades are pre-determined and established on international commodity exchanges so as to align domestic and international parameters.

    The Way Forward

    There are several aspects which require attention in order to catalyse the process and ensure the proper implementation of the WHR financing mechanism in Pakistan. These include the development and adoption of the secondary legislation, the development of a CMC and expansion of the storage capacity, amongst others.

    It is imperative that all stakeholders work in close collaboration with each other, championed by the government, to develop the WHR financing mechanism.

    Please visit the following link for the full report: Warehouse Receipt Financing in Pakistan, Uptake Study, 2017.

    [1] Federal Bureau of Statistics. Agriculture Statistics

    [2] Federal Bureau of Statistics. Agriculture Statistics.

    [3] State Bank of Pakistan. Framework for Warehouse Receipt Financing System. P4. 2014

    [4] Warehouse Receipt Financing in Pakistan, Uptake Study, 2017

    [5] Warehouse Receipt Financing in Pakistan, Uptake Study, 2017

    [6] Warehouse Receipt Financing in Pakistan, Uptake Study, 2017

    [7] http://wdra.nic.in/

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