Impact of price change on supply and demand for Rice in Andhra Pradesh and West Bengal

Chandralekha Ghosh1
Ajitava Raychaudhuri2

Abstract

Rice is emerging as a vital export item after the opening up of agriculture market in India. To formulate
effective macro economic policy for ensuring both export and domestic consumption of rice, it becomes
imperative to understand the dynamics of rice demand and supply. Acknowledging the fact that demand
for rice is dependent upon overall consumption fund and other consumption needs of a given household
we have employed the theoretical framework of Almost Ideal Demand System (AIDS) to formulate our
household demand system using NSSO household survey data. Similarly it is also important to
understand the supply elasticity of rice so that direction of supply with the implementation of
agricultural trade policy can be examined. We have estimated a tranlsog cost function along with the
share equations using Seemingly Unrelated Regression Equation Estimation( SURE) and used the
estimated coefficients for estimating the supply coefficients using cost of cultivation data, as available
from Ministry of Agriculture, Government of India. Using theses elasticities, an effort is made to
understand the possible impact of a price change consequent upon opening up of the rice market on rice
demand and supply. We have taken two states in India, namely Andhra Pradesh and West Bengal for the
analysis since they are the two major rice producers in India and rice has the biggest share in the
consumption basket of households in these two states.

JEL Classifications: Q11, C01, C3.

Keywords: Almost Ideal System, SURE, Demand Elasticity, Translog co

1
UGC lecturer of Umeschandra College , under University of Calcutta.( ghoshchandralekha@yahoo.com)
2
Professor , Department of Economics, Jadavpur University, Kolkata.
1
 Impact of price change on supply and demand of Rice in Andhra Pradesh and West Bengal
Introduction
In Indian agriculture rice holds a special place, being suited to the soil and climate of the country more
importantly, being a labour intensive crop, rice absorbs a large section of the rural labour force and in
that sense is a dominant source of employment in the country( Ghosh et al,1995;Ghosh,2002).Above all,
several studies have demonstrated India’s comparative advantage in rice and under the given conditions
the prospect of rice export. True to this hypothesis rice has emerged as a prominent export item with the
initiation of economic reforms. Until Recently, export in India was a residual in nature, so the demand
projections will enable us to determine the export potentiality of some commodities ( FAO,2004: Marjit
& Raychaudhuri,1997).Given this background I have tried to examine the potentiality of surplus
generation from two large rice producing states by estimating the demand and supply elasticity. In the
liberalized economy the demand projections will give us an idea about the future domestic demand of
food. As the economy is opening up the price levels and income levels are changing. In this changing
scenario the demand elasticities will help us to get an idea about future trend of demand of some
important food items. Similarly the supply elasticity will enable us to get an idea of the trend of supply
with the change in price. Ultimately both the elasticities will help us to get an idea regarding the
availability of surplus rice in future which can be exported.
In this paper we have tried to estimate the demand elasticities of food items rice 3, othercereals 4,
milk5, egg fish meat6, edibleoil, pulse, spices, clothing7 and fuel lubricants8 in West Bengal and Andhra
Pradesh mainly using NSSO data. Actually Andhra Pradesh and West Bengal are two large producers
of rice producing approximately 10.14% and 16.61% of rice respectively. This paper is an exercise to
estimate demand elasticities of major food items and two basic non –food items dress and fuel and
lubricants in two states of India and also supply elasticity of rice taking into consideration cost of
production. The purpose is to understand what might happen to demand for rice once the rice market is
opened up to global competition and also to determine the supply elasticity so that we can determine the
potential for surplus from these two states. Section-I is the introductory section. In section –II we have
given a brief literature survey on demand. Section-III deals with theoretical model and data for
determining the demand elasticity. In Section-IV we have presented the demand elasticity results and
also presented an analysis of the estimated results. Section –V deals with supply elasticity and has tried
3
Rice includes rice sold in open market and rice sold through PDS.( Rice)
4
Othercereals=Total Cereals-Total rice (Other_Cereal)
5
Milkproduct means liquid milk and curd. These two types under milkproduct covers almost 80% of the milk product.( Milk)
6
Milkfishegg includes egg, fish, goatmeat, beef, chicken-(Efm).
7
Clothing includes items like dhoti, saree, cloth for shirt, readymade garments, footwear( Dress)
8
Fuel and lubricants includes electricity, LPG, ordinary kerosene, kerosene supplied by PDS and coal (Lub).
2
to integrate supply and demand of rice in two states so that potentiality of surplus rice can be obtained.
Section –VI is the concluding section.

Section-II
Literature Survey on Demand
In case of India on the one hand population is reaching one billion, on the other hand the
agriculture sector is opening up. Thus there is a need to examine trend in the consumption pattern. There
is a large literature on food demand. Radhakrishna and Murty(1980) adopted piece wise expenditure
system to find out income and price elasticity for different income groups. The parameter estimates of
the Linear Expenditure System(LES) differ a good deal across the expenditure groups and between
rural and urban areas, indicating the existence of non-linearities in consumption pattern. Although
rural –urban dichotomy exists, the variations across the expenditure groups are more striking than rural-
urban variations for the corresponding expenditure groups. As one moves from the lower to higher
expenditure groups, the marginal budget share of cereals declines sharply in both rural and urban areas.
The fall in marginal share is compensated by other non food items. Among cross price elasticities cereal
cross price effect dominates. It is sizeable and negative. For non-food items it is large and negative.
Kumar and Mathur(1996) have shown the demand for food is not only influenced by income changes
but also by differences in the urban and rural lifestyles, the development of more advanced marketing
systems, occupational changes that are closely linked with increasing per –capita income. Their study
has revealed that structural shift was negative for rice, coarse cereals, pulses, milk and sugar and
positive for wheat, edible oil, vegetables, fruits, meat, fish and eggs. The magnitude of structural
difference between rural and urban areas for food was higher in the year 1987 than in the year1977.
According to this study the structural changes will bring about major shifts in the consumption of milk,
fruits, vegetables, and livestock in rural and urban areas. This will provide incentive to the producers to
diversify production and diversification will provide enhancement of income of producers. Rao and
Gulati(1994) have evaluated food security in terms of changes in relative prices. He points out that the
relative prices of foodgrains have declined as a result of green revolution. The low income groups
spend a larger proportion of their income on food grains than the upper income groups; hence the former
have benefited more than the latter in the recent times. Murty(2000) using NSSO data for the period
1972-1994 observed wide variations in marginal budget shares and demand elasticities across income
groups, rural urban sectors and alternative models. The household size, consumer taste and preferences
are found to be statistically significant. According to this study income elasticities are quite high even
for the staple food items. The marginal budget shares (MBS) are larger for substitutes and cereal
substitutes in rural areas than urban areas. The opposite is true for all other items. MBS decline with rise
3
in income. The non –food exhibits exactly opposite pattern. Lowest 30 % of the income group in rural
India spends half of their income on cereals. The ‘rural-urban’ difference is small compared to across
income group differentials. But Linear Expenditure System overestimates budget share for lower income
group. The income elasticities of demand are quite on the higher side, exceeding unity in many cases,
even for staple items like cereals. The elasticities seem to decline marginally for food item like cereal
across income levels. The income and own price elasticities are uniformly smaller in the case of food for
urban population than their rural counterparts. This shows that the urban consumer is less responsive to
income and price changes in the case of food consumption than their rural counterparts. The income and
own price effects show similar pattern across model alternatives, although the magnitudes are different.
Srinivasan(2003) used reduced form demand equations to estimate per capita household expenditure
on different food items as a function of per capita household expenditure( proxy for income),
household characteristics such as household size, land possessed etc, dummy variables for sources of
income and social characteristics. Separate equations have been estimated for expenditures on each
class of food items considered : grains, sugar, edible oil, pulses, vegetables, milk and meat. According to
Srinivasan the decline in cereal consumption is due to decline of coarse cereals and also due to rise in
cereal prices. Scholars like Radhakrishna and C. Ravi(1999) have come out with the significant
finding, based on NSSO data that per capita household demand for foodgrains has been declining.
According to Radhakrishna and Murty(1999) the decline in the demand for cereals is due to change in
taste and preferences. According to Rao(2000), the decline in the cereal demand is an indicator of
improvement of welfare. But according to Saha (2000) the expenditure on non-food items has been
increasing not due to improvement in welfare but due to increase of price of essential non-food items
like fuel, light, medical expenses, etc. Nelson Perera(2001) has used NSSO data of 50 th round (1993-
94) to estimate own price elasticity, cross price elasticity for different consumption groups for rural
India. Five expenditure share equations for rice, wheat, coarse cereals, milk and milk produce and other
foods are estimated with a linear approximation of the AIDS model (LA-AIDS). The LA-AIDS model
has been estimated by system method of estimation, seemingly unrelated regression (SURE) with
homogeneity and symmetry restrictions imposed. Parameter estimates have been used to compute price
and expenditure elasticities of demand for commodities like rice, wheat, coarse cereals, milk. This study
provides elasticities for those commodities for each expenditure group in each state. This study depicts
low own price elasticity for rice and wheat. Rice and wheat are essential commodities. Even though the
own price elasticities for coarse cereals are less than one, the relatively high own price elasticity
estimates reflect that coarse cereals are more price elastic than rice and wheat(See Appendix table-1
for summary of literature survey). There is a vast literature which deals in liberalization of rice market.
Most of the studies have shown that in case of rice the domestic price is below the international price.
4
Gulati and Narayanan(2003) observe that opening up Indian economy may lead to increase in the
domestic rice price. Wijegunawardane Agbenyegah using Lincoln Trade and Environment Model
(LTEM) has observed that consumer price in India are predicted to increase with full liberalization.
Most of the studies in case of India for estimating the demand elasticities have been at the aggregate
national level and based on food items. There are very few studies at the state level. In this paper we
have tried to estimate demand elasticities at the state level and we have not only taken the food items
but also the essential non-food items like lubricants and dress for our estimation purpose so that we can
get an idea about the substitution between food and basic non-food items. Another important feature of
our study is that we have taken the 55th round unit level NSSO data corresponding to 1999-2000 for our
estimation purpose.

Section-III
Model and data
Methodology for estimation of Elasticity in system Method.
Many of the studies have used Linear Expenditure System( LES) for estimating demand
elasticities but LES has some limitations. LES is too restrictive because of additive preferences and
hence unrealistic for empirical use involving dis-aggregate items of consumption. Additive
preferences do not allow inferior goods into analysis. Due to these limitations efforts in applied demand
analysis have centered on specifying demand equations that allow non-linear Engel curves and non
separate preferences. Almost Ideal System is one such functional form proposed by Deaton and
Muellbaur (1980). This model has been shown to overcome most of the limitations of LES and hence
the adjective “almost ideal”. The AIDS model is a first order approximation to any demand system and
it aggregates perfectly over consumers without forcing linearity on the Engel curve. It satisfies the
axioms of choice exactly, it has a functional form which is consistent with known household budget
data, it is simple to estimate, largely avoiding the need for non-linear estimation and it can be used to
estimate the restrictions of homogeneity and symmetry through restrictions on fixed parameters.
The AIDS model is a time series generalizations of PIGLOG ( Price Independent Generalized
Logarithmic) Engel function introduced by Leser(1976), wi = αi + βi LogY where wi is the budget
share on the ith item and Y is household total expenditure. The time series generalization would
require the inclusion of prices explicitly. This can be achieved by making the parameters α and β
functions of prices in a number of ways. The AIDS model is one such attempt. Alternatively, demand
systems can also be derived using an appropriate cost function. A general PIGLOG cost function
may be specified as

5
LogC (U , P ) = (1 −U ) Log {a ( p )} +ULog {b( P )} where U is a specified utility level and a(P) and b(P)

are positive linear homogeneous functions of prices and are interpreted as the costs of subsistence
and bliss respectively. Deaton and Muellbauer(1980) have chosen the following forms for a(P) and
b(P).

1
Loga(P) = αo + ∑αi LogP i + ∑∑γ ij LogP i LogP j
2
βi
Logb(P)= Loga ( P ) + β oπ j =1 Pj
n

So that the AIDS cost function becomes

∑ α LogP + 1 2 ∑ ∑ γ
β
LogC(U,P)= α O + i i ij LogPi LogPj + Uβ o π nj=1 Pj j -------------(1)

Where α, β and γ are parameters. The Hicksian demand functions can be derived directly from
equation (1) using Sheppard’s Lemma.

∑γ
βj
wi = αi + ij LogP j + βiUβoπ nj=1 Pj -----------------------------------------(2)
j =1

where γ ij = 1 (γ ij + γ ji )
* *
2
For a utility maximiser consumer, total expenditure is equal to the cost and using this relation, we can
eliminate U from (2) to get AIDS model as
wi = αi + ∑ γ ij LogP j + βi Log (Y / P )( i = 1,2...... n) − − − − − − − − − − − (3)
1
where , LogP = αo + ∑αi LogP i + ∑∑γ ij LogP i LogP j − − − − − − − − − (4)
2

Eq-(3) can be thought of as a first order approximation to an unknown relation between budget share,
income, prices. The theoretical restrictions on (1) translate themselves into restrictions on the
parameters of (3). These are :

6
∑α i =1, ∑βi = 0, ∑γ ij ( Addingup )( j =1,2,......... n) − − − − − (5)
j

∑γ ij = 0(i =1,2,......... n)( Homogeneit y ) − − − − − − − − − − − − − − − ( 6)

γ ij = γ ji fori ≠ j.......... ..( Symmetry ) − − − − − − − − − − − − − − − − − (7)

It is well known that the restrictions (5), adding up conditions, are part of a maintained hypothesis of
any demand system because of data construction itself. For the same reason, this hypothesis cannot be
tested. Thus, with the help of AIDS one can test only the restrictions implied by homogeneity (6)
and symmetry (7) and any other apriori restrictions like implicit, or explicit additivity, homogeneity
etc.

Like in other functional forms, negativity cannot be tested through any restriction on the parameters.

C ij = γ ij + β i β j Log(Y ) − wi δ ij + wi w j is negative semi definite.

P
For the AIDS model, it can be shown that the expenditure and price elasticities are given by,

π io = 1 + β i w
i
γ ij wj
π ij = − βi − δ ij
wi wi δij =1 for i=j, δ ij = 0 for i ≠ j

The most interesting point of equation (3) from econometric viewpoint is that it is very close to
being linear. Apart from the expression P in eq (3), the parameters can be estimated equation by
equation by OLS. As regards P, the restrictions on α and γ ensure that (4) defines P as linear
homogenous function of the individual prices. In many practical situations, where prices are collinear P

may be approximated by an exogenous price index, for example as that used by Stone, ∑w
j =1
j LogP j .

The model using this approximation is called the Linearly Approximated Almost Ideal Demand System(
LA-AIDS). In case we do not want to use the approximation for P, then the AIDS model in (3) will be
non-linear in parameter and therefore requires non-linear estimation.

7
In this paper we have used Almost Ideal System (AIDS) with lineraised Approximation (LA) for the
price level to estimate the own price, cross price and expenditure elasticities. The general form of the
equation is

wi = α i + ∑γ ij LnPj + β i Ln (Y ) + vi − − − − − (8)
j
P

where wi is the expenditure share of the ith commodity, Pj is the price of the jth commodity, Y is the
total expenditure, vi is the error term of the equation and P is the price level defined as follows.

n
LogP = ∑ w j LogPj [ wj is the expenditure share of the jth commodity ]
j =1

Data
The data used in this study comes from National Sample Survey. We have used reports
“Household Consumer Expenditure” from 42nd round to 60th round to represent the trend of share of
major food items within the food consumption basket. Although the consumption of cereals has declined
and that of high value food items have increased there has not been significant change in the share of all
the food items in the consumption basket. We have taken seven food items rice, other cereals ( cereal
other than rice),fish egg meat (chicken, pork, beef, egg, fish, meat),edible oil, pulses and spices. These
seven commodities constitute about 80% of the total food consumption. We have taken clothing
footwear and fuel lubricants from the non food group for our analysis. These nine commodities have
been analyzed. As the data on prices are not reported in the reports we could not work on the time series
for estimation of price and income elasticities. We have used NSSO unit level data for 55th round for
estimation purpose. In this sample the value of consumption and also quantity of consumption for a
period of 30 days are reported. We have obtained implicit prices by dividing the value of the
consumption by the quantity of consumption. We have worked on 5179 observations for rural AP, 3801
for urban AP. The corresponding figures for WB are 4550 and 3432 respectively.

Estimation
The Almost Ideal Demand System has been estimated by Seemingly Unrelated Regression
Estimation technique with the help of SAS software. The homogeneity, symmetry and addtivity
conditions have been imposed in the estimation procedure. In order to incorporate additivity the pulse

8
share equation has been dropped but the coefficients of this share equation have been estimated using
the homogeneity condition.9

Section-IV
Comparative Study of consumption of different commodities in Two States.
Rice occupies an important position in the consumption basket in both rural and urban areas in
both the states. But the share of rice and other cereal is more in case of rural areas than the urban areas
in both the states. Rice occupies 41 % of the consumption basket in rural AP and 30 % in urban AP. The
corresponding figures in case of WB are 45% and 24 % respectively. The percentage of consumption of
other cereal is 3.91% in rural AP and 3.56% in urban AP. The corresponding figures for West Bengal
are 8.49% and 9.51% respectively. The share of combined cereal consumption expenditure in WB is
more than AP in both rural and urban areas. The share of consumption expenditure on milk products,
lubricants, dress, spices, pulses out of total consumption expenditure is greater in rural AP than rural
WB. There is not much difference in the share of consumption expenditure on edible oil in the rural
areas in the two states. But in urban areas the share of consumption expenditure on milk products,
spices, and pulses within total expenditure is greater in AP than in WB. The corresponding shares of
each of the commodities in urban AP are 13%, 4.88%, 6.75% respectively. But the shares of milk
product, spices, pulses in urban WB are 4.76%, 4.00% and 4.55% respectively. In urban WB
eggfishmeat10 and lubricant occupies 14.52% and 15.67% respectively in the consumption basket. But
the corresponding figures in Urban AP are 7.48% and 14.33% respectively. The share of eggfishmeat is
greater in WB than AP in both rural and urban areas. The share of milk product is greater in AP than
WB in both rural ad urban areas.
Another important observation across both the states is that the shares of milk, egg fish meat,
dress and lubricants are high in urban areas in both the states compared to rural areas. The share of high
value food commodities are greater in urban areas than rural areas in both the states.( See appendix
Table 2 for the mean shares of the different commodities in the consumption basket).

Comparative Study of Expenditure Elasticity in both the states

In this paper we have estimated the demand elasticities. There is not much difference in case of
rural urban elasticities. Many of the previous studies like Murty(2000) pointed to this fact. In both the
states the expenditure elasticities of rice and other cereal are greater than one in both rural and urban
areas. This implies that as the income increases there is increase of consumption of these commodities in
9
Due to paucity of space we have not presented all the parameter estimates. The authors can provide these estimates on
request.
10
Eggfishmeat includes egg, fish, goatmeat, beef, chicken.
9
greater proportion than the increase of income. But the expenditure elasticity in case of rice is greater in
AP than WB in both rural and urban areas. So we can conclude that the responsiveness of the change of
consumption of rice with the change of income is more in AP than WB in both rural and urban areas.
The expenditure elasticity of dress is greater in AP than WB in both rural and urban areas. The
expenditure elasticity of spices and pulses are greater than one in urban AP but they are less than one in
urban WB. In case of rural AP the expenditure elasticities of edible oil and pulses are greater than their
corresponding parts in case of rural WB. The expenditure elasticity of lubricants, edible oil, spices, and
dress are less than one in both rural and urban areas in both the states indicating that these commodities
are inelastic in nature. They are actually essential commodities and there is little variation in their
demand with change of income. The expenditure elasticity of dress is lowest of all the types of
commodities in both rural and urban areas in both the states. Actually we have incorporated basic dress
which consist of basic essential dress. So dress is found to be inelastic in nature.

West Bengal Andhra Pradesh

Term Rural Urban Rural Urban
1.02639 1.07366 1.10434
rice income elasticity 1 8 2 1.103081
1.20351 1.14248 1.29217
otcer income elasticity 1 1 6 1.163018
0.94822 1.26982 1.20665
milk income elasticity 6 9 6 1.202261
1.07998
efm_inc_eals 1.18147 1.1457 3 1.218102
0.85328 0.98356 0.79868
lub income elasticity 8 9 6 0.971622
0.75020 0.35310
dress income elasticity 4 0.56922 1 0.265
0.73715 0.90707 0.92684
Spices income elasticity 6 6 4 0.972041
0.84531 0.90902
edioil income elasticity 3 0.90957 9 1.100143
0.95885 0.96167 1.06515
pulse income elasticity 7 2 5 1.162339

• All estimates are significant at 1% level.

Comparative Study of Own price Elasticity and Cross Price Elasticity of rice in the two states.
The own price elasticity of rice is negative for both the states which implies that it is a normal
type of commodity.11 The magnitude of the own price elasticity is less than one. This means that rice is
11
We have only reported own price and cross price elasticity of rice , other elasticities can be obtained from the authors on
request.
10
inelastic in demand. The magnitude of own price elasticity of rice is greater in rural AP than rural WB.
But in case of urban areas the own price elasticity of rice is greater in WB than AP. But the cross price
elasticities of rice with most of the commodities are negative in both the states in both rural and urban
areas. In case of WB in both rural and urban areas the cross price elasticity of rice with all the
commodities is negative except with other cereals in urban WB where it is positive. In case of rural AP
and urban AP except the cross price elasticity of rice with spices all the cross price elasticities of rice are
negative. Actually the income is limited, so as the price of rice increases the real income falls. Due to
substitution effect, with the rise of rice price the consumption of other commodities rises, but due to
income effect the consumption of other commodities are falling. As the income effect is dominating the
substitution effect, the overall consumption of other commodities is falling after the increase in price of
rice. The cross price elasticity of rice with respect to other cereals, milk, eggfishmeat, spices are greater
in rural WB than rural AP. This implies that as the rice price changes the consumption of these
commodities changes in greater proportion in rural WB than in rural AP. In case of urban areas the own
price elasticity of rice is greater in WB than AP. The magnitude of cross price elasticity of rice for
eggfishmeat, dress and pulses are greater in urban WB than in urban AP. Apart from rice own price
elasticity of other cereals, spices and edible oil is greater in rural WB than rural AP. In urban areas the
own price elasticity in case of edible oil and other cereals are greater in WB than in AP.

11
 Own and Cross Prices Elasticities of Rice with other Commodities
Other Milk Egg Fish
Geography Rice Cereals Products Meat Lubricants Dress Spices Edibleoil Pulse
West Bengal
Rural -0.66342* -0.0730* -0.0851* -0.0611* -0.0091* -0.0849* -0.0111* -0.0227* -0.0159*
West Bengal 0.0189*
Urban -0.6487* -0.0924* -0.0185 -0.0264 -0.275* -0.0049 0.0002 -0.027*
Andhra
Pradesh Rural -0.6915* -0.0862* -0.0823* -0.0227* -0.0378* -0.1189* 0.0026* -0.0354* -0.0322*
Andhra
Pradesh
Urban -0.6305* -0.0663* -0.0909* -0.0019* -0.0658* -0.2201* 0.0132* -0.0197* -0.0211*

Future trend in demand

As the economy opens up, it is expected that the price of all the food and non-food items will change.
Our main purpose of study is to examine future trend in demand for rice. Most of the studies on
liberalization of rice trade states that full liberalization of rice market in India will increase domestic rice
price(Gulati and Narayanan,2003).Given this background we have calculated exponential growth rate of
the wholesale price of some important commodities at all India level. The exponential growth rate of
wholesale rice price has gone up in the nineties compared to the eighties. The exponential growth rate is
3.96% for the period 1991-2001. But the exponential growth rate of pulses and edible oil though
statistically significant and positive in nineties, is less than that of the eighties. The minimum support
price also shows a positive trend in the nineties ( See Appendix table 3 & 4). The estimated own price
elasticity of rice is negative so there is going to be decline in the domestic demand of rice. If this trend
of increase of rice price continues in future then this may lead to generation of surplus rice which can be
exported.
Apart from direct effect of rice trade liberalization there could also be a lagged effect operating
through agricultural wages and employment. Higher rice prices could stimulate production, which can
be expected to increase demand for labourers driving up the wages. Gulati and Narayanan (2003) have
observed that in India there has been rise in real agricultural wages along with rice price. But according
to recent estimates based on agricultural wages in India, real agricultural wages were growing at 5 % per
year in the eighties and 2.5 % in the nineties. Thus real agricultural wages were growing at faster rate in
the eighties than in the nineties. The data on the real wages also provide state specific patterns. In some
of the states the growth in the real wages are lower than all India level growth of 2.5%.Andhra Pradesh
and West Bengal fall under this category ( Deaton and Dreze,2002). We have calculated the exponential
growth rate of real wage rate using data from Economic Survey and Labour Bureau. We have observed
the exponential growth rate of real agriculture wage of adult male in AP is 2.5% and in WB it is 1.2%.

12
But at the all India level the growth rate is 2.9%. So although the real agricultural wages are increasing
the relative growth rate is low in the nineties compared to the eighties. With respect to income effect and
direct price effect the two states under consideration tends to show a decline in the demand for major
food items specially rice. From our study we observe that rice expenditure elasticity is positive and
greater than one so from the second round effect of liberalization of rice trade there may be decline in
rice demand. The cross price elasticity of rice with almost all the commodities indicate that as income is
low, the rise in price of rice forces the consumers to curtail consumption of other commodities to
accommodate consumption of rice since it is a necessary commodity. In the nineties the strength of
direct price effect and expenditure effect are stronger than the eighties leading to a decline in the
demand for rice. Ultimately whether due to liberalization of rice market the demand for rice will
increase or decrease depends on relative strength of income effect and substitution effect in future.

Section-V

Supply Elasticity

Literature Survey on Supply Elasticity

Most of the studies on elasticity of supply have been done at the aggregate level and on aggregate
agriculture output. There are very few crop specific studies based on state level data. In most of the
individual crop specific studies as well as aggregate level study pioneering work of Nerlove (1958), the
dynamic supply model based on the concept of adaptive expectation model has been used. Most of the
supply response studies made in India dwelt on estimating acreage response rather than on output
response of the farmer to price changes. Some of the important acreage response studies which used
India data are : Nowshirvani (1962), Raj Krishna (1963), Rao and Jai Krishna (1965), Dharma Narain
(1965), Rajagopalan (1967), Parikh(1972), Madhavan(1972). All these studies except Dharm Narain
employed various Nerlovian forms. Dharam Narain’s analysis was based on graphical methods.
Although acreage response has been of considerable study, relatively little work has been done on output
response. The elasticity of output with respect to its price is the sum of the elasticity of acreage and the
elasticity of yield per hectare. World Bank(1980) conducted a study based on Nerlovian model on output
response and obtained output elasticities for rice which was significantly higher than the acreage
elasticity for post independence period. The study obtained at the all India level an elasticity of 0.45 for
rice. Narayan and Parikh(1979) developed a two stage model. In stage one the farmers were assumed to
allocate their land to different crops used this was followed by stage two, in which, given areas, farmers
allocate inputs and non-land factors to different crops to maximize profits.
Although Nerlovian Model has been used by most of the economists they did not find
satisfactory results. Ghosh and Neogi(1995) used Rational Expectation Hypothesis to examine the
13
output response of rice and wheat with respect to government policy and price for the period 1964-65 to
1985-86 at the aggregate level. The results show that any upward revision of procurement price heralds
the possibility of greater withdrawal from market supply, pushing up the expectations about the market
price. Irrigation has a positive and significant impact on supply. Lagged production has negative impact
on supply, implying that stocks carried over has enough influence on market and supply. The elasticity
of supply to lagged price is 0.36 for rice and elasticity to rationed amount is as low as 0.092.The
elasticity with respect to procurement price is reasonably high. The recent work on aggregate supply
response is also based on Nerlovian model by Chandrasekhar and Rao(2004).
But now after economic liberalization when the role of government is declining cost of
production should be the main determinant of the supply response but almost there has been no studies
examining the role of cost of production in influencing the supply response. I have tried to estimate the
output elasticity considering the cost of production.
Ghosh(2003) has examined different scenarios of opening up of the economy for rice in case of
different states considering differences in technology, productivities and transport costs. He observed
that gains would vary regionally and may not be positive in all cases when both the output and input
prices are globally aligned. This study has considered different scenarios (1) Calculations under reported
yield rates and valued at prevailing domestic prices, (2) Calculations valued at external price of output
and prevailing price of inputs and reported yield rate(3) Calculations valued at external prices of both
output and tradable input and reported yield rate.(4) Calculations valued at prices as in (3) but yield
adjusted to price regime. In every scenario it is observed that AP has a positive advantage and the
domestic price is increasing after the opening up. But WB has very high farm harvest price and very
high input co-efficient values so according to this study WB will not benefit from rice export as the
domestic price will fall after opening up.

Estimation of Supply Elasticity

We have obtained marginal cost function as MC = VY + VYY LnY + ∑ YiY LnYLnP i by differentiating
the translog cost function

1 1
LnTC = V0 +VY LnY + VYY ( LnY ) 2 + ∑ Ai LnP i + ∑∑ Aij LnP i LnP j + ∑YiY LnP i LnY + GT T + GTT T 2 +
2 2
with respect to Y. In case of perfect competition P=MC so the derived supply function in this case is

P = VY +VYY LnY + ∑YiY LnP i

. This inverse supply function has been used for deriving the supply

elasticity at mean price and output level. The elasticity of supply with respect to price is

14
 α
ε= where α = VY + VYY LnY + ∑YiY LnPi [Pi = Input price of the ith input].Using the
α − α + VYY
2

above formula the supply elasticity has been derived and the parameter estimates have been represented
in appendix table-6. We have estimated supply elasticity of West Bengal and Andhra Pradesh for the
period 1971-1999. The supply elasticity is -1.83927in case of West Bengal and is -1.57835 in case of
Andhra Pradesh.
In our earlier finding we have obtained economies of scale in both the states. The elasticity of
cost with respect to output has been found to be negative in both the states. But the magnitude of
elasticity of cost with respect to output is higher in Andhra Pradesh than West Bengal. The supply

∂LnTC ∂LnTC ∂LnTC

elasticity has two components12 and . If we consider that is almost same in
∂LnY ∂LnP ∂LnP

∂LnTC
both the states then the main determining factor of the output elasticity is . As this factor is
∂LnY
negative in both the states the output elasticity is negative and as the magnitude of this factor is greater
in case of Andhra Pradesh than West Bengal, the output elasticity of West Bengal is greater than Andhra
Pradesh. So my result is in conformity with my earlier findings.
The supply elasticity is negative in both the states. This implies that if the price increases then
there will be fall in supply. The negative supply elasticity implies economies of scale. So if the economy
opens up then if India behaves like a large country and if the domestic rice price falls after liberalization
then there will be increase in supply of rice from both the states. The negative demand elasticity implies
with the fall in price there is going to be increase in the demand for rice. Ultimate availability of surplus
from these two states will depend on magnitude of both the demand and supply elasticities of these
two states. The magnitude of demand elasticity in case of both the states in both urban and rural areas
is less than one but that of supply elasticity is greater than one. This indicates that if the domestic price
falls then increase in the supply of rice will be more than increase in the demand so there is possibility of
generation of surplus rice after meeting the domestic need in both the states.
But if after opening up of the economy, the domestic price increases then there is going to be
reduction in supply of rice due to prevalence of economies of scale in both the states. The demand will
also go down. The ultimate surplus will depend on the strength of demand and supply effects. As the
magnitude of demand elasticity of rice is less than one in both the states in both rural and urban areas but

∂LnTC
∂LnY ∂LnY ∂LnTC
12
εS = = = ∂LnP
∂LnP ∂LnTC ∂LnP ∂LnTC
∂LnY
15
the supply elasticity is greater than one, there is going to be a decline in the supply of rice more than the
reduction in the demand and there will be scarcity in the rice market.

Conclusions
Almost ideal demand system( AIDS) has been used for estimation of price and expenditure elasticity of
rice along with other important food items and dress that comprise the basic items of consumption. The
own price elasticity for rice is negative and less than one but the expenditure elasticity of rice is greater
than one in both the states in both rural and urban areas. However, the magnitude of own price elasticity
in two states in two different areas are different. In rural areas the own price elasticity of rice is more in
AP than in rural WB. But in urban areas the trend is just the opposite. The expenditure elasticity of rice
shows that AP is more responsive in terms of change in demand for rice in both rural and urban areas.
The expenditure elasticities are greater than one which indicates there is increase in rice consumption in
greater proportion with the increase in income. The trend in the price movement of rice is positive so
due to price effect there is going to be a decline in the demand for rice. Agriculture real wage rate is also
showing a downward trend. This also well explains the reason for declining demand for rice in the
nineties compared to eighties. But the potentiality of surplus generation depends on both demand and
supply of rice. The supply elasticities for both the states are negative indicating economies of scale. The
availability of surplus rice depends on the price situation of respective states after opening up of the
economy. If opening up of the economy leads to increase in rice price then there will be net fall in the
supply of rice after meeting the demand in both the states. But if the rice price falls then there will be
availability of surplus rice. The magnitude of demand elasticity of rice in rural AP is greater than rural
WB, but the supply elasticity is greater in WB than AP so if the economy opens up and if the change in
the price is same in both the states and if the price falls, then surplus generation will be more from rural
WB than rural AP. So whether there is going to be net availability of rice for export from each of the
two states depends on the situation of domestic price after opening up of the economy.

16
Appendix
Table-1
Name of Period of Aggregat Model Commodities Results
Authors Study e or State
Level
Study
Murty(2000) NSSO data on National 1> LES13 1>Cereals & 1> The expenditure elasticity of demand for food
Consumer level 2>NES 14 Substitutes items like cereals, pulses, milk and edible oil
Expenditure study at 3>AIDS15 2>Pulses declines with rise in income. The opposite
1972- urban and 3>Milk & Milk pattern is observed for other food and non-food
73,1977- rural level Products items. The expenditure elasticity for the cereal
78,1983,1987 4>Edible oil& Fats and cereal products and substitutes is 0.8963.
-88,1993-94 5>Meat, Fish &Egg ( AIDS model –rural level )
6>other Food 2> The own price effects vary across income
7>Total Non-Food groups and rural urban sectors. They are
relatively larger for highest income group. The
own price elasticity of cereal and cereals
products is -0.3834.( AIDS- RURAL )
3> The income and own price elasticizes are
uniformly smaller in case of food for urban
population than their rural counterparts.
Perera(2001) NSSO 50th State AIDS 1> Rice 1> This study shows low own price elasticity for
Round (1993- Level 2>Wheat rice. All the own price elasticities for rice are
94) study 2> Coarse negative and less than one for all states. For
Cereals West Bengal the own price elasticity varies
3> Milk from -0.669 for very poor to -0.366 for non
4> Otherfood poor high. For Andhra Pradesh the
corresponding elasticities -0.624 and -0.164
2> The expenditure elasticities of rice are positive
but widely varies from state to state. The

13
LES- Linear Expenditure System
14
NES-Nasse Expenditure System
15
AIDS- Almost Ideal Demand System

17
 expenditure elasticity for very poor income
group in West Bengal is 1.072 and for non-
poor high income group the expenditure
elasticity is 0.728.The corresponding
elasticities in Andhra Pradesh are 0.948 and
0.733.

Ray and NSSO data State 1>LES 1>Cereal and RURAL

Meenakshi(199 for 1972- level 2>QES16 Cereal Expendi LE QES AIDS QAID GQAID
8) 73,1977- Study( rur 3>AIDS Substitutes ture S S S
78,1983,1987 al and 4>QAIDS17 2>Milk and Elasticit
-88. urban) GQIADS18 Milk products y of rice
3>Meat, fish AP 0.9 1.11 1.04 1.03 0.82
and Egg 4
4>Other Food WB 0.8 1.05 1.04 1.02 0.78
9
URBAN
AP 1.1 0.79 0.95 0.69 0.69
8
WB 0.7 0.70 0.30 0.50 0.44
7

Bhalla et al. NSSO 50th National 1> Log 1> Cereal

(1999) Round Level Inverse 2> Meat and The expenditure elasticity of cereal for rural
( Rural Expenditure eggs households is 0.29.
and Function 3> Milk and The expenditure elasticity of cereal fro urban
urban) Milk households is 0.18.
products

16
QES- Quadratic Expenditure System
17
QAIDS-Quadratic Almost Ideal System
18
GQIADS- Generalized Quadratic Almost Ideal System

18
19
Pattern of Consumption within rural Households
Fig-1
Rice

PERCENTAGE OF RICE CONSUMPTION WITHIN

TOTAL FOOD GROUP

60
PERCENTAGE

50
40 AP
30 WB
20
10
0
d

d
th

th

th

th

th

nd

th

th
un

un
42

44

48

50

56
46

54
52

ro

ro
th

th
58

60

NSSO ROUNDS

Fig-2
Other Cereal

P os ition of O the r Ce re a l w ithin food Cons um ption

8
6
Percentage

AP
4
WB
2
0
th
th
th
th
th

th
th
th
th
nd
44
46

50

54
56

60
42

48

58
52

NSSO Ro u n d s

20
PATTERN OF CONSUMPTION WITHIN URBAN HOUSEHOLDS
Fig-3
Rice

POSITION OF RICE WITHIN THE FOOD GROUP

40
PERCENTAGE

30
20
AP Fig-4
10 WB
0 Other Cereal
th

th

th

th

th

h
nd

nd

d
th d
58 56t

60 un

un
48

50

54
44

46
42

52

ro

ro
th

NSSO ROUNDS Pos tion of Other Ce re a l W ithin Tota l Food

Consum ption

8
6

Percentage
AP
4
2 WB
0

th
th
th

th

th

th
th

th
nd

nd
44

48

58

60
46

50

54

56
42

52
NSSO Ro u n d s

Source: Household Consumer Expenditure and Employment – Unemployment Situation in India,

NSSO Reports, various Rounds.

Table 2: Share of Commodities in the Consumption Basket

Andhra
West Bengal Pradesh
Commodity Rural Urban Rural Urban
45.49 41.29
Rice 1 24.692 0 30.624
Other Cereal 8.493 9.516 3.915 3.500
10.02
Milkprod 4.765 6.827 0 13.467
Eggfishmeat 12.95 14.525 7.854 7.484
21
 5
Lub and fuel 4.208 15.669 6.063 14.327
Dress(Cloth and Footwear) 8.112 13.236 9.720 12.616
Spices 4.003 3.844 6.560 4.879
Edibleoil 7.417 7.073 7.127 6.355
Pulse 4.556 4.618 7.451 6.749

Table-3
Exponential Growth rates of wholesale price index some important agricultural commodities.
Crop Period 1981-01 Period 1981-91 Period 1991-01 Chow Test F-
Values
Rice 3.6314* 2.699* 3.9583* 16.8533*
Wheat 3.278* 2.4401* 3.8563* 20.6862*
Pulses 4.2586* 4.3046* 3.7245* 0.90878
Tea 3.417* 4.3953* 2.7281* 1.3328
Raw Cotton 3.7844* 2.4764* 2.9401* 7.4794*
Jute 3.3946* 4.2647* 3.0681* 0.6699
Sugar 3.1176* 2.1267* 3.2858* 2.4548*
Edible Oils 2.9866* 3.7683* 1.052* 18.3388
Cotton Yarn 4.2851* 3.4688* 4.027* 2.4125
* significant at 5 % level of significance.
Source: Computed using data from Indian Agriculture in Brief,2000.

Table-4
Minimum Support Prices ( Rs per quintal)

Padd
Year y
Common Fine Superfine
1982-83 122
1983-84 132
1984-85 137
1985-86 142
1986-87 146

22
1987-88 150
1988-89 160
1989-90 185
1990-91 205 215 225
1991-92 230 240 250
1992-93 270 280 290
1993-94 310 330 350
1994-95 340 360 380
1995-96 360 375 395
1996-97 380 395 415
1997-98 415 - -
1998-99 440 - -
1999-
2000 490 - -
2000-
2001 510 - -
Source: Government of India, Ministry of Finance, Economic Survey.

Table-5
Trend in Daily real Wage Earnings of Adult Male Agricultural labour in Agriculture
Occupations.
AP WB India
1991-92 7.524454 7.340354 7.72056
1992-93 6.666667 6.881582 7.242658
1993-94 7.24 8.56 7.62
1994-95 7.86264 8.0036 8.047482
1995-96 8.075718 7.58021 8.016097
1996-97 8.197661 8.425403 8.526722
1997-98 8.55262 8.67985 9.132972
1998-99 8.256699 7.820545 8.990498
1999-00 8.597701 7.871378 9.093888
Note: Computed using data from Economic Survey (for the growth rate) and Rural Labour enquiry :
Report on Wages and Earnings, Labour Bureau.

23
Table-6
Parameter Estimates of the System Equations(1970-1999)
AP WB
Cons -22.3602 7.48113
LnY 19.3753 1.36173
(LnY)2 -5.62135* -0.60212
LnPHL 0.973027*** 1.06813***
LnPBL 0.598408*** 0.823308***
LnPF 0.02119 -0.14689* **
LnPL -0.71173*** -0.73399***
(LnPHL)2 0.19622*** 0.238119***
(LnPHL)( LnPBL) -0.04251*** -0.06892***
(LnPHL)( LnPF) -0.01912* -0.0182
(LnPHL)( LnPL) -0.10725*** -0.10792***
(LnPBL)2 0.096539*** 0.122816***
(LnPBL)( LnPF) 0.002872 0.024849* **
(LnPBL)( LnPL) -0.05993*** -0.09423***
(LnPF)2 0.146819*** -0.04182***
(LnPF)( LnPL) -0.12077*** 0.035925* **
(LnPL)2 0.300553*** 0.156084***
(LnY)( LnPHL) 0.058405* ** 0.053039
(LnY)( LnPBL) -0.04703* -0.0455* **
(LnY)( LnPF) 0.224806*** -0.00359
(LnY)( LnPL) -0.23545*** 0.006982
24
 T 0.029536 0.037009***
2
T 0.006634* ** 0.004546***
* 10% level of Significance,** 5 % level of Significance,*** 1 % level of Significance

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