Price risk and poverty

A common feature of markets in many developing economies is a lack of integration. Trade across areas may be hindered by high transportation costs, limited information and communication, and policies that create barriers to trade. As a result, there is substantial variation in prices for basic commodities across space, often even within local geographic areas. Lack of integration implies that households may face substantial risk from local supply shocks. If a harvest is poor in a particular village, food prices in that village may rise suddenly and substantially. Poor households are likely to have difficulty insuring against such price risk.

This project will examine three related aspects of price risk. First, how exposed are poor households to price risk of basic commodities, and what are the consequences for nutrition, child outcomes, and productivity? Second, to what extent could price risk provide a rationale in favor of in-kind transfers (e.g., in the form of food and fuel) relative to transfers in cash? Third, is the effectiveness of in-kind transfers in providing insurance against price risk undermined by corruption incentives?

We plan to study these issues in the context of India and its Public Distribution System (PDS). India provides an attractive context to examine these questions: local markets are not well-integrated and are subject to price volatility arising from weather shocks. The PDS is a large program of in-kind transfers, providing subsidized basic food and fuel commodities to over 65 million households per year and comprising 1.3% of GDP. A commonly stated rationale for this program is that it protects the poor against price shocks, which is important in a context in which many are vulnerable. However, we do not know to what degree this is true in practice, particularly given that there is substantial evidence that the PDS suffers from high levels of corruption. Similar issues are highly relevant across Asia and the rest of the developing world.

Our data comes from 8 rounds of the Indian National Sample Survey (NSS), a nationally representative survey that includes detailed information on household expenditures. The analysis sample is comprised of 551,267 households over a time period spanning 2003 to 2012. We use expenditure and quantity consumed data to examine the price volatility of PDS and non-PDS commodities over time. The NSS also provides data on the calorie count of food items, allowing us to calculate measures of caloric intake to see how price risk affects households’ caloric consumption.

Through policy research and data analysis, we have identified at least 9 states in India that have had significant policy changes related to the PDS (e.g. price decreases or coverage expansions), which we will use as sources of variation in the PDS. Additional work on this project has focused on building the theoretical foundations. Currently, we are in the process of linking this model with the empirics. We intend to complete the link and the analysis by the fall, and have a draft ready by the end of the year.