'Competition Commission cases against poultry companies are baseless'

Over the last two years, the Bangladesh Competition Commission has accused many poultry companies of colluding to artificially increase the price of chicken and eggs. Several poultry companies including Kazi Farms have been declared guilty by the Commission, and fined crores of Takas. However, the proceedings have made it clear that the Commission has not understood the economic principles which lead to fluctuating prices in markets for agricultural commodities. Correct evaluation of any market situation requires first studying and understanding the economic theory behind it; hence this article.

The Competition Commission's method of inquiry has been to compare cost of production and selling price. A high profit has been considered evidence of collusion. This does not agree with economic theory. Price fluctuation is inherent in the economics of agricultural markets. Eggs and chicken, like other agricultural products, are not assembled in a factory, but grown on a farm over a period of months. The amount of rice available in the market today depends on how much rice was planted at the beginning of the last rice growing season by farmers, and the same applies to eggs and chicken. How do farmers decide how much rice, eggs or chicken to produce each growing cycle? Supply and demand determine the market price. Whenever there is a shortage, the price goes up. The higher price motivates farmers to produce more in the next production cycle. So in the next production cycle there will be more supply, and the price will fall. That's why prices in agricultural markets fluctuate in the short term, but ultimately serve to increase supply and prevent shortages in the long term. The occasional high short-term prices and lower long term prices are all considered fair by economists, as long as there are many producers competing with each other. In fact this competition among tens of thousands of small producers accurately describes the Bangladesh poultry market. An economist would say that any market with thousands of producers is a competitive and fair market, and not susceptible to collusion.

But farmers can never predict the exact quantity of eggs and broilers which will be required, as no one can accurately predict the future. In a particular production cycle there will often be too little production or too much production compared to the demand. Such imbalances cause prices to fluctuate. This explanation of agricultural commodity price fluctuation is called "cobweb theory"; it was named by economist Nicholas Kaldor at LSE in 1934. Within a few years, chapters on cobweb theory could be found in economics textbooks such as 'Agricultural Price Analysis' by Geoffrey Shepherd which was published in 1947 (which is available for free download from Iowa State Digital Press); I am including the following supply and demand graph from page 31. The graph shows price P on the vertical axis and quantity Q on the horizontal access. There is also an upward sloping supply curve S showing that increasing quantities of goods progressively require use of more expensive raw materials and higher prices; as well as a downward sloping demand curve D showing that quantities of goods consumers are willing to purchase decreases as the price increases. Standard economic theory holds that market prices and quantities of goods are set where the supply curve meets the demand curve.

The name 'cobweb theory' comes from the fact that the above graph, which shows movements in prices and quantities along the supply and demand curves, looks like a spider spinning a cobweb. Initially, the quantity produced might be the excessively large quantity Q1, most likely the result of overly-optimistic forecasts of quantity demand on the part of farmers. This results in the low price P1 for quantity Q1 on the demand curve D. The low price makes farmers pessimistic and reduces the quantity grown in the next cycle, and so the quantity will decrease over time to Q2 (which is the amount suppliers on the supply curve S will be willing to produce at the low price P1), creating a shortage. But this lowered quantity Q2 intersects the demand curve D at the higher price P2; so the shortage raises the price. It's critical to understand that this shortage and consequent price rise happened naturally and without collusion among suppliers, simply because farmers were unable to predict the future demand accurately: in fact, this is always the case in real life. However, the efficiency of the market is that it self-corrects, because farmers will see the high price as an incentive to grow more. So in the next production cycle the higher quantity Q3 will be produced, and the price will fall to P3, close to P1. This sequence of events describes the cyclical and fluctuating prices characteristic of agricultural markets. The critical insight is that the market's natural remedy for a shortage is temporary high prices, which in a competitive scenario always results in increased supply and lower prices over time.

From the above, it is obvious that the Competition Commission's accusations of price fixing and wrong-doing whenever egg and broiler prices rise for a few months are misguided. Cyclical fluctuations in agricultural markets are normal, and do not indicate collusion. There would only have been grounds to accuse the poultry industry of wrongdoing if prices were persistently high for a long period such as a year or more, and if supply did not increase to reduce the shortage. This has never happened. Any record of egg and broiler prices will show that they regularly fluctuate, just as predicted by the cobweb model with a high level of competition. 

The other piece of evidence for a competitive poultry market is that if price fixing were going on, egg farmers and broiler farmers would never lose money as monopolistic companies would reduce production to ensure continuous high prices and profits. But in fact, any observer can see that the prices of eggs and broilers continuously fluctuates in Bangladesh, and usually every year broiler and egg farmers make losses for at least one or two months. This is evidence that prices are fluctuating in a competitive agricultural market as described by the cobweb model.

Other countries also have competition agencies. In developed countries such agencies are generally staffed with qualified economists holding either Masters' or even PhD degrees. Otherwise it's impossible for them to judge whether price movements in markets constitute illegal non-competitive activity. Unfortunately, what we have seen is that in Bangladesh the Competition Commission is sorely lacking in economic and business expertise; it is apparently unaware of economic theories such as the cobweb model of agricultural pricing, even though this has been covered by standard agricultural economics textbooks over most of the past century. Due to its lack of expertise, the Competition Commission has assumed the existence of price-fixing where there is only the normal price fluctuation of the cobweb model. This is resulting in crores of Takas of fines being handed out without justification, which will discourage investment and slow down economic growth. To ensure justice, as well as the future development of the poultry industry in Bangladesh, the cases against the poultry industry should all be dropped, and the Competition Commission should immediately be reformed by the government to include qualified economists.

The author, Zeeshan Hasan, is a director of Kazi Farms Group and Deepto TV.

Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the opinions and views of The Business Standard.