Earlier this week, SBP launched the Electronic Warehouse Receipt Financing (EWR), again. Chundrigar Who’s who were gathered in Punjab’s farming heartland to showcase the muscle power behind the initiative. A much hyped, and publicly held signing ceremony (of system users-agreement by commercial banks) under SBP’s stewardship signals that the Bank has now fully put its weight behind the initiative and aims to take it past the finish line.

Those in the know will perhaps appreciate that the roadshow is – for a lack of a better word – a re-launch. Regulators have been slow brewing the framework for Electronic Warehouse Receipt Financing for much of the past decade, with major milestones achieved with the development of framework by SBP (2014), and formulation of Collateral Management & Warehousing Regulations by SECP (2017), followed by several rounds of amendments in later years.

Several organizations including Karandaaz Pakistan played a crucial role along the way in conducting forceful advocacy. But perhaps none more than Pakistan Agricultural Coalition, which under Arif Nadeem’s leadership conceived and gave birth to Naymat Collateral Management Company (with at least 8 big sponsor groups as co-owners).

The initiative received its final impetus with the revision of Prudential Regulations by SBP (2019). Since then, the project has also been co-opted by the incumbent regime, which reduced import duties on equipment for agricultural warehouses and silos in the FY22 federal budget; and extension of refinancing facility by SBP (2021) for establishment of accredited warehouses with an end-user rate of 6 percent per annum.

With such widespread support, the weak traction of the ERW among both investors and growers comes as a surprise. Granted, that as part of the pilot program only two non-perishable grains – maize and rice – is currently eligible as acceptable collateral. However, considering how EWR is pitched as a resolution of most challenges rampant in the local farming scene: illiquidity, price-volatility, and post-harvest losses; the muted response by farmers demands more attention.

Back in 2019, BR Research highlighted that while EWR is crucial to solving the collateral problem in agricultural lending, it is only a crucial first leg, not the whole equation. By establishing accredited warehouses, banks and CMC shall successfully enable farmers to avoid distressed sales during the harvest season when grain prices are generally lower. However, without a fully functional secondary market, exchange, or a group of commodity traders who act as market makers, the liquidity problem may not be addressed completely, and could continue to keep farmers on the side line.

But by extending financing against commodity pledge, does ERW not attempt to resolve the same problem? Although growers who avail financing against pledge would no longer be forced to engage in distressed sales, they will neither be able to sale on credit terms, forgoing the mark-up price that may be earned by offering a normal credit period to buyer (matching the tenor of loan against ERW). Remember, a margin requirement on collateral value against the sanctioned loan amount is a normal feature of all bank loans.

Post disbursement of loan, if the market price of pledged commodity rises (for example, on T+30 days), grower may seek to realize this gain by selling-off the pledge, either partially or fully. However, since the pledged commodity is grower’s only collateral, he must sell on immediate payment terms in order to settle bank’s loan, and thus cannot extend any credit period to his buyer. Why?

See illustration. Unless bank accepts the receivable as acceptable collateral, grower will either need to settle bank loan immediately, or post additional collateral, if latter were a possibility, the whole point of financing against ERW would be moot.

This is not to say that ERW is not a positive development. However, it can only function if ultimate buyers consist of bankable customers, in turn with access to bank financing lines of their own, or whose credit (receivables) is acceptable to the bank(s). Alternatively, if a fully functional mercantile exchange was already a reality, growers could simply sell their produce to traders in a liquid commodity market, who perform the role of market makers. Although integration with commodity exchange is a stated objective of CMC and ERW, it remains a distant goal. ERW financing is a great first step, but in order to turn into a meaningful success, other pieces of the puzzle must also fall into place.