The world's commodity exchanges

					               The world’s
               past - present - future

               A joint publication of:
               United Nations Conference on Trade and Development
               Swiss Futures and Options Association 1                                           31.7.2006, 18:07:26
NYBOT_FM_050806     6/6/06       3:02 PM       Page 1

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  The World's Commodity
           Past - Present - Future

              A publication prepared for the

27th International SFOA Bürgenstock Conference

                 September 6 - 10, 2006

                  A joint publication of:

United Nations Conference on Trade and Development

       Swiss Futures and Options Association
                         The World's Commodity Exchanges: Past, Present, Future



The designations employed and the presentation of the material in this publication do not imply the
expression of any opinion whatsoever on the part of the secretariat of UNCTAD concerning the legal
status of any country, territory, city or area, or of its authorities, or concerning the broader
definition of its frontiers or boundaries. All opinions expressed within this publication are solely the
personal opinions of the contributing authors and do not imply any endorsement or statement of
policy on the part of the secretariat of UNCTAD.


 All substantive content was prepared by Leonela Santana-Boado and Adam Gross of the UNCTAD
    Secretariat, and the designated contributing authors. Copyright remains with the designated
                                  contributing authors or agencies.

                 Editing was performed by Adam Gross of the UNCTAD Secretariat.

          Formatting, presentation and graphic contributions to internal content provided
                          by Drew Schaefer and
                                 ( ).

UNCTAD                                                                       Leonela Santana-Boado:
Palais des Nations                                                             Tel: +41 22 917 5702
8 - 14, Av. de la Paix                                     Email:
1211 Geneva 10
Switzerland                                                                              Adam Gross:
                                                                                Tel: +41 22 917 5766

                                                  - ii -
                      The World's Commodity Exchanges: Past, Present, Future


We are very pleased to offer the participants of the 27th Bürgenstock Conference this
conference book. The publication contains a wealth of articles on exchanges and
associated institutions contributed by experts of the highest standing from around the
globe. Although these articles only scratch the surface of all the accumulated experience
that exists, I am sure that even veterans of the sector will find much new information and
many thought-provoking ideas among them.

The annual Bürgenstock Conference is one of the premier events on the calendar of the
global derivatives industry. It provides an opportunity for representatives of exchanges
and their regulators to communicate about important issues they face in common, to
facilitate the sharing of best practice and to build good relations as the basis for
continued co-operation. In 1999, UNCTAD, together with Paul Andre Jacot, President of
SFOA, established a dedicated Emerging Markets Forum as part of the Conference which
has run successfully since. This year, however, we wanted to go further, to make a wider
effort, so that exchanges which could not benefit from attending this forum could also
learn about what is happening in other parts of the world.

The result has been this publication which, being global in scope, reveals the richness of
experience gained in many countries over the last few years; experiences that are rarely
exchanged, and from which practitioners can surely learn. In this respect, the book also
serves as a platform for exchanges outside the most prominent global markets to discuss
some of the challenges they face and, most importantly, to showcase the opportunities
their markets offer - perhaps today, or perhaps in the future.

Therefore, we are most grateful to the experts who have contributed to this publication,
despite the fact that many serve as senior executives at exchanges or other leading
institutions whose time is undoubtedly itself a scarce resource. We also acknowledge the
input of UNCTAD staff that have contributed to the production of this book, in particular
the secretarial support of Danielle Daou.

UNCTAD has done a great volume of work on developing and applying the innovative
instruments that commodity exchanges can offer. As an international organization with
considerable accumulated knowledge of commodity sector development, UNCTAD is
ideally placed to overcome the trust gap that often still exists between the public and
private sectors in developing countries and which hinders investments in trade-related
institutions. An organization like UNCTAD brings a measure of impartiality to the
discussion on the use of modern risk management and financing tools, and thus helps
potential users of these tools to feel more comfortable about such use. Its role is really
that of an "honest broker", informing those active in the commodity sector of the new
possibilities open to them, assisting in the evaluation of the benefits of new tools and the
implications of their use.

Thus, the organization has been able to work productively both with governments and
with the private sector, to create on the one hand an environment conducive to
commodity exchange success, and on the other, an acceptance that a well-functioning
commodity exchange needs a robust and effective regulatory framework. The result has
been a complete reversal of old, negative images of commodity exchanges in some
countries, and a new partnership-oriented approach between the private sector and
exchange regulators.

Nowadays, and contrary to the situation in the late 1990s, many of the world's largest
commodity exchanges (in terms of trading volumes) are located in developing countries.
These exchanges have proved to be an important corollary to efficient domestic

                                              - iii -
                     The World's Commodity Exchanges: Past, Present, Future

liberalization of the commodity sector, and an               important        contributor   to   the
competitiveness of a country’s agricultural industry.

UNCTAD will continue actively supporting the development of commodity exchanges in
interested countries, with a particular focus on the introduction of new instruments that
can boost agricultural growth and reduce rural poverty. We believe in the importance of
exchanging experiences to learn about successes and innovative mechanisms but as well
to avoid past mistakes. We believe in cooperation and the need to provide technical
assistance. One of our major roles has been involvement in the creation of a Pan-African
Commodity Exchange, a dream in the African Union and the African continent.

There are many further opportunities out there which are yet to be realized and much
poverty that could be alleviated if only decision-makers know how to utilize modern
financial tools for managing commodity production and trade, particularly the commodity
exchange. With the continued support of our stakeholders in government and friends in
the industry, we will stand for a brighter future in this domain.

                                 Leonela Santana-Boado
                          Co-ordinator, Commodity Exchanges
                  United Nations Conference on Trade and Development

                                             - iv -
                    The World's Commodity Exchanges: Past, Present, Future

                         TABLE OF CONTENTS


ix   Dr Supachai Panitchpakdi, Secretary-General, United Nations Conference on Trade
     and Development


1    Commodity exchanges: where are we now and where are we heading?
     Adam Gross, UNCTAD

Themes and issues

10   Emerging markets: What lessons have been learnt from mature markets and what
     can be done better
     Simona Simon, EUREX

14   Problems in the design of futures and options markets in the developing world: An
     institutional investor's perspective
     John Mathias, Merrill Lynch International

18   The last mile: linking future users to the commodity exchange
     V. Shunmugam and D. G. Prasad, Multi Commodity Exchange of India (MCX)

23   The challenges in integrating an agricultural commodity derivatives market into an
     underlying spot financial market
     Rod Gravelet-Blondin, writing in a personal capacity

26   Integrating exchanges with commodity finance using electronic warehouse receipts
     Kevin Potter, Sandbox Technologies

30   Transactions on commodity and derivatives exchanges: The impact of International
     Financial Reporting Standards (IFRS) on financial reporting
     Mateusz Lasik, Deloitte & Touche

33   A micro essay on micro exchanges
     Patrick L. Young, Derivatives Vision


37   Regional Overview by UNCTAD

39   What African governments can do facilitate a commodity exchange?
     Ian Goggin, Agricultural Commodity Exchange for Africa (ACE)

43   Applying the franchising concept to commodity exchange development: the Pan-
     African Commodities & Derivatives Exchange
     Anthony Adendorff, Pan African Commodity Platform (PACP)

                     The World's Commodity Exchanges: Past, Present, Future

46     The potential contributions of pan-African           commodity         exchange(s)   to   the
       development of African trade
       Francis Mbroh, African Export - Import Bank

50     South African farmers and the agricultural commodity derivatives market
       Rod Gravelet-Blondin and Chris Sturgess, JSE Limited

53     Kenyan experiences with developing a commodity exchange
       Thomas N. Barasa, Common Market for Eastern and Southern Africa (COMESA)

58     Developing a commodity exchange in Africa: the Nigerian experience
       Ezekiel Davou, Abuja Securities and Commodity Exchange (ASCE)

62     Getting markets right: The promise of emerging commodity exchanges, with
       reference to Ethiopia
       Eleni Z. Gabre-Madhin, International Food Policy Research Institute (IFPRI)


69     Regional Overview by UNCTAD

74     Recent developments in the Japanese commodity futures market
       Onosato Mitsuhiro, Tokyo Commodity Exchange (TOCOM)

78     The development of a new commodity contract in China: ZCE's experience with
       Ji Guangpo, Zhengzhou Commodity Exchange (ZCE)

82     Considerations on permitting international users to participate in the Indian
       commodity markets
       S. Sundareshan, Forward Markets Commission (FMC)

85     Introducing new commodities: can success be built on dozens of different new
       contracts? The experience of NCDEX
       Madan Sabnavis, National Commodity and Derivatives Exchange (NCDEX)

89     Commodity exchanges: Initiating India's second green revolution
       D.G. Prasad and Ritambhara Singh, Multi Commodity Exchange of India (MCX)

94     Market liberalization in Taiwan
       Richard Hoo, Taiwan Futures Exchange (TAIFEX)

97     Diamonds in the desert
       Framroze Pochara, Dubai Gold and Commodities Exchange (DGCX)

102    Standing up to challenges: Indonesia's experience
       Jahja W. Sudomo, Jakarta Futures Exchange (JFX)

105    Developing a commodity futures exchange in Thailand: The AFET experience
       Nitus Patrayotin, Agricultural Futures Exchange of Thailand (AFET)

109    NCEL (Pakistan): An overview
       Naima Kazmi, National Commodity Exchange Limited (NCEL)

                                             - vi -
                    The World's Commodity Exchanges: Past, Present, Future

CIS and European Economies in Transition

112   Regional Overview by UNCTAD

115   The commodity exchange environment in Russia: Recent developments and trends
      Alexander Belozertsev

119   UICE (Ukraine): An overview
      Igor Seliverstov, Ukrainian Interbank Currency Exchange (UICE)

122   Getting government policies right can be a problem: How government
      commitments can be reconciled with market activity
      Mircea Filipoiu, Romanian Commodity Exchange (RCE)

124   KBB (Slovakia): An overview
      Ivan Poliačik, Kommoditna Burza Bratislava (KBB)

126   The Istanbul exchanges
      Saliha Ascensio, Istanbul Gold Exchange (IGE)

129   A new marketplace on the Silk Road
      Hamdi Bağci, Turkish Derivatives Exchange (TurkDEX)

131   TurkDEX: An appraisal
      Ann Berg

134   Eastern Europe and the CIS: Reflections on exchange development
      Terence Hill

138   The Association of Futures Markets: An overview
      Krisztina Kasza, Association of Futures Markets (AFM)

Latin America and Caribbean

142   Regional Overview by UNCTAD

144   Trading tariff packages through commodity exchanges: The               Panamanian
      Abelardo Carles, National Commodities Exchange of Panama (BAISA)

148   The advantages of participating in a commodity exchange
      Providencia Nuñez, Commodities Advisors Team, Dominican Republic

150   With the soybean contract, MATba becomes international
      Gustavo Picolla, Mercado a Término de Buenos Aires (MATba)

153   The Commodity Exchange of Honduras and its operations in the rice market
      Andrés Carias, Commodity Exchange of Honduras (AGROBOLSA)

North America

156   Regional Overview by UNCTAD

                                           - vii -
                     The World's Commodity Exchanges: Past, Present, Future

159   Self-regulation: Past, present and future
      Karen K. Wuertz, National Futures Association (NFA)

163   Clearing: How has it evolved? What will the future bring?
      Chip Dempsey

Western Europe

170   Regional Overview by UNCTAD

172   How does Europe's new MiFID regime affect derivatives markets?
      Burçak Inel, Federation of European Securities Exchanges (FESE)

179   London Metal Exchange: The product of its own success
      Diarmuid O'Hegarty, London Metal Exchange (LME)

182   Getting the carbon ball rolling: The carbon market’s development towards a global
      Peter Koster, European Climate Exchange (ECX)

186   OMX development in the Nordic region and worldwide
      Bo Svefors, OMX

188   Case study: Integration of the European Energy Exchange power spot market onto
      the Xetra System
      Jonathan Butler, Deutsche Börse


193   Appendix I: Commodity futures and options statistics

196   Appendix II: Total futures and options statistics

198   Appendix III: UNCTAD profile, papers and publications

                                            - viii -
                     The World's Commodity Exchanges: Past, Present, Future


UNCTAD’s involvement with commodity exchanges stems from a mandate that has
consistently located commodity sector issues at the heart of international trade and
development concerns. As early as the 1970s, UNCTAD studies recognized the potential
for market-based price risk management instruments in delivering welfare gains to
commodity sector participants, a view that was expounded upon in the 1983 UNCTAD
publication “Commodity exchanges and their impact on the trade of developing countries”.
The gradual liberalization of agricultural trade, and the reduction of government support
to agricultural producers outside the OECD, heightened the interest in the use of risk
management and other modern financial instruments, including commodity exchanges, in
the developing world. In recognition of the substantial development impact of such
mechanisms, this issue was formally incorporated into UNCTAD’s mandate at UNCTAD VIII
(Cartagena, Colombia, 1992).

Subsequently, UNCTAD has carried out a broad-based programme of support for the
establishment and strengthening of commodity exchanges in emerging markets. A
comprehensive set of analyses, policy papers and market reviews has laid the intellectual
foundation for initiatives pursued by governments and private-sector organizations in
developing economies worldwide. Hands-on support for the development of commodity
exchanges and associated institutions has been provided by the UNCTAD secretariat in
such countries as Nigeria, India, Indonesia, Malaysia, Turkey, Kazakhstan, Ukraine and
the Dominican Republic. Industry events have been hosted, including UNCTAD’s seminal
1998 Lyon “Partners in Development” Summit, which brought together influential thinkers
and cutting-edge practitioners to devise a new set of solutions applying market-based
instruments to address historic commodity sector ailments. Alliances have been forged
with respected industry associations, including the Association of Futures Markets (AFM),
the Association of Latin American Exchanges (APBP) and the Swiss Futures and Options
Association (SFOA).

Indeed, this publication, launched at the 27th International SFOA Bürgenstock Conference
for the derivatives industry in September 2006, is one result of the long-standing
collaboration between UNCTAD and SFOA. Its expert articles analyse major issues facing
the industry and review the development and impact of commodity exchanges around the
world. Leading figures in the global commodity markets have contributed, including
mature and emerging exchanges, regulatory bodies, collateral management organizations,
industry associations and investor groups.

With some of the world's largest commodity exchanges now located in developing
countries, and with new and exciting exchange initiatives being pursued in numerous
emerging economies, I trust that the publication will add further momentum to the
promotion of commodity exchanges as an effective tool for boosting commodity sector
performance and spurring economic development.

                                 Supachai Panitchpakdi
        Secretary-General, United Nations Conference on Trade and Development

                                             - ix -
The World's Commodity Exchanges: Past, Present, Future

                                                                 The World's Commodity Exchanges: Past, Present, Future

      Commodity exchanges: where are we now and where
      are we heading?
      By Adam Gross

      During 2005, global commodity futures and options trading has continued to grow
      at a healthy rate, writes Adam Gross of the UNCTAD Secretariat.

      It has been a second successive year in                                                             the world's top fifteen commodity futures
      which growth outpaced financial futures                                                             exchanges in 2005 located in Asia.
      and options, bringing a reversal to the
      steady erosion in recent times of                                                                   Although a 14% annual growth rate (see
      commodities' share in overall futures and                                                           fig 1 below) falls below the 19%
      options trade. Moreover, developing                                                                 compound annual growth rate (CAGR)
      country exchanges, particularly those in                                                            attained over the last five years, it
      China and India, can now clearly be                                                                 exceeds the 12% growth rate achieved
      recognised as major liquidity centres in                                                            by financial futures in the same period.
      world commodity markets with eight of

      Fig 1: Commodity futures and options performance, 2001-5
                                                                                                                             Growth    Growth     CAGR
                                         10                                                                          30%
                                                                                                                             04-05    J/F 05-06   01-05
Number of futures & options contracts,

                                                   Financial Derivatives                                 9'139m
                                                   C ommodity Derivatives                8'153m
                                         8         C ommodity Share      7'479m                                       FIN:    12%        34%       23%

                                         6                5'511m

                                                                                                                     COMM:    14%        41%      19%
                                                                   8.1%           8.1%            8.2%        8.3%   10%

                                                                             659m             728m            832m
                                                  416m          483m
                                         0                                                                           0%
                                                2001         2002         2003             2004            2005

      Source: FIA Data, adjusted to include the Indian national commodity futures exchanges

      And if there were any lingering doubts                                                              money into commodities as an asset
      about the extent to which the sector is                                                             class.
      booming, trading data from early 2006
      shows that commodity futures trading in                                                             A      disaggregated      sector-by-sector
      Jan-Feb 2006 was an impressive 41%                                                                  perspective (see fig 2 below) reveals,
      higher than the same period in 2005.                                                                perhaps surprisingly, that agriculture has
      This figure easily surpasses the 34% rise                                                           been leading the commodities charge
      in the trading of financial futures,                                                                over the past five years, in volume terms
      reflecting the continued flow of investor                                                           at least.

                                                                                                             The World's Commodity Exchanges: Past, Present, Future

          Fig 2: Sectoral growth, 2001-5

                                                                                                                                                                                            Growth              Growth     CAGR
Number of futures & options contracts,

                                                                                    Metals Products
                                                                                    Energy Products
                                                                                                                                                                                            04-05              J/F 05-06   01-05
                                         0.8                                        Agricultural Products
                                                                                                                                                             170m                Metals:           -1%           35%       12%
                                         0.6                                                                           155m

                                                                                                                                                            280m                 Energy:           15%           38%       14%
                                         0.4                                                          127m             218m

                                                                                                                                                                         Agriculture:              22%           46%       29%
                                         0.2                                                                                                                381m
                                                                                                                       286m             312m
                                                                                   139m               147m
                                                                                   2001               2002             2003             2004                 2005

          Source: FIA Data, adjusted to include the Indian national commodity futures exchanges

          With a 46% rise in agricultural contracts                                                                                                           This has resulted in a significant inflow of
          traded in Jan-Feb 2006 compared with                                                                                                                liquidity into these markets.
          the previous year, agriculture continues
          to be the main growth driver of                                                                                                                     Two exchanges merit special mention.
          commodity futures into the current year.                                                                                                            China's Dalian Commodities Exchange
                                                                                                                                                              (DCE) accounted for 99 million - or 26%
          The key factor driving growth in                                                                                                                    - of world agricultural futures contracts
          agricultural  futures     has   been    the                                                                                                         traded in 2005 and is the largest
          emergence of dynamic markets in China                                                                                                               agricultural futures exchange in the
          and India. A majority of the population in                                                                                                          world. Moreover, the DCE lists the world's
          both these countries still live in rural                                                                                                            two    largest  agricultural   commodity
          areas and depend on the agricultural                                                                                                                contracts by volume, its No. 1 soybeans
          sector for their livelihoods. Thus, sizable                                                                                                         and soybean meal contracts respectively
          agricultural   communities      are    now                                                                                                          (see fig 3 below). Agricultural trading at
          accessing tools for managing risk and                                                                                                               the DCE has exhibited a five-year CAGR
          exploring new investment opportunities.                                                                                                             of 20% and growth in 2004-5 of 13%.

          Fig 3: World's largest agricultural futures contracts
                                         Growth 04-05:                                              -30%         48%          16%       7%           295%           43%             33%            10%         263%

                                          Number of futures & options contracts,

                                                                                              40                  37m

                                                                                                                                             20m            19m
                                                                                              20                                                                        17m
                                                                                                                                                                                                   11m          11m








































          Source: Exchange data (includes all agricultural contracts with volume over 10 million during 2005)

                                                              The World's Commodity Exchanges: Past, Present, Future

  India's    National      Commodity     and                                                     significant     volatility    induced     by
  Derivatives Exchange (NCDEX) has also                                                          geopolitical instability in various producer
  undergone a spectacular rise as a hub for                                                      markets, most notably the Middle East
  agricultural trade in the Subcontinent.                                                        and West Africa. The impact of China and
  Agricultural trading at NCDEX, which                                                           India has also been felt heavily in these
  stood at 6.5 million contracts in 2004,                                                        sectors, of course, as both countries
  increased by 562% - a more than six-fold                                                       pursue their energy security and invest
  rise - to over 43 million traded contracts                                                     heavily in infrastructure development.
  in 2005. This made NCDEX the world’s                                                           Thus, it is expected that these sectors
  third   largest    agricultural  exchange,                                                     will attract into commodity markets high
  trading a considerably higher volume of                                                        volumes of hedger and investor interest
  agricultural contracts than NYBOT in only                                                      throughout 2006. Trading data from Jan-
  its second full year of operations.                                                            Feb 2006 bears this out, with energy
                                                                                                 exhibiting a 38% and metals a 35% rise
  Despite the strong performance of                                                              compared with the same period in 2005.
  agriculture, most of the attention given                                                       (This can be contrasted with the
  to the recent bullish commodity sector                                                         considerably less impressive rise of 15%
  performance has invariably focused on                                                          and -1% respectively over the course of
  metals and energy. Precious and non-                                                           2005.)
  precious metals prices hit record highs in
  early-mid 2006. Crude oil prices continue                                                      Another prominent trend to which
  on an upward trajectory in the face of                                                         UNCTAD draws attention is the rapid
  imbalances between forecasted global                                                           growth in futures and options trading in
  supply and demand and there has been                                                           emerging markets (see fig 4 below).

  Fig 4: Growth of non-OECD Futures and Options Contracts
  - All futures and options
                                         10                                                                           50%
Number of futures & options contracts,

                                                   OEC D Volume                                         8'857m                  Growth    CAGR
                                                   Non-OEC D Volume                     8'018m                                  04-05     01-05
                                                   Non-OEC D Share          7'499m                                    40%
                                                                                                                        OECD:       10%     21%
                                         6                  5'740m                                                    30%

                                                                                                                        Non-OECD:   29%     50%
                                         4                                                                            20%

                                                                                              10%            11%
                                         2                                       8%                                   10%
                                                       5%        4%                                          1'116m
                                                                                 639m            863m
                                                   222m              253m
                                         0                                                                            0%
                                                2001          2002            2003        2004            2005

  Source: Calculated on the basis of FIA Data, adjusted to include the Indian national commodity futures

  The Organisation for Economic Co-                                                              relatively small proportion of overall
  operation and Development (OECD) is a                                                          world futures and options trading, it is
  group of 30 developed countries,                                                               notable that this proportion has more
  including North American and Western                                                           than     doubled   over   the   period.
  European states plus some of the more                                                          Furthermore, non-OECD markets have
  advanced economies from the rest of the                                                        recorded a significantly higher growth
  world (including Japan, Korea, Australia                                                       rate between 2001 and 2005 - a 50%
  and some Central European states).                                                             five-year CAGR compared with 21% in
  Whilst non-OECD volume remains a                                                               the OECD.

                                                             The World's Commodity Exchanges: Past, Present, Future

      When only commodity futures and                                                        even wider - a five-year CAGR of 28% for
      options are taken into account (see fig 5                                              non-OECD markets compares with a
      below), the divergence in performance                                                  sluggish 6% in the OECD.
      between OECD and non-OECD markets is

      Fig 5: Growth of non-OECD Futures and Options Contracts
      - Commodity Futures and Options only                                                                             Growth    CAGR
                                                                                                                       04-05     03-05
                                         1.0                                                          50%
Number of futures & options contracts,

                                                OEC D Volume                                                   OECD:       5%     6%
                                                Non-OEC D Volume
                                         0.8                                                          40%
                                                Non-OEC D Share

                                                                                                               Non-OECD:   37%    28%
                                         0.6                                          554m            30%
                                                                   528m                      30%
                                               496m                       25%


                                         0.4                                                          20%

                                         0.2                               174m                       10%

                                         0.0                                                          0%
                                                 2003                 2004                 2005

      Source: Exchange data (includes only futures exchanges with volume greater than 1 million traded futures and
      options contracts in 2005)

      It is also notable that the non-OECD                                                   whose volumes are not captured in this
      share has been rising rapidly and now                                                  data.)
      accounts for over 30% of overall global
      commodity futures and options volume.
      (Indeed, 30% is likely to be an                                                        It is agriculture in which the non-OECD
      understatement given the number of                                                     presence has impacted most strongly -
      smaller, domestic-oriented exchanges                                                   non-OECD markets now account for more
      throughout Asia, Latin America and                                                     than 50% of agricultural futures and
      CIS/European Transitional Economies                                                    options (see fig 6 below).

                                                                                              The World's Commodity Exchanges: Past, Present, Future

   Fig 6: OECD / Non-OECD volume by sector, 2005

Number of futures & options contracts,

                                                                                                                                            Non-OEC D Volume
                                                                                                                                            OEC D Volume



                                                           0.2                                                                                                 31m

                                                           0.1                   186m

                                                                               Agriculture                             Energy                                  Metals

   Source: Exchange data (includes only futures exchanges with volume greater than 1 million traded futures and
   options contracts in 2005)

   Whilst the non-OECD share of metals                                                                                                              Urals oil contract which has significant
   (19%) and energy (6%) remained some                                                                                                              growth potential.
   way    behind   in   2005,    commodity
   exchanges outside the OECD are also
   strengthening their positions in these                                                                                                           Of    the  world's    major    commodity
   sectors: Multi Commodity Exchange of                                                                                                             exchanges, defined here as exchanges
   India (MCX) in precious metals, Shanghai                                                                                                         trading more than one million futures and
   Futures Exchange (SHFE) in non-precious                                                                                                          options contracts, a majority are now
   metals and energy, and RTS in Russia                                                                                                             located outside North America and
   has recently commenced trading of a                                                                                                              Europe (see fig 7 below).

   Fig 7: The world's major commodity futures exchanges, 2005

                Number of contracts (futures & options)




















   Source: Exchange data (includes only futures exchanges with volume greater than 1 million traded futures and
   options contracts in 2005; see annex I, including for reference of full exchange names)
   Note: Volume is measured in number of contracts, but it is recognised that the size of contracts can vary across
   products and exchanges.

                        The World's Commodity Exchanges: Past, Present, Future

There is a strong Asian presence - ten of              provide further       competition   to   the
the twenty-two major commodity futures                 existing three.
exchanges are situated in Asia - with
representation also from Africa and Latin              Developed    world    exchanges     today
America in SAFEX/JSE and BM&F                          provide reference prices for global trade
respectively.                                          in most physical commodities (Bursa
                                                       Malaysia being a notable exception with
Looking forward, the coming years are                  palm oil). However, the rapid increase in
likely to see substantial further growth in            commodity consumption by the large,
emerging commodity markets. This will                  high-growth Asian economies and the
be driven by the continued growth of                   prospective opening of the region’s
existing exchanges, particularly those in              exchanges to overseas investors is likely
China and India, and also by the rise of               to see the larger Asian exchanges
other exchanges situated in emerging                   assuming this role for more commodities
markets.                                               over the coming years.

In Africa, the Pan-African Commodities                 Arguably the most fundamental issue
and Derivatives Exchange (PACDEX)                      that will be faced by commodity
initiative is stimulating the development              exchanges in the coming years is the
of national exchanges in a number of                   increasing centrality of information and
countries, including Nigeria and Ethiopia.             communications       technology    as    a
These may ultimately be linked together                determinant of exchange success. The
to form a continent-wide market via the                transition towards the electronic trading
Pan-African Commodity Platform which                   of commodities is now in its latter stages
incorporates trading and back-office                   with almost all of the US open outcry
functions.                                             exchanges        now       also    trading
                                                       electronically, or in the case of NYBOT
In the European transitional economies                 exploring the possibilities. (Exchanges in
and the CIS, whilst the Budapest Stock                 Europe, Asia and other emerging markets
Exchange's MOU with NYMEX to develop                   are generally further ahead in this
a Urals oil contract may not yet have                  respect.) This movement, itself a
borne fruit, in Russia the development of              remarkable transformation in the way
exchange-traded        commodities        has          business is done in the commodities
become a national priority since it was                space, will trigger a second, continuous
cited as such by President Putin in his                revolution powered on the one hand by
State-of-the-Nation address in May 2006.               the inherent tendency of technology to
Within a month of the speech, four oil                 rapidly evolve and on the other by the
contracts (Urals oil, diesel oil, aviation oil         increasingly fierce competitive global
and black oil) and a gold futures contract             environment in which demutualised, for-
had been launched on FORTS, the                        profit commodity exchanges are now
derivatives arm of the RTS Stock                       fighting for business.
Exchange, and a grain futures contract is
also being developed by the National                   The result will be a stream of innovations
Mercantile Exchange (NAMEX).                           in products, platforms and functionalities,
                                                       as well as a fundamental restructuring of
In Asia, exchanges in Dubai, Iran,                     the relations between market actors –
Pakistan, Thailand and Indonesia are                   hedgers,        speculators,      collateral
among those that may become familiar                   managers, exchanges, clearinghouses,
to global commodity investors in the                   brokers,      regulators,    government,
short or medium term. Additionally,                    infrastructure providers and technology
India's Forward Markets Commission, the                vendors – that transcends national
regulator of the country’s commodity                   borders and regulatory jurisdictions.
exchanges, has been hinting that it may
grant national commodity exchange                      For the exchange, the approaching
status to new entities which could                     technology-driven era will have a

                       The World's Commodity Exchanges: Past, Present, Future

profound impact on business strategy                          – a margining system in which
and operations in several dimensions:                         margin levels are derived from the
                                                              net market risk for a portfolio of
   •   Demands       of     key     liquidity                 positions across markets/asset
       providers – market makers and                          classes – high on the agenda in
       institutional   investors    –    will                 Washington D.C., a regime for
       include     ever-faster    execution                   regulating     converged    capital
       speeds;            straight-through-                   markets may not be far off.
       processing     as    standard;    the                  However, technology will be the
       integration      of     value-added                    critical enabler of capital market
       clearing services into the trading                     convergence – in particular,
       platform;     enhanced       network                   applications that enable cross-
       resilience and the deployment of                       asset class investment portfolio
       cutting-edge security software                         management for traders; and
       and disaster recovery systems;                         platforms that enable cross-asset
       the supply by exchanges of more                        class market risk management for
       - and more sophisticated - market                      the     exchanges.    Once     such
       data as inputs for algorithmic                         systems are in place, there is
       trading tools whose usage has                          likely to be a wave of further
       been growing and will continue to                      integration between commodities,
       grow.                                                  financial futures and securities
                                                              exchanges looking to find ever-
   •   Connectivity will be a priority as                     greater economies of scale in an
       rapid market growth means that                         era of intense global competition.
       bandwidth      must    expand    to
       accommodate      an     exponential                •   Finally, technology can provide
       increase in     the number of                          the means for exchanges to foster
       incoming messages from investors                       ever closer relations with their
       and in the outward supply of                           users.     Customer      relationship
       market data back from the                              management (CRM) systems have
       exchange. In emerging markets,                         been already deployed effectively
       the imaginative deployment of                          in    industries     ranging      from
       technology will remain a critical                      financial         services           to
       means for exchanges to overcome                        telecommunications to retail to
       deficiencies      in       national                    transport and logistics. Such
       communications       infrastructure                    systems could also be used by
       and extend geographic reach to                         exchanges as a mechanism to
       bring      into    the     markets                     increase     the    service     levels
       marginalised or physically remote                      provided to customers. While
       users.                                                 large traders may be already
                                                              using algorithms to optimize their
   •   Technology will also provide a                         trading    strategies,    algorithms
       major spur for capital market                          embedded in CRM systems could
       convergence        –    i.e.   the                     also maximise the impact of an
       convergence of commodity futures                       exchange’s     marketing      efforts.
       with     financial   futures  and                      These algorithms would be the
       securities markets. This process                       basis for the ‘data mining’ of client
       has been fundamentally investor-                       trading information, identifying
       driven as sophisticated investors,                     the client’s product focus and
       particularly hedge funds, seek to                      analysing their trading strategies.
       integrate their commodity market                       Suggestions      would     then      be
       operations with those of other                         automatically       generated        to
       asset classes. Another aspect of                       incentivise       greater        client
       capital market convergence that                        participation through marketing
       has to be addressed is the                             mechanisms such as transaction
       regulatory dimension. Yet with                         fee pricing that is differentiated
       issues such as portfolio margining                     both by client and by trading

                       The World's Commodity Exchanges: Past, Present, Future

       strategy; and the timely supply of             thorough understanding of the changing
       resources to inform/educate/train              competitive   landscape.   For   smaller
       the client about new opportunities             exchanges facing far tighter resource
       for portfolio diversification and for          constraints, the development of close,
       the use of new trading strategies.             collaborative     partnerships      with
                                                      technology developers will be the key to
To deliver in all these dimensions, an                surviving – and thriving – in the
exchange would need to make significant               technology era.
investments in technology. For most
exchanges,     faced    with   so   many              That said, technology deployment is only
possibilities   yet    possessing   finite            a means to an end, and success in the
resources, such investments must be                   future will remain - as today - contingent
highly selective, targeted to those areas             upon meeting the foundational value
where it will generate maximum returns.               propositions      on     which    investor
This selectivity cannot be achieved                   participation is premised: well-defined
without first embedding considerations                contracts in line with the requirements of
about technology deployment within a                  market users; a smoothly-functioning
broader strategic approach to exchange                delivery system; liquid, efficient and
development that is constructed out of a              transparent     markets     built  on    a
continuous dialogue with market users                 responsible approach to market risk
about their requirements as well as a                 management.


Author note:
Adam Gross is an Associate Economic Affairs Officer at UNCTAD. Prior to joining UNCTAD,
Adam worked as a strategy consultant at Mercer Management Consulting, London, and as
a freelance consultant for Multi Commodity Exchange of India. Adam has an Honours
degree in Philosophy, Politics and Economics and a Masters in Development Studies.


The World's Commodity Exchanges: Past, Present, Future

                      The World's Commodity Exchanges: Past, Present, Future

Emerging markets: what lessons have been learned from mature
markets and what can be done better?
By Simona Simon

The need for efficient and effective capital and commodity markets in emerging
market countries continues to grow with their economic development, writes
Simona Simon, who heads up Emerging Markets sales and business development
at Eurex. In the following article, Simona explores ideas to stimulate their further
development, first developed in her MBA thesis.

Emerging markets are one of the most                   achievements mount up.         Instead it
promising economic developments of the                 continues to grow with          re-gaining
twenty first century so far. Terms like                confidence.
BRIC (Brasil Russia India China), CEE
(Central and Eastern Europe) or SEE                    The advantage that emerging market
(South East Europe) refer to some of the               countries have is in being able to profit
steadily – in some cases rapidly –                     from    the   political   and    economic
developing regions which are commonly                  experience that other countries with
understood to fall into the category of                longer standing more mature systems
emerging markets. Almost all players in                have collected. By benefiting from
the financial industry are trying not to be            lessons learned, there is also the chance
left without a partner at one of the                   for emerging market countries to do
biggest and most attractive balls in town:             things   even    better    than   Western
“Emerging Markets”.                                    European, North American and other
                                                       countries in politically and economically
But what is the reason that several                    mature regions.
regions around the world, where there
was no major commitment to do                          No capital markets existed in the
business 15 years ago, have suddenly                   countries of Eastern Europe 20 years
became so interesting? Why are the                     ago. The installation and establishment
economies of Russia and China so                       of the first stock, bond and derivatives
successful and why are they developing                 exchanges began only 15 years ago, this
so rapidly? What are the driving forces                being a very recent development in
behind the latest economic developments                global exchange history. On the other
in CEE? Why are financial markets                      hand, the present state of many of the
springing up so fast in the Middle and Far             world’s developed on-exchange traded
East? And why in Romania, the country                  capital markets is the result of centuries
where I was brought up and which then                  of development and transition from the
had a socialist regime, does the appetite              very basic forms of trading, through
for consumer goods now appear to far                   organized open outcry and floor trading
outstrip that in Germany, the country                  to electronic screen based trading with
where I now live? The answer to all these              execution times often in tens of
questions is the massive political and                 milliseconds.
economic change that has occurred in
these countries in the last 15 to 20                   It is often the case in on-exchange
years.                                                 emerging markets that the traded
                                                       volume from floor trading is a small
There is nothing more impressive and                   fraction of an exchange’s total turnover.
uplifting than the desire of the people                The reason for this is often that emerging
and governments in emerging market                     market exchange operators do not have
countries to embrace change and to drive               the legacy and costs of development over
it further. The appetite to advance and                the centuries of trading in other forms.
to do better does not diminish as                      Instead they have been able to directly

                                              - 10 -
                      The World's Commodity Exchanges: Past, Present, Future

benefit from the fruits of the process of              There are several cooperations and
change already undergone by established                partnerships in the exchange world of
exchange operators.                                    CEE. The Vienna Stock Exchange, Wiener
                                                       Börse, for example has established close
As emerging market operators were                      ties with the Budapest exchanges as well
developing during times when electronic                as with organizations across the South
trading was already established, proven                East     European    region.    Link-ups,
and accepted, anything else but the                    partnerships and cooperations in the area
installation     of   a    flexible,   high            of exchange trading are an important
performance, state of the art electronic               pre-requisite for the success of capital
trading      technology    platform    was             markets in CEE. But they are only part of
unthinkable. Not only was it unthinkable.              the story.
It was also accessible. Solutions could be
developed locally or sourced, off the                  What about clearing? As I will always
shelf, from a provider at affordable                   remember      a   dear   and    respected
prices. Only a few years earlier                       colleague once telling me in the early
established exchange operators had been                days, “you know, trading is all well and
investing large amounts of money, hand                 fine, but it wouldn’t be possible without
over fist, for what is viewed now by                   clearing.” So what about clearing?
emerging market exchange operators as
the accepted industry standard. And no                 Here is an area where emerging markets
self respecting exchange operator could                can profit from the experience of
be expected to be taken seriously if they              developed market exchange operators,
were not sporting a fully integrated                   and make an important step forward by
cutting edge electronic trading platform.              choosing to do things in a more
                                                       organized manner than what has evolved
Anyone who attends the annual meetings                 in the markets of Western Europe. By
of the Association of Futures Markets                  establishing a common regional central
(AFM) and the Emerging Markets Forums                  counter party clearing house, capable of
(EMF) at the Bürgenstock SFOA meetings                 clearing trades from all exchanges in the
will be familiar with the technological                CEE region, instruments, products and
lead taken by many emerging market                     contracts could be cross listed at multiple
exchange operators. Exciting accounts                  CEE exchanges.      Collaterals could be
by delegates from India of developments                pooled and clearing activity centralized
such     as    the   use    of   satellite             and streamlined. The efficiency gains, in
communications for price dissemination                 terms of capital efficiency and business
are an example of this. The potential for              processes would be tremendous, this
emerging market operators to lead the                  delivering a major boost to the markets
way in product development, moving into                of the region. This setup would
the complex and structured product                     enormously strengthen the exchange and
space for instance, has also been clearly              market landscape within a region like
identified through the course of recent                CEE.
AFM and EMF meetings.
                                                       Clearing is necessary for the processing
Emerging markets constantly watch their                of all trades that have resulted from the
peers and the experiences they are                     matching of buy and sell orders in the
gaining from new development and                       market. Efficient and well organized
change.     (Speaking     from   personal              clearing services facilitate smoother and
experience at Eurex, the operators of                  more efficient markets, as market
established exchanges observe, vice                    participants    need    only   engage   in
versa, the development of emerging                     settlement transactions with one entity,
market exchanges!) This helps to further               the clearing house, instead of with
develop, adapt and improve their own                   individual counterparties with whom they
strategy in order to find the perfect mix              have transacted. Good clearing services
for their countries and regions.                       can properly automate processes such as
                                                       daily    marking-to-market     of  market
Evidence   supports    this   observation.             participants’ positions. Furthermore, the

                                              - 11 -
                       The World's Commodity Exchanges: Past, Present, Future

central counter party of a clearing house               participating exchanges would then be
takes responsibility for ensuring the                   obliged to adhere to changes decided
fulfilment of all settlement obligations                upon by the corporate actions committee
arising     from    market     participants’            of the common clearing house.
positions, this providing a lower risk of
default for market participants with long               From      the   market   participants’
positions. Basically, the larger the scale              perspective the membership of a
these tasks are performed on, the more                  common clearing house is of huge
efficient the whole business is. Setting up             importance. When multiple exchanges
a central clearing house for an entire                  clear through one clearing house,
region like CEE can be of great benefit                 membership of the common clearing
for the markets in that region.                         house will no longer be equivalent to
                                                        membership of a common exchange. The
Most exchanges in the CEE region are                    intermediary role of the centralised
still dealing with their own clearing                   clearing house will facilitate cross
houses. Being realistic, the transition                 exchange matching.
from     this    arrangement     to   the
establishment and use of a common                       The common regional clearing house
clearing house by all exchanges and                     would also be able to offer proper
markets in the region, can only be                      clearing services to the over the counter
achieved with the unified clearing house                (OTC) markets, liquidity that is currently
being partly owned by all participating                 there also being more easily wooed onto
exchanges. It is unlikely and inadvisable               the exchange as a result.
that an exchange would hand over
control of its markets’ clearing business               That recent development in global
to a clearing house in which it owned no                markets, not just in CEE, has been too
share or which was controlled by a                      intensely focused on the heady, fast
competitor. The ownership structure of a                moving, sparkling world of trading, while
common clearing house would have to                     the back room, after hours domain of
reflect the common interests of the                     clearing has largely been dragged along
exchanges and markets that used the                     behind is confirmed by the technology
services of the clearing house.                         vendors. The abundant offerings of all
                                                        possible sorts of electronic trading
The model of the common regional                        solutions is in sharp contrast to the
central counter party clearing house,                   dearth of solutions enabled to bring
connecting several exchanges that list                  effective, flexible, real-time clearing
the same products, helping to bring                     services for transactions concluded in the
together buyer and seller by placing a                  global markets.
central counter party between them, is
the ideal model for a region like CEE. The              Emerging markets have applied lessons
main advantage resulting from this                      learned, but there is still potential to do
construction would be higher and more                   even better. The setting up of a common
concentrated liquidity (better prices for               regional central counter party clearing
market participants therefore), this, in                house would be one step which would
turn, having a catalytic effect on the                  bring enormous benefits to the markets
“more liquidity attracts more liquidity”                of a region such as CEE. Such an
phenomenon. The increased level of                      initiative would be exemplary for Western
regional integration in clearing house                  European markets where the political will
services would inevitably boost activity                to create proper, integrated, cross-border
on the trading side. Things like the                    clearing services has failed until now. The
mechanics of corporate actions would be                 prospect of being able to close out a
streamlined.   The     common      regional             position at an exchange in Paris that had
clearing house would be the single                      originally been opened at an exchange in
organisation mandated to decide and act                 London, the transactions being cleared
upon corporate actions (a committee of
representatives of the clearing house’s
user exchanges would do this). All

                                               - 12 -
                      The World's Commodity Exchanges: Past, Present, Future

by a common clearing house in                           exchange in Bucharest, the transactions
Frankfurt, may still be a long way off.                 being cleared by a common clearing
The infrastructure to facilitate closing out            house in Prague, can be and needs to be
a position at an exchange in Budapest                   put in place.
that had originally been opened at an


Author Note:
Simona Simon is in charge of Emerging Markets sales and business development at
Eurex. Simona has also worked as a market supervisor and was responsible for legal
coordination at Eurex. Prior to joining Eurex, Simona worked at the education institute
Management Circle and as a lawyer and legal trainer. Simona Simon is an accredited
lawyer and member of the German Bar. Simona also holds a Masters of Business


                                               - 13 -
                      The World's Commodity Exchanges: Past, Present, Future

Problems in the design of futures and options markets in the
developing world: An institutional investor's perspective
By John Mathias

The last decade has seen an explosion in the creation and development of listed
derivatives markets. However, many, if not most, of these newer markets have
paid only limited attention to optimal design, says John Mathias, Global Business
Development Manager in the Financial Futures and Options Group at Merrill
Lynch, who argues that this is largely a result of opaque objectives for their

Listed derivatives markets in the                             instruments help productivity in
developing world are often built on the                       the underlying commodity;
existing model for national equity and                    •   A forum needs to be created to
bond (cash) markets, without systematic                       develop expertise in financial
planning to meet a chosen set of defined                      markets in general, while
economic objectives. Furthermore, such                        harnessing speculative
lack of transparency has hindered the                         tendencies;
participation of existing international                   •   Futures and options exchanges
market      participants   looking    for                     are a relatively resource-efficient
investment, hedging and speculative                           method of attracting foreign
outlets, other than those offered by the                      investment, particularly from the
bigger, more mature, markets of the                           developed world;
developed world. The participation of                     •   A national futures and options
international players, which can be seen                      exchange is a symbol of
by some as a threat to both local                             modernity. Every country which
economic interests, is nevertheless vital                     claims status as a modern nation
to the sustained liquidity and growth of                      should have one.
these newer markets.
                                                       In examining whether these listed
This discussion raises the question of                 derivatives markets in the developing
why the listed derivatives markets were                world meet broad objectives satisfying
initially developed. There are a number                the needs of the investor community at
of underlying reasons for this which                   large, it is useful to employ two purely
might read as follows:                                 heuristic constructs. Neither of the
                                                       constructs actually exists in the real
   •   Existing national (cash) markets                world, but each is created as a simplified
       require an orderly and a well                   crystallisation of observed characteristics
       regulated formal hedging                        of many of these markets; in other
       mechanism;                                      words, no single market which has been
   •   Government national debt,                       created in the developing world in the
       commodity (agriculture, energy),                last decade in fact has all these
       and private capitalisation                      characteristics. My two constructs here
       programmes require additional                   are national and international listed
       sources of liquidity, with listed               derivatives markets; the international
       derivatives acting as surrogates                markets may be either regional (e.g.
       for their underlying instruments;               Euronext.liffe) or global (e.g. CME) in
   •   Participants in core sectors of the             focus.
       national economy (e.g.
       agriculture, energy) need a                     The characteristics of the national
       hedging mechanism against the                   market are:
       risk of price and supply volatility.               • The product range relates to
       Here relevant derivative                              underlying instruments relating

                                              - 14 -
                   The World's Commodity Exchanges: Past, Present, Future

    to, or composed of, instruments                     •   Simplified exchange technology:
    or assets created in and already                        significant use of variants of
    trading in the national economy;                        platforms already used in the
•   National (government) policy                            national cash markets, very often
    strongly influences the product                         domestically developed (e.g.
    and membership objectives of the                        TurkDex); this is coupled with a
    exchange;                                               lack of discussion at the time the
•   Good integration with existing                          exchange is established with
    financial and commodities                               existing international service
    markets (e.g. national stock                            providers for front, middle, and
    exchanges, primary commodity                            back office software;
    markets, and government debt                        •   A bias in targeted customers
    auctions);                                              towards local retail and middle-
•   A strong presence of ex-                                tier corporate customers, rather
    regulators in the senior and                            than well capitalised institutional
    middle management of the                                players. This falls into line with
    exchange. Key staff tend to be                          the objective of the national
    imported from existing markets                          futures exchange being a source
    or the national regulatory bodies;                      of wealth enhancement for the
•   A coherent body of law and                              common man and the emerging
    regulation permitting at least a                        national middle classes;
    basic standard in the legal safety                  •   Relatively low capitalisation
    of transactions on the exchange.                        requirements for exchange
    (This is, like the other                                members, even clearing
    characteristics of the construct, a                     members. Such low capitalisation
    simplification, and it is possible to                   is balanced by close monitoring of
    point, for example, to the Russian                      tight position limits (e.g. in the
    Federation, where transactions on                       cases of the NSE, KRX, HKEx
    futures and options exchanges                           exchanges), and scrutiny of
    are still considered as gaming                          deposited margin to capital
    practices under law);                                   prudential ratios, in some cases
•   Relative insensitivity to the wider                     (e.g. in that of Taifex)
    (extra-national) implications of                        additionally supported by prior
    relevant tax legislation. The tax                       deposit of margin collateral (“pre-
    regime applied to listed                                margining”).
    derivatives is generally no better                  •   A strong requirement for a
    or worse than that applied to the                       physical presence as a member of
    existing cash markets in the                            the national exchange; this
    domestic economy. Examples in                           entails separate national member
    this context are the transfer taxes                     legal entities and completion of a
    applied to transactions on the                          regulated mandatory staffing
    BM&F in Brazil and Taifex in                            requirement within the member
    Taiwan;                                                 entity, very often blocking the
•   Limited sensitivity to banking                          use of staff already employed
    restrictions, which include central                     locally in other affiliated legal
    bank authorisations and foreign                         entities;
    exchange controls;                                  •   Limited concrete activity to get
•   Simplified choice in transaction                        cross border approvals for
    process: at best a limited                              national exchange products and
    possibility for separating the                          brokerage services from major
    execution from the clearing and                         regulators in the developed
    settlement function in brokerage                        world.
    services; very often transfer of
    executed trades (“give-ups”) is                  The construct of the international
    not permitted at all (e.g. on                    exchange characterises in most aspects
    TurkDex);                                        the opposite of the national model.
                                                     However, as these characteristics are

                                            - 15 -
                       The World's Commodity Exchanges: Past, Present, Future

generally well known, it is worthwhile                     these markets, if not all of them, make
merely summarising them here:                              serious attempts to attract existing
                                                           sophisticated players already trading on
   •   weaker      direct     influence      of            the derivatives markets of the developed
       government         policy,      though              world. However, the structure and
       indirect influence may be severe,                   framework of their markets remain
       with state treasuries/ministries of                 essentially national. This has led to
       finance in the developed world                      difficulties experienced by international
       applying pressure for support of                    players eager to enter the newer
       government economic policies;                       national markets of the developing
   •   independent exchange creation,                      world.
       where alliance with national cash
       markets often comes later, or, if                   A few examples will indicate some of the
       created at the outset, is loose;                    recent important issues:
   •   a product range determined by
       economic advantage rather than                         •   frustration with transaction taxes
       politics or national economic                              in such markets as Brazil and
       interest;                                                  Taiwan;
   •   a      regulatory        and       legal               •   punitive withholding taxes in
       environment                 essentially                    Mexico which were finally lifted in
       established         outside          the                   December 2005;
       framework        of      the      listed               •   foreign exchange controls which
       derivatives markets (though it                             still apply, even in mitigated form
       may subsequently be modified by                            (Russia, India, Thailand);
       issues relating to them);                              •   position limits which do not even
   •   strong     mutual      (international)                     approximately accommodate the
       regulatory recognition of market                           current transaction appetite of
       standards and products;                                    sophisticated          international
   •   standardised               technology                      players (for example on the NSE,
       platforms with good interfaces                             KRX, HKEx);
       with products created by leading                       •   exchange platforms which lack
       international service providers                            connection to existing processing
       and vendors;                                               systems used by multinational
   •   focused attention to tax and                               clearing brokers, or when they
       banking issues;                                            are     technically    connectable,
   •   high relative capitalisation of                            require radical reworking of such
       clearing members, with explicit                            basic elements as the account
       segregation of functions between                           structure (here, SAFEX comes to
       execution     and     clearing       and                   mind);
       settlement; and,                                       •   pre-margining rules designed to
   •   generally benign position limits                           bolster protection of the market
       for a wide range of market                                 in general against individual
       practitioners      which      includes                     member default, but which in fact
       sophisticated institutional players                        lead to minute concentration on
       (market makers, position takers,                           local cash flow management by
       international                 financial                    international players located in
       corporations)       as      well      as                   different time zones, a problem
       participation from an aware                                exacerbated        by      deadlines
       private sector.                                            imposed by the foreign exchange
                                                                  controls mentioned above; and,
I have presented these two constructs of                      •   the relative cost of injecting
the national and international listed                             capital into individually staffed
derivatives markets as an attempt to                              local legal entities, when other
highlight what I consider to be an                                existing legal entities, located
implicit, but nonetheless core, problem                           remotely,      could    theoretically
in the building of listed derivatives                             conduct the business.
markets in the emerging world: most of

                                                  - 16 -
                     The World's Commodity Exchanges: Past, Present, Future

The major argument here is that explicit              and in some ways the core aims of each
attention by the market planners to the               of the two constructs presented here are
different characteristics of the national             in conflict with each other. Nevertheless,
and international models, as presented                an explicit examination of both the costs
here     in   simplified   form,    would             and the benefits of any particular
substantially help the process of                     exchange objective will inherently create
founding futures and options markets                  markets whose design meets in some
which have more chance of attaining                   significant way the aims of both national
defined economic and social objectives.               and international investors, assuring
In listing the characteristics of the two             improved liquidity and financial stability,
constructs above, I have indicated that               with enhanced completion of national
there is choice: there is no particular               economic objectives.
model which satisfies all possible aims,


Author note:
John Mathias is the global business development manager in the Financial Futures &
Options group at Merrill Lynch. An ex-chairman of the Futures Industry Association’s
European Chapter, he is a board member of the Futures and Options Association in
London and a member of the Eurex Council. He was educated at the London School of
Economics and Oxford University (D.Phil.).


                                             - 17 -
                       The World's Commodity Exchanges: Past, Present, Future

The last mile: Linking future users to the commodity exchange
By V. Shunmugam and D. G. Prasad

"To emerge as a globally competitive exchange, it is essential to have cutting
edge technology infrastructure that delivers highest levels of transaction
processing capabilities. Mission critical applications related to commodity
exchanges require rich domain knowledge and technology expertise to create a
winning solution, which FTIL and MCX have demonstrated in India and the Middle
       - Jignesh Shah, Managing Director & CEO, MCX

India faces diverse challenges in its                   provide a choice of a few specialized
efforts to develop its economy and play a               commodities. The lack of development of
significant role in the global economy.                 the farming community and their
Among the strongest of challenges for                   exploitation led to the government
the country includes introducing reforms                decision to open national level multi-
to the primary sector which has been                    commodity futures exchanges in India
stagnating over the years. In particular,               with     a   view    to     ensuring    better
there is a need to bring better                         realizations    for    the     producers    of
management of the marketing of primary                  commodities,         including       farmers.
commodities in terms of distribution and                However, attaining broad coverage of the
pricing. Considering the complexity of                  participants active in the commodities
the task, there is no doubt that there was              ecosystem, in particular overcoming the
a    need    for   an    effective   market             geographical barriers to integrating them
mechanism working with the help of a                    into the markets, always remained a
strong backbone of Information and                      hurdle in their effective functioning. The
Communication Technology (ICT). The                     government would like to see better
success of these markets largely depends                utilization of the facilities that have been
on its reach to the wider audience who                  built by the financial markets and ensure
form an integral part of the ecosystem.                 transparency in the operations of these
Hence, the immediate task for the                       commodities exchanges.
government should be to remove the
policy obstacles that limit the potential
use     of   technology      for   equitable            NEED FOR ONLINE EXCHANGES
development.                                            Online exchanges facilitate an individual
                                                        to trade from anywhere. Further, the
                                                        network is easily expandable compared
In the aftermath of the major stock                     with the establishment of the physical
market scam of 1992, the Government of                  infrastructure. Apart from lower costs,
India understood the importance of                      online      exchanges     also     provide
technology to bring in e-readiness and                  transparency, as they are order-driven
thereby effectively regulate the financial              trading systems in which matching of
markets. One such step was the                          orders     is   executed    automatically,
establishment     of     online     trading             removing the possibility of human
exchanges (backed by IT infrastructure),                intervention in the process. Real-time
which has brought a revolution in the                   dissemination of information, which takes
way financial markets operate. While the                place on the electronic trading platform,
capital markets have evolved over the                   equips the participant to take informed
years, commodity markets lagged behind                  decisions. This is a clear case of ICT
for various reasons, in particular the poor             integrating and bringing efficiency to the
trading opportunities offered by most of                markets by potentially connecting all
the regional exchanges which could only

                                               - 18 -
                                    The World's Commodity Exchanges: Past, Present, Future

users in the ecosystem whilst making                                       MULTI COMMODITY EXCHANGE – A
trading easier to one and all.                                             TECHNOLOGY LEADER
The ICT infrastructure in an exchange is                                   MCX, promoted by Financial Technologies
a communication network that offers                                        (FTIL), is a new order exchange that has
connectivity to the Central Processing                                     permanent      recognition     from     the
Engine (CPE) of the Exchange. This                                         Government of India to set up a national
network is provided through Satellite                                      online          (electronic)         multi-
based network (VSAT) or by other cost-                                     commodity marketplace. The promoters
effective methods such as a dedicated                                      being a technology solution and financial
leased line from a service provider. Apart                                 service provider, the Exchange was able
from these two networks, the most                                          to introduce state-of-the-art online digital
common connectivity, the Internet, can                                     exchange for commodities trading in the
also be used. Of late, service providers                                   country.
are also using Computer-to-Computer
Link    (CTCL)    networks   to   provide
individual investors a more cost effective
                                                                               MCX uses FTIL’s advanced Exchange
Working of an online exchange:                                                 Technology Framework that includes:
                                                                                   At the Exchange end
                 Central Processing Engine (CPE)                                   - Central Matching Engine
                                                                                   - Central Broadcast Engine
                                                                                   - Clearing & Settlement System
        At Exchange                                                                - Centralized Surveillance
                                    WAN Cloud                                      - Order Management System
                                                                                   At the Member end
                                                         TWS on                    - Trader Workstation
                     Surveillance                         LAN
                     Workstation     LAN at member’s end

                               TWS      TWS        TWS                     MCX provides real time online automated
                                                                           trading facilities for its members and
                                                                           clients through sophisticated satellite
A CTCL is a private network of the                                         based communication network called
broker, which is offered through Internet,                                 Very Small Aperture Terminal (VSAT),
leased line or VSAT and a broker can give                                  leased line and also through Internet. A
direct access to the trading platform to                                   small user can also access the Exchange
the    franchisee    or    clients.   With                                 through a broking house to reduce cost
sophisticated communication technology,                                    further.     These      technology-driven
such as Wi-Fi systems linked to a                                          solutions would definitely facilitate the
broadband network, the trading platform                                    establishment     of   business    models
can be accessed even from a moving car.                                    specially designed to bring in previously
Further, with the markets across the                                       ignored commodity producers into the
globe becoming more interlinked and                                        market.
trading taking place throughout the day,
exchanges can work smoothly and
                                                                           THE TECHNOLOGY CHALLENGES
competitively    under    this    seamless
environment only if they have cutting-                                     In the present system of online
edge technology enabling their trading                                     exchanges, the real strength of an
system.                                                                    exchange is the ability to process
                                                                           maximum number of transactions in a
                                                                           short span of time. The time taken to
                                                                           process each of these transactions

                                                                  - 19 -
                           The World's Commodity Exchanges: Past, Present, Future

determines      the   real    efficiency    of   an             technology framework developed by FTIL
exchange.                                                       must be able to achieve its goal of a
                                                                reliable, scalable and mission critical
                                                                trading platform.
The prospective introduction in India of
futures index and options trading on                            MCX trading operations are conducted
commodity exchanges and permission for
Mutual Funds, Banks and Foreign                                 Using a satellite network to           link
Institutional    Investors    (FIIs)    to                      users to the exchange:
participate in commodity futures trading1,
would put the entire system to new tests
with vertical and horizontal volume
expansion.      Hence,     an   exchange
infrastructure, being a mission-critical
deployment, must deliver:

    •   Scalability: The solution must
        ensure     that    operations   can
        seamlessly scale-up and scale-out
        to   handle     growing    business,
        connectivity,     and    transaction
        needs.                                                  under the automated screen based
                                                                trading system. The members of the
    •   Availability: The solution must
                                                                Exchange are provided software known
        provide a fault-tolerant trading
        environment delivering highest                          as ‘Trader Work Stations (TWS)’, which
        levels of availability and continuity                   enables the terminal to link with the
        in trading operations.                                  Exchange server. At this point of time,
                                                                MCX has more than 10,000 TWS
    •   Concurrency: The solution must                          operating from different parts of the
        support     high-volume       market                    country. This includes the CTCL terminals
        participation (essential for building
                                                                that are offered by different service
        liquidity) by enabling members to
                                                                providers. This widespread dispersal of
        simultaneously connect to the
        central trading engine.                                 trading terminals helps people from all
                                                                over the country to participate in the
    •   Connectivity: Being a nationwide,                       price   discovery     process   on    the
        online   trading     initiative,   the                  commodity exchanges.
        network      infrastructure      must
        support access through diversified
        modes such as VSATs, PSTN                               In an online exchange, it is of utmost
        Lines, Leased Lines, Internet and                       importance      that    a    proper     risk
        VPN connectivity to ensure a level                      management system should be in place.
        playing   field    for    participants                  The risk management system of MCX is
        across the country.                                     online and has real-time control of
    •   Rapid       Deployment:     The                         exposure limits for the traders and
        technology framework must have                          monitoring of losses, if any, to keep them
        ‘rapid      customisation   and                         under check. As far as margins are
        deployment’ capability to enable                        concerned, the initial margin is computed
        MCX, a for-profit exchange, to                          online and the Mark-to-Market (MTM)
        respond to market demands and                           margin is calculated post-closing. MCX is
        requirements in the shortest                            possibly the only Exchange which also
        possible time.                                          monitors    MTM      margin    online   and
                                                                prevents any member going beyond 75
                                                                percent of his deposit in terms of losses.
Keeping these in mind, the exchange
   With the Forward Markets Commission (FMC)
                                                                To assist a member in this, the software
endorsing the entry of Banks, Mutual Funds & FIIs               provides the member administration
in the commodity derivatives market, subject to the             terminal with an online feature where the
approval norms of their respective regulators, their            member can view the utilization of
entry into the commodity futures market may be                  margin and he also gets alerts from the

                                                       - 20 -
                      The World's Commodity Exchanges: Past, Present, Future

Exchange when he utilizes deposits as                  Sanchar Nigam Ltd. (BSNL) 2 and
margins. To keep the price volatility                  Mahanagar Telephone Nigam Ltd (MTNL)3
under check, the exchange provides for a               to initiate SMS services, such as the
maximum allowable price fluctuation                    provision of real time information on MCX
called a “price circuit filter”. Both these            commodity prices to the interested
are monitored on a daily basis.                        players in the ecosystem. This innovative
                                                       service is to empower the rural people,
                                                       and especially the farming community,
MCX                                                    thus bringing forth the benefits of
                                                       efficiently discovered future prices.
The evolution of commodities futures
markets powered by ICT offers many
opportunities. The setting up of the                   MCX, in alliance with India Post, has
National Spot Exchange for Agricultural                launched     “Gramin    Suchna    Kendra”
Produce (NSEAP), a FTIL group company                  (village information centres) in rural
proposing to link 7,500 agricultural                   villages. This takes advantage of the
markets across over 5,000 cities, is one               rural reach and trust of the India Postal
such national project. The objective of                Service among the rural community. MCX
this initiative is to provide an electronic            is working in tandem with India Post to
platform, using the same model as in                   upgrade the Indian rural economy to
futures exchanges for commodity spot                   international standards by providing the
trading. This can bring about greater                  last mile connectivity to rural areas and
transparency and better price discovery                developing the required infrastructure.
in physical markets.                                   Furthermore, the Exchange has ensured
                                                       that the benefits of ICT reach the rural
                                                       sector through VSAT, Internet, mobiles
MCX and NSEAP have launched India's                    and     ticker   board     by    real-time
first ever "Commodity Soochana Kendra",                dissemination of prices.
a knowledge centre for commodities, at
the agricultural market in Navi Mumbai.
MCX and Maharashtra State Agriculture                  MCX is also a part of “The National
Marketing Board (MSAMB) along with                     Alliance on Mission 2007”. This forum
NSEAP have opened the "Commodity                       wants to establish 100,000 Common
Soochana Hub" in Pune. This hub has                    Service Centers (CSCs) 4 primarily in the
electronically linked 290 agricultural                 rural areas. These centers deliver
markets across Maharashtra to provide                  commodity-related services, as well as
accurate and real time price information               many other government services, to
for farmers. The establishment of NSEAP                citizens in rural areas, with e-governance
has opened up a wide set of benefits to                providing the building block to bring
participants     in    the    commodities              fundamental social development to rural
ecosystem brought about from the                       India. Thus, the Exchange, along with the
application of IT solutions. The future of             National    Bulk    Haulage    Corporation,
commodity markets have been redefined                  NSEAP and the CSCs, would create the
as a result of the IT-enabled environment              largest e-commerce network in the world,
generating increased number of products                thereby        providing       e-commerce
across diversified segments as well as                 opportunities to buy and sell agricultural
growing awareness and expanding reach.                 and rural inputs and outputs throughout
                                                       this network.

Believing that information sharing is a                CONCLUSION
critical component of providing benefits
to the rural market, MCX started                       2
                                                         Bharat Sanchar Nigam Ltd. is World's 7th largest
disseminating prices to the rural segment              Telecommunications         Company        providing
in partnership with the Department of                  comprehensive range of telecom services in India.
                                                         Mahanagar Telephone Nigam Ltd. is one of India’s
Agriculture and Cooperation. MCX has                   leading and one of Asia’s largest telecom operating
also entered into alliance with Bharat                 companies.
                                                         The CSC is an initiative of the Department of
                                                       Information Technology and the Government of

                                              - 21 -
                     The World's Commodity Exchanges: Past, Present, Future

It is apparent that the use of ICT can               the world’s largest consumer of edible
significantly increase the efficiency of             oils, pulses and gold), could significantly
commodity markets and the economy                    gain from efficiencies created in the
more broadly when one considers the                  commodity       markets     through     the
multiplier effect on the Services and                combined       effect    of     stakeholder
Manufacturing sectors. With ICT at their             participation and electronic trading. Given
disposal, commodity exchanges are sure               the fact that India has over 300 major
to penetrate much deeper and wider into              markets and 7,500 agricultural markets
the country’s primary markets. India,                in total, it is evident that the Indian
being a predominantly agrarian economy               commodities market offers unparalleled
and the world’s leading producer of 17               growth opportunities from linking up the
agricultural commodities (besides being              last mile to reach potential customers.


Author notes:
Dr. V. Shunmugam is the Chief Economist of the Multi Commodity Exchange of India Ltd
(MCX), and is involved in the analysis and dissemination of market data to stakeholders,
including policy makers. Dr. Shunmugam joined MCX after having successfully completed
a tenure of 8 years with the United States Department of Agriculture (USDA) at the US
Embassy, New Delhi, reporting to the USDA about various Indian economic developments,
agricultural production/supply, and trade policy developments.

Mr. D. G. Prasad is an Economist with the Multi Commodity Exchange of India Ltd (MCX),
Mumbai and is involved in analysis of the market and design of exotic commodity futures
contracts. Mr. Prasad has acquired 6 years of research experience from the ICFAI Center
of Management Research, a division of Institute of Chartered Financial Analysts of India
(ICFAI) and has authored several case studies used in renowned management schools
around the world.


                                            - 22 -
                        The World's Commodity Exchanges: Past, Present, Future

The challenges in integrating an agricultural commodity derivatives
market into an underlying spot financial market
By Rod Gravelet-Blondin

The challenges in integrating an agricultural commodity derivatives exchange into
an underlying spot financial exchange lie in ensuring that the objectives of the
former are not compromised and that the nature of the underlying product
continues to be recognised, says Rod Gravelet-Blondin, here writing in a personal

The merging of two or more exchanges,                   influenced by political factors, should be
the takeover by an exchange of one or                   economic – to provide a better market
more other exchanges or the integration                 (greater liquidity, greater efficiency,
of two or more exchanges is regular front               easier access, greater security, more
page news in the exchange industry                      products, lower costs and all those good
media these days.                                       things) with less resources.

By “exchange”, I mean a regulated                       The question before us is whether there
organization, association or group which                is a fundamental difference between the
provides or maintains a marketplace                     integration of, for example, an equity
where securities or commodities can be                  exchange (a stock market) and a
traded and which is accompanied by                      financial derivatives exchange and the
standard procedures for settling trades.                integration of, for example, an equity
The most common form of such merger /                   exchange an agricultural commodity
integration activity is where there are                 derivatives exchange. Although the final
significant synergies among the relevant                answer does not necessarily impact on
parties, either in the products traded                  the decision as to whether the two
across the various markets, or in the                   exchanges in the mentioned examples
geographic coverage of the particular                   should merge or not, it does present, in
markets. In the latter case, that of                    the view of the author, different
geographic coverage, the motivation                     challenges that need to be faced and
could be either to consolidate within an                addressed. Perhaps a good place to start
area or to broaden the coverage to a                    would be to briefly examine the primary
wider area. The fundamental reason for                  objectives of the three exchanges
such activity, although perhaps partially               mentioned in the examples above.

      Exchange                      Objectives
      Equity Exchange               To provide companies with access to funding through an
                                    Initial Public Offering (IPO)
                                    To provide a market where investors, both institutional and
                                    private, can trade equities with the aim of increasing the
                                    value of their investment.
      Financial     Derivatives     To provide a facility where investors, both institutional and
      Exchange                      private, can manage the price risk related to their equity
                                    To provide a market where investors can speculate on the
                                    future value of underlying financial instruments.
      Agricultural   Commodity      Primarily to provide a facility where participants in a particular
      Derivatives Exchange          sector can manage the price risk related to the underlying
                                    product and to provide an effective price discovery
                                    mechanism for the product.
                                    To provide a market where investors can speculate on the
                                    future value of the underlying product.

                                               - 23 -
                        The World's Commodity Exchanges: Past, Present, Future

Although it is apparent that there is a                   and have distorted the economy by
natural overlap between the objectives of                 encouraging production in marginal
all the exchanges, it is also evident that a              areas, incorrectly rewarding participants
greater synergy exists between the                        and have led to the incorrect allocation of
objectives of an equity exchange and that                 resources. Many countries are now re-
of a financial derivatives exchange. This                 evaluating these policies and looking to
is fundamentally as a result of the nature                economic-based       solutions,   such  as
of the instruments traded on the                          derivative markets, to address the price
exchanges. Agricultural commodities are                   risk issue for agricultural products.
in many ways different to financial
securities, such as equities, and therein                 Thus, in some countries, there has been
lies the rub.       Although the contracts                direct support for the development and
traded on an agricultural commodity                       establishment       of     an    agricultural
derivatives market can be seen as                         commodity derivatives market and in
financial instruments, the fact remains                   others, governments have withdrawn
that     they     fundamentally     represent             from the price intervention space to allow
agricultural commodities and that link is                 agricultural commodity exchanges to
difficult, if not impossible, to sever.                   develop on their own. Either way, there
                                                          has been the acknowledgement that an
Thus the challenges in integrating an                     agricultural     commodity         derivatives
agricultural    commodity       derivatives               exchange can fulfil the price stabilisation
exchange into an underlying spot                          requirement that needs to be addressed
financial exchange lie in ensuring that the               within       the      agricultural      policy
objectives of the former are not                          environment. This then points to the fact
compromised and that the nature of the                    that     an      agricultural     commodity
underlying product continues to be                        derivatives market can be seen as a
recognised.                                               different “animal’ to a purely financial
                                                          market and underscores the idea that
Agricultural     commodity         derivatives            there is a fundamental difference in the
markets can, and do, play a crucial role                  objectives or functions of these different
in the mix of agricultural policy objectives              kinds of exchanges.
within a country.        Agricultural policy,
particularly as it relates to food, is central            Let us address, to underline this, just two
to the economic policies of countries and                 issues related to the primary objectives
has, and will remain, a much-debated                      of a derivatives exchange, that of price
area. One only has to look at the present                 risk management and that of price
debates in the WTO to again be reminded                   discovery. The price risk management
of this fact. The price risk inherent in                  (price stabilisation) facility provided by
agricultural production is a fact that                    an agricultural commodities exchange
agricultural policy must address. In many                 either replaces or complements the price
countries over many years, governments                    stabilisation policies of a government and
have chosen to address this price risk                    as such should be readily accessible to all
with price stabilisation policies. In other               participants at a reasonable cost. Thus,
words, governments have assumed the                       the costing of the agricultural commodity
price risk upon themselves and stabilised                 derivatives market might well be subject
prices to both the producer, to encourage                 to different factors than those applicable
and maintain food supply, and to the                      in a financial market. Indeed some
consumer, to ensure the affordability of                  governments          actually       subsidise
food to the populace. Despite the fact                    participants in their use of an agricultural
that in many, and perhaps most, cases                     commodity derivatives market. It is
such policies have taken on political                     interesting at this point also to mention
overtones, the policies in themselves                     that    the    structure    and    corporate
have been successful.           Farming has               governance of agricultural and financial
generally flourished and food has been                    exchanges might also be different in the
available. Many critics of such policies                  light of the above.           Certainly, the
will argue that they are extremely costly                 question can be asked, and the debate

                                                 - 24 -
                       The World's Commodity Exchanges: Past, Present, Future

had, as to whether an agricultural                       market place in its broadest sense. It is
commodity derivatives exchange should                    very difficult to justify price movements,
be a profit motivated company.         In                especially rising prices directly related to
government-applied price stabilisation                   food, that result from speculative activity
programmes, the applicable prices are                    on an exchange. This could impact upon
readily available and widely published.                  how    the     different   exchanges     are
Many exchanges charge for the data                       marketed and portrayed in the media.
emanating from trading and again the
question can be asked, in view of the                    This then brings me to the fundamental
price discovery role played by an                        challenge in integrating an agricultural
agricultural     commodity      exchange,                commodity derivatives exchange into an
whether all data should be made                          underlying spot financial exchange and
available free of charge and disseminated                the possible way of meeting and
accordingly.      In fact, perhaps the                   addressing the challenge. In the view of
government should have a role in making                  the writer, there is a difference in the
such price data available.                               objectives and the functioning of an
                                                         agricultural      commodity     derivatives
Because most agricultural commodity                      exchange, largely due to the nature of
derivative instruments are physically                    the products traded. It is imperative that
settled, the “area” of operations is most                this understanding and focus is not lost in
often much broader than that of purely                   any integration process. The temptation
financial markets.        The settlement                 might well be to “lump” all markets
procedures could well encompass grading                  together on either a geographical or an
experts, storage facilities and even                     operations basis in an effort to benefit
transporters.      The whole area of                     from economies of scale - and thus lose
warehouse or silo receipts used in the                   the concentrated focus required to
delivery process is a case in point.                     understand the specificities of agricultural
                                                         commodities and particularly how they
Coupled      to   the    fact    that    the             relate    in    a    policy   environment.
establishment      of    an      agricultural            Practically, this could mean maintaining a
commodity derivatives market maybe                       commodity product-focused team and a
strongly aligned to other agricultural                   commodity product-focused department
policy initiatives is the whole area of                  or division.        This will enable the
speculative activity on the market. There                continuation of ongoing communication
is no dispute that speculative activity is               with and the pursuit of relationships
advantageous for exchanges, including                    within the agricultural sector.
agricultural    markets    -  it    provides
participants with opportunities for risk                 The challenge in this is the integration of
transfer that would never have existed                   possibly different cultures, but this is a
and the liquidity necessary for a                        common challenge faced within all
functioning market. The difficulty is in                 mergers and organisational integrations
how this message is conveyed to the                      and not the subject of this article.


Author note:
Roderick M. Gravelet-Blondin spent twenty years with the South African Department of
Agriculture during which time he represented South African agriculture in Europe. In June
1995 he joined the South African Futures Exchange (SAFEX) to assist in the establishment
of the Agricultural Markets Division. He continued to head up the agricultural commodity
derivatives market when SAFEX was acquired by the JSE.


                                                - 25 -
                      The World's Commodity Exchanges: Past, Present, Future

Integrating exchanges with commodity finance using electronic
warehouse receipts
By Kevin Potter

Things change when a warehouse receipt begins to behave like a trusted financial
instrument, writes Kevin Potter, founder of South Africa-based Sandbox
Technologies. In the following article, Kevin explores the requirements for and
implications of a successful electronic warehouse receipt-based system on the
banking and exchange sectors.

We share this paper from a commercial                  symbolic delivery in the form of an EWR.
and practical perspective of having                    This is often an adjunct for an exchange
deployed a national electronic warehouse               only to allow it to perform its core
receipt system in South Africa for grain-              function to facilitate market futures
based commodities, servicing both the                  trading,    yet   it   is   a   necessary
banking sector and derivatives exchange.               administrative and risk burden of
After learning experiences gathered in                 positions not closed. The commodity
several trips to Eastern Europe, India and             financier simply requires an EWR as
other places, we have developed a                      security for amounts owing.
newfound respect for the role that a
lowly warehouse receipt can play in                    The integration of these two needs
supporting a value chain. Things change                intersect at an ‘exchange deliverable’
when a warehouse receipt begins to                     EWR. This is a specific type of security,
behave      like   a    trusted   financial            reducing the risk profile of the book
instrument.                                            exposure to the financier and increasing
                                                       the trust in the operations of the
Not all markets are suited to a market-                exchange. The commodity financier can
wide    implementation      of  warehouse              generally have three types of certificates:
receipts. Most suited are value chains                 from a collateral manager, an EWR (not
that have developed a role for the                     exchange-deliverable) or an exchange-
independent warehouseman, either due                   deliverable     EWR.     The      collateral
to the logistics profile or the segmented              management receipt is generally nor
role of numerous players in the value                  transferable and gives access to the
chain. Secondly, there is also the need to             physical goods in the event of default
engage the banking sector at various                   only.    The    EWR     (not    exchange-
points to finance the holding of the                   deliverable) issued by a warehouseman
commodity. In South Africa, we have a                  could     potentially   be    transferable
liquid market and a well run derivatives               depending on the nature of the terms,
exchange that trades many times the 14                 but a financier requires an individual
million ton physical market. This paper                third party to sell the goods to in the
focuses on the derivatives exchange                    event of default, not the core business or
dynamics and not a physical or spot                    expertise of a bank. On the other hand,
exchange which has a different set of                  an exchange-deliverable EWR has two
dynamics, one in which the electronic                  major attributes that allows it to evolve
warehouse receipt (EWR) plays an even                  into a financial instrument for financiers
greater role of securing certainty of                  with high security worth: it is easily
supply in the obligations of a seller.                 priced given a market exchange price,
                                                       and easily liquidated to cash in the event
The linkage of an EWR to a derivatives                 of default through the derivatives
exchange and commodity finance is                      exchange.
rather simple. The derivatives exchange
requires physical delivery for positions               What elevates the lowly warehouse
not closed and that is done through                    receipt that is deliverable to an exchange

                                              - 26 -
                       The World's Commodity Exchanges: Past, Present, Future

to an evolving financial instrument, are                 similarly be achieved in the terms and
two key requirements. The first is ‘trust’               conditions carried on the face of the EWR
in the warehousemen. This is usually in                  that provides a similar status to the
the form of an accreditation requirement                 acquirer, and especially to reduce the
of the warehousemen, both technical and                  risk to the exchange which could not
financial. The financial accreditation of                tolerate a come back on receipts
the warehousemen, in terms of insurance                  delivered to the exchange as being
and financial balance sheet strength is                  defective of title.
often inadequately undertaken. Some
countries have excellent infrastructure                  Where receipts are used, three models
yet the banks do not trust the warehouse                 generally appear to emerge. The first is
receipt as accreditation for reasons that                that receipts are not used in the physical
were predominantly technically-focused.                  market and that limited receipts and
The second is ‘standards’ in terms of                    points of delivery exist in order to simply
product grading, specifications and the                  clear the derivatives exchange. These do
standard sizes required to match them to                 not facilitate the financiers to broadly
exchange contracts traded.                               participate in the majority of the
                                                         commodity value chain as these are not
In essence, the derivatives exchange                     covered by the receipts. This often leads
needs the receipt as an adjunct to its                   to a more costly balance sheet rather
core futures business only. The financier                than commodity finance models. The
simply wants adequate security. To                       second is regulatory based receipts
support this process then we have seen                   issued which add value to governmental
two ways to evolve the accreditation and                 and other bodies yet have limited
standard setting process. The first is                   security value for the financier or market
regulatory in nature, for example a                      participants. Often financiers initiate their
Warehouse Act, providing such function                   own processes in this model to test the
to a designated body. In some instances,                 acceptability of the receipt, including
these work well. Yet in many it does not                 confirmations         and         additional
work at all, especially when the users of                accreditations of each warehousemen
the receipts (eg financiers) take the view               and location. The third is a broadly
that    the    accreditation       does   not            accepted receipt that is deliverable over
adequately address the risks they view                   the exchange and is acceptable at face
they are taking on the warehousemen.                     value to financiers.
The      second      is     exchange-driven
accreditation and standards. These are                   The integration at this third level
generally       more        efficient    and             essentially speeds up significantly the
commercially focused with this being the                 cash lending process, reduces the cost of
model adopted by South Africa. Although                  servicing this category by the commodity
there is no Warehouse Act, the financiers                financier and provides lower risk on the
trust the certificate for the purposes of                pricing and liquidation ability. These
security. This is a process of engagement                factors combine to speed up lending
between the role players, but herein                     velocity and improve bank profitability.
specifically the exchange and the banks,
in   order     that     the     outcome    of            We have learned a few interesting
accreditation is accepted by the banks                   lessons herein. The first is the EWR body
without a third party regulatory directive.              should preferably be independent of any
The integration step here is key through                 market participant as this is a real-time
the consultation process undertaken by                   view of the commodity at any point,
the    exchange      yet     must     address            invaluable information and confidentiality
completely the needs of the banks. These                 is key. The second is that the system
are then issued under the rules of the                   should be practical yet completely fault
exchange.                                                tolerant – furthermore, it should be able
                                                         to integrate to common normally used
Of interest here is that a Warehouse Act                 business tools (for example Microsoft
is often looked to for the negotiability of              Office and email) and have integration
the underlying receipt. This can also                    components to the back office of an

                                                - 27 -
                       The World's Commodity Exchanges: Past, Present, Future

exchange and the banks in addition to a                 actual trades. Provided the exchange is a
web interface. A practical system should                trusted     and      independent    market
facilitate use by the producers of                      participant, the broad based EWR
commodities (appointing agents, use of                  approach moves the physical world into
cell phones, etc) which are often                       an electronic world (i.e. the physicals are
technologically ill-equipped. Thirdly, one              now represented electronically) and often
must cater for warehouse technology                     allow derivatives exchanges to evolve
ranges,     with     some    having   very              physical or spot markets and other
sophisticated technology systems and                    strategic initiatives.
others that have none, across very wide
geographical areas. Lastly, another                     In terms of trends at the leading edge,
interesting area to which technology adds               we see banks considering their own
value is the ability to be language                     branded EWR (based on their standards
independent (South Africa has several                   and for less common commodities) and
official languages!) and hence a practical              accredited      warehousemen         being
system would consider counterparties                    approved to issue such bank-branded
exchanging EWR in different languages in                EWRs (managed on the common central
a legally binding transaction (thank                    national platform). Developing cross
goodness to the foresight of Microsoft), a              border financing, the EWR can only be
challenge not all countries will face. The              issued by warehousemen that have
essence is how one converts that ton of                 assets in an acceptable legal locale, for
wheat or that bag of coffee many miles                  example       Geneva      (hence      local
away in areas often with poor technology                warehousemen are required to associate
into a financial instrument acceptable to               with international players to issue the
the exchange and to the bank’s credit                   EWR). Another evolving concept is one of
committee. These challenges appear                      next tier insurance above the EWR (and
significant at first but are overcome with              not only insurance at warehousemen
logic and practical experience.                         level), ostensibly raising the EWR
                                                        another level to financial instrument
Once the EWR is in place, the key is a                  status. These type of activities potentially
platform that also can be integrated into               are a precursor to supporting cross
the practical back office operations of the             border exchanges and also the concept of
bank and the derivatives exchange.                      debt origination by a bank for other
Some banks require strong integration                   banks, or syndication, in what are
and others just require a specific view of              considered more risky markets.
their EWR register and simple tools to
align EWR to internal account numbers,                  In closing, a national EWR platform that
to value the security and facilities to                 is integrated with derivatives exchanges,
enable branch networks to engage the                    banks and all role players is not a costly
banks' EWR repository. Besides web                      affair with modern technologies. This is
interfaces, additional practical integration            not about a single warehousemen
components       (we     call    this    our            emailing a ‘PDF’ copy or a web access to
ComConnect plug-in) are often used by                   what was a previously paper document.
the exchange to facilitate, for example, a              It is about representing the physical
fair (random) auto allocation of EWRs to                goods into a secure and trusted financial
ensure equity in delivery points.                       instrument in a real-time and easy to use
                                                        commodity bank account for that
Commodity financiers essentially exist in               country’s specified commodity, creating
the physical world and lend against                     new opportunities and efficiencies for
actual goods. Derivatives exchanges deal                lending, securitising and supporting
in a virtual world of futures trades and                derivatives exchanges in a seamless
often reluctantly see the physical side                 manner at a national commodity level.
when clearing only a small percentage of


                                               - 28 -
                     The World's Commodity Exchanges: Past, Present, Future

Author note:
Kevin Potter is based in Johannesburg, South Africa. In the nineties, he was involved in
running large corporate food companies at board level and was on several industry bodies.
He is the founder of Sandbox Technologies, an award winning Microsoft Gold Partner and
has a finance and operations background being a chartered accountant, an MBA and
currently sitting for his PhD in Strategic Risk Management.


                                            - 29 -
                       The World's Commodity Exchanges: Past, Present, Future

Transactions on commodity and derivative exchanges: the impact
of International Financial Reporting Standards (IFRS) on financial
By Mateusz Lasik

IFRS principles are used in many jurisdictions across the world, including both
developed and developing markets. In the following article, Mateusz Lasik, Senior
Manager within Deloitte & Touche's IFRS Centre of Excellence, discusses the
implications of IFRS accounting standards on the financial reporting of derivatives

International       Financial     Reporting             East Asia (e.g. Singapore, Hong Kong,
Standards (IFRS) are developed and                      the Philippines), as well as Australia and
approved by the International Accounting                New Zealand. In addition a number of
Standards Board (IASB), an independent,                 important emerging economies, including
private-sector body. One of the aims of                 both China and India, are seeking to
the IASB is to develop, in the public                   align   more     closely   their  national
interest, a single set of high quality,                 accounting standards with IFRS. All of
understandable and enforceable global                   this means that a growing number of
accounting standards that require high                  companies that transact on commodity
quality, transparent and comparable                     and derivative exchanges both in the
information in financial statements and                 developed and the developing worlds will
other     financial   reporting   to   help             be subject to the requirements of IFRS.
participants in the world's capital markets
and     other    users   make     economic              Given the nature of the contracts traded
decisions.                                              and the transactions entered into on
                                                        commodity and derivative exchanges a
In the past few years, the activities of the            key standard to consider within IFRS is
IASB in this respect have been taking                   IAS      39      Financial   Instruments:
place against the backdrop of the                       Recognition and Measurement. The scope
growing use of IFRS throughout the                      of this standard covers the accounting for
world. A major step in this direction was               derivative contracts, which broadly are
the adoption of an EU regulation that now               defined as contracts settled at a future
requires    the   consolidated     financial            date, requiring little or no initial
statements of entities listed on a                      investment (relative to buying the non-
regulated market in any EU member                       derivative commodity) and whose value
state to be prepared in accordance with                 change in response to the change in a
IFRS as adopted by the EU. At a stroke,                 specified variable (e.g. commodity price),
this meant that the financial statements                provided that in the case of a non-
of thousands of entities within the EU had              financial variable it is not specific to a
to comply with IFRS.                                    party to the contract. This means that
                                                        the definition will cover contracts
In addition, IFRS principles are used in a              routinely     traded      on   commodity
wide variety of other jurisdictions either              exchanges, such as forward contracts,
through companies (typically listed ones)               futures and options to buy and sell
being required to report directly under                 commodities.
IFRS or local accounting requirements
being based on IFRS. These include a                    The scoping of the standard is also wide
number of countries in Latin America                    in the sense that it does not necessarily
(e.g. Ecaudor, Guatemala, Uruguay,                      exclude contracts to buy or sell
Costa Rica, Honduras), Africa and the                   commodities where the settlement will
Middle East (including South Africa,                    result in actual delivery of the underlying
Tanzania, Namibia, Egypt, Kuwait), South                commodity (rather than settlement net in

                                               - 30 -
                      The World's Commodity Exchanges: Past, Present, Future

cash). The standard only exempts from                  exchange motivated by normal business
its scope those derivative contracts to                considerations.     Valuation    techniques
buy and sell a non-financial item (e.g. a              include using recent arm’s length market
commodity) that are entered into and                   transactions between        knowledgeable,
continue to be held to satisfy the entity’s            willing parties, if available; reference to
expected purchase, sale or usage                       the current fair value of another
requirements (e.g. a forward purchase                  instrument that is substantially the same;
where the commodity is used in the                     discounted cash flow analysis; and option
entity's production process). Thus, a                  pricing models. If there is a valuation
forward contract under which a food                    technique commonly used by market
manufacturer agrees to buy grain in the                participants to price the instrument and
future at a fixed price that it will use in            that technique has been demonstrated to
its manufacturing process, with the                    provide reliable estimates of prices
contract being physically settled (through             obtained in actual market transactions,
delivery of grain), would likely be outside            the standard requires the use of that
the scope of IAS 39. In contrast a futures             technique. A valuation technique should
grain contract that will be settled net in             also make maximum use of market
cash used by a grain trader for                        inputs, and rely as little as possible on
speculative purposes or by a grain                     entity-specific inputs. In the context of
producer for hedging purposes would be                 entities transacting on commodity and
accounted for under IAS 39 as detailed                 derivative     exchanges,      the   above
below, irrespective of whether the                     guidance means that for the purposes of
contract was transacted on an exchange                 IAS 39 in many instances fair value will
or was ‘over the counter’.                             be arrived at by reference to a quoted
                                                       exchange price from an active market. In
A key principle of IAS 39 is that all                  the absence of an active market or recent
derivative contracts within the scope of               transactions, reliance will be placed on a
the standard are recorded in the financial             valuation technique. This will be driven
statements at fair value. This is a major              by the relative liquidity and depth of
departure from the requirements under                  market trading for any given exchange.
many local accounting regimes. The
standard defines fair value as the amount              A key question of interest to IFRS
for which an asset could be exchanged or               reporters    who     transact    derivative
a      liability    settled,      between              contracts on commodity and derivative
knowledgeable, willing parties in an arm’s             exchanges is how the changes in fair
length transaction.                                    value of instruments will be reported in
                                                       the financial statements. The default
IAS 39 contains substantial guidance on                position under IAS 39 is that the
how to determine fair value. In the case               movement in fair value between balance
where quoted prices are readily and                    sheet dates is reported in the income
regularly available in an active market                statement. Given the inherent volatility of
(and those prices represent actual and                 many commodity derivative contracts,
regularly occurring market transactions                this may lead to substantial income
on an arm’s length basis), these should                statement volatility. In recognition of the
be used. The fair value of a portfolio of              fact that many entities (including those
financial instruments (e.g. derivative                 transacting derivatives by means of
contracts traded on an exchange) is the                commodity exchanges) use derivatives in
product of the number of units of the                  order to mitigate risk exposures, i.e. in a
instrument and its quoted price.                       hedging capacity, IAS 39 offers an
                                                       alternative presentation in the financial
In the absence of an active market for a               statements (subject to certain specific
financial instrument, IAS 39 requires that             criteria being satisfied), called ‘hedge
fair value is established by using a                   accounting’,    that     minimises    such
valuation technique. The objective of                  volatility.
such a technique is to establish what the
transaction price would have been on a                 Of principal interest to those transacting
particular date in an arms length                      commodity-based derivative contracts

                                              - 31 -
                       The World's Commodity Exchanges: Past, Present, Future

will be the cash flow hedge accounting                   its copper inventory in its balance sheet.
and    fair   value    hedge     accounting              If fair value hedge accounting is applied
treatments. Cash flow hedge accounting                   in such a case, the fair value gains/losses
requires gains/losses on the derivative                  on the forward contract would be
contract to be recognised temporarily in                 recorded in the income statement
equity    (rather    than     the     income             together with the offsetting adjustment
statement) with subsequent recycling of                  to the fair value of the copper inventory
those    gains/losses    to    the    income             due to changes in the copper price.
statement when the item that is being
hedged impacts earnings. For instance, a                 For all types of hedge accounting
chocolate producer may enter into cocoa                  relationships, IAS 39 has detailed rules
future contracts in order to hedge the                   pertaining to what is a qualifying hedged
price   risk   associated     with     future            item and hedging instrument, as well as
purchases of cocoa to be used in its                     detailed requirements that need to be
production process. Assuming the future                  met on an ongoing basis in order for the
contracts are within the scope of IAS 39,                above hedge accounting treatments to
the application of cash flow hedge                       apply (including formal documentation of
accounting     would     allow     for    the            the hedging relationship and regular
recognition of the gains and losses on                   assessment of its effectiveness).
these contracts in the income statement
to be deferred until the hedged purchases                Growth in the number of IFRS reporters
of cocoa impacted earnings.                              and use of derivative contracts (both in
                                                         the developed and developing world) has
Fair value hedge accounting, on the other                led to IAS 39 being considered a crucial
hand,      recognises   gains/losses   on                piece    of    accounting   for    many.
derivatives in earnings but requires                     Appreciation of the definition of a
adjustment of the item on the balance                    derivative, how to determine fair value
sheet that is being hedged for fair value                and the choice available in applying
exposure to the hedged risk (e.g.                        hedge accounting is important for a
commodity price risk). For example, an                   growing number of professionals engaged
entity may use a forward to sell copper                  in transactions on commodity and
as a fair value hedge of the exposure on                 derivative exchanges across the globe.


Author note:
Mateusz Lasik is a senior manager within the Deloitte & Touche UK IFRS Centre of
Excellence and specialises in the accounting for financial instruments under IFRS.
Mateusz has provided technical accounting advice on a diverse range of IFRS
implementation projects, for both corporates and banks, as well as providing specialist
advice on accounting for financial instruments to investment banks. He has been a
contributing author for several Deloitte publications, including iGAAP 2005, and iGAAP
2006: Financial Instruments: IAS 32, IAS 39 and IFRS 7 Explained.


                                                - 32 -
                      The World's Commodity Exchanges: Past, Present, Future

A micro essay on micro exchanges
By Patrick L. Young

MicroExchanges are increasingly at the forefront of emerging markets and the
trading of new asset classes, writes Patrick L. Young.

For many, the past year in the world of                   3) Trading is carried out
exchanges has been largely defined by                        electronically and predominantly
discussions about the major markets                          over the internet as, opposed to
bulking up to create regional or even                        proprietary networks.
Trans Atlantic superpower exchanges.
This is highly relevant to investors in the            Technology is a key aspect to the
major stocks and commodities of Europe                 development      of    a   MicroExchange
and the USA. Meanwhile, elsewhere in                   although the level of spend need not be
the world, a tiny marvel of electronic                 excessive. Indeed, various systems have
commerce is continuing to take hold                    been     developed    in   recent   years
which will result in a bifurcation of the              specifically with this sector in mind.
exchange trading business between the                  Companies such as Alberta Solutions and
very large and the very small with the                 the almost ubiquitous OM platforms can
middle ground increasingly crowded out.                be deployed for such exchanges while
                                                       Patsystems is amongst several vendors
I defined the term MicroExchange some                  also in this space. Indeed, 2 vendors can
years back to cover the concept of the                 be said to be specialising in the
new model exchange which is driven by                  MicroExchange space, the Anglo-Indian
and dependent upon, contemporary                       COMDAQ organisation and Trayport who
information technology to build a                      are based in London.
miniaturised replica of the world’s largest
exchanges.                                             At the low end, technology budgets for
                                                       simple MicroExchanges can be below US$
Since first discussing MicroExchanges in               100,000 for a very basic implementation
the early years of this decade, the                    while a more complex MicroExchange can
concept     has    become    ever   more               have a good infrastructure constructed
attractive. In the immediate post dotcom               for an investment in the region of US$
era, the prospects for new exchanges                   250,000-500,000. The barriers to entry
had been tarnished by the B2B boom or                  for    those      seeking   to    create   a
rather    the   subsequent    B2B   bust.              MicroExchange are already low - and
However, the concept of creating                       likely to fall - as competition increases to
electronic exchange markets in a smaller               power the next generation of small but
scale to legacy exchanges is fast                      perfectly formed, market platforms.
becoming an established fact.
                                                       Obviously     regulation    can    be   an
To qualify as a MicroExchange I tend to                impediment in those nations where
specify three core requirements:                       governments refuse to allow the free
                                                       association     and    establishment    of
   1) A very modestly sized secretariat                exchanges.      Moreover,     light-handed
      – a handful of people or less is                 government regulation is essential to the
      ideal with the market unlikely to                efficient workings of a MicroExchange.
      have much more than a dozen
      staff.                                           MicroExchanges are possible thanks to
   2) A niche product base (n.b. for                   the leverage of network technology. The
      commodity markets this may be a                  cheapest network of all to utilise is the
      market with trading valued into                  Internet and this often serves as the
      the billions of dollars per annum);              main    distribution  outlet    for   the

                                              - 33 -
                       The World's Commodity Exchanges: Past, Present, Future

contemporary Micro Exchange. The                         the   market   users    to  get  them
internet has created the greatest                        accustomed    to    trading   on   the
broadening of the concept of a tradable                  MicroExchange platform.
“asset” in history – an asset class shift
which conventional banks are struggling                  In this respect, MicroExchanges are a
to keep abreast of. Therefore just as                    form of modern “coffee shop.” The key to
auction platforms such as eBay and QXL                   making a successful marketplace is the
have managed to create an essence of                     network effect and this must be achieved
liquidity in everything from concrete                    through word of mouth communication
paving slabs to Barbie doll paraphernalia,               while      instantaneously     delivering
likewise MicroExchanges enable the                       electronic market data.
growth in the development of smaller
commoditised markets which are too                       Moreover, the MicroExchange is ideal for
“small” for the legacy exchanges to                      not just commodity products but also the
consider trading due to their relatively                 development of small stock exchanges.
higher infrastructural costs.                            When it comes to microcap stocks, the
                                                         positioning of regional stock exchanges
Finding clearing & settlement services                   or sectoral markets (which raise capital
remains      an     issue      for      many             for particular niches) are an increasingly
MicroExchanges.     COMDAQ         has,   for            hot topic in financial markets with
instance, resorted to using escrow                       exchanges such as the AESX (Alternative
services for some of their commodity                     Electronic Stock Exchange).
markets. This works well overall but
obviously is not quite as fluid or cheap as              Small is beautiful is hardly the mantra
a central counterparty. That said, the                   that would be preferred by the titans of
cost   savings     of   being      able    to            the exchange business. However when it
transparently     deal     with      multiple            comes to developing the markets which
producers and end users at one time is a                 can make a difference to many
huge advantage for sellers and buyers                    businesses, growers and traders in the
alike.                                                   developed and emerging worlds, the
                                                         MicroExchange is increasingly the thing.
Equally, while the core platform for price               By providing much less friction in
distribution and dissemination is the                    transactions whether for raising capital,
internet and PC technology, it is worth                  or trading commodities old and new, the
noting that a great deal of the effort in                prospects for MicroExchanges are very
making MicroExchanges work frequently                    significant and can only benefit markets.
involves – at least initially - spoon
feeding the market players to keep the                   If this were a children’s story not   only
deals rolling in. This is affectionately                 would there be a happy ending.         This
referred to as “broker assistance” in                    article would instead be headlined    “The
MicroExchange parlance and has proven                    MicroExchange: the little exchange     that
a most effective means to promote a                      could.”
market through “holding the hands” of


Author note:
Founder of Derivatives Vision and author of the Capital Market Revolution books, Patrick L
Young is currently writing a manifesto for markets to be published in association with the
Association of Futures Markets in early 2007. He has considerable experience advising on
exchange creation, development and strategy. Young is currently developing a hedge fund

                                                - 34 -
                     The World's Commodity Exchanges: Past, Present, Future

to invest in exchanges, market platforms and related digital financial market
infrastructure. He is a non-executive director of the Swiss Futures & Options Association.


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The World's Commodity Exchanges: Past, Present, Future

                       - 36 -
                      The World's Commodity Exchanges: Past, Present, Future

Africa: Regional Overview

Since its absorption of the South African              Plan of Action on African Commodities of
Futures Exchange (SAFEX) in 2001,                      November 2005. The Plan of Action was
South Africa's JSE Exchange has been                   subsequently endorsed by Heads of State
the continent's largest and most active                at the 6th AU Summit in Khartoum in
commodity and derivatives exchange.                    January 2006.
The JSE traded 51 million futures and
option contracts in 2005 (2 million                    Nigeria's    Abuja     Securities     and
agricultural contracts and 49 million                  Commodity Exchange (ASCE) started
financial contracts – including single                 electronic trading in securities in 2001.
stock contracts) making it the world’s                 However, the Government stepped in to
18th largest commodity futures exchange                reorient     the     exchange     towards
and    the    24th   largest  derivatives              agriculture with a view to boosting sector
exchange overall.                                      performance and promoting commercial
                                                       farming.    Agricultural   spot    trading
SAFEX was established in 1988 and has                  commenced in July 2006 with listed
become one of the leading emerging                     products including maize, soybean,
markets. For a long time SAFEX only                    cocoa, cotton and ginger, although most
traded financial futures, but the creation             of the early trade has focused on the
of the Agricultural Markets Division in                former two commodities.
1995 led to the introduction of a range of
agricultural futures and options contracts             The Kenya Agricultural Commodity
for commodities. Currently, SAFEX offers               Exchange (KACE) was set up in 1994 to
contracts for white and yellow maize,                  provide    the  basic    services  of   a
bread milling wheat, sunflower seeds                   commodity exchange. The products
and, since 2002, soya beans (see the                   meant to be traded were agricultural
article by Rod Gravelet-Blondin and Chris              commodities like cereals, dairy products
Sturgess below). SAFEX is widely                       and cotton. Faced with fragmented
recognised as the price discovery                      markets, government intervention and
mechanism for maize in the Southern                    significant infrastructural deficiencies,
African region and has also proved an                  trade has always been minimal however.
efficient   and    effective   price  risk             Instead, focus has been on information
management facility for the grain                      dissemination with KACE acting as a
industry. SAFEX prices are quoted in                   provider of paid-for price information, a
several neighbouring countries.                        business model supported by private
                                                       sector partnerships and aid donor
An important recent development in the                 funding (see the article by Thomas
African commodities exchange space has                 Barasa below).
been the ongoing process of establishing
a Pan-African        Commodities       and             The Malawi Agricultural Commodity
Derivatives Exchange (PACDEX). The                     Exchange        (ACE)      originated   in
PACDEX model will comprise a hub in                    September 2004 from a public/private
Botswana managing a common exchange                    partnership with support also coming
and back-office platform that can link                 from academia and the NGO sector. A
together various national exchanges and                marketing information system was first
warehouses to facilitate regional trade in             developed with an information hub
contracts across the agricultural, metals,             receiving price, volume and trade
energy and currency sectors (see the                   information on 45 commodities from
article by Anthony Adendorff below). The               trading centres around the country. This
establishment of an African commodity                  is   then   assessed,     integrated  and
exchange has been strongly supported by                disseminated back to those centres.
the African Union, with AU Ministers of                Subsequently, the information hub has
Trade declaring it a priority in the Arusha            began to facilitate trade between centres

                                              - 37 -
                        The World's Commodity Exchanges: Past, Present, Future

as exchange staff link buyers and sellers                   amongst other commodities. Reportedly,
in different markets who have submitted                    the study found that the metals and
bids and offers.                                           mining industry felt no need for such an
There is a Ugandan Commodity
Exchange (UCE) but currently it only                       Elsewhere, the Zambia Agricultural
regulates commodity warehouses on                          Commodity Exchange (ACE) and the
behalf of the government. It is looking at                 Zimbabwe Agricultural Commodity
the possibilities to introduce an electronic               Exchange       (ZIMACE),         exchanges
trading platform for warehouse receipts.                   launched in the mid 1990s subsequent to
                                                           agricultural market liberalization, have
Exchange formation has been strongly                       both     foundered      on     government
advocated recently in Ethiopia with the                    interventions   in   their    core   maize
release of a high-level report in                          markets. Three different initiatives in
November 2005 that recommended "an                         Ghana never found sufficient business
integrated       commodity       exchange                  support.    In Egypt, discussion on the
development initiative which will include                  reintroduction of the Alexandria Cotton
developing all the components of the                       Exchange, abolished by the Government
system, including the warehouse receipts                   in the 1950s, is revived from time to
system" 1 . Also, in South Africa, a study                 time. In Cote d'Ivoire, there is a "Bourse"
was commissioned in early 2005 to                          for cocoa and coffee but it has so far not
examine the feasibility of establishing a                  managed to develop any real business.
Pan-African      Metals   and      Minerals                Africanlion,     a    web-based      coffee
Exchange, potentially to be situated in                    exchange based in East Africa, has not
Johannesburg with the possibility of trade                 built up volumes.
in diamonds, gold, platinum and cobalt

  Eleni Z. Gabre-Madhin and Ian Goggin, "Does
Ethiopia need a commodity exchange? An
integrated approach to market development",
Ethiopian Development Research Institute Policy
Working Paper No. 4, p22

                                                  - 38 -
                       The World's Commodity Exchanges: Past, Present, Future

What can African Governments do to facilitate agricultural
commodity exchanges?
By Ian Goggin

After a number of unsuccessful attempts to start commodity exchanges in Africa,
Ian Goggin, the founder of Agricultural Commodity Exchange for Africa (ACE),
identifies steps that African governments can take to create a more conducive
environment for commodity exchange development in the future.

In order to answer this question, there                  farming     sector     more   commercially
needs to be an understanding of the                      orientated.
present situation. Many countries in
Africa have economies that are based on                  Many African Governments have also,
and rely primarily on agriculture. The                   recently, strengthened the focus on
majority of this production is undertaken                marketing. For example, one of the core
by the small-scale farming sector and, in                strategies in The Malawi Governments
the past, many of these countries                        Food and Nutrition Security Policy (June
established a name for the quality of                    2005) is improved access to domestic,
their commodities. The introduction of                   regional and international markets. The
marketing boards, their inability to pay a               policy emphasises operational market
premium for quality product and a lack of                information    and    the    creation   of
market information led to a reduction in                 transparent agricultural markets. This
the volumes produced and qualities                       same focus is seen in the Malawi Growth
achieved, as there was little incentive for              and Development Strategy of January
small-holder     farmers     to     increase             2006 and regionally in the African Union’s
production or to properly grade what was                 (AU) Arusha Declaration and plan of
produced.      More   recently,       African            action     on    African     Commodities
governments have relaxed controls on a                   (November 2005). Here commodity
number of agricultural commodities,                      exchanges are given a central role and
resulting    in   the    liberalization    of            AU recognises      the    important   role
agricultural marketing. It is apparent that              exchanges have in the agricultural sector.
an organisation is needed through which                  It is furthermore specified that the
free marketing of these agricultural                     International Community should strive to
commodities can occur.                                   support commodity exchange initiatives
                                                         in Africa.
These African countries face many
economic and market challenges in the                    Agricultural marketing/trade in Africa is
agricultural sector. First and foremost is               characterised       by    a    series    of
the total lack of reliable and accurate                  imperfections: 1) Very little reliable data
market information. Whilst steps have                    on trade flows; 2) Unsophisticated and
been taken to address this, much still                   underdeveloped markets; 3) Much of the
needs to be done and an agricultural                     trade is informal; 4) No quality
commodity exchange will fill much of that                standards, quality control or transparency
void. By declaring sales prices and                      as    a     result;    5)   Poor    market
registering bid and offer prices for                     information/intelligence; 6) Lack        of
commodities, market sentiment will be                    identifiable or available markets; 7) Lack
established. Add to this the function of                 of competition; 8) Poor communication;
the broker, who advises his client of the                9) Lack of transparency; 10) No
best marketing opportunities and when                    enforceable contracts/dispute resolution
and where these are likely to occur, will                mechanism; and 11) A lack of trust in the
further empower market participants.                     system. These imperfections will be
Advice on the best type of crops for                     addressed by an agricultural commodity
specific areas will make the small-holder                exchange, but also require the co-

                                                - 39 -
                      The World's Commodity Exchanges: Past, Present, Future

operation     and     commitment        of             both yield and quality. This also impacted
governments to ensure that these                       positively on the rural poor, particularly
deficiencies are addressed. An absolute                those with HIV/AIDS, due to improved
prerequisite to achieve this is to bring               access to appropriate quantity and
order, market information and liquidity to             quality of food. This private sector
the market place.                                      initiative requires the support of African
                                                       governments, not only in terms of the
Although grading standards do exist in                 certificate system itself, but also by
most countries, they are rarely if ever                making state storage facilities available
used; in addition, some sectors of the                 to participate in the programme.
agricultural industry use their own
standards, usually to the detriment of the             The vision of success of an exchange is to
producer. Without a uniform standard                   contribute to the economic development
applying to the whole industry, producers              and improved food security in the region.
and traders will have difficulty in                    The overall objective is to increase
marketing commodities, as buyers will be               incomes in rural households by:
able to “move the goal posts” to suit their
own positions. A common grading                           •   Improve market access to
standard will benefit the industry, as a                      domestic, regional and
whole, as everyone will be talking the                        international markets for
same language. Ultimately, the objective                      smallholder farmers.
is that this will lead to common grading                  •   Increase prices for smallholder
standards for Africa, but this will take                      producers
time. Again, African governments need to                  •   Improve levels of production for
act positively to implement decisions                         smallholder farmers.
already made in this regard. It is all very               •   Improve the quality of all
well to have standards in place and whilst                    commodities.
the market itself will begin to utilise                   •   Generate market information, not
them,    this    will   only  work     with                   currently available, both pre and
government backing and support.                               post harvest, including price
                                                              discovery to smallholder farmers
Most small-holder farmers have no option                      and other market participants.
but to sell their produce immediately                     •   Add value to marketed crops.
post-harvest, because they have nowhere                   •   Full market transparency, with a
to store it. An exchange Warehouse/Silo                       view to empowering even those
Certificate system will provide an                            smallholder farmers who may not
opportunity for them to do so and will                        have direct access to the market.
also bring the prospect of generating                     •   Bring more order to the market.
much      needed     liquidity  into   the
agricultural sector. These documents will              There     have    been     a   number    of
afford an opportunity for producers, as                unsuccessful attempts to start commodity
well as traders and end users, to store in             exchanges in Africa including Kenya,
an exchange registered storage facility                Uganda, Zambia and Nigeria. The
and to be issued with a warehouse/silo                 primary reason for the failure of these
receipt. This document can then be used                initiatives was the fact that they were not
to secure a loan using the commodity in                stakeholder owned and driven and
store as collateral. This will allow those             therefore there was no incentive to
farmers without access to storage to sell              ensure success. Additionally, there was a
their commodities at a fair market price               lack of understanding as to the markets
throughout the year, avoiding post-                    needs and requirements. We are well
harvest low prices caused by market                    aware of these failures, but look to the
saturation. Thus an exchange will                      successes in Zimbabwe and South Africa,
strengthen agricultural value chains.                  as positive indicators.
Experience in Zimbabwe shows a direct
correlation between improved market                    So, what can African governments do to
access leading to better prices for small-             facilitate  agricultural    commodity
holder farmers, which in turn increased                exchanges?

                                              - 40 -
                      The World's Commodity Exchanges: Past, Present, Future

                                                              produce between countries, to
   •   Create an enabling environment in                      expand marketing opportunities
       which an exchange can operate.                         and encourage production.
       There must be an understanding                     •   Encourage use of the exchange
       of how markets work as well                            and support the transparency and
       however. The African Union, in its                     market information an exchange
       Arusha declaration specifically                        will bring to the marketplace, by
       stated that African Governments                        procuring governments
       should, with the support of the                        requirements across the exchange
       African business sector, develop                       floor.
       and support commodity exchange                     •   The Arusha declaration also called
       initiatives; develop the necessary                     for an improved investment in
       skills to understand commodity                         infrastructure, specially in rural
       exchange operations and build up                       areas, particularly in facilities that
       the institutional capacity to                          improve the logistics of
       engage in such operations;                             commodity production and trade,
       support a public relations and                         such as transportation, storage
       awareness raising campaign to                          and irrigation; improved support
       make the public aware of                               services to agriculture, including
       commodity exchange operations;                         extension, recognizing that fair,
       be willing to interact with                            equitable and stable prices for
       governments to identify and                            African commodities play a key
       remove barriers to commodity                           role in poverty alleviation and in
       exchange establishment and                             the improvement of living
       operations; with respect to those                      conditions for Africa’s rural
       interested in initiating an                            population; and stressed the fact
       exchange, adopt a partnership                          that commodity production
       model – cooperating not just with                      constitutes the largest source of
       a broad range of private sector                        revenue and employment for our
       interests (including banks,                            population;
       warehousing companies and                          •   Additionally, African governments
       collateral managers), but also with                    also need to address the question
       government entities; to reach as                       of foreign currency availability for
       large a part of the population as                      market participants and
       possible; and thus, be willing to                      encourage and support the use of
       work with African governments                          arbitration as a quick means of
       and the international community                        dispute resolution.
       to bring exchange services to a
       comprehensive range of countries                Basically, if African governments were to
       and groups.                                     create an environment in which the
   •   Remove remaining tariff and non-                principles of supply and demand were the
       tariff barriers as soon as possible.            determining factors in agricultural trade,
       These barriers continue to plague               the market itself will ensure that the
       the market and are often used for               system worked. An exchange, with its
       purely political as opposed to                  price discovery mechanisms, contracts,
       economic reasons.                               quality classifications, warehouse receipts
   •   De-regulate markets, to allow the               and dispute resolution systems would go
       free movement of agricultural                   a long way towards achieving this.


Author note:
Ian Goggin is the founder of Agricultural Commodity Exchange for Africa (ACE). Ian joined
ZIMACE (Zimbabwe Agricultural Commodity Exchange) in 1995. This Exchange expanded

                                              - 41 -
                    The World's Commodity Exchanges: Past, Present, Future

from a turnover of US$1.1 million that year to US$677 million by 2001. During his time
with ZIMACE and, increasingly so thereafter, Ian has been involved in a number of
consultancy jobs and presently is based in Malawi.

Email: (forthcoming)
Website: (forthcoming)

                                           - 42 -
                      The World's Commodity Exchanges: Past, Present, Future

Applying the franchising concept to commodity exchange
development: the Pan-African Commodities & Derivatives Exchange
By Anthony Adendorff

In the following article, Anthony Adendorff, the CEO of PACP, the management
company that is establishing and will manage PACDEX, argues that the franchising
approach will help to realise the African Union's vision of regional integration and
explains how it will work.

The basis of franchising is that there                known to be working in unison most of
needs to be a workable solution that can              the time. But times are changing and so
be    permeated    into  the    economic              is the ethos of Africa on working
environment. Africa does not have such                together. Africa now understands that
a working model currently and the                     African regional integration is essential
solution that PACDEX™ is providing is                 for globalization to also have its positive
therefore groundbreaking in creating a                spin-offs in Africa.
new benchmark for Africa and the
franchising of an exchange. PACDEX™                   For the past 30 months, the Pan-African
has a phased approach to offering a                   Commodity Platform (PACP) has been
regionally owned exchange which will be               working together with UNCTAD and the
based on leveraging the best practices in             African Union to offer Africa its first
the    developing economies      with   a             regionally  integrated  public  private
particular focus on enhancing the African             partnership. This of course is the Pan
competitive environment.                              African Commodities and Derivatives
                                                      Exchange (PACDEX™).
Africa has fifty three countries that
attempt to live under one banner – the                First of its kind in Africa – and arguably
African Union. To have a regional African             in the world - this is a franchise model on
exchange     therefore     poses     many             a hub and spoke system and is based on
challenges, especially since Africa is not            the principle of African ownership.

Figure 1 Franchising Model for PACDEX™

                                             - 43 -
                         The World's Commodity Exchanges: Past, Present, Future

The answer of a hybrid hub and spoke                        exchange initiatives, in Ghana, Kenya,
franchising concept came from asking                        Nigeria, Uganda, Malawi, Zambia and
questions to overcome challenges such                       Zimbabwe and a sub-regional initiative in
as:                                                         West Africa. All failed or are still trying
                                                            to prove their worth.
    •   Is a regional African exchange
        needed?                                             The objective of an African commodity
    •   Why have so many previous                           exchange - prior to PACDEX™ - has been
        attempts to establish African                       elusive because efforts were focussed on
        exchanges failed?                                   individual country initiatives.       The
    •   What will make an African                           economic size of most African countries
        exchange succeed?                                   coupled with the high fixed cost of a
    •   What will a regional exchange                       commodity exchange made individual
        cost?                                               initiatives non-viable. Hence the concept
    •   What are the principles driving                     of a franchising model – where all
        such an exchange?                                   participating counties can benefit from
    •   Why will it be supported and what                   their own exchange with a fraction of
        will be the drivers of liquidity?                   cost and management and the benefits of
    •   What skills will be required to                     a consolidated approach to marketing its
        operate such an exchange?                           wide range of products.
    •   What partnerships will be
        required?                                           In having most of the answers to the
    •   How can such an exchange be                         questions stipulated above, the African
        made sustainable?                                   commodity market is all set for a
    •   And many other challenges such                      paradigm shift with sweeping changes.
        as legislation (securities,                         The existence of a central exchange
        telecommunication, foreign                          system with qualified markets in each
        exchange controls), regulation,                     African country will at the very least offer
        clearing, ownership, transparency,                  the domestic regional African market the
        management, credibility,                            transparency it will require to increase
        technology, and logistics.                          Africa’s share of intra-regional trade.

The desirability of creating an African                     PACDEX™ believes that its greatest value
commodity      exchange   was     already                   lies in providing efficiencies into the
mentioned in the Abuja Treaty of 1991 1                     relatively     disorganized      African
and last year, the Abuja Declaration on                     marketplace.
African Commodities stipulated that
Africa is now committed to establishing a                   The Value Add of a regional commodities
pan African commodities exchange and                        exchange is therefore numerous and it all
will assist the private sector in the                       adds to the bottom line:
establishment thereof.
                                                               •   Reduced costs of finding new
There was no commodity exchange in                                 clients for the traders
Africa at the time of the Abuja Treaty –                       •   Managing counterparty risk
the last one in existence on the continent                     •   Hedging against price risk
was a cotton exchange in Alexandria,                           •   Market information and some
Egypt, which had gone out of business in                           level of pricing transparency
the 1960s.       Since then, only one                          •   Time saving because of the
successful African commodity exchange                              immediacy of an electronic
has been created, the South African                                exchange
Futures Exchange (SAFEX). There have                           •   Guarantee of contract
been a number of other commodity                                   performance
                                                               •   Arranging attractive financing via
   The Treaty establishing the African Economic                    repo contracts
Community (AEC), 1991, signed by Organisation of               •   Offering training to market
African Unity (OAU) Heads of State and                             participants to catapult the African
Government in Lagos and which has been in
                                                                   commodity industry into the
operation since 1994.

                                                   - 44 -
                      The World's Commodity Exchanges: Past, Present, Future

         knowledge economy where value                on the PACDEX™ Africa – the central
         can only be determined not by                exchange.
         weight but by accuracy and
         speed.                                       PACDEX™ will function initially as a
                                                      derivatives exchange, and will develop a
The franchising model has two crucial                 spot and forward market as the exchange
elements; ownership and management.                   becomes more efficient and organised in
                                                      its ability to deliver on the physical
PACP, the management company, will                    market. This implies that the warehouse
supply     the    know-how,      strategy,            receipt systems and the collateral
technology, and roll-out in such a way                management will be linked to the local
that PACDEX™ will deliver sustainable                 and regional financing institutions and
service to the domestic and international             clearing banks.
commodity arena. The management is
not franchised but will consist of best               Although many of the concerns have
international practice and partners that              been addressed, it has to be noted that
can offer these solutions. PACDEX™ on                 PACDEX™, will require all entities within
the other hand will be franchised and will            the African commodity value chain to see
be owned by the African countries (public             and experience value. That might be the
and private sector) that participate on               key to PACDEX™’s franchise model and
the central exchange which will be based              its sustainability.
in Botswana. By implication, this means
that exchange members will own a seat


Author note:
Anthony Adendorff is the CEO of PACP™, the management company that is establishing
and will be managing the Pan African Commodities & Derivatives Exchange (PACDEX™).
This project has been in the making for the past three years and will hopefully launch by
November 2007. He holds three degrees, including an MBA from Gordon Institute of
Business Science in South Africa, and he was previously Acting Trade Commissioner for
the Finnish Trade mission in South Africa.


                                             - 45 -
                     The World's Commodity Exchanges: Past, Present, Future

The potential contribution of pan-African commodity exchange(s)
to the development of African trade
By Francis Mbroh

A well-functioning commodities exchange in Africa would contribute to the
growth and development of African commodity exports and generate the
requisite financing for essential imports, argues Dr Francis Mbroh of the
African Export - Import Bank.

Africa has a long history of producing                through the production and export of
and    exporting    a   wide   array   of             commodities; and as principal driver of
agricultural commodities such as cocoa,               broader economic growth, job creation
coffee, tea, and cotton, among others,                and property alleviation. As shown in
and raw minerals, including gold, copper,             Table 1, the importance of commodities
diamonds,      manganese,       platinum,             to the attainment of external payments
chromium, cobalt, to name but a few.                  viability of many African countries cannot
The primary sector (comprising of                     be      overemphasized      given     their
agriculture and mining) plays a major                 contribution to export earnings, which
role in the economies of many African                 for many countries, constitute the main
countries, contributing over 50% of total             source of foreign exchange for essential
export earnings of countries whose main               imports.
source of export earnings are generated

Table 1: Commodity Dependence of Selected African Countries, 2003
                                                                          Percentage of
  Country                Commodity
                                                                          Goods Exported
  Angola                 Crude Oil & Gas                                  94 %
  Botswana               Diamonds                                         80
  Cameroon               Oil                                              51
  Cote D'Ivoire          Cocoa & Coffee                                   44
  Ethiopia               Coffee                                           47
  Gabon                  Crude Oil & Gas                                  78
  Ghana                  Gold & Cocoa                                     67
  Guinea                 Bauxite, Diamonds, Etc                           81
  Kenya                  Tea & Coffee                                     50
  Libya                  Crude Oil & Gas                                  96
  Mauritius              Textiles/Clothing                                60
  Namibia                Diamonds & Metals (incl. Uranium)                44.2
  Nigeria                Crude Oil & Gas                                  96
  Niger                  Uranium                                          84
  Table                  Diamonds, Ores & Minerals                        65
  Tanzania               Coffee & Cotton                                  38
  Uganda                 Coffee                                           70
  Zambia                 Copper                                           75
  Zimbabwe               Gold, Tobacco & Cotton                           59

                                             - 46 -
                             The World's Commodity Exchanges: Past, Present, Future

  Memo Items:
  Africa's Share of Global Exports for Selected Commodities*

      Cocoa Beans                                                                   70.45%
     Coffee Green and Roast                                                         8.20
     Cotton Seed                                                                    13.29
     Tea                                                                            18.78
  * Figures relate to 2004       Sources: Economic Intelligence Unit (2006) Country Report, (several
                                 issues); FAO (2006) FAOSTAT
                                  (available at:

In the international trade arena, Africa,                      African economies. 1 As a result of the
as a group, plays an important role as                         absence of a virile national and/or pan-
far as global supply of commodities is                         African commodity exchange(s) in the
concerned. Available records show that                         continent, African producers have to
the share of Africa in proven world                            contend with the problem of identifying
reserves of a number of major traded                           credible buyers for the products, have no
mineral commodities is high implying                           access to instruments for managing
that the continent will continue to play                       commodity     trade    risks   (such    as
an important role in the global                                warehouse facilities, hedging and credit
commodities trade for the foreseeable                          facilities), and      appropriate    price
future.      These     minerals   include                      discovery mechanisms.
chromium,        cobalt,     manganese,
phosphates and platinum in which                               The situation has been compounded in
African countries have a share exceeding                       recent times by the liberalization of
60% - and in some cases nearing 90% -                          agricultural trade and the consequent
of world production.                                           roll-back of government intervention or
                                                               support for agricultural production. This
In spite of the obvious economic                               has seen the dismantling of commodity
importance of commodity production and                         boards      around      which    financing,
trade to the external balance of many                          marketing, logistics, and other support
commodity-dependent                African                     systems used to be organized in
economies and the prominence of Africa                         furtherance of the activities of the
in global trading of commodities, there                        commodities sector. As a response,
are presently no credible national and/or                      many developing countries in Latin
pan-African platforms to facilitate the                        America and Asia during the 1990s
trading of commodities in a "hassle-free"                      created national commodity exchanges
manner by African producers and                                to stabilize and sustain production and
exporters. The absence of an African                           trading of agricultural goods, metals and
trading platform also makes it difficult to                    energy products to mitigate the preserve
manage commodity trade risks; and                              effects that ensued from the pursuit of
contributes to a leakage of other                              International Monetary Fund (IMF) and
incomes such as brokerage fees that                            World       Bank-sponsored       structural
would have been earned by Africans had                         adjustment programmes.         It is quite
the trade been conducted via an Africa-                        ironic that in spite of the urgent need to
based commodity exchange.                                      find solutions to new risks and difficulties
                                                               facing the commodity sector and the
Records show that with the exception of                        prominence of commodity production in
the Johannesburg-based South African                           Africa, there is to–date no virile national
Futures Exchange (SAFEX), there is to-                         and/or Pan-African platforms for trading
date      no   pan-African   commodity                         commodities in the continent.
exchange with a proven capacity to
facilitate the trading of the above-                           The growth and development of Africa’s
mentioned export commodities in a more                         commodity sector continues to be
beneficial way to commodity-dependent
                                                                 See UNCTAD (2006) Overview of the World’s
                                                               Commodity Exchanges (Geneva), for more on this.

                                                      - 47 -
                      The World's Commodity Exchanges: Past, Present, Future

constrained   by     a    multiplicity   of            Arusha Declaration and Action Plan on
inhibitions.    These     include      weak            African Commodities (2005), have called
technology base and the consequent                     for the creation of a Pan-African
overdependence on expensive foreign                    Commodity Exchange in the continent to
technology and skills; weak partnerships               address some of the challenges currently
between governments and the private                    facing Africa's commodities sector. The
sector;      weaknesses        in       the            aim is to raise the contribution of
macroeconomic         and       regulatory             commodities to the process of growth
environments;    absence     of    credible            and    development    of    commodity-
cooperation    arrangements         among              dependent African economies. It is worth
African countries in the trading of                    noting that the intent of the Arusha
commodities; and non-availability of                   Declaration and Action Plan, as well as
project and trade financing, among                     other regional declarations on the
others. Some observers maintain that                   subject, were informed by a number of
many of the challenges presently facing                studies,    including   two     recently
Africa’s commodity sector could be                     conducted by the United Nations
appropriately dealt with through the                   Common Fund for Commodities (CFC).
operations of an efficient trading
platform in the form of a pan-African                  The purpose of those studies was to
commodity exchange.                                    examine     existing   trading   practices
                                                       regarding the operations of commodity
In developing countries, exchanges may                 exchanges and the benefits which could
perform important functions that benefit               accrue to the traders and their effects on
the producers, processors, traders and                 commodity-dependent African economies.
users of commodities in that they offer:               Overall, these studies recommended,
credible systems of price discovery;                   among other things, that:
improved     marketing   efficiency  for
(mining and agricultural) commodities;                    •   the proposed exchange must be
open up new production and marketing                          driven by the market and market
opportunities to producers; and reduce                        participants, and strongly supported
price risk (faced by both producers and                       by farmers (and small-scale
buyers). They also help to improve                            indigenous miners);
market liquidity, enhance stability of                    •   market forces should determine
local trading networks, and provide                           prices;
farmers and small-scale indigenous                        •   the volume traded and number of
miners with better information on ex-                         participants, on both the buying
pected future prices.                                         and selling sides must be high and
                                                              well developed to make the
In the light of the foregoing, it could be                    operations of the exchange(s)
argued that the establishment of a                            sufficiently profitable; and,
well-functioning commodities exchange                     •   there must be a well established
in Africa would undoubtedly contribute                        legal framework and participants
to reduced transaction costs and                              must be well versed in the market
improved      price    discovery,    price                    rules and practices.
transparency and risk transfer ---
thereby facilitating the growth and                    These recommendations were informed by
development of African commodity                       the growing realization that commodity
exports and generating the requisite                   exchanges:
financing for essential imports needed
to power the growth of commodity-                         •   help to improve the functioning of
dependent African economies.                                  the physical market by generating
                                                              information that allows market
In recognition of the invaluable role a                       participants make better and
well-functioning commodity exchange                           informed decisions;
could play in the production and trading                  •   providing incentives to traders to
of African commodities, a number of                           behave according to the standards
continental declarations, including the                       of the exchange; and,

                                              - 48 -
                         The World's Commodity Exchanges: Past, Present, Future

    •   offering market participants new                    recommends the creation of a network of
        choices (to trade with a larger                     partnerships in      the establishment       of
        public, trade for future delivery,                  commodity exchanges. In a similar spirit and
        optimize risk exposure, and access                  intent, the proposed Pan-African Commodity
        new sources of funding).                            and Derivatives Exchange Limited (PACDEX),
                                                            currently being promoted by the AU and the
Aside from this growing realization, some                   Pan-African Commodity Platform (PACP), a
observers have also argued that the                         private sector entity based in South Africa,
obvious limited - or lack of - socio-                       seeks to work through a network of
economic development in Africa today                        partnerships between the African public and
could be attributed largely to the under-                   private sectors and between Africa and its
development of its primary (agricultural                    strategic and international development
and       mining)      commodity       sector.              partners. The pan-African electronic trading
Furthermore,      that    until   a   credible              platform to be provided by PACDEX is
mechanism and/or platform for trading the                   programmed to be linked to franchised local
output of this sector has been put in place,                subsidiaries (of commodity exchanges) to be
the attainment of external payments                         established in major commodity producing
viability    and     orderly    growth    and               countries such as PACDEX Kenya Limited (to
development       of    many      commodity-                spearhead, say, Tea and Coffee trade),
dependent economies in Africa will continue                 PACDEX Cote d’Ivoire (to lead trade in Cocoa
to be elusive with very dire consequences                   and Cotton, for example), and PACDEX Nigeria
for its citizenry. Against this backdrop, it                (for trade in Oil and Gas products), among
will be expedient to intensify on-going                     others. Through this approach, PACDEX hopes
continent-wide efforts aimed at establishing                to be able to mobilize the requisite continent-
a well-functioning pan-African commodity                    wide local support and business volume for its
exchange in the continent. However, given                   success. Accordingly, the proposed business
the diversity of commodities involved,                      model of PACDEX satisfies many of the above-
differences in the level of socio-economic                  mentioned pre-requisites for operating a
development among African countries, and                    successful commodity exchange and therefore
the numerous social and economic                            deserves the support of all stakeholders.
challenges prevailing in the continent, the
pursuit of such an initiative requires utmost               In the light of the foregoing, all
circumspection.                                             concerned parties - the AU and other
                                                            sub-regional bodies, African Governments,
It is also pertinent to note that several recent            and international development agencies,
studies on the subject had underscored the                  such as UNCTAD and the ITC - should
importance of building partnerships and                     intensify their efforts at the creation of a
enhancing the capacities of stakeholders                    Pan-African      Commodity        Exchange
(namely national commodity trading and/or                   (PACDEX). Such efforts should include
export promotion agencies, national and                     awareness-raising,        policy    actions,
regional commodity producers’ and traders’                  financial support, provision of technical
associations) because no single organization,               expertise    and     training,   developing
however powerful, can single-handedly achieve               partnerships with local trader and
the objective of developing commodity                       business associations, and mobilizing
production and trade in Africa. In support of               local agricultural and trading interests to
this approach, the Arusha Declaration and                   participate in the new markets.
Plan of Action on African Commodities,


Author note:
Dr Francis Mbroh is Principal Economic Analyst in the Planning and Development Department
of African Export - Import Bank, based in Cairo.


                                                   - 49 -
                       The World's Commodity Exchanges: Past, Present, Future

South African farmers and the
agricultural commodity derivatives market
By Rod Gravelet-Blondin and Chris Sturgess

South African farmers have been successfully engaging with the country's
agricultural futures exchange for some time. Rod Gravelet-Blondin and Chris
Sturgess of SAFEX explain the modalities of this interaction and some of the
challenges that first had to be overcome.

The agricultural commodity derivatives                   Involving and getting farmers to support
market in South Africa was established                   the operation of a derivatives market for
in 1995 as a separate division of the                    the price risk management was not an
South     African    Futures     Exchange                easy task. Moving from a regulated
(SAFEX),      a   functioning     financial              market to a free market environment
derivatives exchange.       The primary                  where each individual farmer was
reason for the establishment of the                      responsible for managing his or her own
market     was    the    emergence       or              price risk was a huge adjustment and
recognition of agricultural price risk                   required new skills. Extensive training
within the sector as a direct result of the              was key to their survival with the
South African government no longer                       exchange and its members actively
intervening in price determination and                   involved in presenting “eye to eye”
allowing economic considerations to                      training sessions. Even today, 11 years
determine the price of all agricultural                  after      deregulation,     demystifying
commodities.                                             derivatives    through   education   and
                                                         training continues as a primary focus
At present the agricultural commodity                    area for the exchange.
market in South Africa trades futures
and options contracts on white maize                     Farmers are risk takers by nature since
and yellow maize, milling wheat,                         successfully producing a crop requires a
sunflower seeds and soyabeans. The                       number of inputs over which they have
monthly volume of contracts traded is                    no control - uncertain weather conditions
around 110,000 futures contracts and                     being a prime example. However, South
38,000 options contracts.     The most                   African farmers, exposed to extreme
liquid contract is the white maize                       price volatility in the grain markets, have
contract which trades around 65,000                      been forced in a sense to use
futures contracts and 25,000 options                     instruments available in the market to
contracts monthly.     The white maize                   hedge price risk to ensure continuation
contract trades in the order of 16 times                 of the business. Forward contracts are
the domestic crop.                                       still used extensively for managing price
                                                         risk followed by options and then futures
Direct farmer participation on the market                contracts.
is difficult to ascertain with certainty, but
it is believed that around 20% of                        Counterparty risk with forward contracts
commercial farmers are actively involved                 in the cash market has resulted in
in the market. Indirect participation is                 increased business for the derivatives
much higher as all grain traded in South                 market where all trades are guaranteed.
Africa is referenced off the derivatives                 At times, there has been an increase in
price. Indeed, the price discovery role of               the number of physical deliveries in
the exchange is such that the price is                   completion of a futures contract by
used throughout Southern Africa as a                     farmers who prefer to avoid the risk of
reference price.                                         non-payment in the cash market.

                                                - 50 -
                      The World's Commodity Exchanges: Past, Present, Future

Due to the margin requirements (initial                 to ensure farmers understand the
and possible variation margin calls) for                benefits of speculators and the liquidity
trading futures contracts, many farmers                 they bring to the market. The South
make use of forward contracts with                      African farmer has begun to grasp the
institutions who then in turn hedge their               advantages of a liquid market and in a
price risk with a futures contract. The                 number of instances has decided to
forward contracts are structured on the                 speculate in those markets they know
back of the existing futures contracts                  and understand the best.
and     provide    an   efficient    hedge
alternative     with    the     institution             Access to the market is achieved through
responsible for all margins. By using this              registered brokers of the exchange. A
instrument, farmers ensure they have                    number of specialised brokers have
more cash available to use elsewhere in                 developed to service only farmers,
their business.                                         providing them with trading advice,
                                                        financing both their production and
South African farmers directly using the                hedging costs and finally trading the
derivatives market to manage their price                physical product to achieve the best
risk prefer to use options rather than                  basis. The relationship between the
futures, however, primarily because of                  farmer and broker is therefore key to a
cash flow, ease of operation and the fact               successful marketing plan.
that they know exactly “what they are in
for.”    However, the cost of option                    Lessons learnt in involving farmers in the
premiums at times does complicate the                   derivatives market:
issue and impacts upon the final
decision. A limited number of option                       •   Market structure – the market
writers in the market together with                            structure upon establishment was
extreme price volatility results in option                     a mutual association of members.
premiums not always being as attractive                        This allowed a wider reach into
as trading the futures as a hedge. This                        the farming community and
said, the options market in South Africa                       brought with it the financial
is a dynamic one with farmers using                            members' (especially the banks')
more complex strategies to reduce                              credibility when the operations of
premiums even though the upside                                the market were unknown.
potential is restricted.          Currently,               •   Contract specifications –
farmers    receive    no    support from                       developed in consultation with the
government     towards      their   hedging                    producers. Delivery points were
strategies resulting in a further challenge                    also conveniently situated to
for the cash-strapped farmer trying to                         encourage farmers to participate
manage price risk.                                             and in the absence of an
                                                               organised physical market, short-
The typical South African farmer prefers                       term futures were introduced to
making his or her own marketing                                facilitate the determination of a
decisions, but with the extreme price                          daily spot price and the rolling of
volatility often experienced in the market                     delivery.
and trying to overcome the element of                      •   Technology – the market started
greed to achieve the best prices, the                          with automated screen trading.
decision when to sell is not easy. This                        This allowed traders to position
challenge is nothing new and occurs in                         themselves in the rural areas and
most commodity markets. It requires                            with the use of APIs many
extensive education on the benefits of                         farmers now trade directly onto
hedging to the farmer compared with                            the market.
taking speculative positions on what the                   •   Data dissemination – trading data
best price might be.                                           was disseminated free of charge
                                                               and members were encouraged to
When mentioning speculators to farmers,                        use all channels, including cell
often thoughts of disgust and anger                            phones, to disseminate closing
come to mind. Again, education is critical                     prices.

                                               - 51 -
                     The World's Commodity Exchanges: Past, Present, Future

   •   Marketing – marketing, along the                       and the effective and efficient
       lines of training, was conducted                       settlement of contracts.
       free of charge anywhere at                     Obviously cost and ease of access to the
       anytime.                                       market is essential, but most of all, the
   •   Integrity – vital to the                       farmer must understand and benefit
       establishment of the market and                from the value that the derivatives
       the involvement of farmers was                 market brings to the overall marketing of
       the credibility of the exchange                agricultural products.


Author notes:
Roderick M. Gravelet-Blondin spent twenty years with the South African Department of
Agriculture during which time he represented South African agriculture in Europe. In June
1995 he joined the South African Futures Exchange (SAFEX) to assist in the
establishment of the Agricultural Markets Division. He continued to head up the
agricultural commodity derivatives market when SAFEX was acquired by the JSE.

Christopher J Sturgess joined the South African Futures Exchange (SAFEX) in October
1997 to assist with the marketing and operations of the Agricultural Markets Division.
Today, together with a small team, he is responsible for the operations of the agricultural


                                             - 52 -
                       The World's Commodity Exchanges: Past, Present, Future

Kenyan experiences with developing a commodity exchange
By Thomas N. Barasa

The Kenya Agricultural Commodity Exchange (KASE) has been an important
private sector initiative that has made significant contributions to agricultural
marketing in the country, writes Thomas N. Barasa, Agricultural Marketing and
Food Security Expert at COMESA.

INTRODUCTION                                            contributing employment opportunities
                                                        to over 77% of the population in the
Importance of Agriculture in Kenya’s                    country.
                                                        In Kenya, there is a direct positive
Like    many       developing     countries,            relationship between growth in the
agriculture is still the dominant sector in             agricultural sector and that of the entire
Kenya’s     economy.          The    sector             economy (Figure 1).       It seems that
contributes the highest percentage of                   whenever the agricultural sector has
government recurrent revenue and                        performed well, the economy has also
industrial     raw       materials    while             performed well.

  Figure 1: Comparison of agricultural and overall economic growth rates (%)


    Growth rate in %


























































                                          Agriculture       Economy

  Source: Omiti and Obunde (2002)

                                               - 53 -
                      The World's Commodity Exchanges: Past, Present, Future

The General Agricultural Situation in                  firm that has been in operation in Kenya
Kenya                                                  since 1994. KACE has been an important
                                                       private sector initiative that has made
The following features characterize the                significant contributions to agricultural
general status of agricultural production,             marketing in the country, and to small
marketing and food security in Kenya:                  holder farmers in particular in two ways:

   •   Over 50% of the population are                     •   Linking producers and buyers of
       food insecure.                                         agricultural commodities.
   •   Poor internal distribution or links                •   Provision of market information
       exist between surplus and deficit                      for commercial actors within the
       areas.                                                 subsector.
   •   Dependence on rain fed
       agriculture leads to periodic                   Through a partnership with the mobile
       surpluses and shortages. As a                   phone company Safaricom, KACE has
       result, there is instability in                 developed a service that allows access to
       production and supply, with gluts               daily agricultural commodity prices,
       during peak production due to                   extension messages, and even the
       poor storage.                                   opportunity to sell or bid via SMS
   •   Low level of storage, agro-                     technology.      This  intervention     is
       processing and value added.                     complemented with rural-based Market
   •   Low productivity due to poor                    Information Points (MIPs), which are
       input use, leading to poor yields,              essentially rural-based trading floors
       low incomes, poverty, and lack of               linked through an electronic information
       on-farm investment.                             system that allows smallholder farmers
   •   Major cash crops include coffee,                in one area to link with buyers in
       tea, horticulture, sugar cane and               different areas.
   •   The major food crop is maize;                   KACE has established a system for data
       others are rice, wheat and                      collection and posting into an electronic
       potatoes. Many traditional crops                database that allows users to receive up-
       are also grown which include                    to-date market information. The linking
       cassava, sorghum, millet, and a                 of producers and buyers and provision of
       wide range of local vegetables.                 marketing information by KACE has been
   •   Access to resources for                         an important contribution to improving
       agricultural production namely                  the      marketing     of     agricultural
       land, credit, inputs, extension are             commodities in Kenya in the liberalized
       major limiting factors to                       economy where government support in
       increased agricultural production.              marketing has reduced considerably.
   •   The marketing of key crops was                  However, rapid development of KACE
       carried out through state                       has been      constrained by      several
       monopolies until implementation                 challenges which are outlined below.
       of structural adjustment
       programmes that began in the                    REQUIREMENTS FOR SUCCESS-
       mid 1980’s. Significant state                   FUL    DEVELOPMENT     OF
       control still exists in some                    COMMODITY   EXCHANGES  IN
       commodities, which has made                     KENYA
       development of commodity
       exchanges slow.                                 Improve agricultural productivity

COMMODITY EXCHANGES IN                                 Increase tradable volumes by increasing
KENYA: THE CASE OF KENYA                               farmers' capacity to produce more. One
AGRICULTURAL COMMODITY                                 of the major problems is limited access
EXCHANGE                                               to    productive    resources    including
                                                       appropriate technologies for the poor
The Kenya Agricultural Commodity                       leading to declining productivity. This is
Exchange (KACE) – is a private sector                  due to a number of reasons: reduced

                                              - 54 -
                      The World's Commodity Exchanges: Past, Present, Future

public investment in the agricultural                  Marketing
sector, including extension, veterinary
services,     research,     credit     and             Activities of agricultural commodities
infrastructure; and lack of access to land             exchanges      in  Kenya     face    severe
and     appropriate    farm    tools    or             constraints related to the general
mechanization.      In Kenya, there has                marketing environment. For example,
been a significant decline in the use of               they are confronted by poor rural
major inputs, especially fertilizers and               infrastructure     leading      to     high
high quality seed. As a result, the gap                transportation/marketing costs.       Other
between farm level and research yields                 issues include lack of finance for
has remained wide for all the major                    investment into infrastructure, such as
crops and livestock.      The extension-               warehouses,          and        unforeseen
messages are often not demand-driven                   government policy changes that create a
and therefore do not meet needs of                     lot of uncertainties (such as sudden
farmers. There has also been limited                   import/export        bans).      Additional
exploitation of the county’s irrigation                constraints hindering development of
potential, especially for small-scale                  agricultural commodity exchanges are
farmers.                                               high interest rates from commercial
                                                       banks     and     lack    of     affordable
Assist   farmers    access   appropriate               warehousing facilities, especially cold
technology for greater farm productivity               storage for perishable farm produce.
and value addition. This will include,
among others, translation of research                  There is a need to intervene in a number
findings into simple publications for                  of ways to promote greater trade in
farmers to study in groups and invest in               agricultural    commodities       through
new and innovative ways of helping poor                exchanges:
farmers access extension services.
Commodity exchanges could themselves                      •   Help improve marketing
play an important additional role of                          infrastructure, such as livestock
providing extension messages and give                         holding grounds and routes,
farmers greater control in the provision                      slaughterhouses and crop/milk
of marketing information.                                     storage facilities in rural areas
                                                              since the warehousing facilities of
Review land tenure laws and policies to                       existing commodity exchanges
provide more access to land by the poor                       are limited.
and landless, especially women who                        •   Help organize farmers to enable
produce   most   of   the   agricultural                      them to participate more actively
commodities.                                                  and form strong partnerships in
                                                              specific marketing structures
Streamline problems in the cash crop                          such as agricultural commodity
sector, especially tea and coffee, and                        exchanges and credit inventory
revive collapsed sectors, such as cotton                      schemes in rural areas.
and oil crops, for improved income                        •   Provide seed capital to finance
earning opportunities which will also                         trade in agricultural commodities
result in greater trading volumes for                         since this is rarely financed by
agricultural     commodity       exchange                     commercial banks and also
transactions.    Commodity      exchanges                     encourage the formation of rural
should participate actively in agricultural                   banks.
policy reform aimed at revitalizing                       •   Support the formation of
agriculture. Examples of such processes                       marketing groups by farmers to
include the Plan for Modernization of                         enable them pool their produce
Agriculture in Uganda and the Strategy                        together and benefit from
for Revitalization of Agriculture (SRA) in                    economics of scale from which
Kenya.                                                        they can link with commodity

                                              - 55 -
                     The World's Commodity Exchanges: Past, Present, Future

Agro-processing                                       Government Controls in Key
Most agricultural commodities are bulky
in their primary form.      The cost of               This is one of the most important
transportation for such commodities                   constraints limiting proper functioning of
becomes      very    high    and   limits             exchanges. For example in Kenya,
profitability in their marketing. In                  coffee, tea and pyrethrum marketing are
addition, trading in primary commodities              not fully liberalized and are firmly
without any value addition may not                    controlled through commodity boards,
result in good returns to the inherently              thus severely limiting the role of
low value of the commodities.         For             commodity exchanges in marketing of
sustained     success    of   commodity               these cash crops.
exchanges, there is need for partnership
between farmers, government and the                   Constraints at regional level: tariff
private sector to process agricultural                and non tariff Barriers
commodity exchanges.
                                                      For agricultural commodities to thrive,
Use and Cost of Modern                                they need to expand their activities
Telecommunication Systems                             beyond their national borders and reach
                                                      regional markets which are much wider.
In order for agricultural commodity                   For example, the combined population of
exchanges to function well, they need to              the Member States of the Common
access      affordable    and     reliable            Market for Eastern and Southern Africa
communication services. Yet these are                 (COMESA) is over 400 million. This
often lacking, especially for the clients             presents a huge potential market
such as small-scale producers who live                compared to a commodity exchange
in remote areas. Although the cost of                 operating in Kenya alone. However,
cell phones is coming down, their cost is             several barriers hinder growth of
still beyond the majority of rural people             regional trade. These include Sanitary
where most agricultural production is                 and Phytosanitary measures (SPS),
undertaken. Similarly, other modes of                 technical barriers to trade such as
communication such as the use of                      quality   and    standards     and   other
internet are yet to reach most rural                  administrative measures such as delays
areas.                                                at border (customs) posts. Fortunately
                                                      both the East African Community (EAC)
Legal and Policy Environment                          and COMESA are dealing with these
                                                      constraints with the ultimate aim of
Unlike stock exchanges which are                      completely eliminating them through
governed by Capital Markets Authorities,              formation of customs unions. The EAC
agricultural commodity exchanges are                  Customs Union is already in place. For
fairly recent trading arrangements for                example, under both EAC and COMESA,
which an appropriate legal and policy                 quality standards for several agricultural
environment is yet to be developed.                   commodities have been developed.
Existing agricultural policies hardly                 COMESA in particular has also put in
recognise the role of agricultural                    place several trade facilitating measures
commodity exchanges in marketing of                   which    include   among      others   the
agricultural products. Accordingly, laws              following:
that govern the operation of such
commodity exchanges are not in place.                    •   Implementation of the
For example, laws that deal with                             Agricultural Marketing Promotion
enforcement of contracts and dispute                         and Regional Integration Project
settlement need to be developed to                           (AMPRIP): This project focuses on
enable commodity exchanges to function                       the establishment of a COMES-
well.                                                        wide Food and Agricultural
                                                             Marketing Information System
                                                             (FAMIS) and the harmonization of

                                             - 56 -
                     The World's Commodity Exchanges: Past, Present, Future

       Sanitary and Phyto Sanitary                      •   Implementation of the
       Measures in the COMESA region                        Comprehensive African
   •   The COMESA Simplified Trade                          Agricultural Development
       regime whose objectives are to                       Programme (CAADP) which will
       ensure that the benefits of                          address some of the supply
       regional integration spread to the                   constraints facing Member States
       majority of the COMESA                           •   The COMESA Road Map for the
       population and to bring cross-                       elimination of non-tariff barriers
       border trade into the orbit of                       (NTBs).
       formal trade, thereby moving
       away from hindering the
       facilitation of such trade


Author Note:
Thomas N. Barasa is an Agricultural Marketing and Food Security Expert at the Common
Market for Eastern and Southern Africa (COMESA), situated in Zambia. He holds both
Bachelor and Masters degrees in agricultural science from Nairobi University, Kenya. His
former experience comprises positions with the Kenyan Ministry of Agriculture, the Kenya
National Farmers Union and Oxfam GB-Kenya.


                                             - 57 -
                      The World's Commodity Exchanges: Past, Present, Future

Developing        a   commodity           exchange           in   Africa:      the   Nigerian
By Ezekiel Davou

The Abuja Securities and Commodity Exchange (ASCE) commenced trading in
July 2006. In the following article, Ezekiel Davou, ASCE's Head of Risk
Management and Surveillance, explains the background to the exchange's
establishment and the prospective benefits that ASCE will bring to the Nigerian

INTRODUCTION                                           marketing monopolies fixed prices for
                                                       the produce that they purchased from
Nigeria is an agrarian society having                  farmers and sold to processors in
over 70% of its estimated population of                developed     economies.   They    were
one hundred and thirty million people                  established primarily to manage and co-
engaged in the agricultural sector. The                ordinate agricultural commodity exports.
sector’s contribution to Nigeria’s foreign
exchange earnings is still paltry when                 STRUCTURAL      ADJUSTMENT
compared to what comes from the oil                    PROGRAMME (SAP)
sector. This dismal performance is partly
as a result of the discovery of oil in                 The magnitude of structural distortions
commercial quantity in the country in the              in the Nigerian economy however led to
late 50s, which led to the gradual and                 the deregulation of commodity trade in
steady neglect of our once cherished                   the country. Government responded by
agricultural sector. This neglect accounts             introducing a Structural Adjustment
for some of the problems highlighted                   Program (SAP) in 1986. SAP patently
below:                                                 addressed      the  Marketing    Boards’
                                                       inadequacies through trade liberalization
   •   Low agricultural output in the                  with particular emphasis on export
       country.                                        promotion and the adoption of measures
   •   Very limited access to short term               to strengthen the productive base of the
       financing for farming operations.               economy. As a result, in 1986, the
   •   High price of agricultural inputs               marketing boards were abolished due to
   •   Poor quality standards                          their inability to address the basic
   •   High seasonal price variability.                problems of commodity marketing. The
   •   Lack of reliable storage facilities.            abolition of the marketing boards as well
   •   Non-existence of an efficient                   as the introduction of SAP resulted in
       commodity market.                               local merchants having to directly
                                                       engage in the export of agricultural
These problems have led to the high                    produce.
poverty rate among Nigerian farmers
and producers.                                         A result of this new dispensation was
                                                       that prices of commodities increased
In order to address these problems,                    manifold. However, merchants benefited
government intervened through the                      more from the price increases than the
establishment   Commodity      Marketing               real producers due to the emergence of
Boards as early as 1947, when the                      middlemen.
colonial administration established the
Cocoa Marketing Board and subsequently                 Various administrations over the years
the Palm Produce, Groundnut, and                       attempted to address the need to make
Cotton Marketing Boards in 1949. They                  farmers enjoy more profit from their
handled the buying of cocoa, cotton and                labour with minimal success. This is
groundnuts,   among     others.   These

                                              - 58 -
                     The World's Commodity Exchanges: Past, Present, Future

because the markets in which they                     The Abuja Securities and Commodity
conduct their trade were and are still                Exchange (ASCE) is conceptualized to
unorganized and inefficient in effective              help develop the largely inefficient and
price discovery and risk containment.                 unorganized but potentially lucrative
The markets are shallow in depth and                  Nigerian commodity production and
poor in liquidity. They are also imperfect            trading sector through the establishment
and unable to minimize transaction costs              of a platform that would help improve
and promote price discovery because of:               the earnings of the small holder farmer
                                                      in Nigeria. This objective would be
   •   Poor      market       information             achieved through the Exchange by
       dissemination                                  providing effective and efficient price
   •   Poor transportation system                     discovery, sanctity and transparency of
   •   Poor grading and standardization               operations for all stakeholders from the
   •   Inadequate storage facilities                  farmer to the consumer. A successful
                                                      commodity exchange helps bring about
The impact of the above deficiencies on               improved production by farmers as they
the market for agricultural produce could             would be exposed to better incentive to
not be felt during the era of Commodity               farm more as a result of improved
Boards because of the protection that                 earnings. All categories of consumers,
government gave the farmers. However,                 from commodity exporters to food
the abolition of the commodity boards                 processing companies, will be able to get
and the liberalization of the Nigerian                their required inputs from the markets
economy in 1986 opened the farmers to                 all year round, as farm yield would be
the vagaries of market imperfections and              exposed    to    improved    post-harvest
forces of supply and demand.                          management via the introduction of
                                                      standard    warehouse    facilities. This
The Central Bank of Nigeria, seeing that              exchange would also significantly help to
the exposure of Nigerian farmers to                   reduce consumption wastage that is
forces of supply and demand for their                 presently the case during harvest season
produce may lead to imminent collapse
of the agricultural sector and further                TRADING SYSTEMS OF THE
compound rural-urban migration and                    ABUJA SECURITIES AND
rural poverty, made a case for the                    COMMODITY EXCHANGE
establishment of a Commodity Exchange
in Nigeria in 1989 to assist farmers in
moderating their operational risks. It                The ASCE provides         two business
was based on this advice that the                     transaction windows for its members.
Federal Government set up an Inter-                   These are negotiated trading and auction
Ministerial Technical Committee the                   windows. The trading platform allows
same year to work out the modalities of               commodity brokers to trade either
the establishment of a Commodity                      manually or by remote negotiation.
Exchange in Nigeria.                                  Manual trading by remote negotiation
                                                      shall be carried out through the staff of
THE  ABUJA   SECURITIES   &                           the Exchange based on the following
COMMODITY EXCHANGE (ASCE)                             trading parameters:

ASCE was originally incorporated on June                        Price
17, 1998 as a Stock Exchange.          It                       Volume
commenced       electronic    trading  in                       Quality
securities in May 2001 before its                               Packaging
                                                                Delivery location
conversion to a Commodity Exchange by
the Federal Government on August 08,
2001. The conversion was carried out to               It is a system whereby a member of the
satisfy   Nigeria’s    yearning    for  a             ASCE sends messages through phone, e-
commodity exchange, which dates back                  mail or fax requesting the Exchange to
to 1989.                                              find a buyer for a commodity he wants
                                                      to sell or a seller for a commodity he

                                             - 59 -
                     The World's Commodity Exchanges: Past, Present, Future

wants to buy. Trading by negotiation                  have benefited marginally from their
may be for a ready-for-delivery contract              efforts, resulting in their continuous low
that will be cleared and settled within in            standard of living.
T+10, ie eleven working days.
                                                      However,       with    the advent     of
Auction transaction is also carried out on            globalization, which has opened up the
the floor of the Exchange. This platform              borders of many countries through trade
is for participants that desire to procure            liberalization,     there  are      vast
large quantities of commodities for either            opportunities for commodity producers
storage or sale at a later date or for                to discover in these markets. Therefore,
distribution as relief materials to people            ASCE intends to tap such enormous
affected by disasters. This platform can              prospects by creating market linkages in
also be accessed by government as a                   the various economic blocks of Africa in
price-regulating tool to mop up excess                the first instance, and subsequently
commodities      in    circulation  during            extending it to the more developed
bumper harvest and release commodities                markets of North America, Europe and
into circulation during scarcity. It could            Asia for the benefit of the primary
be employed by government as a welfare                producers.
economic tool for income stability and
improved standard of living.                          The introduction of commodity trade
                                                      through an exchange platform in Africa
The negotiated trading window will also               has not been successful prior to this
allow transactions in Warehouse Receipts.             time. Factors responsible for these
This business transaction is useful for               failures include:
commodities such as sorghum, maize,
and soybeans, among others, that have                    •   Low levels of liquidity
large volumes and large markets so that                  •   Quality and standards         of   the
many people will participate in the                          commodities
transactions. Trading of warehouse                       •   Lack of storage facilities
receipts enhances trade liquidity and                    •   Lack      of    qualified     market
promotes price discovery in view of its                      participants
ability to generate increased turnover.                  •   Lack of the capacity          of the
                                                             primary producers to           access
ASCE   OPPORTUNITIES                 AND                     credit finance
CHALLENGES                                               •   Non-availability of the      requisite
                                                             market information, i.e.      demand
The African continent is endowed with                        and supply data.
vast arable land for the cultivation of
agricultural commodities as well as                   It is pertinent to note that ASCE is well
deposits of mineral resources. These                  prepared to address these challenges
commodities are mostly grains and cash                due largely to the fact that the Federal
crops such as cocoa, cotton, groundnuts,              Government of Nigeria is providing the
palm produce, sesame seed, Gum Arabic                 requisite support to ASCE.
and cassava.
                                                      ASCE      has    launched     a    website,
There is currently very active trading of   , that is designed
a host of these commodities in both local             to facilitate the provision of trading and
and international markets principally due             market information as well as trading
to the fact that the increasing local                 access to market participants.
population must be fed and the
increasing     demand       for     these             The     Exchange     has     commenced
commodities as industrial raw materials               operations on the 25th July 2006 after a
for the developed economies of Europe                 challenging journey.
and America and the industrializing
countries of Asia, Eastern Europe and                 CONCLUSION
South    America.   Unfortunately,    the
primary producers of these commodities                Trading Nigerian agricultural as well as

                                             - 60 -
                      The World's Commodity Exchanges: Past, Present, Future

solid mineral produce and products                     industry participants, including banks
through    the    commodity      exchange              and insurance companies, will all
mechanism is the way forward for the                   tremendously benefit from a virile
enhancement of the lot of peasant                      commodity exchange. Farming will
farmers and solid minerals producers in                benefit from this in the form of funding
the    country.   This    can   result   in            finance as the players will be encouraged
substantial growth in the real sector of               to provide more loans for operators.
the economy. Primarily, agricultural                   Such      finance      packages     include
production will immediately enjoy a fillip             commodity-based          loans  such     as
since improved earnings and better price               warehouse receipts and title-ownership
discovery through transparent operations               related credit facility, among others.
for operators will lead to a boost in their
production activities.                                 The achievement of some of the above
                                                       benefits will translate to the attainment
The much sought after food security                    of the Millennium Development Goals of
objective of the Nigerian government will              employment        generation,     poverty
become more attainable, and the                        reduction and wealth creation as well as
downstream processing activities of                    a halt in the ubiquitous rural-urban
commodity processing companies will                    migration conundrum in the country.
enjoy a boost.
                                                       A sequential increase in various taxes
Providers of ancillary services, such as               and levies accruable to government
produce      transporters,    warehouse                arising from the enumerated activities
operators, etc, will also experience an                would also come about, thus bring about
increase in their business.                            the net effect of an increment to the
                                                       nation’s Gross Domestic Product (GDP).
The various capital market and finance


Author Note:
Mr. Ezekiel Davou, B.SC, MBA is Head, Risk Management & Surveillance, of Abuja
Securities and Commodity Exchange. He graduated in 1986 from the University of Jos in
Nigeria with a B.Sc degree in Management Studies (Accounting). He obtained his MBA
(Finance) in 1992 from the same University. He had at various times worked with Delta
Steel Company Limited, Aladja, National Population Commission and Allied Bank of
Nigeria Plc. He was with the Leasing Company of Nigeria Limited as the Head of the
Company's Port Harcourt Branch before joining the Exchange in 2000.


                                              - 61 -
                      The World's Commodity Exchanges: Past, Present, Future

Getting markets right: The promise of emerging commodity
exchanges, with reference to Ethiopia
By Eleni Z. Gabre-Madhin

There is at present in Ethiopia an unparalleled high-level momentum and
commitment to the concept of the Ethiopia Commodity Exchange (ECEX), writes
Dr Eleni Z. Gabre-Madhin, Program Leader for the Ethiopian Strategy Support
Program at IFPRI. In the following article, Dr Gabre-Madhin, appraises the
rationale for and approach taken in developing the ECEX idea.


The fundamental market problem in the                   development is progressively achieved.
twenty-first century is not whether to                  These efforts require a balance between
free or restrict markets.         It is to              policy     incentives,     the     broader
understand how markets function, what                   infrastructural environment, and the
roles different institutions play in                    development of appropriate market
supporting market exchange, and how to                  institutions. These can be considered
design, transfer, and maintain these                    the “3 I’s of market development”:
institutions. This implies a shift in policy            Incentives,       Infrastructure,      and
thinking from the earlier dominant                      Institutions (See figure 1 below).
perspective of “getting prices right” to
that of “getting markets right.” Getting                Looking more closely at the elements
prices right implied that, once policy                  within the framework of the “3 I’s”,
incentives were aligned, market order                   incentives involve the overall policy
and pro-poor outcomes would emerge                      environment, the general investment
spontaneously and that markets would                    climate, the macro-economic framework,
take care of themselves. Getting markets                as well as tax and trade policies.
right implies that market order depends                 Infrastructure for markets is comprised
on an underlying set of institutions and                of      telecommunications,      transport,
supporting     infrastructure,    requiring             storage, and logistics in terms of physical
guidance from a “visible hand.”           In            capacity as well as research, skills, and
practical terms, getting markets right                  extension, in terms of technical capacity.
suggests the following: building markets                Finally, market institutions, which have
in which buyers and sellers are well                    been perhaps most obviously neglected
coordinated, transaction costs are low,                 and whose role has been               least
contracts are enforceable, risks are                    understood in the post-reform era,
manageable,       exchange       can      be            concern market information, grades and
impersonal, price volatility is dampened,               standards, contract enforcement, the
and transactions are liquid and highly                  coordination of market actors, trade and
responsive to shifts in supply and                      producer        associations,       market
demand.                                                 regulation, industry wide forums for
                                                        dialogue, and trade finance.     The three
To achieve the above, efforts to                        dimensions of market development are
transform the market must occur over a                  significantly inter-related and jointly
sustained period of time in which market                affect market outcomes.

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                     The World's Commodity Exchanges: Past, Present, Future

Figure 1: Getting Markets Right: The 3 I’s


                                                 Policy reform
       PUBLIC SECTOR                             Investment
                                                 Trade Policy
                                                                      Coordination mechanisms:
                                 SECTOR                                  • exchanges
                                                                         • auctions
  INFRASTRUCTURE                                                         • value chains
                                               INSTITUTIONS              • contracts
Telecoms                         FARMERS                              Enforcement mechanisms
Roads/Transport                  TRADING                              Contract standardization
Storage                          FIRMS                                Product standardization
Logistics/Handling               PROCESSORS                           Industry Associations
Research                         TRANSPORTERS                         Farmer Associations
Extension                        STORERS

                                                          India is vast, with over 30 major
THE PROMISE OF THE                   NEW
                                                          markets in operation alongside
                                                          7,500 small localized markets
                                                          (known as ‘mandies'). As a result,
Achieving a holistic perspective on                       the Indian Gross Domestic Product
market      development   remains   an                    (GDP) is hugely dependent on
important challenge in the post-reform                    smallholder     produced     agrarian
era.     One approach that is gaining                     commodities.         To   meet    the
momentum across developing countries                      challenge of reaching a large
is    that   of   commodity   exchange                    number of rural markets, the new
development.       Commodity exchanges                    exchanges were driven by a
historically have had tremendous power                    technology-intensive approach, and
to transform markets when appropriately                   thus rolled out an electronic trading
designed and implemented.        Over                     network      infrastructure    highly
the past decade, a large number of new                    accessible in a low-cost fashion to
exchanges have been established in                        rural communities through diverse
developing countries, and while many                      mechanisms, including VSAT, to
have not survived, others have come to                    ensure a level playing field for all
occupy significant positions in the                       participants across the country.
                                                          The new commodity exchanges
What distinguishes the new emerging                       represent a fundamental departure
exchanges     is    their   reliance    on                from tradition in that they reverse
information technology, with the effect of                the problem from that of the poor
addressing the powerful constraint of                     trying to access the market to
spatial exclusion from markets for the                    enabling the market to reach the
poor.    The new commodity exchanges                      smallest user, through technology.
are thus able to reach the rural poor in a                The impact of this market reach to
way that traditional exchanges could not.                 rural smallholders has multiple
The recent Indian experience gives
particular insights on the potential for a                    •   First, the rural smallholder
dramatic     impact     on    smallholder                         overcomes      the     spatial
livelihoods. The commodities market in                            constraint, identified as one

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                      The World's Commodity Exchanges: Past, Present, Future

       of the key dimensions of poverty,                   LEARNING FROM GLOBAL
       in that he or she is able to trade                  EXPERIENCE: AN EMERGING
       on    the     national    commodity                 EXCHANGE IN ETHIOPIA
       market instead of the nearest
       local market, at a relatively low                   The recent experience of exchange
       level of transaction costs.                         development around the world
   •   Second,           through         the               reveals that there is no single
       establishment of price tickers                      blueprint or model for exchange
       displaying prices in real time                      development, nor is there a single
       around the country, the rural                       trajectory for the evolution of
       smallholder is able to overcome                     exchanges,       once     established.
       the problem of access to market                     Recent trends show that innovative
       information.                                        solutions, based on technology as
   •   Third, by using the commodity                       well as alliances across exchanges,
       market to sell forward and                          for leapfrogging the traditional
       otherwise      hedge     risk,    the               western exchange development
       smallholder     producer     has    a               model are possible in the current
       powerful mechanism to manage                        dynamic global market setting.
       market risk.                                        However, what is clear is that, no
   •   Fourth,     through     the    linked               matter the model chosen, the
       function of banks and warehouse                     exchange design must be clearly
       receipts, the smallholder has                       tailored to the context and realities
       access to inventory finance and                     of the country, it must provide a
       thus overcomes the problem of                       real service that is accessible and
       lack of credit.                                     needed by potential users, and it
                                                           must engage all stakeholders to
Thus, the emerging exchanges offer                         achieve the volumes needed to
integrated solutions for farmers at both                   sustain itself over time.
the pre- and post-production stages. In
the pre-production phase, the Exchange                     At present in Ethiopia, the presence
enables the futures prices to be known,                    of prohibitively high transaction
which has an impact on cropping                            costs, related to the lack of
decisions, as well as enhancing liquidity                  sufficient    market     coordination
through forward contracting, as well as                    between buyers and sellers, the
the increased ability to obtain bank                       lack of market information, the lack
lending and/or crop insurance products.                    of trust among market actors, the
In the post-production phase, farmers                      lack of contract enforcement, and
can sell forward to hedge price risk and                   the lack of grades and standards,
can also benefit from the reduced                          implies that buyers and sellers
transaction costs of grading and storing                   operate within narrow market
products in Exchange-linked warehouses,                    channels, that is, only those
which enables their access to inventory                    channels for which they can obtain
credit.                                                    information and in which they have
                                                           a few trusted trading partners.
Another important function of the                          Despite market liberalization in the
national exchanges is their facilitation of                early 1990s, the persistence of high
government procurement a lower cost                        transaction costs and contract risk
through the exchange, thus reducing                        have resulted in limited arbitrage
welfare losses. Thus, in 2005, in India,                   and weak investments by private
exchanges enabled the purchase of                          traders, leading to limited market
50,000 tons of paddy rice from 35,000                      volumes, weak responsiveness to
farmers on behalf of the national                          price signals and high price
government      agency,   providing     an                 volatility, all of which have a
alternative to the national support price                  negative impact on smallholder
system and enabling hedging for the                        producer livelihoods.
Government of India.
                                                           There is at present an unparalleled

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                      The World's Commodity Exchanges: Past, Present, Future

high-level momentum and commitment                         elements. In a country such as
to   the     concept    of    the   Ethiopia               Ethiopia where trade is currently
Commodity Exchange (ECEX). There are                       risky and inefficient, it is important
a number of factors that justify the                       that the Exchange establish early
current initiative to establish the Ethiopia               on a holistic and gradualist
Commodity Exchange.                                        approach, adopting an attitude of
                                                           filling the gaps and of building
First, the “push” factors are:                             market confidence and trust over
    • the             emphasis           on                time.
        commercialization of smallholder
        agriculture as the core of the                     The Ethiopia Commodity Exchange
        country’s      poverty    reduction                is currently in its initial phases of
        strategy;                                          design. It will focus on both spot
    • the emphasis on private sector                       and futures transactions, and will
        development       as   central   to                engage both private and public
        achieving the commercialization                    actors in a national collective
        of smallholder agriculture;                        learning effort that traverses all
    • the need to leverage growth of a                     segments of the commodity sector
        relatively large domestic market;                  and allied industries. The Ethiopia
    • geographic and infra-structural                      Commodity Exchange model is
        factors that have led to the                       holistic in that the Exchange
        dominance of a single central hub                  development is based on the co-
        where supply and demand meet                       evolution of the entire commodity
        in Addis Ababa;                                    trading “eco-system,” involving the
    • a long tradition of indigenous                       development of grading and quality
        market intermediaries, brokers, in                 certification,   warehousing      and
        the Addis Ababa central market;                    inventory management, financial
    • and a new thrust on market-                          sector integration and in-house
        oriented cooperatives to bulk up                   clearing and settlement, legal
        produce and organize farmers’                      reforms and the establishment of a
        market participation.                              regulatory commission, arbitration
                                                           mechanisms, risk management and
The pull factors justifying an exchange                    market       surveillance    systems,
are:                                                       market information systems and
     • the potential for enhancing                         public     price   transmission,   all
       regional    and     global   trade                  powered by a tailored, integrated,
       competitiveness      through    an                  technology solution.
       organized domestic market;
     • the potential for more efficient                    To start, for a target number of six
       and low-cost local food aid                         agricultural      commodities,      the
       procurement; increased domestic                     Exchange aims to develop a
       demand due to a new cash-                           quality-based       trading    culture,
       based safety net transfers;                         relying on establishing well-defined,
     • increased domestic demand from                      secure, and market-relevant quality
       growth in domestic processing                       certification of the physical product.
       and an expanding livestock                          To enhance this culture, the
       sector.                                             Exchange will start by including
                                                           grading and warehousing activities
In designing a workable exchange                           within its scope of activities. As
model, a number of strategic choices                       trust builds, these functions will
must be considered. These concern the                      devolve to independent actors,
structure in terms of number of                            while the Exchange would continue
exchanges, trading floors, and linked                      to     accredit     both    warehouse
warehouses, the types and basis of                         operators       and     graders      for
contracts, the scope of exchange                           acceptability on the Exchange
activities, the type of trading system, the                trading. For the six commodities
number of commodities, and the linked                      (maize, wheat, teff, haricot beans,

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                      The World's Commodity Exchanges: Past, Present, Future

sesame, and coffee), the Exchange will                     price movements through the use
develop an appropriate number of                           of the futures market, as the
contracts for trade on both an open-                       market evolves and users are able
outcry and an electronic platform. In                      to benefit from this function.
addition to developing arbitration, the
Exchange will operate a dual system of                     With the integrity of the product at
clearing    and    settlement,  through                    its core, the Exchange design rests
integrating both the warehouses and the                    on the integration of three key
clearing banks into the system, in order                   pillars: the legal and regulatory
to minimize counterparty risk.                             fundamentals       underlying    the
                                                           market mechanism, the financial
In order to develop transparency, the                      services provided through the
Exchange      will  integrate  its  price                  Exchange, and the information
information dissemination      with the                    and communications technology
country’s      national     e-government                   (ICT) that supports the marketing
initiative, known as Woredanet, which                      system, going well beyond what is
links all 571 districts into a national                    narrowly     considered     to    be
network.     Thus, at the district level,                  agriculture.
national commodity prices will be
disseminated cost-effectively through                      In sum, the Ethiopian exchange
public display boards linked through the                   development model is based on
network with local agricultural bureaus,                   developing        the      commodity
local cooperatives, and micro-finance                      marketing system in an integrated
offices.                                                   fashion.     Core institutions within
                                                           and linked to the Exchange have to
The Ethiopia Commodity Exchange is                         do     with    market     information,
intended to serve as many actors as                        product grading and certification,
possible in order to provide a real benefit                warehouse receipts, a regulatory
to the commodity market and thus to                        framework        and       appropriate
enable the transformation of agriculture                   legislation;       an       arbitration
in the country. In order to positively                     mechanism; financial systems, and
impact agricultural producers and other                    producer and trader associations
market actors, the Exchange design                         (see figure 2 below). Through such
intends to maximize low-cost access to                     an     integrated     approach,     the
the national market.          Second, the                  Exchange development envisaged
Exchange is designed to reduce the risk                    in Ethiopia will build up all the
of contract enforcement through clear                      related market elements, across all
and enforceable rules of the game.                         three I’s outlined above, in such as
Third, the Exchange is designed to                         way as to create a sustainable and
provide    risk   management       through                 effective solution for Ethiopia’s
offering the possibility of hedging against                needs and current realities.

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                        The World's Commodity Exchanges: Past, Present, Future

Figure 2: An Integrated Model of Exchange Development

    Grades and                    Finance

Market Information

                             WAREHOUSE              COMMODITY
                              RECEIPTS               EXCHANGE
 Market Regulation


Producer and trader


Author Note:
Dr. Eleni Zaude Gabre-Madhin has been Program Leader and Senior Research Fellow for
the Ethiopia Strategy Support Program at the International Food Policy Research Institute
(IFPRI) since July 2004. Prior to joining IFPRI, Dr. Gabre-Madhin was a Senior Sector
Economist in the World Bank, a research fellow in the Markets and Trade division of IFPRI
and an economist and commodity trading expert at UNCTAD. She holds a Ph.D. in
applied economics from Stanford University and her research has focused on market
reforms, market institutions, and structural transformation in Africa.


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