The demand for industrial products from agriculture sector is influenced either
by agricultural output changes or the terms of trade (here after TOT) between
agriculture and industrial output. Therefore, a distinction between the output
effect and the TOT effect of the demand for industrial products from agriculture
is worth emphasizing at this point.8 The effect of an increase in food prices on the demand for non-food items by different expenditure groups in rural areas
can be broken into two parts. First, there is the negative cross elasticity of
demand, and second, there is the positive income effect, which depends on the
increase in total expenditure from a rise in prices and on the expenditure
elasticity of demand for non-food items of that expenditure group (Rangarajan,
1982). Further, given the conflicting forces between that low food price being
good for industrial supply and high food prices being good for industrial
demand,9 it is the TOT between agricultural and industrial products that
provides the equilibrating mechanism ensuring that supply and demand grow
at the same rate in each other. If the prices of agricultural products are „too‟
high in relation to the industrial products then industrial growth is either
demand constrained or supply constrained (Ahluwalia, 1985 and Rangarajan,
1982).