One man’s fiscal problem is another man’s lifeline. Trigger happy bureaucrats and economists may love shooting down subsidies because it bloats the fiscal deficit and burdens the government but the simple fact is that in a one billion strong nation, in which nearly one in every three live below the poverty line, one needs an effective and efficient method through which privileged tax payers can support the poor.
Last week, finance minister Pranab Mukherjee announced that it is the government’s endeavour to keep subsidies at less than 2% of gross domestic product (GDP).
Effectively, this means that if the value of all goods and services produced in the country is Rs100, the government will not spend more than Rs2 either on handouts that go into anti-poverty programmes or cheaper inputs that keep food, fuel and fertiliser prices at affordable levels.
The government’s argument: It is critical to bring down expenditure that are not yielding intended objectives.
One of the primary objectives of subsidised entitlements to poor is address concerns of equity. Otherwise, there would not have been the need to legislating free lunch for the poor who have a right to live with human dignity. India still has a long way to go before it can get food into every mouth that needs it. The Food Security Bill promises to do precisely that.
Then there is the larger question of whether subsidised food being the most convenient option to keep hunger at bay.
There is the textbook argument that much the same result can be achieved by widening the circle of prosperity though the process is slower. Enhanced farm productivity is vital for keeping food prices in check on the one hand and raising rural incomes on the other.
“Food entitlements are an essential means for achieving equity. Growth alone is not going to deliver it. Markets alone are not going to deliver it. That is the government’s responsibility,” a government economist told HT, who did not wish to be identified.
Nobel laureate Amartya Sen has argued that hunger is caused not necessarily by not enough food being available to eat; it may also be caused by the fact that the existing institutions may not give an entitlement to an adequate amount of food.
To that extent any subsidy programme is critical, especially for a middle-income country such as India.
“It is widely recognised that hunger originates in ‘entitlement failures.’ Access to food is not only function of food supply, but is influenced by a variety of factors,” said Rehman Sobhan prominent Bangladeshi economist and public intellectual, in the essay “Politics of Hunger and Entitelment.”
For India’s policy makers, varying estimates of poverty muddy the picture as do a perverse fiscal incentive of claiming inflated incidence. The World Bank reckons more than 400 million Indians live on less than $1.25 a day. Indian estimates of poverty range from 270 million to 450 million people. If our policymakers zero in on one number--and manage to issue all of them identity numbers within a reasonable time-frame--they still have to figure out how to get subsidised food to them before it rots in granaries or is stolen.
Similarly, seen through the prism of “welfare economics” the subsidy regime in fuel is also far more complex. If the entire surge in international energy prices is passed on to Indian consumers, wholesale inflation could shoot up by a few percentage points. BUDGET ESTIMATES
Critics of removal of subsidies in petroleum products say that per capita incomes in India and the incomes of most consumers remain so far below the global average, and therefore it is the government’s responsibility to pay for those who cannot afford. But, how long can the government keep on footing the bill?
“If we don’t have the capacity, how can we pay a subsidy? Theoretically speaking, if petroleum prices rise to $1,000 a barrel in the global markets, how can we pay? If you have capacity, you can take hard decisions. Can we go back to 1990, when we had to sell our gold for a few millions?,” Mukherjee said last Sunday Economists agree that the government’s roadmap for reducing the subsidy bill appears a tall order.
“The commitment to cap the subsidies within 2 % of GDP is good in intent. The proposal to fully fund the food subsidy but limit the feritilzer and fuel subsidy bill to the fiscal capacity of the government is rational. But it is not clear how this will be done,” said Dharmakirti Joshi Chief Economist CRISIL, an affiliate of US based credit rating and research firm Standard & Poor's.
‘Cut wasteful expenditure’
In the recent Union Budget, the Government presented its intentions to reduce the central subsidy to 2% of GDP and targets further decline in the next three years. This it intend to achieve by minimising leakage through direct transfer as well as through reduction in subsidy level, in particular in the oil sector. This is consistent with the overall philosophy of fiscal consolidation that suggests shifting away expenditure from undesirable expenditures, which adversely affect the macroeconomic stability.
Total subsidies in 2011-12 has seen an increase of around R40,000 crores compared to2010-11, which is largely due to substantial increase in the oil subsidy following higher average import prices of oil together with no pass-through. Hence, any reduction in the subsidy bill has to happen largely through reduction in oil subsidy. Within the oil sector, right now it is only the prices of petrol deregulated, although even in this the pass-through is not complete due to political economy considerations. Now what would be consequences of further oil price deregulation, in particular in diesel? This needs to be analysed in a broader perspective since such policy actions could have differential impacts in different time horizons (short term and long term) as well as on growth, inflation and economic development.
Our own analysis show that pass-through (aligning retail prices with international crude price movements) indeed could be inflationary in the short term and pull down the growth. But, at the same time, it will result in net reduction in revenue deficit would be 0.5% of GDP.
Similar to the arguments given by the 13th Finance Commission, with reduction in oil subsidy it is necessary to follow the expenditure switching policy as well so as to achieve higher growth through crowding-in impact on private investments..That is reduction in revenue deficits need to be substituted with hike in capital expenditures, although this means no change in fiscal deficits.
The pattern of raising the pass-through also expected to give different results. Higher pass-through or passing on a higher proportion of costlier crude oil prices in retail prices in the initial years could ensure higher growth within the medium term although in the short term the fall in growth could be substantial through both decline in government expenditure and higher inflation. But the gradual subsidy reduction could only prolong the recovery in the growth as well as in inflation.
Overall, it is essential to support the government intentions of improving the subsidy delivery mechanism, reducing the leakages, and reducing oil subsidy bill, as these policies provide enough fiscal space for increasing capital expenditure. But it is also equally important to be vigilant while deciding on the timing and extent of increase in the domestic prices.
NR Bhanumurthy is Professor, National Institute of Public Finance and Policy (NIPFP)
‘Invest in people’
In a television discussion about the Food Bill, the anchor at one point asked me in exasperation,‘How long can the middle classes be expected to subsidise the poor’? The manner in which the current debate about subsidies - sometimes described as ‘hand-outs’ or even ‘freebies’- is being framed in Indian middle class discourse is for me deeply problematic. The underlying premise is that populist politics seeks to buy votes from large masses of poor people, by distributing to them food, cash and other unearned benefits, through unfairly taxing the hard-working tax- paying middle classes.
I believe that public expenditures on food, nutrition, health care and education are investments in India’s richest economic resource, its women and men. Economists agree that India is today reaping the ‘demographic dividend’ of being home to the largest population of young people in the working age-groups. However, official data also admits that almost every second child in India is malnourished. In other words, their brains and bodies are not being allowed to develop to their full potential. The result is that we are losing out on the full productive potential of this young working population. Therefore investments in food, clean water, sanitation, health care and education resulting in a healthier, more educated, better nourished work-force, would surely engine faster (and more equitable) economic growth. Keynes has also demonstrated how public expenditure contributes to economic stability in market economies.
However, the arguments for investing in food and other income transfers to the poor should not be only economic, because people have value beyond being producers (or consumers). The philosophy of universal human rights recognises all human beings to have equal intrinsic worth simply because they are human; therefore they should not be valued only for their instrumental economic contributions. The ethical argument for food and income transfers located in human rights is of the imperative to ensure a floor of dignified survival to all persons, free from hunger and homelessness, and with access to education and health care. Another related ethical argument is for redistributive justice, the fairness of taking from those who have more wealth and providing to those who are deprived and vulnerable.
As people age, they require access to universal pensions for a dignified life. This is not a handout; it is deferred payment of wages. The same applies to universal maternity benefits for expectant and nursing mothers. In the formal sector these are not described as freebies, but employee entitlements. Why then should we see these as freebies only when they are made available to the unorganised work force?
The argument is also often made that we cannot afford subsidies of the kind required for a universal food law. This is misleading, because the availability of public resources for such investments is a function firstly of how much we are willing to tax. India’s tax to GDP ratio is much below that of several countries, including many industrialised capitalist countries. Secondly the amount of funds available depends on from whom we are willing to tax: India relies too much on indirect taxes which burden the poor. Further it depends on the integrity, transparency and efficiency of our tax regimes. The entire requirement of public expenditure for the needs of the poor is a small fraction of what the country loses to black money and tax havens.
And finally the availability of public resources depends on what we wish to spend public money on – armaments, corporate subsidies, superior urban infrastructure, or a dignified life for the poor.
Harsh Mander is member, National Advisory Council (NAC)