Since India has 20% of the world’s poor and a financially fragile middle class, it is the duty of the government to protect them. However, there seems to be a persistent complacency in seeking innovative solutions and an over reliance on subsidies for achieving that goal. While subsidies serve the purpose temporarily, they lead to uncertainty and the burden on the exchequer increases with time.
Moreover, subsidy leads to additional consumption of a commodity. As a result, neither the resource, nor its demand can ever remain at the pre-subsidy level. The government, therefore, is then faced with two challenges: First, it has to ensure steady growth in the supply of the subsidised resource and, second, provide additional units of the subsidised resource to sustain the spurt in demand.
The situation gets complicated when the State deals with scarce natural resources such as water, power and land. Since such commodities should be conserved, the cost of increasing supply to meet rising demand shoots up substantially. Furthermore, the financial implications of such subsidies are accompanied by ecological, environmental and societal impacts.
Fortunately, there is a way out. The direct transfer of funds in the form of government-sponsored vouchers is one option. Not only would this avoid distorting prices and save us from the uncertainty of subsidy-associated outcomes, it would also be far easier to quantify the exact financial burden of the benefit in monetary terms, while eliminating the problem of free riders.
The approach could be further refined by linking it to conservation and fixing the base price unit for cash transfer subject to an annual hike linked to increase in the consumer price index or say the, power tariff, whichever is lower. If on the first day of the scheme per unit price is Rs 1, a 50% support would mean an effective unit price of 50 paise. This base price would remain fixed for the duration of the scheme, subject to an annual increase (based on the Consumer Price Index) or an increase in tariff. If in the ensuing year, the CPI increases by 10% and the power cost increases by 15%, the base price per unit could be increased by 10%, being the lower of the two, for the purpose of transfer of cash benefit. The consumer who was consuming 100 units and received a cash transfer of Rs 50 would receive 55 paise.
The cash equivalent of the price benefit should be transferred only if the consumer does not consume more than what he was before the introduction of the scheme.
We may also think of an annual growth allowance of 5-7.5% to address the needs of the increase in consumer demand over time. Therefore, if consumer A was consuming 100 units in the first year, he will be entitled to a cash transfer benefit only if his consumption remains 100. He may be entitled to benefit the ensuing year if his consumption does not increase beyond the fixed percentage and the cycle can go on.
Moreover, if the consumption is less than what was being consumed before the introduction of the scheme, it would entitle the consumer to an additional benefit of a certain percentage of the unit price. If the consumer who was consuming 100 units consumes 20 units less and additional benefit is fixed at 20% of the post-subsidy base price of 50 paise per unit, the consumer gets cash transfer at 60 paise for 80 units instead of 50 paise per unit.
The above arrangement would achieve the purpose of helping the poor in consuming up to a reasonable threshold, while ensuring that there is no price distortion and adverse impact on consumer and producer choices.
(Rajani Kant Verma served as VAT commissioner, Delhi, as well as principal secretary (transport))
(The views expressed by the author are personal)