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Economics of land acquisition

With the Indian government’s recent initiative to encourage large scale manufacturing, the subject of land acquisition has acquired a new urgency. Kaushik Basu examines...

india Updated: Feb 02, 2008 22:54 IST

There are few problems in economics as contentious as that of land acquisition. With the Indian government’s recent initiative to encourage large scale manufacturing, the subject has acquired a new urgency.

Let us begin by examining some popular beliefs. One widely held view is that even if land has to be diverted from agriculture to industry, we must not encroach on fertile agricultural land. This is, however, an erroneous way to approach the problem. Suppose the fertile land also happens to be one that will enable the industry to be extra productive (for instance, because, it is near a port). In that case it is entirely possible that the loss of agricultural production will be more than made up for by the additional value of the industrial output. So to look at the value of the land from the point of view of agriculture alone is to look at one of two critical sides of the matter.

The decision has to be based on market principles. The relevant question is: Can the industry that wants the land compensate the persons engaged in agriculture adequately so that the they will want to give up the land? If it wants land that is more fertile, the farmers will clearly ask for more compensation. It is then up to the industry to decide if it wants that land or something that is less fertile and cheaper.

The second popular belief is that the state should not be involved at all. It should be left to the industrialists to cut deals with farmers and cull out the land they need. It is often pointed out that this strategy has been successfully adopted in Gujarat.

A first mistake in this is to assume that because private acquisition does not create political hullabaloo, it is non-exploitative. Most people do not realise that in such deals, big businesses use both carrots and sticks. These deals are often delegated to goons who use all kinds of threats to make sure that the farmers ‘voluntarily’ accept the offer.

I would argue that for large industrialisation initiatives the state has to be involved and, at the same time, it has to use market principles.

Voluntary exchange is the heart of economics. If a seller considers some offer from a buyer worthwhile, then clearly the seller will be better off by the deal and so will the buyer. Such a change, where some people are better off and no one is worse off, is called a ‘Pareto improvement’. It is through successive Pareto improvements that a nation develops.

But if this was all there was to it, there would be no reason for the state to be involved. That is not so because this is the age of mega-industries which need vast amounts of contiguous land. Whether large-scale production is good or bad is not a relevant question. Given that other nations, such as China, are using huge production units to cut costs, India has no choice in the matter. Now, when an industrialist wants to buy a hundred acres of land owned by, say, a hundred farmers, a special problem arises. If ninety of them are eager to sell for a certain price and ten demand much more — a price at which the industrialist prefers to abandon the entire project (since he needs a continuum of land), the Pareto principle ceases to apply. If the ten of them are forced to sell at the lower price, they are worse off; if they are allowed to hold out so that the deal does not go through, 90 farmers are worse off. To leave this to voluntary decision, therefore, amounts to ignoring the preference of 90 farmers.

This problem is now recognised by most industrialised nations. The United States, for instance, has extended the principle of ‘eminent domain’ to allow government to acquire land for large private sector projects, when that is in the public interest.

However, once government is empowered to do this, it is important to have very strict rules concerning the modalities to ensure that the kind of unpardonable brutality that occurred in West Bengal does not happen. There have to be clear rules like the acquisition price has to have a large mark-up over the market price — say 50 per cent above it — and a large percentage of the farmers must find the deal worthwhile before the state steps in to acquire the land. And, even after that, farmers should have access to legal counsel and the right of appeal.

Kaushik Basu is C. Marks Professor and Director, Center for Analytic Economics, Cornell University.