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Trimming the edges won't do

The State must dispense with subsidies if it wants to withstand global market forces.

india Updated: May 18, 2012 22:40 IST

To be meaningful, finance minister Pranab Mukherjee's call for austerity must move beyond the token restrictions on officials jetting about to a broader clampdown on the costs of running the government. Even that may not be good enough to pull the rupee back from the precipice. The government simply cannot afford to keep a lid on fuel and fertiliser prices indefinitely. When, as is inevitable, rising prices of crude oil need to be passed on to the 'protected' Indian customer, it comes as a shock because incremental changes bunch up over the time the government has been trying to cushion the blow. Then again there is a fundamental argument against price controls: these lull us into a false sense of security and we end up burning fuel faster than we can afford to. Artificially low diesel prices benefit the man riding a bus to work as well as the man driving his own car. Do we need to subsidise both? It is easier to free fuel prices and pay the bus rider cash if his ticket costs too much.

The subsidy on fertilisers is tied to that on fuel. The Indian farmer does not have a huge appetite for artificial soil nutrients - the Dutch use four times as much fertiliser per hectare as we do - but prices of the stuff that go into making fertilisers, principally fuel, have gone through the roof in the past decade. Especially in India, where around half the output uses expensive naphtha and fuel oil. Until the industry significantly switches to natural gas, the cost pressure will remain. India has hardly any competitive advantage in producing fertilisers, yet it has built up the world's third largest capacity. The transition to a nutrient-based subsidy ought to make it worth the companies' while to produce complex fertilisers that can arrest falling - in some cases negative - productivity. It should also restrict the slide to an obsessive dependence on nitrogenous fertilisers at the cost of those built around phosphorous and potassium. So far, India has been relying purely on imports to source souped-up fertilisers that can deliver a majority of these nutrients in one bag.

The flip side of economy-wide subsidies is high taxes. Fuel is a good example. Taxes on a litre of diesel in India are much higher than the subsidy on it. In effect, the subsidy lowers the tax rate on diesel. It would be simpler, then, to lower the tax and dispense with the subsidy. The relentless rise in the price of oil is perversely steering our policy makers to this realisation. For one, the government gets to test its ability to withstand international market forces. And it also realises the limits to lazy taxation. Dear energy in India traces its roots to high taxes as much as it does to the underlying price of crude oil. The government can fix the former instead of engaging in a futile battle with the latter.