We possess an insidious subsidy culture. If an election is coming, a quick word will raise the LPG cylinder cap or lower CNG prices, ignoring gaping fiscal deficits.
In the idealised public sector era, subsidies were a symbol of our commitment to bring about egalitarian growth, protecting our infant industries. Now, in the last decade, our central government has spent almost Rs 11 trillion on subsidies – mostly captured by the upper class (fuel subsidies) and large farmers (fertilisers).
Similar to Italy, our unmanageable spending problems are compounded by welfare expansion and a social expectation for subsidies. Everyday choices, from education to transport, are tailored by subsidies that the government gives. Populism runs amok, with warped socialist economics focussing on vote-linked needs but not appropriate holistic solutions. A bitter fiscal reckoning awaits.
While professing to be pro-poor, our subsidies target upper and middle classes. Fuel subsidies are Rs 1.3 lakh crore for 2013, roughly 2% of India’s GDP. According to the IMF, India’s fuel subsidies are both inefficient and inequitable, crowding out priority public spending, increasing fiscal deficits, distorting investments and contributing towards global warming.
The rich benefit far more from these – with top 20% of households capturing six times more in benefits from fuel subsidies than the poorest 20%. Moving to market prices would lead to an immediate improvement in government finances, with lower borrowing and interest expenditures for refining and marketing companies. The bottom 40% families could be fully compensated for the move to market prices for less than one-fifth of what government now spends on fuel subsidies.
We increase food subsidies while decreasing investments in agricultural technology. Implementation of the Food Security Act will lead to the government providing 62 million tonnes of food annually at a cost of 1.1% of India’s GDP. Administered prices for foodgrains distort the market, leading to losses for those farmers unable to sell to the government. In addition the public distribution system is plagued by high leakages, operating costs and corruption, with the Planning Commission reporting leakages exceeding 50%.
According to IFPRI, grain rationing is not the ideal targeting mechanism, with food insecurity and market depth varying regionally. Food-related cash transfers have had a far larger impact in countries like Ecuador, Uganda and Yemen.
Closer home, in Tamil Nadu and Chhattisgarh, leakages were reduced and grain offtake improved by relaxing criteria for targeting and utilizing technology-enabled administrative measures. Restructuring Food Corporation of India will reduce leakage and wastage to a greater extent than any benefit from subsidies. Extending support through food vouchers could lead to more choices for beneficiaries.
Even Delhi’s much publicised water subsidy benefits those with piped metered connections, roughly half of all householders. While professing cross-subsidisation the plan misallocates scarce budgetary resources meant for social and infrastructure needs. With 50% of Delhi’s daily supply lost in leaky distribution, a plan for nil water charges up to 667 litres per day incentivises water wastage. With a sharp increase in rates thereafter there is an agency problem, prompting meter tampering and heightened claims of leakage in the rusting piping network.
Why not improve and expand the distribution and piped network system, with regulated user charges linked to usage? The aam admi understands that improved public good delivery will take years to achieve, not 100 days. With a disregard for due process and independent tariff setting, the electricity sector is in a shambles. State electricity boards are pillaged by state governments through executive order. Delhi is only the most recent example. Reducing power tariffs discourages much needed investment, particularly in last-mile distribution.
With tampering rampant, a huge investment in distribution and metering systems is required to stem revenue leakage and to clamp down on theft. Overhauling the system will bring down the relative price of power, with actual implementation of the Electricity Act (2003) promoting market prices across different consumer categories. But fiat rule gets in the way, violating the spirit of our democracy.
Stigma has been removed from defaulting on loans. Even industrial sectors seek sops to nurse their firms back to help, with NPA loans at Rs 6.5 lakh crore at the end of 2013, equivalent to the sum of annual income and corporation tax. According to Reuters, bad loans totalled Rs 1.2 trillion at the end of June 2013, up 18 times from June 2008. With a loose credit culture, underperforming companies are kept in business through bank loans, crowding out borrowers and other investments, leaving taxpayers to pay the bill for recapitalization needs. Dare a bank recall a loan?
India is the Sick Man of Asia with its sovereign rating just a cut above junk. This is a reflection of its subsidy-linked welfare regime. In a reforming economy, populist subsidies should have had their day. Lessening competition in the system, they lead to fewer consumer choices, higher prices and corruption.
For growth, free enterprise and competitive markets, we have to move beyond the days of autarky and socialism. Money spent on asset creation – roads, schools, hospitals, irrigation, projects etc – provides a far greater social benefit. We spent half a century with Fabian socialism, evolving into an oligarchic economy. It’s time to give the market a chance.