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SUBSIDY: IT WILL NOT STOP AT RS

60,000 CRORES

HOW E CON OMI CALLY S US T AIN ABLE IS F OOD S UBS IDY? THE COS T CO ULD

EVEN BE D O UBLE OF W H AT THE GO VE RNMEN T ES TIM ATES

Food deprivation and malnutrition are completely unacceptable and

everything has to be done to eliminate such an evil. The

prevalence of malnutrition in a country like India is in itself a

cause for serious concern since malnourished children may

jeopardize India’s favorable demographic dividend (as per

independent estimates, close to 60 per cent of India’s population

is in the age group of 15-59 years). However, the question is

whether we can afford to have a food subsidy bill (FSB) and if

such an endeavor is economically sustainable. This paper tries to

argue that the fiscal viability of the proposed FSB is not clear

and the delivery outcomes could be highly compromised given the

governance weaknesses and ineffective delivery mechanisms in

place.

We understand that currently there are different versions of FSB.

For example, the FSB on the National Advisory Council website is

the initial version that had proposed to cover the entire segment

of the population. The draft version on the department of food

and public distribution website then proposed coverage to 75 per

cent of rural population and 50 per cent of urban population. The

Prime Minister’s Economic Advisory Council (PMEAC) version

proposes at least 75 per cent coverage of the country’s

population with 90 per cent of rural coverage and 50 per cent of

urban coverage. We have worked out the estimates as per the draft

version and our simulations show that the food subsidy estimates

under this version are not significantly different from the PMEAC

version.

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The fiscal viability/ cost can be estimated in the following

manner:

The FSB for the rural area proposes to provide subsidized (at a

fixed price not exceeding Rs 3/kg for rice, Rs 2/kg for wheat and

Re 1/kg for coarse grains) foodgrains (7 kg per person per month)

to 75 per cent of the rural population, with at least 46 per cent

to the priority rural households and the remainder to the general

rural households. It may be noted that the government of India is

yet to specify the criteria for categorization of population into

priority and general households. Let us call it A.

The FSB for the urban area proposes to provide subsidized (at a fixed price not exceeding 50 per cent of the 2010-11 procurement prices for rice, wheat and coarse grains) food grains (3 kg per person per month) to 50 per cent of the urban population, with at least 28 per cent to the priority urban households and the remainder to the general urban households. Let us call it B.

We also estimated the storage cost for the additional food

procurement. The storage cost was estimated separately for (a) 5-

7 per cent of the foodgrains wastage, (b) creation of additional

storage capacity for at least 13 million tonnes across 15 states

as estimated by the ministry of food, consumer affairs and public

distribution at an average cost of Rs 5,000 per metric tonne and

(c) refurbishing existing storage capacity for the remaining

foodgrains procured at an average cost of Rs 1,000 per metric

tonne. Let us call it C.

As per the ministry of food, consumer affairs and public distribution, there is a leakage of 36 per cent of food grains (17 per cent through bogus cards and 19 per cent through fair price shops). We estimated the cost of such leakage separately. It is in fact an irony that such subsidized food grains meant for farmers are sold in the open market and possibly bought back by the poor people at a higher cost, thereby defeating the entire purpose. Let us call it D.

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There is also the additional cost of (a) providing free

nutritious meals free of charge, during pregnancy and six months

thereafter to women and an additional maternity benefit of Rs

1,000 per month, (b) nutritional food to children (with

particular emphasis on malnourished group) in the age-group of

six months till six years), and (c) mid-day meal to lower and

upper primary classes. Let us call it E.

The cost of transporting food grains to different ration shops is

also estimated separately, as per the government estimates. Let

us call it F.

Hence, the total cost can be estimated as the sum of A+B+C+D+E+F

(refer to the table for details). Our estimate of FSB assumes a

15 per cent per year increase in MSP. This is based on the

observed increase of 15 per cent compounded annual growth rate

(CAGR) between FY06 and FY11. We further assume that the FSB is

implemented in full measure in the first year itself. On the

basis of these two primary assumptions (other assumptions are

listed in the footnote to the table) and summing A and B, the

minimum cost to the exchequer of implementing FSB amounts to Rs

80,000 crore in the first year. If we, however, include

components C, D, E and F the total outlay for FSB will amount to

Rs 143,000 crore, in year one. This amount is far higher (more

than double) than the budgeted food subsidy estimates for current

fiscal at Rs 60,000 crore. Moreover, the incremental estimate of

Rs 20,000 crore that has been put out by the government on the

basis of only some incremental costs (namely A & B component) is

a gross underestimate. In fact, our estimate is the minimum one

and it still is close to Rs 4,57,000 crore in first three years

(close to Rs 5,00,000 crore, if we add administrative cost). This

is not very much different from estimates in the first three

years that pegs it even higher (Rs 6,00,000 crore made by Ashok

Gulati). This apart, we estimate that the total minimum food

grains requirement for this endeavor will be 61 million tonnes.

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Second, there are still a lot of grey areas in the bill. For

example, the draft bill does not specify for how long the

subsidized prices will remain fixed (the NAC version assumes that

it will remain unchanged for 10 years); what will be the

inflation index; there is no definition of how the general and

priority segments of population will be defined; how the

destitute will be covered; the cost sharing between the Centre

and states and so on. One provision, which may be a bone of

contention, is that state governments will be entitled to pay a

food security allowance in the event of non-delivery of

subsidized food grains to designated people. Clearly, such a

provision is a double whammy, since the Central government will

have to procure additional food grains and bear subsidy cost

because of the leakage and the state governments may also have to

pay an allowance because the food will not be delivered to the

beneficiary due to leakages.

….Continued

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LAST STRAW ON THE FISC BACK

THE H UGE E X PENDI TURE ON THE FO OD BILL , WITH THE ATTEND AN T

LEAK AGES , CO ULD WEL L M AKE FIS C AL RE CO V ERY IM POSSI B LE

In the first part of this article, we have estimated the actual

cost of implementing the food security bill in its current form.

In this part, we now examine the fiscal sustainability of the

same. The current state of the revenue and expenditure trends of

the Central government (refer table) show that while revenue

growth has significantly weakened, expenditure growth has

accelerated sharply. In particular, during the last five years

(FY11 over FY06), tax revenues have increased only by 13 per

cent, as compared to 15 per cent between FY04 and FY06.

On the other hand, non-Plan expenditure during FY06-FY11 (i.e.

subsidies have grown by 30 per cent and interest payments by 13

per cent) is significantly higher than over the period FY04-FY06.

Additionally, gross market borrowings increased by 32 per cent

during FY06-FY11, against a decline of 2 per cent in the earlier

period.

In fact, the fiscal stress being currently faced is worryingly

similar to (if not worse than) the decade of ’80s that witnessed

a sharp deterioration, finally leading to the 1991 crisis. For

example, market borrowings had increased by 12 per cent for the

decade ended 1991, while they have increased by 32 per cent in

the last five years; non-Plan expenditure had increased by 20 per

cent during the ’80s and has now increased by 30 per cent and

fiscal deficit itself has increased at the rate of 30 per cent

during the last five years as compared to 18 per cent for the

decade ending 1991. Disturbingly, it is the composition of fiscal

deficit that is worrying, with revenue deficit increasing at a

much faster pace than fiscal deficit (same scenario as in ’80s)

and thus productive capital expenditure being squeezed out. It is

clear that some very urgent and strong steps are today required

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to avert any fiscal crisis. In this context, the fiscal

sustainability of the food security bill is seriously in doubt.

Some observers, however, argue that it is churlish to argue

against additional financial allocations for fighting the curse

of hunger and malnutrition when the Central government regularly

forgoes huge amount of revenues. This argument is based on the

statement of revenue forgone included in the Annual Union Budget

Statement (for the year 2010-11, the revenue foregone as stated

in the budget was Rs 5,11,630 crore / 6.5 per cent of GDP).

It is important to examine the veracity of this argument

specially because, as eminent a person as Amartya Sen cited this

in his recent P.R. Brahmananda Memorial Lecture delivered at the

Indian Economic Association’s annual conference in Pune in

December. A closer look at these numbers, however, reflects the

following:

One, excise duty concessions of Rs 198,291 crore: These are

revenue forgone on account of mass consumption goods like

medicines, tooth powder, candles, post cards, sewing needles,

kerosene stoves, etc. Clearly, exacting the excise duty from

these items would have worsened the fate of the poor.

Two, customs duty concessions of Rs 174,418 crore: These are

concessions for importable goods consumed for exports as defined

under Section 25 (1) of the Customs Act. It is important to note

in this context that import duties on components used for exports

are universally exempt as taxes are not supposed to be exported.

Moreover, is it anybody’s case that these import duty concessions

be removed because by doing so, we may lose a significant part of

our total export revenue (of this, gems and jewellery exports

alone contribute close to 15 per cent of exports). Furthermore, a

simple exercise shows that if we strip gems and jewellery exports

from our foreign exchange earnings, our short-term debt (residual

maturity) as a percentage of reserves, touches 48 per cent from

the current level of 44 per cent.

Three, personal income tax concessions of Rs 50,658 crore are

primarily related to exemption limits for income tax — these will

have insurance premia, contribution of charities and political

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parties, interest payments on loans for higher education, etc.

This could arguably be eliminated, but are we prepared for the

distress that it will cause to the salaried class?

Finally, tax concession of Rs 88,623 crore is primarily related

to export undertakings established in Special Economic Zones and

to 100 per cent export-oriented units. Other areas for concession

under this head are accelerated depreciation for industries

established in new and hilly regions, scientific research and

even contribution to political parties. However, studies

including one by ICRIER in 2007 (“Impact of Special Economic

Zones on Employment, Poverty and Human Development” by Aradhna

Aggarwal) and by Panduranga Reddy C., Prasad A. and Pavan Kumar

G. show that SEZs have a significant positive impact on foreign

exchange earnings, employment generation and hence poverty

reduction. The net cost benefit impact of SEZ is therefore highly

positive.

Given the above details, it may not be completely misplaced to

argue that the additional expenditure for implementing the food

security bill is far greater than any actual revenue forgone for

promoting economic activity in the country.

So where do we go from here? We believe what is important is that

we must strive to improve our tax base now. As Graph shows,

India’s tax revenue as a percentage of GDP is much lower compared

to its neighboring countries. As a case in point, consider the

following facts. The total number of assessees expanded at a

measly 3 per cent for the five-year period ending 2009-10, the

number of returns in excess of Rs 1 crore is only 0.06 per cent

of 34 million assessees and the number of PAN card holders was 96

million for the year ending 2009-10 (hence the filing gap is more

than 60 million).We must, therefore, expand our tax base

immediately.

Second, to implement such food safety bills, we need to improve

our delivery mechanisms drastically to plug leakages. A

significant portion of food grains, mainly rice and wheat, meant

to be distributed to eligible families under the PDS gets

diverted to the open market. The diversion rate was estimated to

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be around 36 per cent in 2004-05 (study quoted by the ministry of

food, consumer affairs and public distribution). Measures like

involving gram panchayats, self-help groups, van suraksha samitis

and other community institutions in the running of fair price

shops could be used as an effective delivery mechanism to plug

leakages (Banerjee and Tiwari, ET, January 28, 2012).

These apart, delivery mechanisms like cash transfers/ food stamps

could also be successfully replicated in India. For example, the

largest cash transfers such as Brazil’s Bolsa Família and

Mexico’s Oportunidades cover millions of households. The food

stamp programme is also a central component of America’s

nutrition assistance safety net. The stated purpose of this: “to

permit low-income households to obtain a more nutritious diet by

increasing their purchasing power” (The Food Stamp Act of 1977,

as amended, P.L. 95-113).

Food security, an urgent necessity, will be ensured only when

Indian agriculture is modernized and productivity and yields rise

in the coming years. In our view, it will, therefore, be far more

effective and sustainable to allocate additional public resources

for developing agriculture, infrastructure and delivering new

technologies to the sector. This will more effectively ensure

food security in the country.

RAJIV KUMAR IS SECRETARY-GENERAL, FICCI, AND SOUMYA KANTI GHOSH IS DIRECTOR, ECONOMICS &

RESEARCH, FICCI. THE AUTHORS THANK NIBEDITA SAHA FOR RESEARCH. VIEWS ARE PERSONAL