Context

Many in India have been lamenting for quite some time the culture of political populism and “freebies”

Fiscal stress due to subsidies

• Technically, a subsidy is the unrecovered cost of any service (or good) provided by the government.
• Freebies such as distribution of televisions, free cycles or laptops are the most highly visible and discussed freebies, but they are fiscally insignificant compared to the much larger subsidies on food, fertiliser and petroleum.
• Though curbed in recent years, these “visible” subsidies in government budgets remain a major source of fiscal stress.
• Then there is a range of “invisible” subsidies, especially in state government budgets, not always recognised as such, but which are also very large.
• The deficit between the receipts and expenditure of a government department in providing a service is the unrecovered cost of providing that service, that is, a subsidy, even if not recognised as such in the budget.
• Examples include the unrecovered cost of providing public education, healthcare, irrigation, power, water supply and sanitation.

Some facts about the subsidies

• Relation with per capita income: The volume of subsidies as a proportion of GDP comes down with rising per capita incomes, but very gradually.
• The total volume of subsidies came down from 13 per cent of GDP way back in 1987-88 to a little over 10 per cent by 2015-16, almost 30 years later.
• Contribution of central government: The central government accounts for less than 30 per cent of total subsidies, provided mainly for economic services including food.
• Merit subsidies: From the total volume there is a very small number of “merit subsidies” which might be warranted in public interest.
• All governments have provided a food subsidy for poor households by bi-partisan consensus for decades.
• Then there is basic education and health services which have large benefits for society beyond the benefit accruing to the immediate recipient of the service, what economists call “externalities”.
• Also in case of expenditure on water supply and sanitation, where again the benefit to society is much larger than that accruing to the immediate recipient of the service — for example, prevention of infectious diseases.
• These four “merit” subsidies account for only a third of total subsidies.
• Unwarranted freebies: Thus, two-thirds of total subsidies, about 6 per cent of GDP, are unwarranted freebies which should be eliminated.

Way forward

• Phasing out the unwarranted freebies: If central and state governments could step beyond their business as usual budgets and take bold measures to phase out these unwarranted freebies, along with much of the tax exemptions and concessions, which amount to about 5 per cent of GDP, that would free up huge fiscal space.
• Universal basic income: There is a growing demand in many advanced countries, which already have large social security schemes, to provide a minimum “Universal Basic Income” for all.
•  Providing a small safety net for the poor in countries like India, which have no social security system, is the least that any caring government can do.
• MGNREGA is the largest and longest-standing income support programme in India for the unemployed in rural areas.
• But it is often not regarded as such as it entails payment against performance of work.
• The usual complaint against such schemes is that they artificially raise rural wages, reduce the incentive to search for work, and that the poor blow up these freebees on liquor etc.
• Since MGNREGA and similar schemes in the states pay much less than the minimum wage, they obviously cannot raise rural wages beyond what is the legal minimum wage anyway.

Conclusion

Phasing out the unwarranted subsidies will enable a massive reduction in the combined fiscal deficit of the Centre and the states, while at the same time stepping up required expenditure on education, health and infrastructure.

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