Will direct transfers limit subsidy bill?

In January 2015, the Indian government will begin making subsidy payments directly into the bank accounts of millions of customers who buy cooking gas from state-owned distributors. The latest initiative, the government hopes, will help stem its burgeoning subsidy bill by plugging leaks that plague the system.

Subsidies are an enormous drain on the country’s economy, which has been struggling to keep its fiscal deficit in check. According to government figures released in October this year, the country’s fiscal deficit had reached nearly 83 percent of its target in the first half of the financial year. India is a net importer of crude and natural gas, and sells them and other downstream products like fertilizers, on which its entire agricultural economy depends, at heavily discounted rates to consumers.

To put it in perspective, India spends more to subsidize these commodities than it does to buy weapons for its massive nuclear-armed military. And, the latest budget figures show that, during the current financial year, the country will spend in excess of 2.6 trillion rupees (about $41 billion) on subsidies -- most of it on food, fertilizers, kerosene and cooking gas -- out of its total expenditure budget of a little over 12 trillion rupees.

In the Narendra Modi-led government’s maiden budget this July, India’s Finance Minister Arun Jaitley had said that he plans to overhaul the country’s subsidy regime, following which the government indicated that it would reconsider a proposal to directly transfer subsidies to consumers’ bank accounts, a plan that had been all but shelved by the previous Congress-led United Progressive Alliance government that was voted out of power in May this year, after a decade in office.

However, capping the ballooning subsidy bill may remain a pipe dream, at least in the foreseeable future. First, because there are systemic discrepancies in the government’s public distribution system, and second, because the government simply does not know for certain who needs to be subsidized.

In July, it was reported that two key wings of the government -- the oil ministry, which has to dole out the subsidy and the National Sample Survey Organisation (NSSO), a unit under India’s statistics ministry -- could not agree on how many households have cooking-gas connections. While the oil ministry had 160 million connections registered with it, the NSSO’s estimates were nearly half that at 90 million.

On Monday, it was reported that the plan to directly transfer fertilizer subsidies to farmers’ bank accounts had been shelved for now because of lack of data and clarity on entitlements.

Although falling crude oil prices in recent months could help the government meet its target of reducing the subsidy bill on fuel by as much as 220 billion rupees, the reduction is unlikely to spur growth in the Indian economy, which, as the mid-year economic review released last week points out, is likely to grow by only 5.5 percent this year. The government’s own analysis of its numbers paints a dismal picture of the country’s economy. “Shortfalls in the ambitious revenue target in the current fiscal year will likely lead to expenditure cuts, which impact growth especially since expenditure multipliers tend to be high. Therefore, aggregate demand pressures on future inflation from the fiscal side will remain muted,” the review pointed out.

Apart from targeted subsidies, the government is also banking on overhauling its tax regime -- with a uniform Goods and Services Tax (GST) -- to turn things around. Last week, after protracted, years-long negotiations with the country's over two dozen state governments, Jaitley presented legislation on GST in the country’s parliament.

“The GST will have many lasting impacts. It will create a buoyant source of revenue and place the fiscal position on a permanently solid footing. It will help tax administration and reduce corruption in indirect tax collection. And it will serve to make India more of a common market,” the economic review noted. “In sum,” said the review, “there is growing ground for hope but narrowing room for complacency.”

By: Aman Malik