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Rajiv Shastri: The subsidy devil is in the detail

Expenses such as employment guarantees and loan waivers are, in effect, subsidies that are classified differently in government accounts

Rajiv Shastri 

Over the last few years, the government announced many policy initiatives that purportedly help the weaker sections of our society. Schemes initiated under the Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) or the distribution of free and affordable food items under the National Food Security Act (NFSA) are examples of these. While it is logical to assume that these initiatives will be accompanied by a sharp increase in the subsidy bill, this is not evident in our budgeted subsidy numbers. The dissonance between the expenses projected under the requirements of these laws and the expenses provided in the Budget seems to be growing, causing sharp differences in opinions on their economic consequences.

The Indian government quantifies subsidies in two sets of documents. The first are, of course, Budget documents that include a summary of the cost of "major subsidies" in the expenditure section of Budget at a Glance. There is a significant degree of discretion on the constituents of this amount since there are many possible interpretations of both words, "major" and "subsidy". This amount has been growing, relative to nominal gross domestic product (GDP), through the years, moving from 1.12 per cent of GDP in FY96 to 2.72 per cent of GDP in FY13. While this is worrying in itself, as mentioned earlier, it seems to understate the impact of recent policy decisions. In fact, the proportion of subsidy is projected to drop to 2.03 per cent in FY14, which seems to be at a variance with any logical estimate of additional subsidies on account of the NFSA.

In defining "subsidies", the devil is actually in the detail. Do we include only expenses explicitly classified as subsidies by the government? Or do we include all expenditure from which the national exchequer doesn't benefit? Internationally accepted definitions veer towards the latter and seem to be logically consistent since they encompass all "uneconomic" expenses of the government. In reality as well, expenses such as employment guarantees and loan waivers are, in effect, subsidies. They are just named and classified differently. (THE REAL NUMBERS)

The other set of data that quantifies subsidies is the National Account Statistics maintained by the Ministry of Statistics and Programme Implementation (MoSPI). This data set uses total subsidies as part of the adjustment required to convert GDP at factor cost to GDP at market prices. Since this information is shared with many international bodies such as the World Bank and the Organisation of Economic Cooperation and Development, it has to comply with internationally accepted classification norms. This provides considerably less discretion in the constituents of each line item. As a result of all these differences, this amount is considerably higher than that in the Budget documents. For example, in FY96, total subsidies based on National Account Statistics account for 2.47 per cent of nominal GDP against the 1.12 per cent based on the Budget documents.

Looking at these numbers in the context of the initiatives mentioned earlier, it is quickly apparent that the MoSPI numbers seem far more pragmatic. For example, in the three years following MGNREGA enactment in FY06, budgeted subsidies remained steady at 1.42 per cent compared to a long-term average of 1.41 per cent. However, total subsidies based on MoSPI data jumped to 3.86 per cent from the long-term average of 2.80 per cent. Another example is available in FY09, when despite a large loan waiver and emergency measures in response to the global financial crisis, actual subsidies as per budget documents increased by about Rs 60,000 crore, from 1.52 per cent of GDP to 2.45 per cent of GDP. According to MoSPI numbers, subsidies in FY09 increased by Rs 1,00,000 crore, from 3.80 per cent of GDP to a stunning 5.17 per cent of GDP. And if these numbers are cause for alarm, recent statistics are certainly a cause for panic.

MoSPI data for FY13 puts total subsidies at a whopping Rs 5,75,000 crore, or 6.08 per cent of nominal GDP when compared to a revised Budget estimate of Rs 2,57,654 crore, or 2.72 per cent of GDP. Also, while budgeted "major subsidies" increased by Rs 39,713 crore compared to the previous year, total subsidies based on the MoSPI data increased by an unprecedented Rs 2,26,371 crore. To put things in perspective, total subsidies in FY13 accounted for 40 per cent of total government expenditure.

One needs to keep two important facts in mind when looking at these numbers. First, these pertain to a year in which no global or domestic crisis has struck. As such, these numbers indicate an evolution in the "normal". Secondly, these numbers do not contain any part of the NFSA impact. Subsidies on account of this colloquial "Right to Food" legislation kick in only from this financial year. It is only logical to assume that our total subsidy bill will increase substantially in the current financial year, and not reduce as indicated by the Budget numbers. And while these may include small parts of the outlay towards education, women empowerment and so on, these cannot be the cause of such a massive increase.

The economic impact of an increasing proportion of GDP and government expenses being directed towards uneconomic expenses is now increasingly apparent. Uneconomic activities crowd out economic and productive activities by outpricing them. To be fair, such initiatives do provide economic succour over brief periods in difficult times but they can cause serious damage to the economic structure when undertaken as part of long-term policy. And while the consequences are visible in the state of our economy currently, what is worse is the absence of any signs of change.

The total subsidies statistics for the first quarter of the current financial year indicate where we may be headed. In Q1 FY14, total subsidies account for an eye-watering 7.16 per cent of GDP or 46 per cent of government expenditure. More, based on historical trends, the relative subsidy burden in the first quarter is typically significantly lower than that of the full year. While the trend is crystal clear, the opacity of government accounts makes it impossible to estimate what the full year's number will look like.

One thing is certain, though. It won't be the budgeted 2.03 per cent.

The author is Director & Business Head Portfolio Management Services & Product, Pramerica Asset Managers
These views are personal

First Published: Sun, November 24 2013. 21:44 IST