Let’s digest some numbers. The bottom 50% of India’s population claims 13% of the total income, and the middle 40% take another 30%, while the rest goes to the top 10%, with the top 1% making up over 22%. On wealth, the picture looks like this according to the World Inequality Report. The lower half own 6% of the net worth, while the middle 40% own 30%. The remaining 65% is held by the top 10%, of which 33% is with the top 1%. This is the position of distribution of income and wealth as per the latest data. So what should the government do?
Recent news of the collapse of the Sri Lankan economy has sparked a new debate over the role of the state. Its government cut taxes across the board and provided many free goods and services, resulting in the collapse of the economy and the heavily indebted country with no choice but to default on its commitments. As a consequence, the issue of freebies offered by Indian states has come under the lens here. States get more attention because they kill boys easily.
It is argued that states have a habit of giving free gifts, whether in the form of loan waiver or free electricity, cycles, laptops, TV sets etc. Is it sustainable? If states continue to spend money for alleged political gains in this way, their finances will go haywire and fiscal negligence will prevail. The last bit may be far-fetched, as the Fiscal Responsibility and Budget Management (FRBM) rules are more binding on states; They cannot borrow more than their limit and any deviation has to be approved by the Center and the central bank. So, while states have flexibility about how they spend their money, they cannot exceed their deficit limits under normal circumstances. The Center interestingly used an escape clause for its limits but exercised restraint in its pandemic-relief spending.
Let’s try to define free. States such as Tamil Nadu and Bihar are known to provide sewing machines, saris and cycles to women, but they buy them from budget revenue, contributing to the sales of these industries. This can be considered a boost to the supplier industry, and not a waste of time, given the same output. Punjab has been criticized for providing free water and electricity to help wealthy farmers. The contention is that only the wealthy have access to pump sets that are run free of charge to extract water. Such schemes tend to favor farmers at election time, but it can be argued that wheat and rice prices would have been higher if the cost had been borne. Therefore, it is an incentive to produce at a lower cost. This is in line with the support-price driven procurement by the Centre, which also aims at farm income support.
Also, isn’t the same being done for industry with Production Linked Incentives (PLIs) that promise to turn around 5% of their turnover to meet investment and sales norms? Can we really criticize the state handouts as subsidies for the ‘rich farmers’ while appreciating the same given as incentives to the ‘prosperous industry’? This should make us stop and think, as there cannot be double standards for different producers. The difference is terminology. A ‘subsidy’ is seen as degrading, while an ‘incentive’ is considered progressive.
Now consider farm loan waiver. When the industry defaults and becomes a non-performing asset (NPA), the payment comes indirectly from bank funds, which include deposits. By not being NPA, depositors can get better returns and borrowers can be charged lower rates, as NPA provisions and write-offs increase the cost of arbitration. Farm loan waiver includes payments made to lenders from the state budget. Here too, one cannot accept one and reject the other, as both the sectors operate under risk and uncertainty.
The budget objective of the government is to redistribute and provide incentives in the right sectors, so that growth is sustained and inflation is under control. Fertilizer subsidies also ensure that food prices are kept under some control.
The redistribution is deserving of debate again. Most of the so-called freebies are given by the Center rather than by the states. For example, the PM Kisan scheme assures cash transfers to farmers and is about to cost the exchequer. 65,000 crores. The rural job guarantee program has historically been a Keynesian type of scheme, analogous to ‘digging holes to fill them’, where not much productive work is accomplished but wages are paid to workers. Here too there may be expenditure between the government 60,000 crore and 1 trillion (during the pandemic). Can we really object to such an outlay, given that Indian inequality is so high and not addressed by the much-discussed ‘trickle-down theory’ of development?
Given our inequalities of income and wealth, the Rawlsian principle of justice certainly applies here. The classic principle of greatest benefit to the most disadvantaged should be applied to government spending, especially now that it is clear that the current system does not allow the weaker sections to escape their circumstances. It is true that states have to handle their finances better and a line needs to be drawn on hand-outs. States deduct capital expenditure once they reach their FRBM limit.
Ideally, a proportion of state spending should be earmarked for so-called free gifts. This will ensure better overall utilization of resources. But the term ‘free gift’ also needs to be better defined to differentiate cash transfers from ‘free gifts’, as the latter can act as a direct boost to supplier industries. Their fair evaluation will be good for India.
These are personal views of the author.
Madan Sabnavis is chief economist, Bank of Baroda and author of Economic Destruction Lockdown