Introduction

The word subsidy is derived from the Latin subsidium, meaning ‘troops stationed in reserve’, and essentially implies ‘coming to assistance from behind’. In most common parlance, Subsidy means grant. This grant may be in the form of either cash or kind and is generally given to promote an economic policy or social policy.

Subsidy is generally understood to be a grant extended by the Government, however, that is not a very strict definition. The various forms of subsidy include direct subsidies such as cash grants, interest-free loans; indirect subsidies such as tax breaks, premium free insurance, low-interest loans, depreciation write-offs, rent rebates etc. Subsidies have been provided widely throughout the world as a tool for realizing government policies.

With the economic slump deepening, pressure for a government stimulus package is mounting. The government’s ability to loosen its purse strings, though, is constrained by a limited budget. Against this backdrop, a new study suggests that there is scope for the government to massively free up fiscal space by cutting back on India’s unwarranted ‘non-merit’ subsidies.

What are non-merit subsidies?

The non-merit goods are those goods whose consumption leads to negative externalities. In consumption of such goods, the benefit of subsidies provided on such goods accrues to the individual consumers. In case of non-merit goods, the cost of providing the commodity/service to the society is higher than the price fixed for providing it to the consumer. These subsidies result in the transfer of benefits to the individual consumer in a number of ways as follows:

• Cash subsidies – Providing food or fertilisers to the consumer at prices lower than those at which the government procures the commodities.
• Interest or credit subsidies : Loans given at rates lower than market rates. This takes the form of concessional credit to small scale industries or priority sector loans to individuals to buy a taxi, an auto-rickshaw or to set up some small enterprise by buying some equipment.
• Tax subsidies: Tax exemption of medical expenses, postponing collection of tax arrears
• In-kind subsidies: Provision of free medical services though government dispensaries, provision of equipment to physically handicapped persons.
• Procurement subsidies: Purchase of foodgrains at an assured price which is intended to be higher than the prevailing market price.
• Regulatory subsidies: Fixation of prices of goods produced by the public sector at less than the cost with a view to providing inputs to industry or helping certain other categories of consumers. Examples are making steel, coal or other minerals available to industry, providing electricity to farmers at a rate much lower than the cost.

Recent study and Indian scenario

• In a National Institute of Public Finance and Policy paper, Sudipto Mundle and Satadru Sikdar show that, though the subsidy bill is lower today than it was thirty years ago, it still amounts to over 10% of India’s GDP. And within this, over half goes to ‘non-merit subsidies’ which has no public interest rationale behind them. Non-merit subsidies are all the additional subsidies central and state governments provide beyond ‘merit subsidies’ for food, education, health and water supply and sanitation.
• The authors estimate that non-merit subsidies amount to 5.7% of India’s GDP with the bulk of this subsidy amount (4.1% of GDP) provided by states. They suggest that just rolling back these non-merit subsidies could free up fiscal space up to 6% of GDP which is equivalent to the entire fiscal deficit of both central and state governments.

Beyond non-merit subsidies, cutting tax exemptions and concessions could bump up revenues by another 5% of GDP. A recent Comptroller and Auditor General report on central government accounts also revealed that around 1.5% of GDP worth of central government expenditure has been approved for spending in the budget but not actually spent. The authors argue that there could be similar excess appropriations at state governments. Addressing this in addition to rationalizing non-merit subsidies and cutting tax exemptions could generate fiscal space worth 12% of GDP that can be used for augmenting government investments in the current phase of economic slowdown.