Does the Aam Admi require diesel subsidy?

March 1, 2013

by Debarshi Das

In an interview to the Anandabazar Patrika Amartya Sen has recently commented on food and diesel subsidy. In a panel discussion with Montek Singh Ahluwalia which was broadcast on the news channel NDTV, Sen has reiterated those opinions. Although both discussions have touched on other issues in this note we shall focus only on subsidies. One reason for this is, the Central Government is planning to remove subsidy on diesel. That is the indication Montek Singh Ahluwalia gave in the NDTV discussion. It is also being speculated that the Food Security Bill is going to be passed in the parliament after all. Discussions are on on the subsidy component of the Bill. In this context Sen’s comments on subsidy carry importance.

Let us first arrange Sen’s contention in a few points.

1) The government is not reluctant to spend on food subsidy. It’s the business media which is creating trouble.
2) There is a trade-off between food and diesel subsidy. The reason is, the government has limited fund to spend.
3) If diesel subsidy is removed and the money is spent on food subsidy, the poor will benefit. It’s not the case that all benefits of diesel subsidy are cornered by the rich. However the beneficiaries are richer than those who go with empty stomach. In the NDTV discussion Sen terms the first category as the so called aam admi. The beneficiaries of food subsidy (the second category) are the real aam admi, the common man.

Notice, if the government has limited fund to spend, it does not make much sense to say it is not reluctant to spend. With limited spending capacity, regardless of where the money is spent, a ceiling is automatically set. Since there is a ceiling, we deliberate on the channels where scope for cost cutting exists. Thus diesel subsidy can be removed by citing empty stomachs. Therefore, demanding that the spending be expanded could be a logical response. Even the aam admi of this country perhaps knows that Sen is famous of his research in welfare economics. Does welfare of people have nothing to do with government spending? More specifically, is welfare of the aam admi independent of diesel subsidy?

Before examining this question a few clarifications are in order.

First, that the government is not reluctant to spend on food is not entirely correct. Let us briefly review the history of the Food Security Bill as a case in point. The draft of the Bill was prepared by Sonia Gandhi’s NAC (National Advisory Council). It recommended providing food at a price below the market rate to nearly 75% of Indian population. Besides, there were provisions for special sections such as pregnant women, children, the destitute through non-PDS entitlements. But the bill of the Bill was too heavy for the government. The Central Government constituted an Expert Committee headed by Rangarajan to look into the recommendations of the NAC. In its recommendations the Rangarajan Committee substantially curtailed the scope of the Bill. It recommended that 50% of the population should be covered instead of 75%. There was no mention of the special sections. In the report of the Committee we do find sections on Subsidy Implications; concerns were expressed that the NAC draft may entail a large fiscal burden. Now, it can be argued that this is the view of the Committee, not of the government. However that does not wash. Getting your wishes spelled out through experts is an old trick of the book, specially when you get to nominate the experts. The Bill which was tabled in the parliament is somewhere between these two sets of recommendations.

Secondly, what is the story of subsidy on diesel? More fundamentally, what is subsidy? An example may clarify. Suppose a consumer buys rice from fair price shop at 8 rupees a kilo. The total cost of buying the rice from farmer or procurement agent, transporting it, commission to the shop owner – all this is more than 8 rupees. Let us say the total cost is 20 rupees. The consumer is able to buy at 8 rupees because the government is bearing the balance, 12 rupees. This is subsidy, which the government is paying for the welfare of the food consumer.

In case of diesel or other petro products the story is different. If a litre of diesel is to be purchased from global market and sold to the consumer after including transportation costs, duties, commissions the price per litre would be 70 rupees (say). But the government has dictated that the price has to be kept at 50 rupees. Thus at 50 a litre, the consumer is getting a benefit of 20 rupees, which is a loss to oil companies. This is called ‘under-recovery’, which is often termed as subsidy. When price of dollar vis-à-vis rupee rises, media and experts get all excited: oil subsidy is going to sky-rocket now! The reason is, as dollar price rises, to buy a litre of diesel in international market more rupees have to be spent. Hence price of diesel can rise to 75 rupees, raising subsidy to 25 rupees.

But this sort of estimation is questionable. Oil companies do not import diesel and sell it. They buy petro-products from domestic refineries. If transportation costs, duties, commissions are added to the price at which they buy diesel the final price may not reach 70 rupees. So, the figure of 70 rupees is a wrong number to compare to. The so called loss of 20 rupees, on the basis of which the companies get compensation from the government, is only a notional loss.

This dubious practice is not unknown. In a two part op-ed article in The Telegraph Dipankar Dasgupta and Tushar Chatterjee have questioned the method (“How it all adds up,” Nov 5-6, 2012). Sanhati had published a detailed article on this long ago. Interestingly, the government does not adopt the same method in estimating food subsidy. If it had done so farmers could perhaps have demanded compensations from the government. And, for the sake of argument, if we assume that 20 rupees is indeed a subsidy, even then it is found that the earning of the government from the petro-sector through different taxes is much higher than the so called subsidy. So, in the net, it is the people who are paying money to the government rather than receiving anything.

These aspects of diesel subsidy do not figure in Sen’s comments. We only hear there is a diesel subsidy burden of 41 thousand crore rupees. Subsidy is bad, it is a loss to the government, hence to the tax-payer. For the time being, let us ignore the relevant and important question as to why there is no talk of the 68 thousand crore rupees exemptions given on corporate income tax, and see which benefits may shower on the aam admi if diesel subsidy is removed.

The rationale of under-recovery is that the price of imported oil should be at par with domestic price. If this parity is achieved, price of diesel in the domestic market will increase. Owners of diesel guzzling SUV’s will bite the dust. However there are other kinds of consumption of diesel besides the above-mentioned favourite example of experts. Of the total consumption of diesel only 0.6% is by private cars. All passenger cars taken together make up 15%. This includes taxis, jeeps, other rented vehicles apart from private cars. The biggest chunk is consumed by goods vehicles, such as trucks, at 38%. Agriculture is the second highest at 19%, buses 6%, railways 4%, power plants 7%, industries 6%, etc.

Thus, as diesel price rises it pushes up price of farm products, in particular food. There are two main reasons for this. First, in this mostly-dry tropical country where public spending in agriculture has plummeted, many farmers depend on diesel-run pump-sets for irrigation. When diesel prices rises, cost of production of food soars, raising its price. Secondly, food price also includes transportation cost of trucks and trains. This is affected by diesel price.

When food price in the market rises, it defeats the purpose of food security to an extent. This is because in the Food Security Bill beneficiaries are to be provided with 3 to 7 kilo of grain each month at a low price. They will have to buy the balance of food requirement from the market.

In sum, when diesel subsidy is removed Sen’s aam admi would not remain unharmed. The reason is not only that bus fare will go up or that electricity would be more costly. The harm is also due to loss of food security, which was posed as the reason for removal of subsidy.