MacroScan (Printable Version) - Food Policy: Lessons Half-Learnt

Burdened with 65 million tonnes of foodgrain stock and expecting large arrivals at procurement centres when the new harvest comes in, the government has cut the issue price of foodgrains for the above-the-poverty line (APL) population by 30 per cent. This move, it is hoped, would reduce stocks substantially, helping the government find godown space to accommodate newly procured grain. It is also expected to reduce the budgetary burden resulting from the additional subsidy bill incurred on carrying stocks far in excess of the estimated buffer required for food security (24.3 million tonnes on July 1).

The unprecedented level of stock with the government has its roots in the decision to substantially raise the issue prices of food and “target” food subsidies at the ‘really poor' or those below the nutritionally defined poverty line (BPL). While the notion that targeting, or the provision of subsidies only to those who are assessed as truly needy, was ingrained in the marketist view associated with liberalisation, it gained strength from the obsession with reducing the fiscal deficit characteristic of IMF-style financial reform. As a result, the budget for 2000-2001 chose to link the issue price of food distributed through the public distribution to the (non-needy) APL population with the economic cost of food procured and distributed by the FCI. In keeping with that decision, the APL price of wheat was increased from Rs. 682 a quintal to Rs. 900 a quintal (or by 32 per cent), and that of rice from Rs. 905 to Rs. 1180 (30 per cent).

But that was not all. Based on the notion that even subsidies provided to the below-the-poverty line population should be contained, the BPL price was also linked to the economic cost and fixed at 50 per cent of the same. This meant that BPL prices which were prevailing at 37-38 per cent of the APL price prior to Budget 2000, were now set at 50 per cent of APL prices, which themselves were being substantially hiked. The presumption was that the subsidy bill would be substantially contained as a result of these measures.

The folly involved in that presumption was revealed rather quickly. In the wake of the issue price increases, offtake from the public distribution system fell dramatically. On the other hand, with foodgrain output at respectable levels, trader expectations that open market prices would prevail above the floor set by the procurement price were not realised. In areas where the public distribution system could be easily accessed, the promise of better quality grain alone proved inadequate to attract the APL consumer away from the fair price shops. Hence, market prices had to rule below the open market price in many centres. This in essence meant that many, if not most, APL consumers forsook the distribution system.

At the other end of the spectrum, was the BPL segment, which is known to be an extremely small proportion of even the population that can easily access the PDS. There were some at least among this limited set who would have been priced out of food consumption because of the higher prices that had to be paid for food. That this adverse response to the price increase had indeed occurred is partly corroborated by the fact that when the government chose to increase the quota of foodgrain that could be accessed by BPL consumers from the fair price shops, there was little change in the volume of BPL offtake. The net effect was a substantial fall in overall offtake of food from the PDS.

India's publicly organised food distribution system, we must recall, combines a policy of procurement of food at a cost-plus minimum support price, with a policy of distribution at pre-determined prices through an extremely unevenly developed and as yet limited public distribution system. While efforts were on at tinkering with the prices and quanta distributed through the PDS, there was little change on the procurement front. The strong farmer's lobby, represented in the ruling BJP-led coalition, not only ensured that procurement remained in place, but also that such procurement was undertaken at prices that were often higher than the minimum support prices recommended by the Commission for Agricultural Costs and Prices. Combined with the series of good monsoon during the 1990s, which helped keep marketable surpluses of food at relatively high levels, this ensured that the procurement effort proved extremely successful.

High and even rising procurement when combined with diminishing offtake implied rising foodstocks. And with the cost of holding a tonne of stocks estimated at Rs. 2,300 a year, it was to be expected that the subsidy needed to fund the FCI's operations would rise. The food subsidy for 2000-2001, which had been budgeted at Rs. 8210 crore turned out to be Rs. 12125 crore or close to 50 per cent higher.

The government's problems did not end there. Over time the principal problem has turned out to be the stock itself, which has completely occupied the available storage space and necessitated storage of a kind that has rendered some of it unfit for consumption. It is not that the government has not made attempts to get rid of its stocks. It made available to traders specified quantities for exports at prices equal to that at which grain was being provided to the BPL population. This decision, which in distributional terms was indefensible, was adopted because the prevailing international price was well below the economic cost of the FCI. But even this move that violated India's WTO commitments, including the commitment not to offer subsidies on export, proved ineffective. Foreign demand for Indian grain remained low and sluggish and India found that some consignments of even the limited volume of food sent abroad were being returned because they did not meet quality standards. To keep grain moving out of its godowns the government attempted to increase the quota available to BPL families, but there were not many takers at the prevailing BPL prices. Finally the government sought to slow down or even stop procurement in certain centres, only to earn the wrath of the farming community.

It is only when all of this failed that the recent decision to slash the APL issue price by 30 per cent was taken. Implicit in that decision are two perceptions that have been driven home by sheer experience. The first is that upward adjustments in the issue price with the aim of curtailing subsidies is counterproductive, inasmuch as it results in a fall in offtake and an increase in the costs incurred on carrying stocks. The second is that targeting is a failure inasmuch as it ensures that offtake does not keep pace with autonomous procurement, and results in embarrassingly large stocks and unplanned subsidy levels. These perceptions imply that the government's statement that the cut in the APL issue price is purely temporary and is aimed at clearing stocks is pure bravado. The only circumstances where it can economically sustain high issue prices would be one in which foodgrain production and procurement fall substantially. But that would be a situation when high issue prices may not be politically feasible.

Moreover, if production and procurement do not fall, as is unlikely in the coming season given the munificence of the monsoon, then even the cut in APL prices may not be enough to reduce the stock held by the government. The willingness of farmers to sell to the government at the procurement price depends in the final analysis on the price prevailing in the open market. That price depends in turn on open market demand, which consists of demand from two sources: those who are not permitted to access the PDS or choose not to use the access they have; and those who cannot access the PDS because of its inadequate spread.

If the cut in APL prices is to achieve its objective, demand from the first of these sources (that is those with access to the distribution system) should increase. If this does indeed occur, the open market demand for food would correspondingly fall at a time when the harvest is expected to be good. Farmers would therefore be all the more keen to hand over their stocks to the government at the procurement price. Thus, a part of the reduction in stocks with the government resulting from higher offtake would be neutralised by higher levels of procurement.

The implications of this should be clear. The only ways in which the limited objective of reducing stocks can be achieved are by dismantling the procurement system or by substantially increasing the total demand for foodgrain (rather than changing the distribution of a given demand across the PDS and the open market, as APL price adjustments predominantly achieve). There have been sinister moves in recent times to do away with the procurement system, which is considered unsustainable within a purely marketist ‘policy' framework. There is reason to believe that the proposal to decentralise procurement to the States, backed by “financial assistance” from the Centre, is one form those moves are taking.

Advocated on the grounds of efficiency, that proposal has as its primary objective the reduction of central involvement in food procurement. And once decentralisation occurs, procurement by financially-constrained State Governments would substantially depend on the extent of central financial support. The Centre would, however, find it politically far easier to curtail such financial support to the States than to curtail procurement under the present system. Once the States take on the responsibility of procurement, they would find it difficult to explain low procurement as being the result of the Centre's manipulation rather than their own decisions. The Centre would have in essence dismantled the procurement system, but a large part of the responsibility for the same would have to be carried by the State governments. We should not forget that the last government in Kerala had to carry a substantial part of the responsibility for falling prices of primary products such as coconut and rubber, resulting from the Centre's liberalisation agenda.

Thus, the only acceptable option to deal with the excess-stock situation is to substantially increase the total domestic demand for food. There is no better way of doing this than by linking food demand with wage payments in a new and substantially large centrally sponsored food-for-work programme aimed at creating rural infrastructure. It is no doubt true that this would involve associated rupee expenditures, which provides the base for arguments that given the already high level of the fiscal deficit the government, launching such a food-for-work thrust is not feasible. There are two arguments against such a position. First, the argument that the fiscal deficit is India's principal economic problem is by no means valid in a situation where there are no supply-side constraints. After all food stocks are at historically high levels, foreign exchange reserves are at comfortable levels and Indian industry is burdened with large excess capacities. In such a situation, the provision of a fiscal stimulus to raise output growth and reduce employment and poverty is eminently reasonable. And when the deficit-financed expenditures are required only to finance part of the expenditure, the case for such expenditures are stronger.

Consider the following back-of-the-envelope calculation. The wage cost of a rural works programme is likely to amount to about 60 per cent of the total cost of the project, and about 60 per cent of that wage bill can be met with payments in kind (food). This would make the food component in project costs about 36 per cent of the total. If the government chooses to use 20 million tonnes of its stocks over a three-year period to finance such a scheme, the food component of the projects commissioned would amount to around Rs. 10,000 crore, since the average BPL value of foodgrain is about Rs. 5000 a tonne. This would imply that the total cost of the programme would be about 28,000 crore over three years or around Rs. 9000 crore a year. Assuming that the average multiplier of around 4 prevailing in the economy as a whole holds in the case of such rural works as well, the scheme would immediately generate additional output of around Rs. 36,000 crore every year for three years. Further, if the projects are properly planned and the average capital output ratio of 4 holds, the scheme would generate a permanent increase in output of around Rs. 7,000 crore every year after those three years. Thus, incomes and employment would increase, and food demand would be directly and indirectly stimulated, putting to good use food stocks that would otherwise rot in FCI godowns.

All this assumes significance because the Finance Minister himself has argued that some fiscal stimulus is needed just now to stall the downturn in the economy. In fact, he has directed financial advisors in all ministries to step up capital expenditures. In addition, PSUs are to be tapped to obtain additional dividends and interest payments, so that the non-tax revenues of the government can be beefed-up and overall expenditures expanded. These initiatives are likely to be far less effective than the option of a food-for-work programme of the kind advocated above. They are also likely to be far less effective in resolving a problem other than growth confronting the government, namely, that of an embarrassingly high level of food stock that at present has no takers.



Themes > Current Issues	14.07.2001


Food Policy: Lessons Half-Learnt

C.P. Chandrasekhar

Burdened with 65 million tonnes of foodgrain stock and expecting large arrivals at procurement centres when the new harvest comes in, the government has cut the issue price of foodgrains for the above-the-poverty line (APL) population by 30 per cent. This move, it is hoped, would reduce stocks substantially, helping the government find godown space to accommodate newly procured grain. It is also expected to reduce the budgetary burden resulting from the additional subsidy bill incurred on carrying stocks far in excess of the estimated buffer required for food security (24.3 million tonnes on July 1). The unprecedented level of stock with the government has its roots in the decision to substantially raise the issue prices of food and “target” food subsidies at the ‘really poor' or those below the nutritionally defined poverty line (BPL). While the notion that targeting, or the provision of subsidies only to those who are assessed as truly needy, was ingrained in the marketist view associated with liberalisation, it gained strength from the obsession with reducing the fiscal deficit characteristic of IMF-style financial reform. As a result, the budget for 2000-2001 chose to link the issue price of food distributed through the public distribution to the (non-needy) APL population with the economic cost of food procured and distributed by the FCI. In keeping with that decision, the APL price of wheat was increased from Rs. 682 a quintal to Rs. 900 a quintal (or by 32 per cent), and that of rice from Rs. 905 to Rs. 1180 (30 per cent). But that was not all. Based on the notion that even subsidies provided to the below-the-poverty line population should be contained, the BPL price was also linked to the economic cost and fixed at 50 per cent of the same. This meant that BPL prices which were prevailing at 37-38 per cent of the APL price prior to Budget 2000, were now set at 50 per cent of APL prices, which themselves were being substantially hiked. The presumption was that the subsidy bill would be substantially contained as a result of these measures. The folly involved in that presumption was revealed rather quickly. In the wake of the issue price increases, offtake from the public distribution system fell dramatically. On the other hand, with foodgrain output at respectable levels, trader expectations that open market prices would prevail above the floor set by the procurement price were not realised. In areas where the public distribution system could be easily accessed, the promise of better quality grain alone proved inadequate to attract the APL consumer away from the fair price shops. Hence, market prices had to rule below the open market price in many centres. This in essence meant that many, if not most, APL consumers forsook the distribution system. At the other end of the spectrum, was the BPL segment, which is known to be an extremely small proportion of even the population that can easily access the PDS. There were some at least among this limited set who would have been priced out of food consumption because of the higher prices that had to be paid for food. That this adverse response to the price increase had indeed occurred is partly corroborated by the fact that when the government chose to increase the quota of foodgrain that could be accessed by BPL consumers from the fair price shops, there was little change in the volume of BPL offtake. The net effect was a substantial fall in overall offtake of food from the PDS. India's publicly organised food distribution system, we must recall, combines a policy of procurement of food at a cost-plus minimum support price, with a policy of distribution at pre-determined prices through an extremely unevenly developed and as yet limited public distribution system. While efforts were on at tinkering with the prices and quanta distributed through the PDS, there was little change on the procurement front. The strong farmer's lobby, represented in the ruling BJP-led coalition, not only ensured that procurement remained in place, but also that such procurement was undertaken at prices that were often higher than the minimum support prices recommended by the Commission for Agricultural Costs and Prices. Combined with the series of good monsoon during the 1990s, which helped keep marketable surpluses of food at relatively high levels, this ensured that the procurement effort proved extremely successful. High and even rising procurement when combined with diminishing offtake implied rising foodstocks. And with the cost of holding a tonne of stocks estimated at Rs. 2,300 a year, it was to be expected that the subsidy needed to fund the FCI's operations would rise. The food subsidy for 2000-2001, which had been budgeted at Rs. 8210 crore turned out to be Rs. 12125 crore or close to 50 per cent higher. The government's problems did not end there. Over time the principal problem has turned out to be the stock itself, which has completely occupied the available storage space and necessitated storage of a kind that has rendered some of it unfit for consumption. It is not that the government has not made attempts to get rid of its stocks. It made available to traders specified quantities for exports at prices equal to that at which grain was being provided to the BPL population. This decision, which in distributional terms was indefensible, was adopted because the prevailing international price was well below the economic cost of the FCI. But even this move that violated India's WTO commitments, including the commitment not to offer subsidies on export, proved ineffective. Foreign demand for Indian grain remained low and sluggish and India found that some consignments of even the limited volume of food sent abroad were being returned because they did not meet quality standards. To keep grain moving out of its godowns the government attempted to increase the quota available to BPL families, but there were not many takers at the prevailing BPL prices. Finally the government sought to slow down or even stop procurement in certain centres, only to earn the wrath of the farming community. It is only when all of this failed that the recent decision to slash the APL issue price by 30 per cent was taken. Implicit in that decision are two perceptions that have been driven home by sheer experience. The first is that upward adjustments in the issue price with the aim of curtailing subsidies is counterproductive, inasmuch as it results in a fall in offtake and an increase in the costs incurred on carrying stocks. The second is that targeting is a failure inasmuch as it ensures that offtake does not keep pace with autonomous procurement, and results in embarrassingly large stocks and unplanned subsidy levels. These perceptions imply that the government's statement that the cut in the APL issue price is purely temporary and is aimed at clearing stocks is pure bravado. The only circumstances where it can economically sustain high issue prices would be one in which foodgrain production and procurement fall substantially. But that would be a situation when high issue prices may not be politically feasible. Moreover, if production and procurement do not fall, as is unlikely in the coming season given the munificence of the monsoon, then even the cut in APL prices may not be enough to reduce the stock held by the government. The willingness of farmers to sell to the government at the procurement price depends in the final analysis on the price prevailing in the open market. That price depends in turn on open market demand, which consists of demand from two sources: those who are not permitted to access the PDS or choose not to use the access they have; and those who cannot access the PDS because of its inadequate spread. If the cut in APL prices is to achieve its objective, demand from the first of these sources (that is those with access to the distribution system) should increase. If this does indeed occur, the open market demand for food would correspondingly fall at a time when the harvest is expected to be good. Farmers would therefore be all the more keen to hand over their stocks to the government at the procurement price. Thus, a part of the reduction in stocks with the government resulting from higher offtake would be neutralised by higher levels of procurement. The implications of this should be clear. The only ways in which the limited objective of reducing stocks can be achieved are by dismantling the procurement system or by substantially increasing the total demand for foodgrain (rather than changing the distribution of a given demand across the PDS and the open market, as APL price adjustments predominantly achieve). There have been sinister moves in recent times to do away with the procurement system, which is considered unsustainable within a purely marketist ‘policy' framework. There is reason to believe that the proposal to decentralise procurement to the States, backed by “financial assistance” from the Centre, is one form those moves are taking. Advocated on the grounds of efficiency, that proposal has as its primary objective the reduction of central involvement in food procurement. And once decentralisation occurs, procurement by financially-constrained State Governments would substantially depend on the extent of central financial support. The Centre would, however, find it politically far easier to curtail such financial support to the States than to curtail procurement under the present system. Once the States take on the responsibility of procurement, they would find it difficult to explain low procurement as being the result of the Centre's manipulation rather than their own decisions. The Centre would have in essence dismantled the procurement system, but a large part of the responsibility for the same would have to be carried by the State governments. We should not forget that the last government in Kerala had to carry a substantial part of the responsibility for falling prices of primary products such as coconut and rubber, resulting from the Centre's liberalisation agenda. Thus, the only acceptable option to deal with the excess-stock situation is to substantially increase the total domestic demand for food. There is no better way of doing this than by linking food demand with wage payments in a new and substantially large centrally sponsored food-for-work programme aimed at creating rural infrastructure. It is no doubt true that this would involve associated rupee expenditures, which provides the base for arguments that given the already high level of the fiscal deficit the government, launching such a food-for-work thrust is not feasible. There are two arguments against such a position. First, the argument that the fiscal deficit is India's principal economic problem is by no means valid in a situation where there are no supply-side constraints. After all food stocks are at historically high levels, foreign exchange reserves are at comfortable levels and Indian industry is burdened with large excess capacities. In such a situation, the provision of a fiscal stimulus to raise output growth and reduce employment and poverty is eminently reasonable. And when the deficit-financed expenditures are required only to finance part of the expenditure, the case for such expenditures are stronger. Consider the following back-of-the-envelope calculation. The wage cost of a rural works programme is likely to amount to about 60 per cent of the total cost of the project, and about 60 per cent of that wage bill can be met with payments in kind (food). This would make the food component in project costs about 36 per cent of the total. If the government chooses to use 20 million tonnes of its stocks over a three-year period to finance such a scheme, the food component of the projects commissioned would amount to around Rs. 10,000 crore, since the average BPL value of foodgrain is about Rs. 5000 a tonne. This would imply that the total cost of the programme would be about 28,000 crore over three years or around Rs. 9000 crore a year. Assuming that the average multiplier of around 4 prevailing in the economy as a whole holds in the case of such rural works as well, the scheme would immediately generate additional output of around Rs. 36,000 crore every year for three years. Further, if the projects are properly planned and the average capital output ratio of 4 holds, the scheme would generate a permanent increase in output of around Rs. 7,000 crore every year after those three years. Thus, incomes and employment would increase, and food demand would be directly and indirectly stimulated, putting to good use food stocks that would otherwise rot in FCI godowns. All this assumes significance because the Finance Minister himself has argued that some fiscal stimulus is needed just now to stall the downturn in the economy. In fact, he has directed financial advisors in all ministries to step up capital expenditures. In addition, PSUs are to be tapped to obtain additional dividends and interest payments, so that the non-tax revenues of the government can be beefed-up and overall expenditures expanded. These initiatives are likely to be far less effective than the option of a food-for-work programme of the kind advocated above. They are also likely to be far less effective in resolving a problem other than growth confronting the government, namely, that of an embarrassingly high level of food stock that at present has no takers.



© MACROSCAN 2001