WTO’s CONCERN-- 200% FOOD SUBSIDY TO DISTORT TRADE
Sensing trade distortions, WTO wishes to discuss fine print of Indian Food Security Act (herein after --ACT) in the upcoming Bali round in December2013. Developed countries have demanded detailing of modalities of this ACT and impact on exports, with piled up stocks. ACT also makes India default in its 10% commitment of Aggregate Measurement of Support (AMS) to WTO—because such support or subsidies are likely to be 20 times than agreed to.
At recent meeting convened by Food Minister for activation of the ACT for 800 million persons at Rs3-2-1/kg formula for rice/wheat/ corn as a right to receive 5 kg per person per month, many State Governments have sought 100% funding from Centre while others indicated reluctance to proceed, by being absent. Political polarization will make grain consumption sluggish. Net effect—Centre will need to hoard more grains.
Finance Minister has also mentioned that “Indian poor are bankable, good borrowers than rich because of their repayment”. He is right. WTO has also noticed that while concept of MSP is linked to marginal farmers, procurement is also resorted from rich farmers of Punjab, Haryana, and Madhya Pradesh who own large land holdings. Do such farmers—rural population-- still need higher dose of subsidies offered under the ACT.
SUBVENTION OF 200%
The ACT is to be implemented through extended Public Distribution System (PDS) that is already riddled with mind-boggling inefficiencies and deficiencies managed by Food Corporation of India (FCI). An illustration of how grains worth “Rs 13.50” -$0.22 (MSP--MINIMUM SUPPORT PRICE of wheat) need “additional Rs 26” --$0.42-- for delivery under PDS, is described below--
If Government buys grains at Rs. 13.50/kg, its “economic cost “immediately becomes Rs 21/kg or 50% extra---that includes 25% procurement incidentals (10-15% local taxes, bagging, transportation to local warehouse ) and storage costs of additional 25% ( interest, warehousing and transport cost for distribution). Is not it odd that Centre/FCI pays 10- 15% taxes (Mandi or market yard charges) to major states like Punjab, Haryana, Andhra Pradesh and Madhya Pradesh. Then these very States inflate the cost of grain by gifting bonuses to farmers. And this puts additional fiscal burden as deficit.
Under the ACT the grain is to be sold at about Rs. 2/kg—about 90% discount to the economic cost. The above excludes 50% disappearance in the food distribution system from (warehousing to fair price shops to households). Thus the system reduces delivered grain to 50% and therefore negates the entitlement of 5kg which is the right and limits it to 2.5 kg per person per month. This doubles the subsidy burden to astounding 180% i.e. 2x 90% if the right as provided is to be protected.
About 3% are the establishment costs of FCI. With every State having its own administrative infrastructure and fair price shop now seeking additional commission, another 3% is “assumed” to be retailing expenses. Allocated to the actual distributed quantity, this will also work out to 12% (i.e. (3+3)x2) That will raise excessive expenditure to 192% . Thus “visible expense” is (13.5+13.5*1.92) = Rs 39.50/kg($0.64) or 192% (taken as 200% rounded) above the original cost of Rs 13.50/Kg.($0.22)
State taxation of about 10%- 15%, extended storage cost of around 15% per annum, subsidization of 90% and disappearance of 50% makes a total of 170% out of total expenditure of 200%. Ideally if these extras are minimized by cash transfers, the cost of grains will be about (200-170) = 30% higher or (13.5+13.5x 0.3) =Rs18/kg. A private trader will happily sell profitably at Rs 18/kg-- versus Rs 39.50/kg under the ACT.
Total tonnage (wheat and rice) that Central Government is now required to procure is around 61 million tons (CACP analysis) up from 55 million tons (mt) which has been the norms for last three years. 61 mt is the mandatory procurement at MSP and not discretionary which was earlier the case under PDS. Farmers are therefore incentivized more for the cereal production than other agro items. However buffer stocks need major revision under the ACT. Desirable buffer stocks would be 42 mt as on July 1st against current norm of 32m -ten million more (CACP analysis)
ACT will mount more physical and fiscal pressure on mandatory procurement, buffer stocking and crowd out private trade all the more. Prices in the markets will be higher and therefore grain supplied at around Rs.2/kg to the beneficiaries will leak to market for bargains through grey channels with greater speed. Export prices will be determined by the blend of diverted grain plus open market prices. That means lower export prices if massive leakages of about 50% are not plugged. Secondly higher fiscal deficit would keep the rupee weak thereby increasing export competitiveness.
FCI’s open ended purchases have been much higher (about 10-12%) than PDS requirements resulting into build-up of inventories. States’ off take under the ACT may not increase. Trend in cereal consumption is on the decline while Government emphasis to augment their procurement. Therefore FCI/ State Government Agencies will continue to hoard more grains. A pragmatic Food Ministry may be compelled to make a distressed sale to recover sunk cost.
This is analogous to what is happening currently in Thailand where the Government is now under selling paddy /Rice by around US Dollar 150.00/metric tons (30%) with a debit of US Dollar 5 billion to Thai exchequer. This is hitting conventional rice export of Vietnam to China who prefers discounted rice from Thailand. Overpricing paddy for Thai farmers and subsidizing it in market is also under review of WTO.
If there is scarcity of grains due to bad weather, India will be forced to import. It will spike the international prices of grains. However that scenario may be rare.
But massive subsidization of about 200% can create severe distortions in domestic and international trade. Subsidies once introduced are difficult to scale down. Enforceability of right to food for the hungry, which is claimed as an achievement, may take decades in Indian Judicial system.