Higher MSP and inflation worries

There are many positive features of the Union Budget presented on February 1. First, there is great expenditure restraint. The total spending is budgeted to be up by 10 per cent even as national nominal income is estimated to rise by more than 11 per cent.  The second positive is a reform in the way farmers interact with their buyers. More than 22,000 mini-marts will be set up at the village level to bypass the restrictive Agriculture Produce Marketing Committees (APMC). The APMC was sought to be dismantled, but that did not happen. Three model Acts have been proposed to dilute the monopsony powers of the APMC, but even that has not had much effect. The electronic National Agriculture Market (eNAM) concept was introduced with limited success. Hence the establishment of mini-marts is a very positive step toward further eroding the power of the APMC.

The third positive feature, also relating to agriculture, is the tax holiday given to farmer producer companies (FPCs). The FPC concept has been pushed by the National Bank for Rural Development for many years with limited success. Basically, it introduces the shareholder capitalism paradigm among farmers, wherein farmers pool their productive resources into a common stock company (not a cooperative trust), and reap the advantages of a corporate structure, like bank loans, expansion into marketing, distribution, warehousing, value addition into agro-processing and so on. These activities have been demonstrated as a shining success by the Amul model in milk production. But, that is one cooperative movement which has failed to be emulated in other sectors. We need a shareholder model, wherein the farmers capture the major profit pool in the value chain from farm to fork. So the tax holiday is a good and a necessary step.  The fourth positive feature is a reform in labour laws, extending the flexibility of contract hiring to all sectors. Labour is actually a State subject, but the Centre can nudge the States into undertaking major labour reforms, which can lead to an increase in employment.

The fifth major positive step was the re-introduction of the Long Term Capital Gains (LTCG) tax. It puts India on a par with most major economies in the way it teats capital gains. It will undo the tax exemption given merely to achieve parity with foreign institutional investors (FIIs) who come through the Mauritius route. A 1983 treaty made it possible for FIIs to enjoy LTCG completely tax exempt. The Modi government amended the treaty last year to fix this lacuna, a bold measure which no government could do for the previous 30 years. Once the Mauritius treaty was amended, there was no reason for the tail to wag the dog.

Besides, LTCG tax is a direct tax. The ratio of indirect taxes to direct taxes in India has been deteriorating, thanks to GST and the mounting excise on petrol and diesel. Indirect taxes are regressive, inefficient and hurt the poor disproportionately. Hence the LTCG tax is a step in the right direction. The stock market lobby tried to spook the government by raising the spectre of an impending doomsday if the LTCG tax was reintroduced but thankfully the government did not buckle. The current collapse in the stock market follows a global pattern and has little to do with the LTCG tax.

Apart from the above specific examples, there are many other proposals in the budget with can be lauded, the most prominent being the ambitious, near-universal healthcare coverage. Never mind that health insurance alone won’t suffice, if the healthcare infrastructure like hospitals, beds, doctors, nurses, medicines are not in place. But it’s a good political signal for future governments to follow through. Various initiatives in education are also laudable but quite small. As such, a big part of the spending is pre-committed, in interest payments, salaries and pensions, and oil, food and fertilizer subsidies. Hence the room for further development or redistributive or growth-inducing spending is that much limited.

Which brings us to some features of the budget which are a cause for concern. The first concerns the announcement of the Minimum Support Price (MSP), which will now be 50 per cent above the cost of cultivation for all 22 crops. This is a cost plus strategy which we have tried and failed. The definition of cost is left unclear. But even if cost is defined, why reward cost plus? Will it not reward inefficient usage of inputs? Or will inspectors and government specialists do audits to ensure that cost is not inflated? MSP is supposed to be an insurance mechanism. If the market price is above MSP, then it is not operative. Only if the market price falls below does MPS become applicable. But we have seen that last year in Madhya Pradesh, many farmers had to resort to distress sale and sell much below the MSP. As such, government procurement and guaranteed price helps only those farmers with a surplus to sell. Price intervention alone, which changes frequently, cannot help.

This will introduce an upward pressure on food prices, and cause some inflation. Some inflation, if it benefits the farmer is, welcome. But surely, the farm sector needs radical unshackling from various controls. We are still in the Nehruvian mindset of keeping food prices low through controls and in turn helping the farmers with free or highly subsidised inputs like fertiliser, credit, water and seeds. We also have anomalous policies like the minimum export price, to discourage exports, in effect denying the farmer the benefit of international prices. What farmers need is economic freedom to plan, sow, reap, harvest, and sell in a way that they deem optimum, and not because of price and quantity controls. Hence this MSP proposal is not viable, or if done wholesale, will unleash quite a bit of inflation, and may not benefit the intended beneficiaries, i.e. the small, marginal and vulnerable farmers.

The other worrying feature is the steep rise in the revenue deficit. This reflects what it costs to run the government, which shouldn’t be done on the basis of borrowing at all. Fiscal deficit is for capital expenditure on development, but revenue deficit should be headed to zero.  It’s slippage has caused interest rates to spike up. This will hurt the borrowing programme since the government is the biggest borrower in the economy. Thus both MSP and higher revenue deficit are the worrisome aspects of a budget which otherwise was pragmatic and reformist.

The writer is an Economist and Senior Fellow, Takshashila Institution. (Syndicate: The Billion Press).

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