Indian finance minister P Chidambaram told the Parliament that "all subsidies will need to be targeted at the poor and truly needy" in his budget speech for 2004-2005, a concern probably of all FMs since the subsidy policy began being advocated. With each succeeding budget in the post-independence era allocating a higher value on subsidy compared to the previous year, the focal problem remains untouched - Do subsidies actually reach the target consumers?

The National Common Minimum Programme (NCMP) of the United Progressive Alliance (UPA), the coalition in power at the centre, assures: "All subsidies will be targeted sharply at the poor and the truly needy like small and marginal farmers, farm labour and the urban poor". The finance minister had asked the National Institute of Public Finance and Policy (NIPFP) to prepare a blueprint to accomplish this objective. The NIPFP has come out with its report recently, and its comprehensive study shows the loopholes in the policy and clearly brings out how India's subsidy policies have failed to ensure distributive justice.

Government expenditures, both at the centre and the states, are made on pure public goods and non-public goods. It is essential for the government to spend on pure public goods - goods with the inherent characteristic of non-excludability and non-rivalry. The other areas of expenditure are social and economic services - non-public goods - where the users are identifiable and charged thereto. The problem is compounded when the government expands its expenditure on undue activities in providing goods and services, which are not pure public goods. When the cost of providing these goods and services exceeds the recovery made from their users, subsidies arise. They are then financed either from tax or non-tax revenues, or result in a budget deficit.

The NIPFP report categorises goods and services in order to identify the areas which are more important for subsidies under following heads:

Merit I: elementary education, primary health care, prevention and control of diseases, social welfare and nutrition, soil and water conservation, ecology and environment

Merit II: education (non-elementary), sports and youth services, family welfare, urban development, forestry, agricultural research and education, other agricultural programmes, special programmes for rural development, land reforms, other rural development programmes, special programmes for north-eastern areas, flood control and drainage, non-conventional energy, village and small industries, ports and lighthouses, roads and bridges, inland water transport, atomic energy research, space research, oceanographic research, other scientific research, census surveys and statistics, meteorology.

Non-merit: all others

Ideally, the Merit I category of goods and services should be the prime recipient of subsidies. Unfortunately, the situation seems to be just the reverse in India. Only Rs67.75 billion of subsidies went to this category in the year 2003-2004, out of a total subsidy of Rs1,158.24 billion during the period, a mere 5.85 per cent of the total. In comparison, as much as Rs417.99 billion went to the Merit II category, which is less critical in terms of desirability of subsidies. What is even more galling is that the total non-merit subsidy turns out to be more than Merit I and Merit II subsidies put together!

As the above table shows, the Indian subsidy regime suffers from a clear case of wrong priorities. This is not at all surprising. Unable to control wasteful expenditure, the axe falls on Merit I subsidies (which are soft targets), to enable the government of the day to show a relatively manageable level of deficit. And the reason the subsidy bill of the Government of India keeps on bloating year after year despite a benign increase in the rate of growth of Merit I subsidies is due to an increasing flow of subsidies to categories which are less critical, but politically more important.