Survey, subsidy and the Trishanku-class

The Economic Survey always had a reputation as a drab document full of statistics that excited only the nerds and bureaucrats. That was until Kaushik Basu arrived on the scene as Chief Economic Advisor in 2009.

Basu transformed the Survey with his scholarly approach and turned it into an interesting and readable document that provoked discussion and debate. His successors, Raghuram Rajan first, and Arvind Subramanian next, have done their best to carry forward that legacy.

The latest Survey, authored by Subramanian, is of a piece with that legacy. It is eminently readable and filled with thoughtful ideas and provocative suggestions.

However, there are some arguments in the Survey that take the reader back to the dark ages of socialist India when to be aspirational was frowned upon and flying or air-conditioned train travel was a privilege of the rich.

The reference here is to the chapter “Bounties for the well-off” with a very interesting study of subsidies in the system on everything ranging from small-savings schemes and interest rates to electricity, air-travel and even train travel. In a country where there are more poor people than rich, Subramanian’s idea to focus on subsidies enjoyed by the rich is unexceptionable. But there seems to be a problem with how ‘rich’ is defined.

The Survey clubs the middle-class — really the Trishanku-class for they are neither here nor there — with the rich leading to just two categories — poor and the ‘better-off’. As Subramanian would surely be aware, it’s not as black and white as that in India; there are shades of grey in between.

There is a class of people that is better off than the poor but still far from enjoying a luxurious lifestyle. They aspire for the good life but they’re by no means in the same class as those who enjoy the good life. To use the same yardstick for both is unfair.

The Survey is wrong when it argues that those who travel second class reserved or by air-conditioned coaches in trains enjoying a 34 per cent subsidy are the ‘better-off’. People who travel by reserved sleeper class do so because they want to be assured of a seat/berth on the train.

Similarly, most passengers in the air-conditioned coaches are from the Trishanku-class who aspire to move up in life and part with the extra cost grudgingly, even if they cannot afford it easily. ‘Better-off’, in this context, need not translate into ‘rich’.

There is a similar problem in the analysis of ‘subsidy’ on interest rates on small-savings schemes. It is difficult to accept that someone with a taxable income of ₹4 lakh is ‘well-off’ as the Survey suggests, even though statistically she may be in the 97.3 percentile of the income distribution curve.

There is a wide gulf between gross and net incomes due to income tax and other deductions. With a net monthly income of around ₹25,000, she may be rich in comparison to the poor but is by no means ‘well-off’.

That kind of money does not take you very far, even with a frugal lifestyle, if you count three other mouths to feed in the family. The problem is that income levels in the country are not high and therefore even the highest percentile in the income distribution can have people who barely eke out a decent living. A granular analysis of the top 1-2 per cent is probably necessary to discern how many tax-payers fall in the truly rich category before judgment can be passed. The Survey says that there are 25 lakh taxpayers in the 30 per cent tax bracket with an average income of ₹24.7 lakh per annum. But the annual income of those in this tax-bracket ranges from ₹10 lakh to a whopping ₹160 crore per annum.

Such a large range can result in skewed readings, as it seems to have in this case. A closer analysis will surely show that there are a greater number of taxpayers in the lower end of the range while the few in the middle and higher end skew the picture.

To use this data to argue that small-savings interest benefit the ‘super-rich’ (top 1-2 per cent of the income distribution, as per the Survey) is unacceptable when you consider that the so-called ‘super-rich’ is made up of all those earning above ₹5 lakhs per annum!

The Survey has picked on PPF as enjoying the highest interest ‘subsidy’ of 6 per cent. To call the tax-break on PPF contributions as ‘subsidy’ is flawed for two reasons. The tax-break is given to entice people to save for their sunset years.

The importance of provident fund schemes can never be over-emphasised in a country with very poor social security. Second, the maximum tax deduction that can be availed is restricted to the ₹1.5 lakh available under Section 80C, which also includes other contributions such as EPF, principal repayment on home loans, school fees paid for children, life insurance premium, etc.

People obviously contribute much more to PPF than the 80C limit which means that there is no ‘subsidy’ element on such contributions. Remember, it is not called Provident Fund without reason.

Second, even if one accepts the ‘subsidy’ argument, PPF is a scheme that brilliantly matches the needs of the individual and the government in terms of investment tenor.

Contributions are locked-in for 15 years, which means that the government gains access to long-term savings for funnelling into infrastructure projects with long gestation and payback periods. Why on wide earth would someone want to mess with the well-balanced equation?

Net-net there can be no dispute with the argument of doing away with subsidies for those who can afford to pay. But the principle needs to be applied after extensive study, especially when it comes to sensitive issues as retirement savings. And acting on shallow analysis can blow up in the face, as the Finance Minister would testify.

The Survey has done its job by starting a debate. Here’s an idea for the CEA to ponder for next year’s Survey. How about a study of agricultural income from a tax perspective?