Sensing trade distortions, the WTO wishes to discuss the fine print of the Indian Food Security Act in the upcoming Bali round in December 2013. The WTO’s apprehensions are not misplaced.

Developed countries have demanded detailing of modalities of this Act and its impact on exports, thanks to the prospect of a higher stockpile. The Act, which was recently passed by the Indian Parliament, aims to provide food security to two-thirds of the country’s population, or about 800 million people, by providing them food grains of 5 kg per month at subsidised prices of Rs 3-2-1/kg.

At a recent meeting convened by the Food Minister, many State governments sought 100 per cent funding from the Centre. The Centre will need to hoard more grains with the existing pattern of consumption.

The Finance Minister has also mentioned that “Indian poor are bankable, good borrowers.” The WTO is perhaps not sure whether the poor need a higher dose of subsidies offered under the Act.

Massive Subsidy

The Act is to be implemented through an extended public distribution system (PDS), already riddled with mind-boggling inefficiencies and deficiencies, managed by the Food Corporation of India (FCI).

How do grains worth Rs 13.50 need “additional Rs 26 for delivery under PDS? If the government buys grains at Rs 13.50/kg, its economic cost immediately becomes Rs 21/kg or 50 per cent extra — that includes 25 per cent procurement incidentals (10-15 per cent local taxes, bagging, transportation to local warehouse) and storage costs of additional 25 per cent (interest, warehousing and transport cost for distribution).

Is it not odd that the Centre, or Food Corporation of India, pays 10-15 per cent taxes ( mandi or market yard charges) to major States such as Punjab, Haryana, Andhra Pradesh and Madhya Pradesh?

These States inflate the cost of grain by gifting bonuses to farmers, imposing an additional fiscal burden.

Under the Act, the grain is to be sold at about Rs 2/kg — about 90 per cent discount to the economic cost. The above excludes 50 per cent disappearance in the food distribution system (from warehousing to fair price shops to households). This doubles the subsidy burden to an astounding 180 per cent.

The establishment costs of FCI are another 3 per cent. With every State having its own administrative infrastructure and fair price shops now seeking additional commission, another 3 per cent is “assumed” to be retailing expenses. Accounting once again for leakages, this will also work out to 12 per cent (i.e. (3+3)x2).

That will raise excessive expenditure to 192 per cent. Thus “visible expense” is (13.5+13.5*1.92) = Rs 39.50/kg or 192 per cent (taken as 200 per cent rounded) above the original cost of Rs 13.50/Kg.

State taxation of about 10-15 per cent, extended storage cost of around 15 per cent per annum, subsidisation of 90 per cent and disappearance of 50 per cent account for a total of 170 per cent out of total expenditure of 200 per cent.

Ideally if these extras are minimised by cash transfers, the cost of grains will be about (200-170) = 30 per cent higher or (13.5+13.5x 0.3) =Rs 18/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 the Centre is now required to procure is around 61 million tonnes (analysis of the Commission for Agricultural Costs and Prices), up from 55 million tonnes (mt) which has been the norm for the last three years.

MANDATORY PROCUREMENT

And 61 mt is the mandatory procurement at MSP and not discretionary, which was earlier the case under PDS. Farmers are therefore incentivised 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 1 against the current norm of 32 mt — ten million more (CACP analysis).

The 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.

Moreover, the FCI’s open-ended purchases have been much higher (about 10-12 per cent) than PDS requirements, resulting in build-up of inventories. States’ offtake under the Act may not increase.

All this is when cereal consumption is on the decline. Therefore, FCI/state government agencies will continue to hoard more grains than required for beneficiaries.

A pragmatic Food Ministry may be compelled to make a distress sale to minimise overall losses or the sunk cost.

This is analogous to what is happening currently in Thailand where the Government is now under-selling paddy/rice by around $150/tonne (30 per cent) with a debit of $5 billion to the Thai exchequer.

This is hitting conventional rice export of Vietnam to China, which prefers discounted rice from Thailand.

Overpricing paddy for Thai farmers and subsidising it in the market is also under the review of WTO.

Global Effects

Export prices will be determined by both diverted grain and open market prices. That means lower export prices if massive leakages of about 50 per cent are not plugged.

If there is scarcity of grains due to bad weather, forcing India to import to meet the gap for buffer norm, it will lead to a spike in international prices of grains. However, that scenario may be rare.

But massive subsidisation of about 200 per cent can create severe distortions in domestic and international trade. Subsidies once introduced are difficult to scale down.

The right to food for the hungry, which is claimed as an achievement, may take decades to enforce through the judiciary.

While ensuring that the objectives of the Act are achieved, policymakers should not let systemic inefficiencies have an adverse consequences on global food prices.

(The author is a grains trade analyst)

Related Topics