India Transforms its Welfare Scheme

On Jan. 1 the Indian government is scheduled roll out an ambitious nationwide cash transfer of subsidies and government entitlements for the poor that may well frame the political debate for the next elections, due in 2014.

The biggest transformation of the country’s social welfare scheme in decades, its success is not assured, which could mean the government is taking a daring gamble that could end up backfiring.

The initiative, put forward by Prime Minister Manmohan Singh’s government, is designed to swap the existing US$58.18 billion worth of unwieldy subsidies with cash directly into the bank accounts of recipients. The per family/per year cash transfer amount will be about US$640, almost triple the average annual earning of a below-the-poverty-line family.

The plan is to replace piecemeal subsidies such for as kerosene, LPG, small pension payments, fertilizers as well as wages from job guarantees with cash transfers. The initiative, says the government, will put more cash in the pockets of the poor, plug leakages in the existing public disbursal system, empower beneficiaries with more choices and ensure substantive savings for the cash-strapped state coffers.

The prime minister has said that direct cash transfers have become possible via innovative use of technology and the spread of modern banking to cut waste and leakages in order to better target the beneficiaries. But there are concerns the banking system isn’t up to the job yet.

For instance, a pilot project for the scheme was flagged off last year in Kotkasim block in Rajasthan, which hosts 25,000 households. It appears to have been a flop initially. It was intended primarily to replace the state subsidy of rupees 14 per liter on kerosene. With the subsidy’s withdrawal, prices increased while the cash transfer got delayed or did not take place at all. The government did not have in place an efficient system to replace the subsidies with cash deliveries.

If such episodes are repeated too often during the rollout of the “game changing” scheme, the ruling coalition could well find the game changing in the Opposition’s favor rather than its own.

Nonetheless, the plans are moving forward although Finance Minister P.C. Chidambaram cautioned that "complex" issues like food, fertilizer and cooking gas cylinder subsidies would be taken up later only when the procedural bottlenecks in the implementation of food and fertilizer subsidies have been addressed.

As the transfer will be “fiscally neutral” (existing indirect subsidies will just be replaced by direct cash transfers), there will be no additional financial burden on the beleaguered government, which is grappling with a soaring budget deficit, inflation and a nine-year low in gross domestic product growth.

However, with direct cash transfers, intermediaries will be eliminated, leading to a dramatic plunge in distribution costs, which economists say are often higher than the actual subsidy that the beneficiaries receive. Hence, cash transfers are designed to benefit the poor directly while costing less to the government.

The cash transfer scheme is to kick off in 51 districts with the required banking infrastructure, and then gradually move to all of India’s 29 states. Starting with cooking gas, food, agricultural inputs, power, fuel and other welfare schemes like scholarships and pensions in these districts ultimately will all be delivered electronically.

Singh heads the national committee monitoring the transition, which involves synergy between the Planning Commission, the ministries of rural development, social justice, minority affairs, food and public distribution, etc. The Planning Commission has identified seven flagship programs including pensions and 22 scholarship schemes given by nine central ministries for cash transfers, excluding those related to subsidies on food, fertilizer and fuel.

According to the Department of Financial Services, all banks will gradually migrate to a core banking platform which will facilitate the transfers. The plan is to cover all villages with populations of more than 5,000 with branches, and those with population of more than 2,000 with business correspondents.

However, experts point out the plan’s scale may be somewhat limited in the beginning by the fact that currently not all poor Indians have bank accounts.

Be that as it may, the UPA government is hoping the scheme will be a game-changer and help it harvest electoral dividends ahead of the 2014 general elections. The scheme’s rollout is expected to be completed by April 2014, to synchronize with the Lok Sabha (lower house) elections, in which the current political dispensation hopes to win a third term. The UPA should know. It came to power in its second term mainly on the basis of loan waivers to farmers which cost the government a whopping Rs600 billion (US$11.04 billion).

Despite the obvious populist overtones, the government has denied that the scheme was launched to garner votes. “The shift to direct cash transfers for poor households has long been on the government’s radar due to the current inefficiencies in the food and fertilizer subsidy schemes,” explained a senior official in the ministry of social welfare. “We hope to plug the existing loopholes with the scheme.”

The scheme has also drawn direct criticism from the opposition. The Left has termed it as "hype” and an attempt on the government’s part “to fool the people". The right-wing BJP, the principal opposition party, aware of the scheme’s potential as a vote magnet, has complained to the Election Commission over the timing of its announcement, just before Himachal Pradesh and Gujarat assembly polls got underway last month. However, Finance Minister P. Chidambaram said "It has nothing to do with elections."

Opinion is also undecided on how successful the program will be given reform’s critical dependence on banking services that have not yet penetrated many parts of India. Also, due to the program’s complexity and architecture, by the time the plan is fully operational, inflation would have eroded the rupee’s value.

“As India’s experience with microfinance schemes has shown,” said Dr Prakash Pratibimb, a micro finance expert, “one needs to be extremely cautious with the shift to a cash-based system. The state will also have to clearly work out all the granular details of what it hopes to achieve with the subsidy, and in what ways the cash transfer will be a better option and how it can help the beneficiaries to get more value for their money.”

Though economists concede that cash transfer is the most efficient method of delivering subsidies to the poor, they caution that the government should first gauge the scheme’s effectiveness from the 51 districts in which it is launched before going ahead with it in the entire country. It should then be calibrated as required.

(Neeta Lal is a New Delhi-based senior journalist)