Income Transfers – is it the most effective solution.

Link to Businessline Article: https://www.thehindubusinessline.com/opinion/are-unconditional-cash-transfers-desirable/article26762792.ece

Just recently Congress has announced its promise of income transfer of Rs 72,000 for the poorest 5 cr families costing the Central Government Rs 360,000 cr., potentially becoming bigger than our Defence Budget.

One side of evaluation is the feasibility of mopping this amount without fiscal stress. But the other side to look at is whether this is the most optimal solution to bring about the desired impact on the target,  which is what we will focus on.

Inequalities of Income arise from three other forms of inequality (i) inequalities in human capital (levels of health, literacy, skills, etc.), (ii) Inequalities in Opportunities (in education, jobs, etc.), and (iii) inequalities in living conditions.

In the long term, these can be corrected only by better healthcare, education and skilling, creating sustainable jobs and the industrial competitiveness to create jobs, housing and medical infrastructure for poorer sections, etc.

But in the short to medium term (say 3-5 years) the inequalities can be more urgently addressed by ‘redistribution’ of wealth, income, reservations etc.

Thomas Piketty, the renowned French economist classifies the redistributions into two categories – Direct and Fiscal. Some examples of direct redistribution to labour are fixation of minimum wages more than required to compensate for inflation and gains in productivity, prescribing social contributions, ESIC, etc. This increases the cost of labour for employers who may shift to mechanization and thus has a negative fallout in terms of jobs created for the target.

Fiscal transfers tax the richer through income taxes or a wider cross section through indirect taxes like GST. This has the beneficial effect of not increasing direct cost of labour thus not decreasing demand for labour. The scheme in discussion falls in this category. Let’s see the demerits.

Firstly, this form of income transfer is addictive. The amount is too huge to be spent on short term measures without measures to set right the structural defects of human capital inequality. Once started the political system especially in India simply lacks the will to withdraw it even when the purpose is achieved. But more importantly the political system forgets its duty to address the long term issues feeling absolved with quick fixes. We have seen this in reservations, free electricity, etc. A scheme of this magnitude simply cannot ignore the need for balance between the short and the long term. The scheme should spend at least 60-70% in addressing inequality of human capital and the balance in income transfers.

Even if it is not able to take any steps for long term correction, it can make the 60-70% as conditional entitlements like attend adult education and dinner will be free, attend prenatal counselling and child delivery and all inoculations will be free, acquire a skill and one year’s apprenticeship is free, have and use toilets and get one gas refill free, etc. Unconditional entitlements are prone to Chakma Baboon syndrome – any sign of withdrawal can result in attack and even killing – in this case political suicide and hence no political party will dare withdraw.

Secondly in the words of Piketty, ‘the cost of substantial fiscal redistribution would be considerable, because it would decrease the return on investments (for individuals) in human capital and thus decrease the incentives for individuals to make such investments …’. Illustrating, if wages earned by a 8th std pass is Rs 60,000 on average and that of a 12th std pass Rs 90,000 per annum, his family will decide on sending their wards to school based on these incremental returns on investments. However, if Rs 72,000 is guaranteed, the incremental returns to investment upto 8th std and 12th std becomes Rs (-) 12,000 and Rs 18,000 per annum respectively.  If in the neighborhood it is not shameful to be uneducated, the family might conclude why educate anyone upto 8th std to earn Rs 60,000 when he can sit at home and get Rs 72,000. This will save them their investments. This outcome will seriously dent our ability to address the long term issues.

Thirdly, researches on the impact of neighborhood, family status and social settings have led to conclusions like, ’inequality of educational opportunity is reproduced from generation to generation’, ‘students from modest background are less motivated to pursue lengthy courses of study’, ‘(it is) the immediate social environment that inequality inevitably originates’. The surroundings have a huge inertial impact on perpetuation of inequalities and need far greater and immediate attention to get the basics right. Widespread initiatives like sending some bright students to different settings so that they have demonstrative impact, forcibly setting toilets in the poorest 10-15% of families in poor neighborhoods so that it creates peer pressure on others to follow suit, setting up model farms with improved agricultural practices, model houses in slums, etc. should be initiated to tackle this highly underappreciated impediment on equalizing inequality.

To give credit where due, given the labour market conditions (high levels of unemployment), fiscal transfers are a far more effective tool than increments in minimum wages and other mandated payments by employers. Given high possibilities of mechanization, minimum wages would have driven more enterprises away from labour and worsened the problem.

One way perhaps to strike a balance may be to issue equivalent value coupons eligible for exchange in areas we desire them to consume – education, purchase of food, clothing, building materials for housing, use in public toilets, buying medical services, payment of insurance premiums for crops, life, cattle etc.

A succession of poverty band aids starting with loan write offs, educational loan write offs, transfer of Rs 6000 per family and now this Rs 72,000 to the bottom 5 cr people is a clear sign and admission of failure of our reforms to address the concerns of the poorest sections of our society.

Income transfer looks not the most optimal solution at present. Even so, one wishes that if it gets implemented the information does percolate properly and every one of the families take due advantage of it to get out of poverty for sure, without leakages plaguing this initiative as well.

(The writer is author of Making Growth Happen in India)