Explained! Rahul Gandhi’s Minimum Income Guarantee will have financial consequences

January 31, 2019 3:48 AM

INC outdid the BJP government with its president announcing that if voted into power in 2019, it would provide a Minimum Income Guarantee (MIG) “every poor person.”

Opposition INC announces minimum income guarantee to counter BJP’s farm charm offensive.

By Sonal Varma & Aurodeep Nandi

Election season has arrived. In December 2018, Indian National Congress (INC) president Rahul Gandhi hinted at a nationwide farm loan waiver. In early January, the BJP government approved a 10% reservation for the economically-backward classes. Because of the rural drubbing faced by the BJP in recent state elections, the government is likely to announce a farm package shortly. Overnight, the INC outdid the BJP government with its president announcing that if voted into power in 2019, it would provide a Minimum Income Guarantee (MIG) “every poor person.” This ongoing game of competitive populism will have short-term and medium-term implications.

What is MIG?
The MIG is a social welfare system that guarantees a basic income to households, provided they meet certain conditions. This is different from Universal Basic Income (UBI) scheme, which is an unconditional cash transfer to all citizens. To that extent, the MIG is a conditional UBI or a quasi UBI (targeted). The INC has saved the details of the scheme for its manifesto to be released later.

The likely design will be that of an income transfer scheme, where households below a defined ‘minimum’ income threshold will be compensated to the extent their incomes fall short of it. How will this minimum be defined? The INC may fix minimum wages as a threshold and compensate households with “whatever shortfall they face in reaching that threshold.” Or they may consider the poverty line as the income threshold. How high or low the line is has been a matter of contention, complicated by the fact that it needs to be updated for current prices. For now, the INC has not defined the conditions for this income transfer. However, the eligibility of this threshold could get determined by the SECC (socio-economic caste census) among other methods to identify the poor. The coverage of the MIG may include all poor—both rural and urban.

The ongoing game of competitive populism has short-term and medium-term implications. The incumbent BJP government seems cornered, based on our observations. If it hits the populism pedal too hard, then there are likely to be fiscal consequences and it would mean undoing four-and-a-half years of economic prudence. Dismissing farm distress, however, risks an electoral backlash. Already, opinion polls suggest the BJP is losing momentum. The India Today Mood of the Nation survey forecasts a sharp decline in the BJP and its allies’ (aka National Democratic Alliance) seats to 237 in January 2019, from a peak of 360 seats in January 2017 (after demonetisation), and also below the half-way mark (272 seats), raising the risk of a hung Parliament in the forthcoming elections.

The BJP government is widely expected to respond to the rural distress, as the current economic situation is eerily similar to 2004, when its ‘India Shining’ election campaign failed to strike a chord with the rural populace. In its forthcoming interim budget, we expect the government to announce a direct cash transfer scheme for small and marginal farmers without meaningful fiscal slippage via aggressive revenue assumptions. It will only be known in the general elections in May whether rural/poor voters indeed respond to these fiscal carrots. Importantly, the current divide—rural versus urban and rich versus poor—is in sync with the rise of populism seen globally owing to rising income inequalities.

Implementation costs
Implementation of this scheme will depend on direct cash transfers to households. Bank accounts are already being used to directly transfer cash in lieu of some subsidies and payments on pensions and the rural employment guarantee programme (MGNREGA).

The total fiscal cost will depend on two key factors: (1) coverage of the scheme, and (2) the extent of substitution with existing subsides/schemes.

Existing studies provide some additional clarity on the possible range of costs involved (see graphics). A recent study by Felman et al suggests that a cash transfer to disadvantaged rural households can cost between 0.5% and 2.5% of GDP based on the level of coverage. Their preferred combination that targets a transfer representing one-third of the current consumption of the poorest 40% yields an annual transfer of Rs 18,000, or Rs 1,500 per month per household. This covers 75% of the rural population and costs Rs 2.64 trillion (1.3% of GDP).

Fiscal estimates of a universal basic income are understandably larger (4-5% of GDP) because of their wide coverage. We believe it is highly unlikely that these will be implemented. Economic Survey’s universal basic scheme (UBI) assumes 75% of the population will receive cash transfers, translating to a fiscal cost of about 4.9% of GDP. However, if one takes into account the rise in real income of the marginal poor, it is likely to stabilise at 4.2% of GDP. A pilot study by UNICEF and the Self Employed Women’s Association (SEWA) in 2011 for Madhya Pradesh, if extrapolated across India, also suggests a similarly expensive 5.1% of GDP.

How much will an MIG cost?
Precise costs will only come with further details, but one can venture an estimate based on existing information. Conceptually, it seems that INC’s aim is to use this scheme to lift people over the poverty line, so it is reasonable to assume the threshold transfer to be made will be close to the current poverty line for India. Unfortunately, there is no single estimate of the poverty line, and the latest official numbers are woefully dated, going back to 2011-12.

The general consensus in India gravitates towards the Tendulkar line (based on the World Bank’s poverty line benchmarks), which translated into Rs893 per month, as of 2011-12. Updated calculations of the poverty line place it at Rs1,311 per month as of 2017-18. We assume the INC will use Rs1,311 per month per person as the threshold income to be transferred. This translates into an annual transfer of Rs15,732 per person.

That being said, the question remains: How many people are below the poverty line? If recent estimates based on the World Bank’s ‘World Poverty Clock’ are to be believed, India has made rapid progress in reducing the below poverty line (BPL) population from over one in five in 2011-12 to a little over 5% currently. We are not sure INC leaders are fully apprised of this—their comments seem to suggest the target they have in mind is 18-22% of the population.

Consequently, we have constructed a number of scenarios. The first and least costly option is if the INC restricts its scheme to 5.5% of the population that is BPL, translating into a fiscal burden of 0.5% of GDP. On the other extreme, if it seeks to use previous poverty estimates and targets 21.2% of the current population, then the potential fiscal burden could rise to 2.1% of GDP. The other scenarios (of 10% and 15% of the population) offer fiscal costs in the intermediate range of 1.0-1.5% of GDP (see graphics).

The actual fiscal cost could be lower as direct cash transfers should replace some existing subsidies and schemes. The Economic Survey 2016-17 estimated that the implicit subsidies provided to middle-income consumers stood at about 1% of GDP (see graphics). In addition, in FY19, the fertiliser subsidy stood at about 0.4% of GDP and spending on centrally-sponsored schemes stood at 1.6% of GDP. Although politically challenging, these existing expenses could be substituted by the direct cash transfer to reduce the overall fiscal cost.

Macro implications
The macro implications will depend on the exact contours of the package announced. However, in general, an unchecked move towards an entitlement-based society without adequate revenues backing such transfers would raise medium-term fiscal risks and threaten debt sustainability. Even if the government raises taxes to fund these expenses, this will shift the growth composition towards consumption (and away from investments). For a supply-constrained economy like India, this could worsen the macro imbalances as rising consumption tends to stoke inflationary pressures, resulting in a loss of competitiveness, worsening current account balances and raising the country’s risk premia. Overall, the threat of competitive populism, if it materialises, could have important macro implications.

-Authors are research analysts, Asia Economics, Nomura. Views are personal. (Excerpted from Nomura’s Asia Insights report dated January 30, 2019)

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