Cash transfers will work, if…

…there are economic reforms, astute targeting and restructuring of government

Cash transfers are here. Okay, some cash transfers will be here in some districts for some people early next year, after which the programme will be implemented across the country. No one is in any doubt that this is a pre-election move by the Congress party—it was announced in the party headquarters and not a government office (See Soma Banerjee’s article in Economic Times). It is an election sop. However, unlike loan waivers and the national rural employment guarantee scheme, it is not a bad one. It can even be a good one provided certain important conditions are met.

But first, cash transfers are based on sound economic rationale. They are generally less inefficient than subsidies for goods and services. Also, because they put cash in the hands of the recipients, they are more respectful of individual freedoms and choices. Whether they are also effective in alleviating poverty is another question. Even so, to the extent that they are an improvement over the status quo—by reducing bureaucratic processes, lowering corruption and shortening delays—we should cautiously welcome the introduction of the cash transfer scheme.

There is some debate on why cash transfers work. In the case of conditional cash transfers—where the cash is allocated for specific purposes like education, food, fuel etc—there is debate as to whether it is the conditions that work or the cash. Abhijeet Banerjee and Esther Duflo, economists whose work this blogger respects, believe in the latter: that it’s the cash that makes the impact. (More at TechSangam)

It might sound heretical, but the best scheme might involve ending all subsidies in kind, closing down as many “welfare” ministries and departments, and using the funds to give unconditional cash transfers to the needy. Give the needy cash, respect their individual freedom and just let them spend it as they wish. (See this post for why the old, corrupt political economy of poverty alleviation resists this.)

We are, of course, far from this goal. Only “the benefits of 29 welfare schemes of the government would now be directly transferred to beneficiaries in 51 districts starting January in a pilot programme and then will be extended to 18 states from April.” A total of 42 schemes have been identified for the cash transfer programme. These exclude the big ticket ones—food and fertiliser subsidies—but might include some fuel subsidies. Whether this is intentional, compulsion or both, the impact will be limited. Despite the hoopla in the headlines, it’s not a game-changer. But it can be one, if accompanied by other policy changes.

First, as warned and subsequently noticed in the case of rural employment guarantee, merely putting more cash into the hands of people without doing anything to make the supply competitive will cause prices to rise. Inflation can eat into the higher incomes, especially if they are in the form of cash, undermining the effectiveness of cash transfers. So how does one make supply competitive? By liberalising land, labour and capital regulations. By completing roads, railways, airports. By breaking barriers to inter-state and intra-state commerce. By liberalising education and agriculture. In other words, we need Reforms 2.0 before we can expect cash transfers to have the desired effect. The UPA government’s commitment to the reform agenda is much weaker than its enthusiasm for entitlements and transfers.

Second, it is necessary to target the transfers correctly. In a diverse society where communities are sensitive to relative gains, this is particularly hard. Exercises to identify the recipients, include those who qualify and exclude those who don’t, and to keep this list updated are very expensive, riddled with inefficiencies and fraught with political controversy. With a degree of flippancy, we could argue that making the scheme universal might save a lot of these headaches. Let everyone from Mukeshbhai to the poorest person in the country receive the same cash amount from the government. Let the “inconvenience factor”—for instance, a requirement to physically queue up at a government office every three months to revalidate the cash transfer account—determine who avails of the facility. The Aadhaar UID could then be used as a tracking mechanism rather than a filtering one. We are far from this, and as Bibek Debroy points out on his ET blog, targeting will be a significant problem.

Third, and perhaps the most difficult one, is that the efficiencies realised through a programme like cash transfers must register in terms of lower government expenditure and, all else remaining the same, to lower taxes. This calls for a radical review of subsidies and transfer almost all of them into the cash transfer programme. It calls for the pruning of ministries and departments that currently administer subsidies. Few governments have the stomach for this kind of overhauling of government—the UPA government certainly doesn’t—but to not do this would be to abandon the real payoffs.

Finally, every spending programme must come with a sunset clause. Cash transfers must be reviewed every few years to assess whether they are still required, and automatically lapse if not renewed. Not doing so presumes that policymakers cannot conceive of a time when a substantial number of Indians will no longer be poor. This is defeatism.

So, for cash transfers to work in the national interest, they must be accompanied by broad economic reforms, astute targeting and restructuring the government. From what has been announced by the UPA government, there is little evidence that the scheme only aims for anything more than limited efficiency gains in welfare disbursements. The Congress party evidently believes that this is sufficient to attain its electoral objectives.

Tailpiece: The final examination of Takshashila’s GCPP programme‘s January 2012 term asked students to design a programme “to support the country’s needy” (more details in the question paper). A few students proposed cash transfer programmes. You’ll find summaries of two of the responses on Logos, Takshashila’s public policy network blog.

3 thoughts on “Cash transfers will work, if…”

  1. “The government is now venturing into the direct cash transfer of all subsidies. Do you think such transfers are the best way to follow in a country such as India for all kinds of subsidies, including food subsidy?

    We did a study along with the Delhi government and SEWA (Self-Employed Women’s Association), which actually asked this question. We gave people the choice where you can either keep going to the food distribution system or take cash. Then we asked the people after one year how they used their money. And we found that there was no decline in nutritional intake. But they were much happier with the flexibility they had with the cash and they didn’t have the problem of dealing with ration shops. So we have to think why then we need such an expensive system and one with so much of corruption and leakage. India may need strategically a storage of food grains but that is a different question.”


    (2) Dr. Reddy mentioned in his keynote address at the NCAER Annual Policy Forum that it is as important to target the efficiency and efficacy of ‘corporate tax incentives’ as it is to target ‘subsidies for the poor’.

    The use of the words, ‘subsidies’ for the poor and ‘incentives’ for the rich is not accidental. One has big negative and the other positive connotations.

    Let us first get Indians to respect traffic rules before we do cash transfers.

  2. Quite honestly I am sceptical of every step taken by this government. I dont think they have anyone’s benefit in mind apart from the coterie of close relatives and politicians, and the nexus of big businessmen, bureaucrats and politicians.

    Secondly i dont understand why migrants from Bangladesh should be given aadhar cards and how they become entitled to government largesse.

    Thirdly what steps are government taking simultaneously to bring quality services like healthcare and education to the poor so that they can use the cash grant or vouchers in the most productive manner and come out of the poverty trap. For how many years will the industry keep getting incentives and the poor keep getting handouts. Why shoul people keep paying number of high taxes instead of being appreciated for their enterprise or adding economic value to the nation.

    The way UPA has gone about its business is ridiculous to say the least and nothing short of treachorous. Its ministers think that its their birthright to plunder natural resources and people. Ministers dont behave like they have been elected to serve. They behVe as id they have been elected to rule.
    Some political leaders have ensured that in reality there is no opposition in this country. So all parties are in cahoots, and only the degree of respective share change. Everytime some party comes to power they are probably assured of 60 percent of the loot, balance is with the opposition politicians.
    There would be some way already devised by the filthy politicians to game the system once cash transfers come into play. Maybe they wil get the poor to sign on a blank form and get the account number changed to their own account number. This might sound stupid but anything is possible in the political system which passes off as democracy.

  3. All of this sounds merely academic. The real issue with governance is the inability of mechanisms to self correct.

    1. If one goes to a elected representative, or lodge a grievance, most likely it is corrected and often to our surprise. But this doesn’t prevent its recurrence. Grievance mechanisms are just shallow.

    2. Most of the PDS infrastructure and channels come to use in delivering goods in times of natural disasters. How do we have tested and well oiled systems for these needs.

    3. Really speaking the malady is not just a problem with subsidy and distribution, every other thing in administration is becoming expensive ..due to inefficiency.

    4. Proper and effective administration can not be given up by any Govt. and yet remain relevant. We need to revisit administrative mechanisms , hierarchies and their political interfaces. If administration is kept citizen centric , everything else falls into place.

    What we need to debate is delivery and governance and not subsidy.

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