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By M.V. Ramakrishnan.
Even in these days of economic reforms the large Indian farmer is well protected by the government. There is, of course, no tax on agricultural income. When the farmer sells foodgrain to the government, he gets a good and guaranteed price, that is more than what it recovers from the public distribution system. And when he buys fertilisers from any source, he pays less than what it costs to produce or import them, with the government bearing the loss. Whether government subsidy on fertilisers is justified or not is a complex issue which is not likely to be resolved any time soon. Meanwhile, a significant aspect which cries out for consideration and discussion is that domestic producers for fertilisers are getting much more than a fair deal from the government, on account of its misplaced benevolence and brazen malpractices. This disturbing trend had been highlighted by the Comptroller and Auditor General of India (CAG) in an audit review as far back as 1992, but nobody seems to have taken any serious notice of it. The CAG has come out with another review this year underscoring the fact that little has changed and that enormous amounts of public funds are still being spirited away exactly in the same old ways. This study covers only the subsidy on urea, the dominant nitrogenous fertiliser which is distributed under government control. There is a different scheme for subsidising indigenous phosphatic and complex fertilisers, which are sold in the market freely. The government also imports urea (including potash) and distributes them at a concessional price, treating the loss as a subsidy; and it pays a freight subsidy to ensure balanced distribution all over the country. The Central Government's budget provision for all this in the current year (2000-01) is Rs 13,500 crore (urea: Rs 7,200, other domestic fertiliser: Rs 4,100, freight: Rs 900, and imports: Rs 1,300).There are 22 producers of urea in India---seven in the public sector, 13 in the private sector, and two co-operatives. They have to sell urea to the consumers at a 'selling price' or 'administered price' (now Rs 4,000 per tonne). The government fixes a 'retention price' factory-wise (now Rs 6,700 per tonne average ), and pays the difference to the producers as subsidy. The scheme is administered by the Fertiliser Industry Co-ordination Committee (FICC) of the Ministry of Chemicals and Fertilisers. It is chaired by the Secretary of the Fertilisers Department, and has representatives of other related government departments and the fertiliser industry as members. Cost-plus basis The per-tonne retention price of urea is fixed by the FICC separately for each plant, on the basis that it should cover the entire cost of production and also provide a 12 per cent return on net worth after tax. The cost of production includes all operational and overhead costs, interest on borrowed funds, and depreciation of capital assets. Net worth is defined as equity plus reserves. Please note these points carefully, and look out for some revelations. There are government-notified rules which require every fertiliser factory to maintain proper record of costs. But the FICC never bothered to check such records for accuracy, and never independently verified the reasonableness of the expenditure. It invariably accepted the cost data furnished by the producers, certified only by chartered accountants of their own choice and employed by them. Such a superficial and all too trusting approach (which could be taken for granted) created wide scope for inflating the presumed costs one way or another. It provided no incentive for efficient and cost-effective operations, and could encourage extravagance and even severe distortions. The Bureau of Industrial Costs and Prices (BICP) had expressed serious misgivings about this state of affairs in 1992, but its warning had no effect. The Government seemed to have an overgenerous mindset, and continued to let the costs be accepted at face value. This was inspite of the fact that there were strikingly wide variations between similar elements of costs incurred by different factories adopting the same manufacturing processes (with particularly heavy financial implications in the case of capital expenditure on identical new projects). The Ministry of Chemicals and Fertilisers informed the CAG in 1999 that independent verification of costs was not being undertaken "due to shortage of manpower''---which was a hollow excuse, considering that in the preceding six years (1992-98) the government had paid more than Rs 25,000 crore as urea subsidy. Tax-plus return Indeed, so strong was the government's inclination to extend undue benefits to the fertiliser industry that it even caused a serious distortion of its own making. Depreciation of capital assets is a major cost taken into account when fixing the retention price. In 1993, an amendment to the Companies Act specified 5.28 per cent as the proper rate of depreciation of fixed assets in fertiliser factories, taking their normal life as 19 years. Since then, all fertiliser manufacturers have been adopting this standard in their books and annual accounts. And yet, the FICC went on allowing depreciation of 6.33 per cent---and during the next five years (1993-98), the extra subsidy paid on this account was Rs 600 crore. The Committee's unconvincing explanation for such arbitrary action was that it was in response to representations from the fertiliser industry, "which should not be made to suffer financial hardship unjustifiably by further tightening of norms." Meanwhile, for a long time the producers had been successfully trying out some other bright ideas for squeezing more and more juice from this ripe and dripping fruit. The corporation tax which the producers are required to pay is an important element included in the formula for fixing the retention price. But in many cases the tax was not paid at all, and the CAG found that undue benefit on this account accruing to the producers amounted to Rs 2,730 crore during 1991-97. But the foul play did not end there. Many producers had a way of transferring the provision for the (unpaid) tax to 'general reserve'; and since reserves were defined as part of net worth, these amount also fetched them a 12 per cent return, in effect adding a reward for tax evasion. The CAG had exposed this serious anomaly long ago, in his 1992 audit review; but the government took no notice of his objection, and went on turning a blind eye to the same irregularity in subsequent years. The recent audit report points out that test-checks had revealed an inadmissible subsidy of Rs 460 crore in respect of such transfers during 1993-98 by 13 producers. Since this was only a sampling, the actual figure was likely to be much larger. Norm-plus output The most glaring anomaly in the operation of the scheme concerned wide gaps between assumed and actual production levels. This is an intricate point which calls for a procedural explanation. For calculating the per tonne value of the retention price, the total amount (all costs plus a reasonable profit margin as specified) was divided not by the actual production figure, but by a 'normative capacity utilisation' fixed for each plant on the basis of certain standards laid down by the government. This is also called 'assumed capacity', and is usually well below the installed capacity. The significant point to note here is that the producers would thus be paid their full entitlement to subsidy if the output reached the normative level; therefore payment of the full retention price for any production above that level would include an inadmissible element of subsidy. Sample checks made by audit revealed that during 1990-97 the production of 14 units exceeded the assumed level (going even up to 120 per cent of the installed capacity itself), but the full retention price was paid for the entire output. These random checks spotted over payments to the tune of Rs 1,800 crore. All along, the government was well aware of what was happening. The CAG had raised this very issue in 1992 and recommended urgent remedial action. Internal technical committees in the government had also considered this aspect in 1994 and 1996. And a high-powered committee chaired by C.H. Hanumantha Rao had estimated in 1998 that the windfall for the producers on this account was likely to be about Rs 1,900 crore per year at the 1997-98 production levels. But the government just ignored all these warnings, and took no steps either to revise the normative capacity figures specified, or to modify the criteria governing the scheme in some other satisfactory manner (like reducing the retention price for production above the normative level). Such a sphinx-like posture was intriguing, to say the least. Surplus profits Let us now sum up the main points. The retention price subsidy scheme for urea is meant to ensure that the producers get a fair deal inspite of selling their product to farmers at a concessional price. It has not only achieved this objective, but has also enabled the producers to gain massive undue benefits, as a result of the government's easy-going attitude and their own manipulations. The money-value of various transgressions revealed by the sample audit checks mentioned above was Rs 5,600 crore. Of this, Rs 1,750 crore accrued to public sector units, Rs 2,350 crore to the private sector, and Rs 1,500 crore to the co-operatives. Of course, the constituents of the co-operative sector are all private entrepreneurs. The amount of urea subsidy paid during 1993-98 was just over Rs 25,000 crore. While it is not possible to say what liberties might have been taken with the cost-plus formula in the given scenario, it seems very likely that more than 25 per cent of the huge subsidy paid was an avoidable surplus. Talking of government subsidies for agriculture all over the world, The Economist had made a scathing statement a few months ago (March 25, 2000, Survey on Agriculture, Page 9): "The question is how to pay for these benefits...indirect measures like price supports are a crude and inefficient way of achieving that.'' How true. Capital Related Charges of Units Working Beyond Installed Capacity |
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