Modi's Indian welfare reforms may need to be bigger and bolder

BJP leader Narendra Modi.
Getty Images
BJP leader Narendra Modi.

Kamla Rani, a 50-year-old housewife living in a run-down area of New Delhi, balks at the idea of having heavily subsidized food benefits replaced by money deposited in a bank account.

"How can we believe the government will pay on time or increase the amount when prices go up every month?" she asked, sitting in the doorway of her modest home in Gulabi Bagh, a residential area in the north of the capital where many people live in slums.

Prime Minister Narendra Modi has launched an ambitious plan to streamline a bloated and inefficient welfare system by paying for everything from cooking gas to university stipends via a bank account, in a bid to save billions of dollars a year.

To sell his idea, he has promised a bank account for every household - a mammoth and expensive task in a country where two in five people had lacked access to one.

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But resistance among more than 800 million people entitled to subsidized food is high.

Years of double-digit inflation make them wary, the previous government's pilot schemes floundered and, with so many people unfamiliar with basic banking, benefits like accident insurance offered under the scheme may not be fully utilized.

That may explain why Modi, in his biggest attempt at fiscal change since he swept to power in May, has been less bold than some would wish, steering clear of reforming the most sensitive and costly benefits - food and fertilizers.

"The new bank accounts will not be viable if they aren't used for transfers," said one participant at a meeting where senior officials spelled out their concerns to Modi.

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To prepare the ground for his reforms, Modi has set a target of opening 75 million new bank accounts by January, a target which experts believe his nationalist government can reach.

Ensuring those accounts are used to funnel all state benefits, and so reduce corruption and wastage, will be much harder, raising questions about the fate of the People's Wealth Scheme that Modi promised would end "financial untouchability".

Reforms in India may take years: Pro
Reforms in India may take years: Pro   

Starting small

To begin with, the government plans to transfer subsidies of nearly 400 rupees ($6.50) a month to the bank accounts of 140 million households to pay towards the cost of cooking gas. These payments would replace a cumbersome system of subsidies and losses borne by state energy firms to provide affordable gas canisters to families.

In fact, P. Chidambaram, finance minister in the last Congress government, had already launched similar payments in parts of India and weeded out nearly 20 million "ghost" beneficiaries in the system.

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It is not the only time Modi borrowed from his predecessors.

Before the election triumph of his Bharatiya Janata Party (BJP) in May, Modi had wanted to scrap the Aadhaar (Foundation) bio-metric database launched by Congress that has registered 680 million people, or about half the population.

Linking bank accounts and welfare entitlements to the database would make it harder to steal from the system, for example by creating fake identities and using them to make fraudulent claims.

In an abrupt U-turn, Modi now wants to expand the database to cover 1 billion people, linking their fingerprint ID cards to the newly opened bank accounts.

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That led one political opponent to accuse Modi of putting "old wine in a new bottle", but sources familiar with the policy say that the 64-year-old premier is determined to forge ahead.

"It is only a matter of time before cash payment of subsidies begins," said a finance ministry official, who requested anonymity because he did not have permission to speak publicly. "You may see more action in the next budget."

Other schemes that could follow under Modi's reforms are payment of student stipends and wages under an employment scheme that guarantees 100 days' work a year to the rural poor. Such payments are now typically made cash-in-hand.

But the fate of big-ticket items, such as the $18 billion food aid program or a $10 billion scheme to subsidize the cost of fertilizer to farmers, remains unclear.

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"Modi and the BJP may have opposed Aadhaar before the elections, but now I see a clear direction that the government will soon move most subsidies to cash transfers," said Surjit Bhalla, chairman of emerging markets research and asset management firm Oxus Investments.

Bhalla, a prominent advocate of welfare reform, said it would be difficult to dismantle India's vast public food distribution system quickly, but cash payments for kerosene, cooking gas and the rural jobs scheme could come in the next three years.

Expect a revised deficit target in India budget: Pro
Expect a higher deficit target in India budget: Pro   

Billions of dollar saved

A successful overhaul would cut the waste and corruption that eat into India's $50 billion budget for welfare, food and farm aid, and ensure that a greater share of funds reaches its intended target.

Economists at brokerage CLSA estimate potential savings at $13-$15 billion, or 0.7-0.8 percent of gross domestic product. That compares with India's budget deficit target of 4.1 percent of GDP for this year.

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Failure would saddle banks with the cost of setting up and maintaining millions of accounts that could end up idle or even be abandoned once holders have tapped a built-in overdraft facility of 5,000 rupees ($80).

"It's a great vision ... but execution is important," said Uday Kotak, the founder of Kotak Mahindra Bank, one of India's fastest-growing commercial banks. "Financial inclusion cannot happen without the support of society."

Making the shift to cash payments of subsidies and benefits would also reduce the need to stockpile food.

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Rice and wheat stocks at government warehouses stood at 57 million tons at the start of August, against a mandatory minimum of 16 million. Other countries have accused India of hoarding food, leading to the collapse of a global trade deal.