Wekend reading links

1. Niall Fergusson points to some interesting divergence between the elites and the working class.

To see the extent of the gulf that now separates the American nomenklaturafrom the workers and peasants, consider the findings of a Rasmussen poll from last September, which sought to distinguish the attitudes of the Ivy Leaguers from ordinary Americans. The poll defined the former as “those having a postgraduate degree, a household income of more than $150,000 annually, living in a zip code with more than 10,000 people per square mile,” and having attended “Ivy League schools or other elite private schools, including Northwestern, Duke, Stanford, and the University of Chicago.” 

Asked if they would favor “rationing of gas, meat, and electricity” to fight climate change, 89 percent of Ivy Leaguers said yes, as against 28 percent of regular people. Asked if they would personally pay $500 more in taxes and higher costs to fight climate change, 75 percent of the Ivy Leaguers said yes, versus 25 percent of everyone else. “Teachers should decide what students are taught, as opposed to parents” was a statement with which 71 percent of the Ivy Leaguers agreed, nearly double the share of average citizens. “Does the U.S. provide too much individual freedom?” More than half of Ivy Leaguers said yes; just 15 percent of ordinary mortals did. The elite were roughly twice as fond as everyone else of members of Congress, journalists, union leaders, and lawyers. Perhaps unsurprisingly, 88 percent of the Ivy Leaguers said their personal finances were improving, as opposed to one in five of the general population.

2. Interest payments take up a staggering 57% of central government revenues in Pakistan.

India's 28% is a matter of concern. Compare with Indonesia's 15%. 

India's high public debt will appear fine as long as the economy grows by 7-8%. Once it slows down to 4-5%, the debt-to-GDP ratio will balloon, as also the interest payments as a share of revenue. Then we are set for the perfect storm.

3. The formal-informal sector wage gap in India is significant, in excess of 70%.

4. China has been the standout beneficiary from globalisation over the 1990-2018 period.

India's GDP per capital gain from globalisation has been less than one-third of that of China over the same period.

5. It's surprising how much of Blackstone's assets centre around real estate. The latest is data centres. 

After its $10 billion takeover of data center operator QTS in 2021, the world’s largest private equity firm is fueling rapid growth at one of the top landlords for tech giants. It’s bankrolling the development of massive structures that will handle crucial computing needs, while also reshaping communities across America. It’s part of the classic Blackstone playbook for real estate, the largest piece of its $1 trillion empire. The firm identifies where there’s a rising need for properties but too few to meet demand. It then directs billions of investor dollars to build giant landlords poised to capture big rents and market share, a move it has deployed in everything from warehouses to suburban homes...

Blackstone now says QTS could be one of the best investments in its history. The company has parlayed its land reserves to profit on a short supply of space and power in key markets. QTS has $15 billion of properties in development, up from $1 billion at the time of its acquisition. It’s become North America’s largest provider of leased data center capacity based on megawatts under contract, after ranking No. 4 just three years ago, according to research firm datacenterHawk... Blackstone President Jon Gray, the firm’s former real estate chief and now heir apparent as CEO, has corralled the company into the thematic bets where demand is running up against constraints. He now sees AI making a data center shortage all the more acute — and said those with land and capital will be at an advantage.

6. Long read on how the RN moved from the far-right fringes to the mainstream right in France. 

Long a fringe opposition party with little local presence, the RN has gradually stitched together a national network — initially helped by a dozen or so mayorships in small cities and towns like Hénin-Beaumont, Perpignan, and Fréjus... The effort was turbocharged in 2022 by an unprecedented election of 89 deputies to the National Assembly. With the MPs came money from the state funding system for political parties, a change for the usually cash-strapped RN, allowing them to hire more staffers. Le Pen then told her troops to fan out every weekend in their districts to attend local events to be what she called the “advocates of citizens” who often feel neglected amid the perceived retreat of public services, such as post offices or hospitals... Le Pen’s own election as the local constituency MP in 2017, her third attempt to enter the assembly. The following year, having lost the presidential election to Macron, she rebranded the Front National party to the Rassemblement National, aiming to make voters forget the racist and antisemitic excesses of her father and his contemporaries...

Such local presence has furthered Le Pen’s decade-long mission to “detoxify” the far-right movement co-founded in 1972 by her father, Jean-Marie Le Pen, and Pierre Bousquet, a journalist and former soldier in the French unit of the Waffen-SS during the second world war. Kévin Pfeffer, RN party treasurer, says... “Officials like the prefect, deputy prefect, police chief, and head of the unemployment office — they wanted to meet us,” ... whereas before the RN was largely shunned by local bigwigs. Slowly RN support evolved to cover a wider swath of the electorate allowing them to rack up more votes: women, white-collar workers and older people. The RN vote has evolved from one previously made out of protest or anger to one of confidence in the party’s agenda and its leaders Le Pen and her 28-year-old lieutenant Jordan Bardella... Studies have shown that people back the RN for multiple reasons, some ideological and rational, and others that are more subjective, such as a sense that the French “way of life” is in danger or that they do not “feel at home” in France anymore.  

7.  Graphic that shows how solar generation has continuously kept exceeding expectations.

8. Important point about the problem of slow deposit growth rate in banks.

Banks, influenced by societal hype about the primacy of digital outreach, halted the expansion of brick-and-mortar branches. Many bank chief executives, who had their bonuses linked to margin growth and market cap increases, also went slow on branch expansion to lower costs and boost bottomlines. There is now a belated realization that physical branches play a critical role in customer acquisition and deposit growth. Many leading banks are now making amends by setting aside capital expenditure to aggressively expand their physical footprint, to go hand-in-hand with increased investments in direct marketing and digital outreach... Within the banking system, the nature of the deposit mix is changing and moving towards high-cost deposits. Banks have traditionally relied on cheaper current-account-savings-account (CASA) deposits as a source of perennial low-cost funds. However, RBI data shows that CASA’s share has been shrinking in the overall mix, which has been compensated by some growth in costlier term deposits. The resulting pressure on margins may have also impelled bank management to revive CASA’s share by focusing on branch networks.

9. China does not have a KGB or Stasi but still maintains the most effective surveillance state in history.

A more significant secret-police agency lurks within the Ministry of Public Security, China’s regular police service, Mr Pei writes. This force-within-a-force is known as the political-security protection unit (zhengbao for short). The total number of Chinese police officers is not made public, but is thought to be over 2m. Drawing on provincial, municipal and county yearbooks and publications, Mr Pei estimates that 3-5% of all police work for the zhengbao at the national and local level. That equates to 60,000-100,000 zhengbao officers, or one for every 14,000-23,000 citizens. They are complemented by the wenbao, a police unit that watches cultural and educational establishments, especially universities. Another elite outfit is the Political and Legal Affairs Commission, a party body. It runs surveillance operations and “stability-maintenance offices" tasked with smothering strikes and protests before they start. A powerful agency, it oversees security policy generally, and vets police and legal officials for political reliability... 

its surveillance state rests on other pillars that offer part-time but invaluable help. The first is rank-and-file officers in neighbourhood police stations. In Chinese propaganda, there is nothing sinister about such police. They are hometown heroes who battle crime and keep the public safe. But tracking political dissent or public discontent is their job, too... Police stations also watch millions more “key individuals", a group that includes rights activists, religious believers and people petitioning the government for legal redress. All of that involves a second pillar of the surveillance state: informants.

10. An Indian Express editorial makes the case for maintaining buffer stocks on important food grains.

Last year, in February-March, dairies were paying farmers Rs 37-38 per litre for cow milk. The same dairies have today slashed procurement prices to Rs 26-27 because of SMP realisations crashing to Rs 200-210 per kg, from their February-March 2023 peaks of Rs 315-320. These low prices, discouraging dairies from procuring and farmers from feeding their animals properly, could be a precursor to milk shortages and inflation next year.

But the editorial could not have been more wrong in its conclusion.

A buffer stocking policy in food items will also do away with the need for regressive anti-farmer measures such as banning exports or imposing stock limits on private traders and processors.

India sits on a rapidly growing pile of excess rice buffer stock that it's now desperately seeking to liquidate. This did not prevent the government from banning exports!

11. Interesting snippet about the thicket of regulations in India to get permission to sell fertiliser.

Registering a new fertiliser product takes an average of 804 days in India, according to the World Bank’s ‘Enabling the Business of Agriculture 2019’ report. This is against 570 days in Russia, 528 in Brazil, 356 in Pakistan, 270 in China, 225 in Canada, 210 in Argentina, 100 in Thailand, 90 in the US, 30 in Japan, and zero in the European Union countries. The sheer time taken — from the filing of application and field-testing at multiple locations for one or more cropping seasons, to the final notification under the Fertiliser Control Order as suitable for use by farmers and state-level approvals — hinders the introduction of new nutrient products into the country.

The article also suggests the liberalisation option

“The government should grant automatic registration for any new product meeting two requirements — a minimum content of total plant nutrients, and a maximum limit of heavy metals and other contaminants. This, along with mandatory label claims [open for testing by enforcement agencies], is what most advanced countries follow. They do not have agronomic or bio-efficacy trial requirements,” Sanjiv Kanwar, managing director, Yara Fertilisers India Pvt. Ltd, said. This procedure of automatic registration, subject to the product confirming to basic quality parameters and truthful labeling, is already being implemented in water-soluble fertilisers (WSF)... The specifications required WSFs to have a minimum 30% content of total nutrients — 25% primary (NPK), and the balance secondary (S, calcium, magnesium) and micro (zinc, boron, manganese, iron, copper, molybdenum) — and maximum prescribed limits for contaminants (lead, cadmium, arsenic, total chloride and sodium). Companies can market any WSF meeting these specifications (with legible labeling on bags/containers) after 30 days of intimating the relevant government authorities about “the details of the product and their intention to sell”.

12.  Judicial activism in the US triggered by their ideological preference for deregulation.

In the US... late last month, six conservatives on the Supreme Court handed corporate America a scythe. The high court majority shredded a 40-year-old precedent known as the “Chevron deference” that required judges to defer to government experts when laws were ambiguous. They also ruled in a separate case that even long-settled rules can be challenged by new industry players. But CEOs should be careful what they wish for. Those decisions, known as Loper Bright and Corner Post, are already reverberating across the country. The justices sent nine cases about wetlands, renewable energy and a range of other regulations back to lower courts to be reconsidered. A federal judge in Texas said last week that plaintiffs seeking to invalidate a Biden administration ban on non-compete agreements were likely to win now that judges rather than agencies have the final word on regulations. Then on Tuesday, a federal appeals court asked how the Loper decision should affect the future of a different Biden rule that allows pension plans to use environmental, social and governance factors when choosing among investments with similar financial profiles. Environmentalists, and investor and consumer groups are despairing, while lawyers predict that US regulators will have to become more cautious about imposing new rules on everything from money managers to social media platforms and pharmaceutical groups. That is just the start. Hospitals, utilities and even gun rights advocates are already lining up to use the decisions as a club to beat back new rules and challenge existing ones. Some corporate law firms are putting together kill lists of regulations they want to attack.

Weekend reading links

1. Food inflation illustrated through BLT sandwich. 

War in Ukraine and the resetting of supply chains following pandemic lockdowns mean prices for the ingredients in one of the UK’s most popular sandwiches — the BLT (bacon, lettuce and tomato) — are up by 56 per cent on average since 1 January 2019, according to data compiled by commodity research group Mintec and the Financial Times. That rise is led by a huge spike in the price of sunflower oil, of which Ukraine is the world’s largest exporter. But prices for other ingredients are also surging: wheat and tomatoes have each increased by 63 per cent since the start of 2019, while the cost of lettuce has increased by nearly a quarter. Pork is the only ingredient to have remained level. Food manufacturers and retailers say they have never had to contend with such a rapid surge in all of their input costs. The sandwich, whose assembly and distribution requires fresh ingredients, large factories, labour and prompt, chilled transport, is emblematic of the struggle they face.

2. Branko Milanovic on global inequality reduction prospects,

So if we really want to continue with global inequality reduction, leaving Covid aside for the moment, we need to count on India growing fast and Africa growing very fast. When you translate that into growth rates that are needed for Africa to achieve this, these per capita growth rates are 4 or 5 per cent, which means 6 to 7 per cent overall for the GDP, or even 8 per cent. These are not growth rates that African countries have historically been able to sustain over a ten-year period, much less over a 20-year period. So I became relatively pessimistic about the ability to maintain the trend of declining global inequality.

3. Good explainer by Vivek Kaul in Livemint of US dollar as a reserve currency.

4. Interesting data on autocracies and economic growth from Ruchir Sharma

Looking back in 150 countries to 1950, autocracies account for 35 of the 43 cases in which a nation sustained gross domestic product growth of more than 7 per cent for a decade. However, autocracies also account for 100 of the 138 cases in which a country grew a full decade at slower than 3 per cent — a rate that feels like a recession in a developing country. In extreme cases, 36 countries have been whipsawed for decades by swings between years of rapid growth and years of negative growth: 75 per cent of those were autocracies, many in petro states such as Nigeria, Iran, Syria and Iraq.

5. After all the reforms, the power sector is no better off today. The Business Standard reports that the amount owed by discoms to power producers touched a new high of Rs 1.05 trillion in April 2022 a 20.4% rise over the last two years. Further, 21 out of 34 states and UTs recorded a rise in overdues in that time. 

It's also reported that the overdues position worsened for private producers, whose share of over dues rose from 46% to 55.7%. 

And this is important,

The number of disputes raised by discoms also doubled from Rs 13,576 crore to Rs 25,129 crore. Independent power producers accounted for 80 per cent of the disputed amount owed by discoms.

Thinking aloud here. Why should there not be a merit order for payment of producers dues where private producers are given preferential treatment? After all, those are sovereign contracts of the government. 

6. Importance of gold in the savings basket of middle-class Indians

And this is important,

The consumption, IGPC said, was not affected by demonetisation or goods and service tax (GST) implementation. In the last five years, at least 74 per cent of the households confirmed buying gold with 90 per cent of such households preferring to make the payment in cash while buying the yellow metal, IGPC said.

7. In a welcome step, the Telecom Regulatory Authority of India (TRAI) has recommended a 36% cut in the 5G spectrum auction base prices. However, the industry associations are demanding even further cuts. It's reported that 5G spectrum prices in India are 2.6, 3.8, and 4.4 times higher than that in Germany, UK, and South Korea respectively. 

This raises the classic auctions challenge. How do we reconcile the classic auctions dilemma of reconciling the conflicting risks of leaving money on the table with that of winner's curse? One way would be to have something of a two-tier spectrum pricing - a low base-price, and an increasing block spectrum fee levied on some easily observed and difficult to manipulate commercial parameter (say, like ARPU). This would ensure that the operator is not burdened with the high upfront costs and the government retains its claim on higher profits. 

8. As the French Presidential election hots up FT has a graphic which captures the respective bases of Macron and Le Pen.

9. Fascinating article on the ageing crisis gripping Japan. Large numbers of business owners without heirs face the prospect of their business closing down after they die. 

According to recent government figures, the single biggest cohort of business owners in Japan are 69-year-olds. Demographics have long posed huge challenges to the country’s rapidly shrinking and ageing population. But the national shortage of heirs was largely overlooked. Two years of pandemic restrictions have deepened the sense of urgency. Many owners in their mid-seventies have chosen to accelerate plans to either hand over control or watch their cherished firms disappear. As a consequence, Japan faces what some fear could be the most extensive evaporation of knowhow and institutional memory in modern history. The effect on the country will, Ohashi fears, be huge since so much of Japan’s culture is embedded in its businesses and the skills they have amassed between them. The idea that the country could somehow allow all this to disappear, and that the process may even alienate parents from children, is a source of national sorrow...

Decades of stellar postwar economic growth helped create a large, university-educated workforce. These younger generations have been a source of enormous pride to their parents, but in a culture that has long emphasised filial piety and family cohesion, their determination to turn their backs on the family business has brought disappointment too. Many children of baby boomers have moved into cities and have no interest in taking over the small factories or repair shops started by their parents in their now-depopulating hometowns. More than 40,000 small firms a year are in need of a successor, government data shows.

10. As public support for it rises, Finland and Sweden are contemplating joining NATO. This is another example of how the invasion has rebounded on Russia.

11. AK Bhattacharya has an assessment of the tax revenues trends of government of India. 

12. Good presentation by Eileen Applebaum on the impact of Private Equity investments in businesses. This on PE practices in the US health care sector.  

13. Harish Damodaran writes about the rising fertiliser prices and how the subsidy regime hinders its availability in the Indian market. In case of urea, India produces 24-24 mt out of annual consumption of 34-35 mt and while it's sold at an administered MRP of Rs 5360 per tonne, companies are fully compensated for any import or manufacturing cost differential. However, in case of DAP, MOP, and NPKS, while the MRPs are decontrolled in theory and the subsidy is limited to a fixed per-tonne subsidy based on nutrient content, in practice companies are not allowed to freely set MRPs.

DAP, MOP and the popular ’20:20:0:13′ NPKS fertiliser are currently being retailed at Rs 27,000, Rs 34,000 and Rs 28,000 per tonne, respectively. Companies are further getting per-tonne concessions of Rs 33,000, Rs 6,070 and Rs 15,131, respectively, on these fertilisers — translating into a gross realisation of Rs 60,000, Rs 40,070 and Rs 43,131, respectively. According to the industry, these realisations are too low to manufacture or import at today’s international prices. The quoted price (cost plus freight) of DAP imported to India is about $1,250 (Rs 95,000) per tonne — it is $700-750 (Rs 53,200-57,000) per tonne for MOP and $780 (Rs 59,280) per tonne for ‘20:20:0:13’. The gross realisations, thus, don’t cover even the landed cost of imports.

14. Robots policing Covid lockdown in Shanghai,

Preserved Egg roams Shanghai’s empty streets with a megaphone strapped to its back. The robot dog is about the size of a terrier and barks orders to residents: stay inside, wash your hands, check your temperature.

15. Finally, Scott Galloway has a great post where he highlights how today's business winners tries to keep out competitors once they are on the pole position. 

Nothing threatens today’s competition more than yesterday’s winners... Today’s largest companies offer a masterclass in anticompetitive behavior. Amazon bars sellers on its platform from offering lower prices elsewhere, then uses the information it gleans from them to design and market its own, lower-priced products. It gives favorable search results placement to vendors that use Amazon fulfillment services (for which it’s been fined $1.3 billion by the Italian government). Defenders of the company say this is all business as usual … yet Amazon lied to Congress, repeatedly, about all of it.

Apple takes a 30% cut of app revenue, which it says it needs to run the app store, but it books billions in profit instead of cleaning up obvious frauds or copycats, while giving preference to its own products over competitors. (Can you get your iPhone to stop trying to play music through Apple Music instead of Spotify?) Microsoft charges more for its applications when users run them on a competing cloud provider. Google doesn’t merely sit on both sides of the digital advertising negotiation, it owns the negotiating table. And Facebook has stated that it acquired Instagram to eliminate a competitor.

This is a great snippet which exposes the reality of Big Tech collusion,

In the 2000s tech titans conspired to suppress competition for employees. For example, when Steve Jobs learned that Google was recruiting an Apple engineer in 2007, he emailed CEO Eric Schmidt: “I would be very pleased if your recruiting department would stop doing this.” Schmidt forwarded the email to an underling: “Can you get this stopped and let me know why this is happening?” He was told the recruiter would be “terminated within the hour” and to “please extend my apologies as appropriate to Steve Jobs.” Then a Google SVP chimed in: “Please make a public example of this termination with the group.” (We only know about Jobs and Schmidt channeling their inner Rockefellers thanks to a class action lawsuit former employees brought against the companies, which led to a $415 million settlement.)

On fertiliser subsidy reform

Scroll has a very good series on why the fertiliser subsidy reform plan involving delivering the subsidy directly to farmers as a Direct Benefits Transfer (DBT) by linking land records, soil health cards (SHCs), and Aadhaar number has had to be shelved, even if temporarily. 

The reform objective was to deliver the exact amount of fertilisers to each farmer based on their respective soil nutrient content as captured in the SHC and their Aadhaar-linked land record details. The reform struggled because of poor quality of land records and SHC data and behavioural challenges. Worse still, even the apparently pure technology play of Aadhaar authentication generated surprisingly high failure rates. 

One of the articles writes about the challenges with getting farmers to accept the SHC reports,

Farmers in Krishna district ignored the soil health card information that appeared on the machines. “When it comes to deciding how much fertilisers should be used, we go by our traditional wisdom and by what other farmers are using,” explained Babu Rao, a farmer in Krishna district. “We understand we might be using too much chemicals. But who will be responsible for the loss if we get poor yield by using less fertiliser?”

... Thousands of farmers and dozens of fertiliser retailers in Krishna and West Godavari district did the same – they ignored the machine’s instructions. “We could not deny what farmers asked for,” explained a fertiliser dealer in G Kundur, a block centre in Krishna. “There would have been riots. Our business would have suffered.”

And the inconsistency between the strategy and objective, and targets and resources,

To issue soil health cards, officials test one sample of soil each from a grid of 10 hectares of land in dry areas and two hectares of land in irrigated areas. Experts say this methodology may not produce reliable data for individual farms since the average size of agricultural land holding in India is 1.1 hectares, with 67% of the land holdings measuring less than one hectare. Soil characteristics change from farm to farm depending on the cropping patterns and fertilisers use in those farms. Data on soil characteristics over larger areas can therefore be misleading when used to determine the inputs required on a specific plot of land... In Krishna district, where 33 lakh soil health cards were generated last year from the 95,000 soil samples analysed, said officials. The four soil testing labs in the district had the capacity to test only 21,000 samples a year. The officials claimed private consultants were hired and the labs ran day and night to complete the job.

It is difficult to believe that this experiment could have turned out any different. Consider the requirements. First, the Agriculture Department had to effectively manage the logistics of soil health data collection - maintaining the soil sample identity, transportation and storage of soil samples, their analysis, and its communication back to farmers. Second, the soil analysis had to be an accurate reflection of the soil nutrient status - the sampling had to be representative enough and the tests had to be effective. Finally, the farmers had to have the faith in the results to be willing to accept its findings. Forget the second and third, there are too many moving parts in the management of SHC logistics itself for a weak state (an even more weak Agriculture Department) to have been expected to  deliver with any degree of credibility. 

And we have not even talked about the challenges with land records - mutation and ownership updation in basic land records, sub-division in survey records, disconnect between registration and ownership, lack of accurate tenancy records, predominance of tenancy and so on. Or with Aadhaar validation - poor connectivity, concentrated load on retailers during the sowing season, training of (1,75,619) retailers, maintenance of point of sale terminals, and so on.

The takeaways. One, it is unrealistic to expect weak states to be able to perform herculean tasks covering millions of people with any reasonable degree of quality. Adding unrealistic timelines only makes the likelihood of success even more remote. Two, excessively ambitious and over-engineered solutions are unlikely to work. Practical considerations and related compromises are important. Three, technology solutions cannot paper over fundamental structural deficiencies like poor quality of land records and weak state capacity. Finally, despite the perception to the contrary, technology solutions are not always easily implemented effectively in scale. 

End of fertilizer price decontrol?

It was with great fanfare that the Government of India launched the Nutrient Based Subsidy (NBS) regime for fertilizers in April 1, 2010. It effectively dismantled the administrative control over fertilizer prices. The subsidy was to be fixed, based on the nutrient content of each fertilizer, and then transferred as a back-end subsidy to the manufacturing companies. It gave companies full freedom to fix Maximum Retail Prices (MRPs), though there was an informal understanding to keep price hikes within 'acceptable' limits.

It went off relatively well in its first year, raising hopes of further reforms in the subsidy regime. However, following the steep increases in global petroleum prices in recent months, the wheels seem to be coming off the NBS regime. The manufacturers have been left with no option but to increase the MRP to cover for the increased import prices. As I have blogged earlier, in response the government has been forced into revising the subsidy for 2011-12 three times already.

Faced with continuing rise in fuel prices, the Government has issued directions to the fertilizer companies to restrict the MRP increases to a band. The Businessline points to a recent circular issued by the Department of Fertilisers asking firms to limit the increase in the MRP of di-ammonium phosphate (DAP) to Rs 600 a tonne for the kharif season ahead. It writes,

"Since the MRP, prior to April 1, averaged Rs 10,750 a tonne, a Rs 600 rise works out to Rs 11,350 a tonne. To this, if the 1.03 per cent excise-cum-education cess imposed in the 2011-12 Union Budget is added — this is recoverable from farmers — the new admissible MRP would be roughly Rs 11,470. Against this, companies like Coromandel International, Indian Farmers Fertiliser Cooperative and Zuari Industries have already declared MRPs of Rs 11,700 to Rs 12,000 a tonne, exclusive of State-level and local levies. It remains to be seen if they will now have to roll back their MRPs to the May 5 circular-prescribed levels."

The NBS regime for fertilizers is a test case for cash transfers with PDS. It highlights the challenges in subsidy administration posed by price volatility. However, unlike the fragmented food grains markets, fertilizer market is more integrated. Therefore it is possible to develop an index, also linked to global crude prices, that is a reasonable reflection of fertilizer prices. The subsidy payable to manufacturers or distributors could be calibrated with respect to this index, so as to avoid the repeated ad-hoc revisions. This does create a slight fiscal uncertainty, though the variation is not likely to be so much as to imbalance government finances.

Fertilizer subsidy rates go up (again)!

It has come faster than expected. I had blogged just yesterday about the inevitability of the revision in fertilizer subsidies for 2011-12 in view of the rising import prices. The Businessline reports,

"An inter-Ministerial panel under the Secretary, Department of Fertilisers, is learnt to have approved higher import parity prices of $612 a tonne for DAP and $420 a tonne for MOP, as against the existing levels of $580 and $390. These upward revisions would translate into increased NBS rates for phosphorus (P) and potash (K). Currently, the NBS rate on P, linked to a $580-a-tonne reference price for imported DAP, is Rs 29.407 a kg. On the proposed $612-benchmark price, it will go up to around Rs 31 a kg. Likewise, the NBS rate on K will rise from Rs 24.628 to Rs 26.5 a kg with the assumed landed price being raised to $420 a tonne."

Interestingly, even if the NBS rate on P is increased to Rs 31, the resulting higher subsidy of Rs 19,220 or so on DAP would take the gross realisation to Rs 29,970 a tonne, leaving the farmer to still pay the gap of Rs 600-700 a tonne. The report also says that the MOP prices are currently quoting at $520 a tonne, far higher than the proposed revised import parity price of $420 a tonne, leaving the farmer to again absorb the losses. Further, there will be no buffer available to cushion against future price increases, which is inevitable given the global petroleum price trends.

Two important market expectations are getting anchored here. The domestic wholesalers and retailers realize that there is nothing sacrosanct about the once a year subsidy fixation announcement. They have the incentive to raise the MRP to cover the full subsidy instead of raising the MRP based on the import prices. As I had blogged earlier, given its size, India's procurement decisions and import parity price signals will quickly get embedded into the global market prices. So what is the way out?

The price volatility problem with cash transfers

I have blogged earlier that price volatility, especially with food grains, is the most difficult challenge with cash transfers. One of the strategies to overcome this is to provide a large enough subsidy, inclusive of a volatility buffer, so that even if price increases, the buffer will cover for the increase. The nutrient-based subsidy (NBS) for non-urea fertilizers under implementation since April 2010 uses this strategy to cover for price volatility.

It is therefore instructive to examine the experience with NBS in fertilizers. Under this model, fertilizers are sold to farmers at its decontrolled MRP (minus the subsidy) and the subsidy amount paid separately to the fertilizer companies. The nutrient-wise fertilizer subsidy is fixed once a year, based on its market and import prices, and with a reasonable buffer to cushion the producers against price fluctuations over the year.

What has been the progress report with this subsidy regime in operation for more than a year now? A recent report in Businessline highlights the sharp volatility in the prices of fertilizers, as reflected in the manner in which the subsidy fixed for 2011-12 (operational from April 1, 2011) was sharply revised between November 2010 (when it was originally fixed) and March 2011 (when the subsidy amount was frozen). It now appears that even this may have to be revised.

Recent imports of DAP have been for $612 per tonne (or Rs 27,540 per tonne), which with duties, freight and other charges will retail at about Rs 30,735 per tonne. Against this, the MRP of DAP is currently at Rs 10,750 a tonne and the NBS payable from April 1, 2011 is Rs 18,474 (fixed assuming a landed import price of $580 a tonne), thereby grossing the company Rs 29,224 for every tonne of DAP. This deficit of more than Rs 1500 a tonne or Rs 75 a bag will either have to be covered through an increase in subsidy or passed on to the farmer.

Given important state elections coming up, it is almost inevitable that despite the original decision to fix the subsidy once a year, the subsidy rates will be revised again. Similarly, even on MoP, where global suppliers are apparently pushing for a landed price of $420 a tonne (which is more than the current reference rate of $390 a tonne), a subsidy revision looks certain.

Further, there is also the problem of market expectations that get formed by the subsidy price announcements. Since India is one of the largest fertilizer importers, its procurement decisions and prices signals get embedded into the global market prices. Though the subsidy rates announced includes a volatility buffer, the market prices naturally get anchored at the upper end. As the Businessline report says,

"For 2010-11, the Centre had fixed the NBS rates on nitrogen (N), phosphorus (P), potash (K) and sulphur (S) with reference to corresponding import prices of $310 a tonne on urea, $ 500 on DAP, $370 on muriate of potash (MoP) and 190 a tonne on sulphur. For 2011-12, the Centre – in a bid to talk down world prices – initially, on November 19, pegged these reference prices lower at $280, $450, $350 and $125 a tonne. But with global prices showing no signs of easing, the Centre, on March 9, announced new NBS rates for 2011-12 based on higher landed prices of $350 for urea, $580 for DAP, $390 for MoP and $180 for sulphur."

The Businessline report also quotes industry sources who claim that the government's decision to tinker with the DAP reference price has contributed to the steep increase in its import price in recent months. Also, the NBS regime has had no effect on lowering the subsidy burden. In fact, subsidy burden is also projected to go up by Rs 30,000 Cr to Rs 82, 245 Cr, up from the budgeted provision of Rs 52,837 Cr for 2010-11.

The experience of fertilizer highlights the difficulty of managing price volatility and also ensuring access to fertilizers (or food grains) at affordable prices. The much greater price volatility and political sensitivity associated with food grains means that any buffer will have to be much larger. Far from lowering it, the food subsidy outgo will therefore increase.

Admittedly, with fertilizers, given the reasonably integrated national market, it may be possible to calibrate subsidy to a price index. However, this approach cannot work with food grains whose prices vary so widely across the country at any point in time, that it is impossible to capture it in one index with any reasonable degree of reliability. So what is the way forward? More food for thought!