Answer to 2012 Social Benefit Cost Analysis: Dam Project

The study

This report studies social preferability of the dam proposal which aims at an extension of crop yields in the dry-farming area by introducing the irrigation system, including a branch with or without concerning an environmental impact, and then investigates a variation of  social influence of the options under certain assumptions which change within a reasonable range. The study is based on basic methods of Benefit Cost Analysis from evaluating each scenario with their Net Present Values to testing sensitivities of the options against considerable fluctuation of crop prices and yields due to market and weather risks. The investigation proceeds in the following order; introducing each option and their expected impacts, identifying and evaluating costs and benefits, calculating net benefits at the present value, sensitivity tests, and conclusions as a final recommendation for decision makers. 

The options and their likely impacts

Option 1 - The Base Case

Under this option without the irrigation scheme, farms will continue conventional dry-land farming, which earns a hundred dollars per hectare annually without any further costs. River downstream from the dam will remain available and provide with fishing and recreation services at a value estimated with the Travel Cost Method. These values are counted as the opportunity costs in the following options of the dam construction. In addition, downstream wetlands which would be damaged if the dam is constructed will be preserved with their associated natural ecosystem.

Option 2 - Dam Construction Without the Environmental Flow for Wetlands

This option allows the irrigation system installed into the participant farms so that the farmers can achieve higher crop yields as a primary purpose of this project although it will cost much not only for the water authority and the farmers but also for the surrounding natural environment and other economic activities. On the other hand, the dam project is expected to have a couple of positive side-effects such as flood protection and fishing and recreation services. These benefits and costs as a whole, in the form of the Net Present Value, applied a few typical discount rates, are to be assessed in comparison with the base case. 

Option 3 - Dam Construction With the Environmental Flow for Wetlands

Finally, the case with the environmental water flow for wetlands is to be examined in order to estimate an minimum required value of their environmental services to implement the dam project. Under this case, less water is available for irrigation and that will cause crop yields decreased and so benefits from irrigated farmlands reduced; also, some costs just like annual water charges for the farmers will be saved as well. Thus, it is necessary to calculate changes in Net Present Values under the discount rates and estimate an annual required value of the wetlands. 

The costs

Costs for Option 2 and 3, the dam construction with-without the environmental flow for wetlands, are classified on Table 1 into primary or secondary columns and priced or unpriced columns. The primary costs basically consist of those for the dam construction and maintenance and fixed and variable expenditures for the farmers to start and manage irrigation farming. The secondary costs come from a wide range of economy of the country from an economic impact on farmers in other regions with poorer cost-competitive farming to a few environmental damages in the surrounding areas like Algal Blooms and salinity effects. 

Labor costs

A treatment of labour costs needs to be paid a special attention because unemployment  exists in the case of the dam proposal. If the unemployed are entitled to gain some unemployment benefits, those payments are considered as transfer payments in the Benefit-Cost Analysis. 

In this case, a half of the labour employed to construct the dam are currently unemployed and will get the wage equal to the unemployment benefit which are assumed to be 25 per cent of the market wage rate as shown in Table 2. The unemployment benefit, a typical example of transfer payments, is excluded in the analysis because money is transferred from the government to the unemployed without any goods or resources being traded in exchange. Therefore, the real cost arises in employing this kind of labor, otherwise the unemployed makes no opportunity cost by remaining jobless. 

Contrarily, the rest half of the employed labor for the dam construction are currently employed in other industries of the country, if assuming no wage inflation in the labor market by implementing the dam proposal, with being paid the same wage as the dam construction. In other words, even if the dam proposal is not taken place, this labor is supposed to cost the same wage in other parts of economy; thus, the cost for the currently employed labor is not counted in this analysis. 

Income tax

Extra income tax on the farmers in the irrigation district would be regarded as a transfer payment for the same reason mentioned in the discussion of labor costs. Unless making any differences in the quantity of inputs or outputs in the market, taxes and subsidies are basically excluded from calculation. 

Table 1:  A classification of costs

Primary		Secondary
Priced		Priced	Unpriced
Capital costs to construct the dam Annual operation cost	Cost of converting farm land and the associated on-farm capital costs	The crop yield reduction elsewhere in the country	Salinity effects on the surrounding dry-land farmland
Cost of water for operating the irrigation system	Farm variable and overhead costs each year	Additional cost for Algal Blooms
Cost of water for the initial water storage	Annual water charges for the farmers
Costs of labor currently employed and unemployed	Opportunity costs of earning from dry-land farming

Table 2:  Annual labor cost for the construction of the dam

Wage for labors currently employed	Wage for labors currently unemployed	Annual labor cost	Annual labor cost (real cost)
$2,500,000/yr	$625,000/yr	$3,125,000	$625,000

The benefits

A main benefit from the dam project is extended crop yields in the irrigation district to an annual value of twenty four hundred dollars per irrigated hectare (see Table 4). Moreover, a variety of secondary benefits will appears in upstream or downstream industries from the crop production and also arise as intangible effects in the surrounding environments of the dam (see Table 3). For example, secondary industries located in downstream of the value chain of the extra crop production, such as flour millers and bakers if the crop is grain, will experience a competitive market amongst competing other traders to obtain the extra product; the similar phenomenon will take place in upstream industries, namely between farmers and input suppliers.  

Table 3:  A classification of benefits

Primary		Secondary
Priced	Unpriced	Priced	Unpriced
Earning form the irrigated crop yield	Salvage value of the initial capital investment in the dam	Additional value of the farmer’s extra crop products	Flood protection service of the dam
	Salvage value of the initial capital investment in the on-farm irrigation system	Additional value of the processor’s extra products	Fishing, water sports and recreation services of the dam instead of the river
		Extra fertilizers sales of input suppliers in the irrigation district	Fish catches for commercial fishers
		Extra fuel and chemical sales in the irrigation district

Table 4:  Annual benefits from irrigated farmlands

Yield	Price	Land	Annual benefit per hectare	Annual benefit as a whole
4t/ha/yr	$600/t	50,000ha	$2,400	$120,000,000

Secondary benefits

In a competitive market, there are no secondary benefits (and costs,) so none should be included in calculation. For instance, given an extra amount of wheat available for flour millers, a flour miller will have to include any extra profit from grain processing in his payments for the wheat. Otherwise competing millers will bid higher and obtain the wheat. So the miller will have no true increase in net income. 

The competition in the output market causes processors and retailers of the extra crop product to bid higher for it, by adding four hundred dollars per ton and a hundred dollars per ton respectively, in order to obtain it. In the analysis, added values in price as a result of competition are omitted from calculation of the Net Present Value as two items corresponding to these values in Table 4 are lined with strikethrough. 

Opposite to the former case, additional revenues of input suppliers from extra fertilizers, fuel, and chemical sales (underlined in Table 4) should be considered as substantial benefits because farm variable and overhead costs include expenditures for extra usage of them.

Calculating net benefit

Option 2 - Dam Construction Without the Environmental Flow for Wetlands

In the case of Option 2, the Net Present Value shows negative figures, and the Benefit Cost Ratio is less than one, under any discount rates not less than 7 per cent, which means the total discounted cost exceed the total discounted benefit if the social rate of time preference or the market rate of inflation in the country is at least 7 per cent. Table 5 also indicates that the Internal Rate of Return, defined as the rate at which the sum of all discounted benefits and costs is zero, is equal to 6.03%.

Table 5:  Net Benefit of Option 2 under three different discount rates

Discount rate	5%	6%	7%
NPV	$60,027,520	$1,285,680	-$43,882,142
BCR	1.03	1.00	0.970
IRR		6.03%

Option 3 - Dam Construction With the Environmental Flow for Wetlands

Under Option 3, all NPV figures corresponding to the same discount rates in Option 2 mark considerable amount of loss in the society, as a result of the reduction in benefit exceeding the save in cost from the the decreased irrigated farmland (see Table 6). In order to compensate such loss in the economy, the environmental services of the wetlands are required to have a minimum value per annum under each discount rate. These values are assumed to arise at the start of year 4 after the dam construction is finished and continue until the end of the project.

Table 6:  Net Benefit of Option 3 under three different discount rates

Discount rate	5%	6%	7%
NPV	-$164,467,310	-$188,612,211	-$206,190,255
BCR	0.904	0.875	0.846
Minimum value of the wetland per annum	$11,095,665	$14,929,930	$18,946,703

The treatment of uncertainty

Price fluctuation

Fluctuation of commodity prices in the world market frequently takes place due to unpredictable market factors, e.g., good harvests in other countries. Assuming that the world market price for the crop faces the change either by 10 per cent more or less every 5 years (the first one occurs in year 8) from the case of Option 2, the Net Present Values show variations from the case without fluctuation, so the Internal Rate of Return slightly shifts  (see Table 7 and 8). Consequently, normal changes in the world commodity prices, a maximum margin of 10 per cent plus or minus, does not seem to affect the dam project significantly. 

Table 7:  Net Benefit under three different discount rates while the price for the irrigated crop decreases by 10 % every 5 years

Discount rate	5%	6%	7%
NPV	$27,837,177	-$25,607,247	-$66,590,832
BCR	1.02	0.984	0.954
IRR		5.49%

Table 8:  Net Benefit under three different discount rates while the price for the irrigated crop increases by 10 % every 5 years

Discount rate	5%	6%	7%
NPV	$92,217,864	$28,178,608	-$21,173,453
BCR	1.05	1.02	0.985
IRR		6.54%

Drought

Another risk that farmers and other relevant subjects of the project are likely to face is drought. Let the analysis suppose that the irrigation district experiences a drought every 10 years (the first one occurs in year 13,) and the whole water flows for irrigation is unavailable in the drought years; the farmers in the district have to temporarily go back to dry-land farming in those years, but any relevant costs to irrigation does not exist. Compared to the result of the case with price fluctuation, effects of the droughts on the project seem considerably influential; the Internal Rate of Return falls more than one per cent (see Table 9).

Table 9:  Net Benefit under three different discount rates while a drought prevent farmers from irrigation every 10 years 

Discount rate	4%	5%	6%
NPV	$41,431,034	-$16,926,545	-$61,301,244
BCR	1.02	0.990	0.961
IRR		4.68%

Conclusions

First, the study demonstrated that Option 2, the dam construction with the environmental flow for wetlands, is beneficial under a certain range of discount rate; however, even if so, returns from the project which the society will gain are not huge as the Benefit Cost Ratio shows under conventional discount rates. 

Second, under Option 3 which preserves the wetlands at an expense of a portion of water for irrigated farming, the value of the wetlands is required to hold at least some million dollars per annum to implement the project, though the exact value depends on the applied discount rate. 

Finally, the dam project does not seem significantly vulnerable to market and weather risks; if some risks against the crop production like price fluctuation and droughts are expected through the project term, it will be feasible to achieve the net social benefit at a positive figure.

2012 Social Benefit Cost Analysis: Dam Proposal 

A proposal has been made to divert water from a major river and establish a large scale irrigation scheme for agricultural production.

The Proposed Project

Following a prolonged period of dry weather, a State government in Australia proposes to build a dam on a major river primarily for the purpose of irrigating farm land in the near vicinity of the dam. Annual river flows are reliable. An 800 gigalitre (800,000 megalitres) dam is proposed. It will provide 500,000 megalitres of water available for irrigation each year. The balance of 300,000 megalitres is available as 200,000 megalitres for operating the irrigation system and as carryover security when needed, and 100,000 megalitres as permanently retained water.

It will take the water authority responsible for the irrigation scheme three years to construct the dam and the water delivery system, incurring capital costs to construct the dam of $100m in year 1, $100m in year 2 and $50m in year 3 in current dollars. These costs do not include labour costs.

The irrigation project will have a life of 43 years and the irrigation scheme will operate for 40 years from the start of year 4 to the end of year 43.

The dam will enable 50,000 hectares of farm land to be irrigated each year.  Ten megalitres of water are used per hectare of crop each year.

At the end of year 40 the salvage value of the $250m initial capital invested in the dam and water delivery system is expected to be 25% of the value of the initial capital invested, even with annual maintenance expenditures. (Annual maintenance expenditures are included in the annual operating costs of the water authority). The annual operating cost of the water authority that will administer the water supply is expected to be $3m.

To grow 50,000 hectares of irrigated crop each year involves using a crop rotation in which there are three crops grown every four years on a piece of land. Thus around 67,000 hectares of land needs to be developed into irrigation bays with water delivery systems, in order to have 50,000 hectares (75 per cent of 67,000) of land growing irrigated crops each year. The land not used for cropping in any year is rested, with no income or costs associated with it.

It is anticipated that the dam will be constructed and filled by the end of year three. The 67,000 hectares of farmland to be used for irrigation farming (50,000 cropped ha/yr) will be set up for irrigation during year three. 

The 67,000 ha of farm land that is to developed for irrigation will continue to be used for dryland farming as before, during the first two years of dam construction and will earn a net $100/ha/yr. No income will be earned from this land when it is being prepared for irrigation during the whole of year three.

The cost of converting farm land currently used for dryland farming to land levelled for irrigation and the associated on-farm capital costs of changing over to irrigation farming are a total of $1000/ha.

The capital invested in the on-farm irrigation systems will last for around 20 years at which time major renovation will be needed involving new capital investment costing 50% of the original investment cost of the on-farm irrigation system.

In year 43 the on-farm investment in irrigation systems will have a salvage value of 20 per cent of the value of the initial $1000/ha capital invested in the on-farm irrigation system.

On the farms, the irrigated land will be used to grow a crop, in appropriate rotations, and it is expected (expected value, probability weighted value) that crop yields of 4 tonnes per hectare of crop per year will be achieved from irrigated crops each year. Irrigated cropping will commence, and reap the first havest, in year 4.

The irrigated crop yield is expected to return $750/tonne in today’s dollars net at farm gate. This crop price is a subsidized price paid by the national government with a $150 subsidy from general tax revenue. World market prices for this crop have a probability weighted value of $600/tonne in today’s dollars for the past decade, and it is highly likely that this price will apply in the future.

Farm variable and overhead costs for the irrigated cropping each year (including maintenance of the on-farm irrigation system but not including the water charges paid to the irrigation authority) are expected to amount to $700/irrigated hectare/year. This cost includes such variable costs as extra fertilizer, seed, chemicals, fuel, casual labour used by farmers, as well as their overhead costs.

Annual water charges for the farmers are $40/megalitre ($400/irrigated hectare/year) because if the water that is used for irrigation was used in some other way it would have a value to the community of $40/megalitre in its alternative use.

The 200,000 megalitres of water used each year to operate the system also has other uses and has a cost of $40/ML.

The 100,000 ML of water retained permanently in the dam represents a once-off removal, in the year the dam is filled, of 100,000 ML of water from other uses in the economy, at a cost of $40/ML. In subsequent years, this quantity of water would be available as usual to the economy and the environment as it was before the dam was built.

The irrigation farmers involved in the new scheme will pay, in total, an extra $10m in income tax each year from year 4 onwards on their net before tax earnings from their irrigated cropping businesses.

Processors of the extra crop product, who compete to buy the extra crop product that becomes available from the irrigation farmers, will add $400/tonne in value annually to the farmer’s crop product.

Retailers will add a further $100/tonne to the processed crop product annually.

There will be extra fertilizer sales by input suppliers in the irrigation district to the irrigation farmers of an extra 100kg/ha/year at $400/tonne, and extra fuel and chemical sales equal to $5m per year in the irrigation district to produce the extra crop output.

Off Site Salinity Effects
An extra 50,000 hectares of land surrounding the irrigation scheme and used for dryland farming will be indirectly affected by the irrigation scheme through water from the irrigation scheme contributing to the underground water supply and causing water tables to rise, causing increasing salinity in the surrounding 50,000 hectares of land used for dryland farming. Over the 40 years of irrigation of irrigation the surrounding 50,000 hectares of dryland farmland will suffer a decline in annual productivity and profitability, and thus a fall in land value as well. 

Following the commencement of nearby irrigated agriculture, there is expected to be an annual decline in net profit per hectare in these surrounding farming areas from the current $100/hectare to $20/ha by year 43. These losses due to salinity are expected to occur in a linear manner (constant rate) over this time, i.e. each year each hectare is expected to produce $2 less net profit per year than would have been the case of the irrigation scheme had not been set up. The loss of profit in any year is relative to the current $100 profit that would have been earned each year if the dam had not been built. Annual reductions in profit are also equivalent to the total loss in land value that would occur between start and finish of the project as a result of increases in salinity. 

The annual and total magnitude of this salinity effect will not be affected by how much water is used for irrigation or for environmental uses.

Flood damage
Building of the dam is expected to improve flood control downstream. Over the past couple of decades, when the river has not been dammed, there have been major floods downstream every 5 years which have caused around $3m damage in today’s dollars each time there was a flood. With the dam it is expected that such major floods will occur half as frequently as in the recent past, and when a major flood does occur, the damage will be at least 50 per cent less than in the undammed situation. That is, half as many floods (one every 10 years instead of one every 5 years), causing half as much damage when it occurs, as before the dam was built. For the analysis, the last flood was in the year before work commenced on the dam. Flood protection commences when the dam is completed at the end of year 4. Assume the next flood occurs in year 8.

Wetlands
As a result of damming the river there are 5000 ha of Wetlands downstream which have no commercial use and which will experience a marked reduction of water flows. These Wetlands and their associated fauna and flora (which are becoming increasingly rare) will disappear once the dam is filled. This effect could be prevented if an ‘environmental flow’ of 100,000 megalitres of water was released regularly through the year. However, to do this would require that the water available for the irrigated agriculture is reduced from the planned 500,000 megalitres per year to 400,000 megalitres per year. This would involve developing only 54,000 ha for irrigation, and 40,000 ha would be used for cropping in any year. In this scenario in which the wetlands are preserved, apart from the change in cropping area, all the other factors can be assumed to remain the same as with the alternative (no wetlands) 50,000 hectare of crop scenario.

Other crop farmers
The extra irrigated crop produced because of the irrigation scheme will have the effect of causing some producers of the same type of crop produced elsewhere in the country, in areas more distant from the markets, to cease to produce these crops. It is estimated that each year from the start of year 4 $25m p.a. worth of the type of crop now being irrigated, from non-irrigated farms in other areas, will no longer be produced on these farms.

Algal Blooms
A consequence of the high input agriculture that will take place once the Dam is built will be an increase in Algal Blooms occurring in streams and the river in dry seasons. This phenomenon is expected to double in frequency as a consequence, and incur an additional cost to the water authority of $2m every 5 years from the commencement of irrigated agriculture to ameliorate the problem from the beginning of irrigation farming.

Labour
The labour required to build the dam (not included in the construction costs) would cost $5m per year at market wage rates for each of the three years of construction if it was the case that all labour was drawn from those currently fully employed. However, in practice only half of the actual labour force employed will come from employing labour that was already fully employed. The other half of the labour force used will come from people who would otherwise be unemployed over the first three years of the project when the dam is built. Any extra labour employed on farms come from the employed and are accounted for in the farm variable and overhead costs.

The labour force that comes from people drawn from the ranks of currently unemployed are people who receive unemployment benefits. This means that by giving up unemployment and working on the dam this previously unemployed labour is foregoing whatever benefits they received from being unemployed. We can approximate the cost of this labour (previously unemployed-receiving benefits ) (i.e. the cost incurred by giving up unemployment) as being equal to the unemployment benefits they received. That is, the unemployment benefit is 25 per cent of the market wage rate. This is the benefit the previously unemployed currently gain from being unemployed and are now giving up to work on the dam. This is the opportunity cost of the previously unemployed people who will work on building the the dam.

However, there is also a benefit to society from saving the unemployment benefits that previously were being paid.

Fishing and Other Recreation
Downstream from the dam is a popular fishing (non-commercial) and recreation spot. Estimates of the demand for using this fishing and recreation spot have been made and it is estimated that 5000 person-visits per year would be made to use this fishing spot at a cost (willingness to pay) of $50 per user per fishing visit. (This would have been estimated using the Travel Cost Method). The change to the river flows after the dam is filled will mean that this fishing spot will no longer exist.

From the end of year three the new dam is expected to become an attractive place for water sports, fishing and other recreation visits. It has been estimated that the demand for using the new dam for fishing, water sports and recreation each year would be 10,000 users at a willingness to pay of $50 per user for fishing, water sports and recreation visits. This number of visits will occur each year regardless of how much water is in the dam and how much is used for irrigation or environmental uses.

As well, the dam is expected to yield 200,000 kgs of fish each year to commercial fishers, worth $3/kg – regardless of how much water is in the dam and how much is used for irrigation or environmental uses.

Task
Note: A comprehensive Social Benefit Cost Analysis has to be based on a valid With-Without scenario, and take account of all benefits and costs, including opportunity costs, and unpriced benefits and costs, and consider risk.

The merit or otherwise of this investment of public resources in an irrigation project is to be assessed for the typical discount rates used in public project appraisal. 

The option of building the dam and preserving the wetland is also to be considered, i.e. if the decision was made to preserve the wetland, what minimum value is implicitly being placed on the wetland. 

The prices and yields and water volumes in the following details are the expected values (sum of probabilities of values in the whole distribution) levels expected to prevail over the life of the project.

Some assessment of key risks and sensitivities is to be included in the analysis.

Note that a key assumption underlying this BCA is that in the economy resources are currently fully utilized unless otherwise specified.

©Bill Malcolm, Assoc Prof, The university of Melbourne

The Arguments over the Reform of India’s Public Distribution System

10. 3. 2012

Introduction

India’a Public Distribution System is controversial as an agri-food topic in the fast developing country because it represents the issue of food security which is commonly concerned amongst nations with growing population and also the world-largest scale of government intervention in food production and distribution. 

The Public Distribution System (PDS) was once reformed into the Targeted Public Distribution System (TPDS) in 1997 due to national and international criticism of its economical and financial inefficiency, yet the problem has remained deep-rooted after the reform. Nevertheless, to make matters worse, the targeting scheme has raised a new political fear that mistargeting might cause insecure of food accessibility of the poor. 

Arguments over the economical loss and targeting accuracy of the TPDS seem to split up into two major opinions: to replace the distribution system with less market-distorting alternatives while keeping the governments intervention for food security at a minimum level; and to appreciate the contribution of the TPDS to prevention of hunger and adjust it based on the present scheme to the changing agri-food sector. 

This report first explains the outline of India’s Public Distribution System and the transition from the universal aid to the targeted aid, then introduces two different opinions from the viewpoints of politics and economics and evaluate the validity of their discussion, and finally summarizes the main claims from both sides’ arguments as conclusions. 

Overview of the PDS and TPDS

India’s national food policy consists of three different objectives: to ensure livelihood security especially for small farmers; to ensure that poor households have access to food; and to ensure food security through national self-sufficiency. For these goals, three different policy instruments has been launched, but actually they are closely rerated and interfering each other. In this chapter, primarily, it is explained what roles they played respectively in terms of achieving food security and how the interference caused a number of economic and financial inconveniences and was tried to be removed.

India’s Public Distribution System (PDS) was established primarily as a domestic food aid program for the poor in the country, which is the largest public food distribution in the developing world. In this program, the country’s essential commodities, mainly staple foods such as rice and wheat, are purchased from farmers by the Food Corporation of India (FCI), a government-authorized organization set under the Food Corporation Act 1964, and distributed at prices subsidized by the government of India below the prices at procurement so that the lowest-income family has economic access to those indispensable food products. The distribution is represented by a nation-wide network of Fair Price Shops available for everyone in the country; the PDS is universal in nature. 

In order to secure an adequate amount of calories to be supplied to the fast growing population of the country, preventing from supply fluctuation corresponding to market and production risks, the FCI maintains buffer stocks of food grains corrected from domestic grain producers and if necessary imported from other countries. The FCI’s storage costs,  as well as procurement and distribution costs, are covered by budgetary subsidies although only the expenditure filling the price gap between procurement and sale is devoted to the consumers. 

In addition to the consumer support, the PDS is linked to some of producer support programs, one of which is the Minimum Support Price (MSP): a guaranteed price that is applied to the procurement of food grains by the FCI. The MSP policy contains multiple goals, that is, price stabilization and income support; as to the former goal the guaranteed price level is set in accordance with domestic and global market conditions while buffering sudden price fluctuation; the latter one is achieved by measuring production costs and reflect them onto the minimum price with which farmers can get enough income to make their living. 

However, the PDS, the food security policy combined with price support for domestic producers, turned out to contain a number of economic and financial problems.

First, food grain transfer was carried out under corruption. Leakage of the PDS grains into the private market, i.e., illegal resale somewhere in the process of the distribution system, substantially existed. Actually, approximately 35 to 40 percent of rice and wheat supposed to be distributed through the Fair Price Shops did not reach the consumers (Srinivasan, 2003). 

Second, the FCI’s distributional operation costed too much for benefits for the poor. Srinivasan (2003) also points out that the PDS costs the central government around 4.27 rupees to transfer one rupee to the poor in the process of food subsidization. In this context, the FCI’s operational costs for procurement, storage, and distribution account for more than four times as much as the unit expenditure to make up the price gap between procurement and sale, which is the real value transferred to the consumer, or evaluated in transfer efficiency, it represents only 0.19.

Third, the PDS’s characteristic combination of consumer support and producer support makes its budgetary balance complicated. As India’s farm sector modernized, the increase in production costs has been reflected onto the MSPs, so the government needs to invest more budget into the extending price gap between the MSPs and consumer prices (Landes and Gulati, 2003). Otherwise, higher consumer prices corresponding to the rising support prices would have adverse impacts on the food grain consumption. Also as a result of agricultural modernization, annual yields of food grains has grown dramatically and expanded the scale of the buffer stock; consequently, the FCI’s storage costs for the growing stock put a more burden on the national budget.  

These problems altogether had caused the budgetary cost expanded unlimitedly even though its considerable portion did not contribute to achieving food security amongst the country’s low income population. 

In order to reshape the wasteful program into a more efficient scheme and increase effectiveness of the government expenditure, the PDS was restructured as targeted PDS (TPDS) in 1997. The TPDS attempted to differentiate consumers based on income; consumers at or below the poverty line (BPL) were entitled to access to heavily subsidized grains; on the other hand, consumers above the poverty line (APL) were given access to grains at the price including a portion of the FCI’s operation costs. 

However, the reform has remained untouched as to the problems of leakage, transfer efficiency, and budget expansion although it might had considerably improved budgetary balance by targeting entitled consumers. Moreover, the reform caused the potential risk of the exclusion error, namely, whether the identification by income is really effective, and even if so, what income level is proper to be set in order to distinguish the poor family facing hunger from other households. 

Economic Inefficiency of the TPDS: Need for further reform

Given such structural defects in the TPDS remaining unsolved, a variety of literatures propose recommendation for further reform, some of which contain drastic changes in the present scheme or minimization of the government roles in assuring food security. In this chapter, a typical report which criticizes the TPDS strongly and provides with a series of effective reform is introduced. 

A World Bank report by Radhakrishna and Subbarao (1997) argues consistently for the need to change the structure of the TPDS totally controlled by the central government. Their proposition of reform consists of two columns: decentralization and food coupons. 

For the first reform option, decentralization, the literature insists that the public distribution should be operated at the state government level and that the central government’s role would be restricted into the allocation of the food subsidies as a conditional grant to the states (Radhakrishna and Subbarao, 1997). This proposal comes from the variation of grain yields amongst the states; the FCI has to manage to make ends meet in terms of food grain balance of each state, some of which have surplus, but others suffer from shortage. Under this reform, the central government would be relieved of the complex tasks, and the grain leakage and transfer efficiency could be somewhat improved but not cleared up completely.

Secondly, abolition of the Fair Price Shops and introduction of food coupons. The report suggests that the central government should distribute food coupons to the targeting agency responsible for the identification of poor households and leave retail operation to private dealers which would cash the coupons at any financial institutions (Radhakrishna and Subbarao, 1997). Under the reform, consumer support would be substantially decoupled from the MSPs, so the authorized institution could concentrate on the issue of food security without considering the link to the producer support policy.

Contribution of the TPDS to Food Security

Whereas authentic criticism and proposal for further reform are aimed at the inefficient aspects of the TPDS, the current scheme needs to be analyzed from the viewpoint of what it has done in prevention of hunger, and its advantages should be utilized in a new concept of food security that is adjusted to the changing agri-food sector of India. In this chapter, a reliable statistics which proves the TPDS’s importance amongst economically vulnerable groups in India is provided, and a new economic norm to identify the poor effectively is proposed. 

Ranjan (2007) focused on a calorie-based norm, the prevalence of undernutrition (POU), for the evaluation of the TPDS. The POU is measured as the percentage of households who are unable to meet their daily calorie requirement, e.g., in the case of the Indian poverty line for the rural and urban populations, 2400 and 2100 kilo calories per capita per day, respectively (Ranjan, 2007). The POU criterion tends to marks higher than the expenditure-based poverty estimated used as the official poverty line because the former measures hunger while the latter measures inability to buy both food and non-food necessary for survival. As a norm to estimate the risk of food insecurity, the POU seems more appropriate than the conventional expenditure-based criterion even though the monetary scheme is still useful to measure poverty comprehensively. 

The literature also suggests that a few undernourished APL households has been discovered by using the POU instead of the expenditure-based criterion. Thereby, the study shows skeptical attitude towards simply restricting the TPDS to BPL households and calls for a better targeting strategy. This consequence emphasizes the fatal defect of the current poverty line which has possibly overlooked the exclusion error amongst the APL households; however, a certain extent of accidental exclusion might be inevitable, considering costs for perfect identification of the poor. 

Based on the POU, Ranajn (2007) found that the present policy plays an important role in securing adequate amount of calorie intake amongst female-headed households in nutritionally poor states. According to the analysis, by comparing the rural calorie based POU rates in the presence and absence of the TPDS, the actual data and hypothetically calculated data respectively, statistically significant differences in the POU were observed in the calorie-poor southern states. It can be interpreted from the study that poor households in the some hungry states heavily depend on the TPDS as an anti-poverty program, so, if any reform required, the policy prescription needs to be organized properly to the changing economic circumstances of the individual states.

Conclusions

The former study, Radhakrishna and Subbarao (1997), consistently claims that a series of inefficiency of the TPDS comes from its over-grown structure. Therefore, it proposes to reshape its operational scheme of the central government into a simple function by decentralization of the FCI’s operation. In addition, its budgetary system also needs to be  reformed into an independent form from the price support policy by applying food coupons instead of the ration. 

On the other hand, Ranjan (2007), introduces a new norm, the POU: an estimator of hunger with daily calorie intake, as a better estimator of food insecurity.  As a result, the study discovered some undernourished families among the households above the conventional poverty line. Moreover, the TPDS turned out to be indispensable for some of hungry states as an anti-poverty program, so it is important to consider the impacts of reforming the national food policy at the state level as well as the nation level. 

References

Landes, R. and Gulati, A. Policy Reform and Farm Sector Adjustment in India. Workshop on Agricultural Policy Reform and Adjustment Imperial College, Wye October 23-25, 2003.

Radhakrishna, R. and Subbarao, K. India’s Public Distribution System — A National and International Perspective. World Bank Discussion Paper No.380, November 1997. 

Ranjan, R. Changes in Food Consumption and the Implications for Food Security and Undernourishment: India in the 1990s. Development and Change 38(2): 321–343, 2007.

Srinivasan, P.V. Food Security and Agriculture. Paper prepared for the Roles of Agriculture International Conference, 20-22 October, 2003.