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Sunday 23 January 2011

Employment Guarantee Scheme - An Economic Disaster

Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) or better known as the Employment Guarantee Scheme has been running since the current UPA government came into power. The intention for this scheme is to to provide a minimum guarantee of work for Rs 100 a day. And the idea is to provide work which is required at a block or panchayat level. The idea is indeed noble. To provide (lets say distribute) income to the poorest of the poor. I will not get into the sociology or political angle of the program. My comment is however the economic and psychological aspect of this scheme and its devastating impact.

This largesse by the government, unfortunately, is being run by increasing India's current account deficit. In simple terms it means we as a nation spend more money than we earn in a year. The only way this can be done is by taking on additional debt. Again in simple terms, it means the government floats debt paper (fixed deposits) and the banks, institutions and the public buy it using their savings. Think PPF, NSC, KVP, Infrastructure bonds, T-bills etc.

This whole affair is not sustainable in the long run unless the country starts printing more paper currency thereby boosting inflation. And inflation, my friend, is the poison that kills slowly. Coming back to the employment guarantee scheme. The practice of giving away money  (Rs 10,000 = 100 days x Rs. 100) to people is never a good idea. I am saying giving away because India's corruption is institutionalized so I am more or less certain that very little actual work is happening to justify this expense (refer: http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2008/11/28/MNVB13VKMC.DTL).

In such a scenario, there has been a multifaceted impact. Here are the main ones:-
  1. Beneficiaries of this scheme are consuming more (primarily food) as they now have more disposable income resulting in spiraling food inflation.
  2. Unavailability of unskilled labor for most industrial and real-estate work thus jacking up the cost of most labor intensive production processes.
  3. Setting an extremely dangerous precedent for people that it is their right to get paid without having to work for it. This is another subtler version of the subsidy scheme and very very difficult for successive governments to remove and attract the "anti-people" tagging.
Points 1 and 2 are, to my mind, what is actually causing the high inflation numbers we are seeing. Tinkering with monetary policy by the FinMin and RBI is unlikely to help as it does not address the core of the problem. Point 3 is not easy to demonstrate but is likely to have the most adverse impact over a longer term.

As a populist policy, this will probably win some votes but economically it is bringing the country a bit more closer to disaster!


  1. The social and political issues are, especially in this case, inseparable from the economic logic of the situation. First, we must remember that this is not a simple transfer payment (like, say, social security payments in most welfare states and even in the US) but a way of distributing opportunities to work. In a society where there are so many free entitlements, this is a very commendable move. You imply that it effectively becomes a free transfer because of corruption and inefficiency – but that can be said of most public (and we might add a lot of private) resources in India. Tax money that is supposed to be spent on health, education and infrastructure is embezzled away until only a fraction reaches its intended use. Is the solution to do away with tax? No, the solution must be to put in place ways of ensuring accountability in government to ensure that the money is actually put to use. The same is applicable to the objections about inefficiency and corruption in the implementation of NREGA, even more so because it provides vital support to the poor and most importantly makes them work instead of giving transfer payments and subsidies.

    About the deficit and the impact on inflation, it is true that the deficit needs to be tackled, but that needs to come from elsewhere. The budget is full of flab – subsidies that cater to all kinds of interests who won't let go of their chunk of the pie. It is time to reduce expenses there instead of saying there isn't enough pie going around to give the poor their rightful share (which they need to work for under NREGA). How about the middle class paying full prices on their gas guzzling cars instead of piggybacking on diesel subsidies meant for farm production. How about looking into why the GDP-to-tax ratio is actually falling in India. Corporate and upper-middle India is getting away with murder, all in the name of GDP growth. If the deficit must be tackled, these sops need to be removed.

    Of all the points you make, I perhaps disagree most strongly with #1 – on food inflation. The poor will now eat more with the money they have earned, leading to food inflation? So they should starve so that food prices are down? Disposable income is not spent on food – food is a necessity, for the most part. It is not as if the landless laborers of India are suddenly feasting on foie gras and filet mignon on government money while we struggle to buy onions. If the poor have any “disposable” income at all from Rs 100 a day, maybe that's a good thing and they can spend it on non-necessities which will stimulate the economy much the same way middle class consumption does.

    On #2, I think the teeming population of India is still far from the stage where unskilled labor becomes unavailable. What the corporates are griping about is that the amount of surplus they can extract due to the overabundance of labor has fallen. NREGA tweaks the supply demand chain by effectively setting a minimum wage for labor. Pay more than that, and the free market the corporations are always on about can take over again. How many people would rather work 100 days a year at Rs. 100 a day than more days a year at, say, Rs. 150. These complaints convey the fact that the corporations feel entitled to a free or nearly free pool of labor to exploit. That shouldn't be the case. If you are economically productive, you need to pay a price for your raw materials including land and labor.

  2. #3 – You are correct that the “right to work,” might be difficult to take away by future governments. But the same is true of so many so-called “rights” and subsidies in India, most of which are far less economically and socially productive than giving the poor an opportunity to work. How about rampant reservation and protectionism which benefit not the downtrodden but the parts of the middle class who happen to share the same last names as many of them. How about our “right” to subsidized free education that we use to build corporate careers. These are harder to take away and less useful than the bare minimum guarantees that NREGA seeks to provide.

    Finally, most developed nations have some sort of social security net. I am talking about social security systems that actually work, not like promises of free healthcare etc in India that are met by empty hospitals and absent doctors. In this regard, NREGA takes a novel approach by not merely making transfer payments but making them in exchange for work. If that labor is used to build infrastructure then the “transfer” becomes a “capital investment.” Instead of being a mere drain on resources, it can stimulate GDP. In that respect, NREGA is a better approach for a growing nation like India than a simple western style social security scheme. Whether this transition from transfer to stimulus happens depends entirely on the implementation. And while there are allegations of corruption in NREGA there are also examples of patches where it is starting to work and we must remember that corruption is not particular to this scheme but pervasive in all government spending in India. The solution is to make government more efficient and accountable and reduce flab and overhead in other sectors that are less necessary. I don't think NREGA is one of those sectors, because it harnesses an important pool of labor for infrastructure, makes corporations more accountable by setting a (bare) minimum wage, and most importantly reduces in a minute way the gap between the corporate urban India and rural India, a gap that, if allowed to increase unchecked, might take out the very ground from under our feet on which India's economic growth is built.

    There – that turned out to be a somewhat long response :-). But thanks for writing on this very interesting topic and especially for showing that schemes such as this are within the purview (or should be) of the investors' concerns.

  3. Thanks for such a detailed and thoughtful response. I will post my arguments. My laptop is giving me a lot of trouble, so am going to get it fixed.