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Jaswant Singh: Scoring the political brownie

Shyamal Majumdar | March 08, 2003

The stink raised by the political parties over the miniscule fertiliser price hike is a case of supreme irony. A day after the Budget, the harshest words against it came from Congress spokesman Jaipal Reddy and Samajwadi Party leader Amar Singh.

Both of them looked quite sheepish while criticising the Budget for being an election stunt and a populist one. Within 24 hours, however, their respective parties as well as the BJP and its allies have made the Budget the centre of a political storm by calling it anti-farmer.

Some of the Opposition leaders have even given calls to beat Finance Minister Jaswant Singh with a farmer's lathi.

What's the fuss all about? The mere 5 per cent increase in the fertiliser issue price (small farmers may have to pay only Rs 44 more for consuming four bags of fertiliser in a season) is much below the recommendations of the Expenditure Reforms Committee, which had advocated, among other things, an increase of 7 per cent per annum in the selling price of urea beginning 2001 till 2006.

Even after this marginal hike, the next year's Budget has earmarked higher sums  for subsidy on both indigenous and imported urea -- Rs 7,555 crore (Rs 75.55 billion) and Rs 709.25 crore (Rs 7.09 billion), respectively. An additional allocation of Rs 4,456 crore (Rs 44.56 billion) has been made in the Budget for the sale of phosphatic and potassic fertilisers at concessional rates.

This is higher than last year's Budget provision of Rs 4,224 crore (Rs 42.24 billion) as well as from the revised estimate of Rs 3,500 crore (Rs 35 billion).

Moreover, according to published data, India still spends more than 0.7 per cent (almost twice the entire amount spent on higher education) of its GDP on fertiliser subsidies.

But given the fact that such economic rationale doesn't cut much ice with our politicians, chances of Singh being able to avoid earning the sobriquet of a Rollback III Minister are quite dim. For, he has ventured into a territory where few of his predecessors have gone before without returning humiliated.

Manmohan Singh had to roll back the urea price hike increase he had announced, as had Yashwant Sinha.

Jaswant Singh, however, has a wonderful opportunity before him to sell his proposal to the politicians.

And that comes in the form of the proposed abolition of the retention price scheme from April 1 this year.

His predecessors failed because while hiking the price payable by farmers, they deferred correcting the RPS which scales up the subsidy burden of the Budget, leaving them open to the charge of being soft on industry at the expense of agriculture.

Singh, however, is in a unique position to tell the world (politicians particularly) that the proposed abolition of RPS will remove the bias in favour of the industry. It's a line that politicians might just buy.

Under the RPS in vogue since 1977, the government buys fertiliser from each plant at a price equal to the average production cost plus a post-tax return of 12 per cent on net worth.

The government then sells the fertiliser to farmers at subsidised prices that are unrelated to  production costs. This cost-plus pricing has robbed the fertiliser industry of all incentives to improve efficiency as however high the cost, the industry is guaranteed a profit.

It depends on the feedstock used (whether naphtha, fuel oil, gas or coal) and takes into account the  conversion costs, selling costs, interest on debt, depreciation and capacity utilisation of the plant itself.

For instance, the capacity utilisation norm for a gas-based plant has been fixed at 90 per cent. So if a plant were to operate at 110 per cent, the effective post tax return would work out to 14.67per cent.

This led to gold-plating, and in effect, meant that the government made good the difference between the inflated cost of fertilisers and the price paid by farmers.

According to the second report of the Expenditure Reforms Commission, issued on September 20, 2000, production costs of urea vary from Rs 4,800 per tonne for the most efficient plant to Rs 15,175 per tonne for the least efficient one.

In today's highly competitive environment in which paper-thin margins in costs are sufficient to drive firms out of business in most parts of the  world, India has sustained plants with production costs three times as much as the most efficient one.

All this is now set to come to an end -- a fact that can be seized by the finance minister with great effect to take some steam out of the opposition to the marginal fertiliser issue price hike in the Budget.

Once his immediate task of scoring the political brownie point is over, Singh should of course look into the specific problems that the industry has raised about the new urea pricing policy. For example, the shift from a unit-wise compensation scheme to a group-based scheme.

Government officials argue that the group pricing policy for urea will not lead to a significant fall in retention price and consequently not impact the profitability of urea producers. Retention prices have already fallen significantly after the Centre implemented the seventh and eighth pricing policies for the fertiliser sector.

And since group pricing involves averaging retention  prices of group members, the average is unlikely to be much different from the present retention price being paid to units.

The industry, however, begs to differ. The Fertiliser Association of India feels the existing  system of RPS was criticised on the grounds that the units are compensated on unit-wise basis and it would be in the interest of the industry to move to a group-pricing scheme.

The Expenditure Reforms Commission has recommended five concession rates, But the method followed by the Group of Ministers (whose report forms the basis of the new pricing formula) for arriving at a concession rate for each group leads to a situation whereby there will be 20 prices under the long term policy as against 32 under the RPS.

The system, FAI says, will neither be unit-based pricing, nor group-based pricing.

There are other anomalies too. Industry insiders say consequent to the implementation of the arrangements proposed by the GoM, out of a total of 32 urea manufacturing units, 23 would lose (these are plants whose retention prices are higher than the weighted average).

The remaining 9 units whose retention price is lower than the weighted average will continue to get their retention price. But these plants have already been put under a tight leash due to the adverse changes in the policy parameters under the 7th and 8th pricing periods. And since their prices will remain frozen at these levels, they will continue to suffer.

Also, under the proposed policy package, the government has set high standards of  performance without creating an enabling environment for the manufacturing units to reach these levels.

Implementation of this package will erode the margins and push several units into the red. The government would do well to restructure the package keeping in mind the overriding need to enable all efficiently operated plants achieve the promised return.

The industry's grievances can be sorted out by the finance minister later. For the moment, Singh -- the politician -- would do well to sell the ‘soft on farmers at the expense of industry' line to salvage his fertiliser issue price hike proposal.

His predecessors missed the opportunity. Singh could be luckier.

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