Why Public Charity Can Fail

In the coming election campaign, politicians will promise a thousand new subsidies. Will these really alleviate poverty? In a recent seminar, Mr Deepak Lal argued that there are three sorts of poverty. One is destitution, caused by disease and other disabilities. A second is conjunctural poverty, caused by a drought or industrial recession, which disappears once the drought or recession ends. The third is structural poverty, caused by the low productivity of a backward economy. Mr Lal argued that state intervention is needed to tackle destitution and conjunctural poverty (rural employment schemes stave off death during a drought by giving purchasing power to the needy). But, he argues, government subsidies are a poor way of tackling structural poverty.

He quotes several studies to prove that public charity ‘crowds out’ private transfers that have provided social safety nets through the centuries. Traditional safety nets were provided by mutual self-help groups such as the family, extended family, and caste. Cox and Jiminez (1990) report:

“Among a sample of urban poor in El Salvador, 33 per cent reported having received private transfers, and these accounted for 39 per cent of total income among recipients. 93 per cent of a rural south Indian sample received transfers from other households. In Malaysia, private transfers accounted for almost half the income of the poorest households. Nearly three-quarters of rural households in Java, Indonesia, have private transfers to other households. About half a sample of Filipino households received private cash transfers.”

Since the oil crisis of 1973, millions of poor labourers have migrated to the Gulf and send home large remittances. Pakistan has largely eradicated poverty through this international trickle-down. To a lesser extent, so has Kerala Migrants from rural Bihar to towns and rich regions (like Punjab) send home large sums, alleviating poverty there.

What happens to private transfers when public charity comes in? Studies in the USA show little crowding out. But in Peru, Cox and Jiminez estimate that private transfers would have been 20 per cent higher in the absence of public doles. In the Philippines, “91 per cent of the increase in household income from unemployment insurance is offset by reductions in private transfers.” Private transfers to the old have fallen 37 per cent for those receiving public pensions.

Cox and Jiminez estimate what would happen if the government gave just enough additional cash to the poor to raise them above the poverty line. Because private transfers would dip after such a scheme, no less than 46 per cent of J urban and 94 per cent of rural households would fall below the poverty line again! Clearly, public benevolence crowds out the private variety.

Worse, lots of money in government schemes is wasted in administration, delays and corruption. Second, while many such schemes are supposedly designed for the poor, in practice they get captured by the middle class. In an autocracy, influential farmers and urban classes ‘fix’ disbursements in their favour. Even in a democracy, the poorest one-third of the population has fewer votes than the other two-thirds, so politicians design ‘ subsidies to help this larger section of voters.

In India, massive canal, fertiliser and power subsidies for farmers benefit mainly the non-poor. Educational subsidies are captured overwhelmingly by the middle class (the bulk of these are for higher education). Subsidies for small-scale industries assist millionaires parading as the needy. Subsidies for backward areas benefit large ‘ industrialists. Mr Kirit Parikh estimates that only one- fifth of food subsidies go to the poor.

I think Mr Lal’s findings need qualification. Private transfers within a self-help group simply redistribute near-poverty, whereas public charity adds to the income pool of the self-help group. Secondly, a broader definition of poverty would place two-thirds of the Indian population below the poverty line, in which case ‘leakages’ to the non-poor are less serious than he implies. Still, he has made an important point about crowding out, which helps explain why anti-poverty schemes have had such a limited impact.

What then is the solution? By far the best one is rapid economic growth which makes use of labour, the main resource of the poor. Anti-poverty programmes are merely palliatives: rapid growth that raises real wages is the solution. Till then, we also need non-government safety nets, operated by NGOs, temple mutts and churches. Despite many shortcomings, NGOs are less wasteful and ensure better targeting of the poor than governments.

The state will still have an important role in tackling destitution and conjunctural poverty (notably during droughts). But the spate of anti-poverty programmes that politicians promise during elections will have little impact on structural poverty, which flows from low productivity. Structural poverty can be eradicated only by making poor people more productive. The government can help by building human capital and infrastructure that creates opportunities for high-productivity activities. But higher productivity cannot be achieved through higher doles.

What do you think?