Ajit Ranade: Cash handouts are politically popular but what do they imply for inflation, welfare and fiscal health?

Such a ‘helicopter drop’ of cash fresh off the printing press is used as an unconventional and last-resort tool for a situation of extreme economic distress, such as a deep recession or liquidity trap. It is used after conventional monetary solutions like lowering interest rates to zero or making bond purchases have failed.

Such a cash infusion means people receive ‘free’ money, with no associated debt or future tax burden, so that they can increase their spending, thus boosting aggregate demand. To the extent that their purchasing power is enhanced, and if additional goods and services are supplied in a non-inflationary way, it improves their standard of living.

Whether such a cash infusion is inflationary or welfare enhancing depends on the supply response, also called ‘elasticity.’ It depends on the efficiency of supply chains, which must pull in goods from other geographic markets to fulfill new demand without prices rising.

When the central monetary authority injects freshly minted ‘free’ cash, it is called monetary policy. When a government (Union or state) does such a cash transfer, it is a fiscal tool, as it must dip into its treasury and displace some other expenditure item to do it.

The huge landslide victory of the National Democratic Alliance (NDA) in the recent Bihar state elections is being partly attributed to a cash transfer scheme for women announced just before the polls were formally kicked off by the Election Commission (EC).

We won’t dwell here about the constitutionality of public money used for such schemes declared and implemented on the eve of elections. The Supreme Court has been hearing a public interest litigation filed in 2019, seeking the prohibition of freebies for violating Articles 14, 21, 112 and 202 of the Constitution.

This litigation refers to a 2013 verdict that had directed the EC to frame guidelines regulating the scope and timing of pre-poll freebie grants. If not regulated, these could amount to outright ‘bribery’ of voters—which distorts the playing field.

We are concerned about the other aspects of cash transfers, namely their impact on inflation, welfare and the fiscal situation.

Bihar is only the latest in a series of states, more than 12 at last count, that have cash schemes directed at women. By one estimate of Axis Bank’s research, nearly one-fifth of India’s adult women are receiving cash payments.

The near universal seeding of bank accounts linked with Aadhaar identities and India’s digital payment infrastructure make it relatively easy to transfer cash, practically at the press of a button. Total payments this year will be 0.5% of the country’s GDP, and in some states exceed 5% of the government’s expenditure.

In the case of Bihar, the total payout would be more than the total capital expenditure budgeted for this year. Its fiscal deficit is already pushing 6% of state GDP, far in excess of the 3% norm.

The same is true of many other states, such as Maharashtra and Odisha, all of which would be under fiscal strain or have to cut back on other capital expenses or social-sector spending items. In anticipation of upcoming state polls, Assam and Bengal have upped outlays by 31% and 15% respectively. In October 2024 the government of Jharkhand more than doubled its monthly payout to women, from ₹1,000 to ₹2,500.

Beyond the fiscal impact, whether cash transfers cause inflation is an empirical matter. While cash infusions increase purchasing power and demand, so far the evidence in India is that their inflationary effects have been muted.

Food prices have not been affected because there is already a massive free foodgrain programme, which is an in-kind transfer, and is unaffected by cash transfers. This scheme insulates covered households from food inflation. In general, food inflation is linked to supply-side and global shocks, rather than cash transfer schemes.

Households use the cash received on non-food items, which tends to elicit an elastic response, largely muting any inflationary impact on other prices. A significant portion of cash might be used to repay loans or go towards monthly loan servicing. Note that the level of household indebtedness has risen sharply in the past few years.

Finally, we must evaluate the welfare impact. Cash transfers are a poverty alleviation tool, but conditional cash transfers (i.e. only to women or to pregnant women) have also improved targeted welfare outcomes, such as school attendance and child health metrics.

In a study of Jharkhand’s income transfers, economist Karthik Muralidharan et al found that household food spending rose significantly, calorie intake increased and dietary quality and diversity improved. Intra-household gender equity improved, pointing to women’s empowerment. Evidence from Mexico, Brazil and Kenya also substantiates this finding of welfare gains from conditional cash transfers.

Cash transfers to women are seen as a successful electoral strategy. Recall that the Economic Survey of 2017 had spoken of a Universal Basic Income (UBI). If cash transfers move from targeted interventions to a UBI, then they would no longer serve as a political differentiator.

Done properly, a UBI could underpin a welfare reform agenda that’s non-inflationary and fiscally affordable, but it will no longer guarantee electoral success once all major parties adopt it.

The author is senior fellow with Pune International Centre.