The Economic Times of India published an article titled “Need policies to ensure farmers get better prices: Arvind Panagariya” last week. Though the article itself is relatively short, it fits into a broader policy debate that is being held in the Indian government. Namely, there has been a lot of discussion recently about whether to tax rural farmers, and if so, how much. The Indian central government does not have the constitutional authority to levy taxes on agriculture, so the debate is focused on a state by state basis, where taxing agriculture is allowed.
The National Institution for Transforming India (NITI Aayog), the leading think-tank in India, and India’s prime minister, Narendra Modi, have stated a goal of doubling agriculture income in India by 2022. Supporting technology adoption and ensuring competitive prices domestically and internationally are the main intended methods to achieve this growth. While India’s economy has developed significantly in recent years, its poorest citizens are still largely living in an undeveloped economy. According to Arvind Panagariya, “80% of the poor… in rural areas are dependent on farming.” In addition, it appears that most farmers in India rely on agriculture for subsistence.
Based on other these on agriculture output and growth, NITI Aayog leaders and the prime minister have been asked about taxation of agriculture income in India. Almost unanimously, policy leaders have stated that there is not even a question of taxing agriculture income. However, most reports do not give a complete picture to the phrasing of “no question” when it comes to taxing farmers. Do they mean that it is obvious a provision will be included to tax farmers in the future, or that it is obviously a bad idea to tax subsistence farmers and the rural poor.
In a separate report, the Chief Economic Advisor, Arvind Subramanian, suggested that taxation of agriculture income is possible. He added, policymakers must make a distinction between rich and poor farmers.
Luckily, there are clear models that address production and wealth gains over time. Depending on the structure of the tax, a farmer would consider it as a fixed cost or a variable cost in their production function. In a developing economy, we must also realize that any money a farmer has to pay to the government cannot be used to re-invest in their farm, either as better inputs or durable goods. When analyzing this issue, it is important to make the same distinction that Mr. Subramanian did. Wealthier farmers, or those who have commercialized and see yearly profits, have much more flexibility to be taxed.
Unless state governments face strains, taxing all farmers would make the poorest and subsistence farmers much worse off, since their year on year gains in wealth and potential reinvestment would be undercut. In general, taxing farmers as their income increases from subsistence to commercial would reduce productivity and would be counterproductive to alleviating poverty.
On the most basic level, taxing subsistence farming would push the poorest farmers into a worse position, and would not encourage adoption of new inputs and technologies. In order to commercialize and take advantage of the government’s push to raise prices for agriculture products, poor farmers need access to new technology. We discussed the incentives farmers face when adopting new technologies; they must be educated and the benefits must outweigh the costs.
These policymakers are correct in their belief that taxing agriculture should be out of the question. By taxing agriculture, subsistence and poor farmers face a greater cost or diminished benefit to their yearly yields. In the face of uncertainty, they will be less likely to experiment with new technologies and will not have the resources to try new crops and inputs. The agricultural technology adoption model shows farmers each running experiments over time is the best way to increase their output. By limiting the resources for experimentation, agricultural growth will be significantly slowed, and this effect will compound over time.
If India’s policymakers are serious about increasing agriculture productivity and income, then taxation is absolutely “no question”. In a country like the United States, where industrial agriculture is the norm, taxation is possible because of the surplus that farmers face. However, in India’s case most farmers need to be nudged into commercialized agriculture and educated about the new technologies available. In order to achieve this, the whole system should be tailored toward the goal. Also, based on NITI Aayog’s statistics, increasing rural income can benefit a huge portion of the impoverished population in India as well. Based on these facts, Indian policymakers have made the right decision for ensuring growth of agriculture output.