Subsidy

Also called: Explicit subsidy, implicit subsidy · Topic: Government Budget, Fiscal Policy and FRBM · NCERT: Class 10, Ch 2 "Sectors of the Indian Economy"; Class 10, Ch 4 "Globalisation and the Indian Economy"; Class 11, Ch 2 "Indian Economy 1950-1990"; Class 11, Ch 3 "Liberalisation, Privatisation and Globalisation: An Appraisal"; Class 11, Ch 7 "Environment and Sustainable Development"; Class 12, Ch 2 "National Income Accounting"; Class 12, Ch 5 "Government Budget and the Economy"

Meaning

A subsidy is money the government pays so that a buyer gets a good or service for less than it really costs. The government covers the gap between the cost price and the price charged.

Subsidies matter for three reasons. They protect poor households from high prices. They take up a large part of the Union Budget. And they change how national income is measured.

Two formulas are tested:

• Subsidy as % of GDP = (Total subsidies ÷ GDP) × 100
• NDP at factor cost = NDP at market prices − Indirect taxes + Subsidies

Explanation

How a subsidy works

• The price gap: the buyer pays less than the real cost, and the government pays the rest.
• Example: a government hospital charges ₹10 for a service that costs ₹500 to provide.

• The ₹490 it does not recover is the subsidy.

• Who gains: poor households get food, fuel and farm inputs they can afford. Exporters and farmers pay less to produce.

• Who pays: taxpayers. If the government borrows to pay for subsidies, its fiscal deficit (the gap between what it spends and what it earns, not counting borrowing) grows.

Types: explicit and implicit

• Explicit subsidies: shown openly in the budget as a spending line.
• Food: foodgrains sold cheaply through the PDS (Public Distribution System, the network of ration shops).
• Fertiliser: urea and other fertilisers sold below cost.
• LPG and petroleum.
• Interest subvention: the government pays part of the interest on a loan, for example on farm loans.

• Exports: support given to exporters.

• Implicit subsidies: they have no separate budget line.

• They are hidden in the under-pricing (charging less than cost) of public services such as education, health and power.
• Because they are hidden, they are harder to measure and harder to cut.

Subsidies in national income accounting

• Market price = what the buyer pays. Indirect taxes are included in it, and subsidies are taken out of it.
• Factor cost = what the producers (land, labour, capital) actually receive.
• Why subsidies are added back:
• The buyer paid less than the factor cost.
• The government paid the difference.

• So, to find what the factors really earned, we add the subsidy back.

• Worked example: NDP at market prices = ₹1,000 crore, indirect taxes = ₹120 crore, subsidies = ₹40 crore.

• NDP at factor cost = 1,000 − 120 + 40 = ₹920 crore.

What makes the subsidy bill rise or fall

• Crises: in 2020-21 (the COVID year), subsidies rose to 3.6% of GDP.
• Budget transparency: moving hidden dues onto the budget raises the figure you see, even when real support has not changed.
• Delivery method: DBT and Aadhaar seeding remove fake beneficiaries. The same benefit then costs less.
• Worked example: subsidies of ₹4 lakh crore and GDP of ₹350 lakh crore → (4 ÷ 350) × 100 ≈ 1.14% of GDP.

In India

• Subsidies as % of GDP (NCERT data):

Year	% of GDP
2014-15	2.02
2015-16	1.8
2018-19	1.0
2020-21	3.6
2022-23 (BE)	1.2

• BE = Budget Estimate. NCERT Table 5.1 puts major subsidies at 1.4% of GDP.

• Why 2020-21 jumped:

• Earlier, part of the food subsidy was paid through Food Corporation of India (FCI) borrowing. This kept it off budget, so it did not show in the deficit.
• In 2020-21 these FCI dues were paid through the budget, bringing them on budget.

• The subsidy figure rose, but the budget became more transparent.

• Union Budget 2026-27 (BE):

• Total subsidies are ₹4,54,773 crore, 3.1% lower than the 2025-26 Revised Estimate [4].
• Food subsidy is ₹2,27,629 crore and fertiliser subsidy is ₹1,70,799 crore. Together they make up 87% of the subsidy bill [4].
• LPG subsidy is only 2.6% of the subsidy bill [4].

• Fertiliser subsidy alone is about 3.2% of total central government spending [4].

• PMGKAY (Pradhan Mantri Garib Kalyan Anna Yojana): free foodgrains for NFSA beneficiaries. It was extended for five years from 1 January 2024.

• Leakage problem: a study of the Targeted PDS by the Planning Commission's Programme Evaluation Organisation (PEO) found the government spent ₹3.65 to deliver ₹1 of food subsidy to the poor.

• So, to deliver ₹100 crore of benefit, the state spends ₹365 crore. About ₹265 crore is lost to storage and transport costs, leakage and diversion.

• DBT (Direct Benefit Transfer): benefits are paid straight into the beneficiary's bank account. It was launched on 1 January 2013.

• Cumulative DBT transfers reached about ₹53.26 lakh crore (as of September 2026) [3].
• A BlueKraft Digital Foundation study of 2009-2024 data estimated ₹3.48 lakh crore in savings from plugging leakages [2].

• The same study found subsidies fell from 16% to 9% of total government expenditure after DBT [2].

• JAM trinity (Economic Survey 2014-15): Jan Dhan bank accounts, Aadhaar biometric ID and Mobile phones. Together they are used to deliver DBT.

• LPG PAHAL: the consumer buys the cylinder at market price, and the subsidy is paid into their bank account.
• Food cash-transfer pilots: Chandigarh and Puducherry (since September 2015) and urban Dadra and Nagar Haveli (since March 2016) [5].

Don't confuse with

• Explicit vs implicit subsidy: an explicit subsidy has its own budget line (food, fertiliser, LPG). An implicit subsidy has no budget line. It is hidden in under-priced public services such as education, health and power.
• Subsidy vs indirect tax (national accounts): both sit between market price and factor cost, but they move in opposite directions. Indirect taxes are subtracted and subsidies are added to get factor cost.
• Subsidy vs DBT: DBT is not a new kind of subsidy. It is a delivery method, where cash goes to a bank account instead of goods at a ration shop. The same food or LPG subsidy can be given in kind or through DBT.
• Subsidy vs Universal Basic Income (UBI): a subsidy lowers the price of a specific good for targeted people. UBI is an unconditional cash payment to (almost) everyone and is proposed as a replacement for many subsidies. The Economic Survey 2016-17 costed it at ₹7,620 a year for 75% of the population, about 4.9% of GDP.

Prelims Hooks

• NDP at FC = NDP at MP − Indirect taxes + Subsidies. Subsidies are added. A common trap is to subtract them.
• Implicit subsidy = under-priced public services (education, health, power). It is not a separate budget line.
• Food + fertiliser = about 87% of the Union subsidy bill (2026-27 BE). LPG = only 2.6% [4].
• PEO (Planning Commission) TPDS study: ₹3.65 spent to deliver ₹1 of food subsidy.
• DBT launched on 1 January 2013. The JAM trinity was proposed in the Economic Survey 2014-15, not in a Budget speech.
• 2020-21 spike to 3.6% of GDP: caused by moving FCI food-subsidy dues from off budget to on budget. It shows more transparency, not only more spending.

Mains Points

• Cash vs in-kind delivery:
• DBT and JAM cut leakages. Estimated savings are ₹3.48 lakh crore, and subsidies fell from 16% to 9% of expenditure [2].
• But food in hand protects people from inflation (rising prices), which cash cannot do. Cash also needs a working bank or market nearby.

• A hybrid, choice-based model is safer than a sudden full switch.

• Targeting trade-off:

• Aadhaar seeding removes ghost and duplicate names, which lowers inclusion error (benefits going to ineligible people).
• But authentication failures (worn fingerprints, poor internet) raise exclusion error (eligible people left out), and the poorest are hurt most.

• Grievance redress, offline fallbacks and regular list updates are needed.

• Fiscal sustainability vs welfare:

• Hidden (off-budget) subsidies weaken fiscal discipline under FRBM (the law that sets deficit targets). Bringing FCI dues on budget in 2020-21 improved transparency.
• Subsidies on merit goods (nutrition, health, schooling) build human capital and should not be counted as "freebies".
• Unconditional, borrowed handouts squeeze capital spending. This is why the RBI has warned about strain on state finances and the 16th Finance Commission has called for rationalising unconditional cash transfers.

Related concepts

• Cash transfers
• Targeting errors
• JAM trinity
• Universal Basic Income
• Freebies
• Performance budget
• Outcome budget
• Zero-based budgeting
• Gender budgeting
• Green budgeting

Read more

• Spending better: subsidies, DBT and budgeting innovations