Chapter 4


As result of such enormous budgetary burdens, a reduction of subsidies is often a key
element in adjustment programmes aimed at reducing government expenditures.

Another reason for their reduction/elimination is the fact that general subsidies represent a
major deviation from the free market concept on which structural adjustment programmes
are based. In countries where the state controls prices and marketing falls under the
responsibility of a parastatal marketing agency, the subsidy has often been the result of
setting too narrow a margin between producer and consumer prices to cover the marketing
cost. Due to the losses incurred, the parastatal marketing agencies have run up substantial
debts and/or depended on regular subsidies from the government. This gave the government
a decisive role in controlling the marketing operations, contributed to operational
inefficiencies and to increased budget deficits. A reduction/elimination of subsidies is.
therefore, closely linked to market and other institutional reform measures (see further
below).


Box 4.2: Cut in Food Subsidies
A study of food subsidies in 10 countries*) found that in most cases these subsidies declined between 1980 and
1985 both in real terms and relative to GDP, although in some cases the decrease was due to lower
international prices of some imported commodities. In some countries such as Brazil, Pakistan, Sri Lanka and
Zambia real benefits to consumers have been cut substantially. Also, in Colombia a food stamp scheme in
operation since 1976 was discontinued in 1982. None of the 10 countries studies has succeeded in effectively
increasing the degree of targeting of food subsidies to the poor in order to compensate for the overall reduction
in the subsidy programmes. The cuts in real benefits therefore imply a decline in transfers to the poor with
likely negative impact on their food security. For example, in Sri Lanka the replacement of the blanket food
subsidy scheme by a food stamp scheme, and the subsequent decision to maintain the nominal value of the
subsidy constant in the face of rapidly raising inflation led to a sharp reduction in the value of real transfers to
the poor. This, combined with a sharp reduction in the real wages following adjustment in 1977 has led to fall
in the ability of the poor to meet food requirements. thus, calorie intake between 1978/79 and 1981/82 of the
poorest 10 percent of the population fell by almost 10 percent.

*)Pinstrup-Andersen P., M. Jaramillo and F. Stewart .1987.
Source: FAO, Effects of Stabilization and Structural Adjustment Programmes on Food Security, 1989




The direct effect of a reduction/removal of subsidies is a widening marketing margin
between producer and consumer prices. In order to demonstrate the effect with our graphical
model, we have to modify it by introducing a differentiation of the supply (or demand)
function expressed in consumer and producer prices. This is done in Figure 4.5 (a
modification of Figure A-11 in Annex 1, see there for further explanation).


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