Of revenues, bribes and regulation

The States have experimented with different types of liquor policy but none has succeeded in regulating this sector for the larger social welfare.

The village toddy shop at Thassarak in Palakkad.

IN INDIA, ABSTINENCE FROM LIQUOR HAS been regarded as a virtue from time immemorial. Tirukkural , the 2000-year-old Tamil classic on ethics and governance, advocated avoidance of liquor. On the other hand, other Tamil classical literary works depict poets enjoying the consumption of liquor in the company of kings. In spite of the fact that both religious literature and literature on ethics denounced consumption of liquor, the rulers of the land did not prohibit, through law, production and consumption of liquor. This should have been the case in every other cultural group throughout the country, although every society, through collective action, has sought to regulate consumption of liquor from time to time. Liquor consumption is still considered a sin or vice in some societies. The fermented toddy extracted from palm and coconut trees and the liquor distilled from fermented porridges of foodgrains such as rice were the common forms of alcoholic drinks consumed in India. Production and consumption of liquor were controlled by the prevalent social norms and practices until the country came under the British rule. The British introduced industrial distillation of spirit and alcohol from molasses and fruit juices and thus started industrial production of liquor. With the introduction of a modern form of governance and public administration, a state policy of prohibition of liquor came into play and a new debate on prohibition of liquor started and continues to date. We have experimented with different types of prohibition policy, but none so far to efficiently regulate this sector for the larger social welfare.

Prohibition Policy in Independent India

The Constituent Assembly debated the need for a prohibition policy in the context of the drafting of the Directive Principles of State Policy. Article 47 of the Indian Constitution states: “The state shall regard the raising of the level of nutrition and the standard of living of its people and the improvement of public health as among its primary duties and, in particular, the state shall endeavour to bring about prohibition of the consumption except for medicinal purposes of intoxicating drinks and of drugs which are injurious to health.”

It was Mahavir Tyagi, a member of the Constituent Assembly, who tabled an amendment to be included at the end of Article 38 to include the words: “And shall endeavour to bring about the prohibition of the consumption of intoxicating drinks and drugs which are injurious to health”. The next day, Prof. Shibban Lal Saksena, another member, brought an amendment to Tyagi’s amendment to include the words “except for medicinal purposes” at the end of the clause. Prof Shibban pointed out that the state might lose substantial revenue if it abolished liquor, yet considering the wide prevalence of consumption of liquor among the poor labour and “Harijan families”, he pleaded for the introduction of prohibition citing the successful implementation of the policy in the Madras Presidency during that period. B.H. Khardekar, emphasising the need to protect the personal liberty of individuals and to safeguard the traditional practices of brewing and consumption of country liquor by certain tribal societies, argued against prohibition. The major plank of his argument was about the practical difficulties in implementing the prohibition policy as it would require greater policing, and that would pave the way for illegal brewing and consumption of liquor and encourage corruption in public office. He argued for public provision of health and education, which required greater attention, and the need for even allowing moderate consumption of liquor. Jaipal Singh underlined the need to consider the proposals of the Advisory Committee on Tribals in this regard. Contesting this argument, V.I. Muniswamy Pillai from Madras, argued that the prohibition policy of the Madras Presidency did not adversely affect the rights of the tribal societies as many of them were not consuming liquor and some of them were willing to give up such practices. It is interesting to note that ultimately prohibition of consumption of liquor was included in the Directive Principles of State Policy but, for some strange reason, smoking of cigarette and other forms of use of tobacco, which have proven adverse health effects, have not been given the same consideration, in spite of the fact that Sardar Bhopinder Singh Mann from Punjab pleaded for this during the Constituent Assembly debates.

Both regulation and taxation of the liquor sector are in the State List II of Schedule VII of the Constitution. Item 8 empowers the State government to legislate on matters concerning “intoxicating liquors, that is, to say the production, manufacture and sale of intoxicating liquors”. Further, item 51 empowers the State governments to levy “duties of excise on the following goods manufactured or produced in the state and countervailing duties at the same or lower rates on similar goods manufactured or produced elsewhere in India—(a) alcoholic liquors for human consumption, (b) opium, Indian hemp, but not including medicinal and toilet preparations containing alcohol or any substance included in sub paragraph (b) of this entry”. Thus the design and implementation of the prohibition policy is within the unrestricted powers of the State governments. The Union government after the introduction of the economic reforms in 1991 allowed 100 per cent Foreign Direct Investment in this sector. Hence a foreign company can start its wholly owned subsidiary or a joint venture with an Indian company to produce liquor in India, provided it obtained a licence from the government of the State in which the factory is located to produce and sell liquor.

Assigning the power to the government to regulate and levy tax on this sector created an opportunity for governments to experiment with different types of prohibition policy. There are several types of liquor in the country—liquor produced locally, the Indian Made Foreign Liquor (IMFL), imported Foreign Liquor (FL), which are either bottled in India or bottled in the place of their origin, beer and wine. Among this, the IMFL and FL are liquors with higher alcohol content compared with country liquor, beer and wine. Prohibition of liquor varies from State to State: complete prohibition, partial prohibition allowing certain types of liquor, and regulation of the liquor trade by licensing and monopolising either wholesale trade or retail trade or both. The administrative systems to regulate and collect taxes also vary from State to State. Hence, India is a fertile ground for experimenting with different shades of prohibition policy and the lessons from these experiences are also substantial. However, the arguments for and against the prohibition policy in the Constituent Assembly are relevant even after 65 years of the country’s experiences in implementing different types of prohibition policy.

Excise duty and sales tax on liquor are the major sources of tax revenue for the States. In Tamil Nadu, the revenue from sales tax on liquor is as much as 60 per cent of the revenue from excise duty on liquor. Therefore, both these tax revenues make liquor the single commodity that fetches the largest revenue to a State government.

Generally, the liquor trade is highly regulated by the State government and hence collection cost of these revenues must also be quite low. Although data on sales tax revenue from liquor could not be obtained, the volume and growth of excise duty on liquor make it clear that no State can implement complete prohibition without compromising on revenue. The excise duty on liquor consists of two components. One is the excise duty on production of molasses, spirits and alcoholic liquors. Usually the excise duty is a specific tax, expressed as an amount based on the alcoholic content and volume. But the general complaint is that many States do not differentiate the excise duty rates on the basis of the alcoholic content in liquor. The association of beer manufacturers argues for lower excise duty rates and exclusive shops for vending beer and wine, on the grounds that they have lower alcoholic strength than brandy, whisky, gin and rum. The second major component of excise revenue is the fees that the State collects from manufacturers and sellers of liquor. There are multiple fees: licence fees for production and sale, vend fee, privilege fee and special privilege fee. States have also experimented with both auction and lottery systems for allotment of retail shops for liquor. Both have been used with differing rates of success in terms of revenue mobilisation. Citing the possibility of monopolisation of retail liquor trade under the auction system, some States go for the lottery system with a fixed licence fee. But citing loss of revenue, States have also switched from the lottery system to the auction system for distribution of retail licences. The various excise duties and fees have a cascading effect as input tax credit is not extended to excise duty.

Table 1 shows that the revenue from excise duty on liquor is around 13 per cent of the States’ own tax revenue since 2000-01. Stability in the proportion of the excise revenue to own tax revenue during this period shows that the States, on an average, treat this source of tax revenue on the same footing as the other tax sources. Although the fact remains that the liquor trade is a major source of tax revenue for the State government, these aggregate figures conceal the actual story at the level of individual States. In Table 2, we find that the proportion of the excise revenue to own tax revenue of States differs considerably between States.

Table 2 gives the three-year average of the States’ own tax revenue and excise revenue for 2009-10 to 2011-12. We have also segregated the States into major States and special category States. Among the major States, Tamil Nadu has the highest proportion of excise revenue followed by two other southern States, Karnataka and Andhra Pradesh (erstwhile). Although Karnataka has the highest excise revenue in absolute terms among the States, it stands a close second to Tamil Nadu in relative terms. These three southern States account for 41 per cent of the States’ total excise revenue. The fourth southern State, Kerala, is at the 14th place. Kerala is the smallest in terms of population among the southern States, but the size of its liquor market is not commensurately small. More than half of the IMFL market is in the four southern States. Chhattisgarh, Punjab, Bihar, Haryana and Madhya Pradesh collect a larger proportion of their own tax revenue through State excise. Next to Andhra Pradesh, in terms of absolute amount, Uttar Pradesh and Maharashtra are collecting higher revenue through excise duty on liquor. The fact that the differences in the relative importance of excise in own tax revenues of States need further probe.

Table 2 gives the proportion of excise to total own tax revenue of special category States. The special category States have large farm sector and their tax base for sales tax, stamp duty on conveyance and motor vehicle tax is low. Hence, excise is the single largest revenue source for them. Therefore, its importance in the own tax revenue of these States should be relatively higher. Six out of 11 States get more than 10 per cent of own tax revenue through State excise. Moreover, these States also have wider prevalence of country liquor and home-made liquor, which attract very low tax rate and some of them are not taxed at all. Gujarat, Manipur, Mizoram and Nagaland are dry States during this period and the excise collection is significantly low compared with other States. The three special category States that are “dry” have little tax base for other taxes and hence the proportion of excise revenue to total tax revenue is higher than in Gujarat. The differences in both absolute amount and the relative proportion of excise revenue to total tax revenue of States show the differences in the prohibition policy in different States.

The liquor sector is highly regulated and attracts the highest level of taxation in any State. First, the methods of regulation vary between States and mostly the production, transportation and sale of raw materials (molasses), intermediate products (spirits) and final alcoholic liquors are closely monitored by the Department of State Excise. Hence, every State is literally a separate market as far as the manufacturers are concerned. As mentioned previously, the State government can levy excise duty on local production and a countervailing duty on imported liquor from other States or countries. This provision is literally used by every State to skim the entire taxable capacity on liquor. Therefore, every major producer of liquor is encouraged to set up a production facility in every major liquor consuming State or should have a tie up with a local producer in the State to produce its brand. Apart from the regulatory force of the Excise Department, the differences in various excise rates, fees and sales tax rates create vast differences in the prices of liquors across the States. Just like every country watches the movement of imports and exports through the Customs Department, every State watches every road link with the neighbouring States. Literally, there is no single unified market for liquor in India.

Table 3 gives a glimpse of some of the key aspects of the prohibition policy in a few States. The regulatory oversight is so sharp as to collect the revenue up to the last paise. Once an official of Diageo Plc. in India said the multinational company’s factories were in touch with State government officials at 748 points daily. That is, this company encountered government officials 748 times daily. Similarly, an official of United Spirits Ltd narrated how from lifting of raw material (molasses) to final production of alcoholic liquor government officials travelled with the officials of the company and at each point of transit and production the documentation and reporting were quite elaborate and time-consuming. Maharashtra is using the e-governance system to track movement of molasses, spirit and liquor to curtail tax evasion. As we have been often told about the onslaught of licence raj during the first four decades of Independence and how that stifled industrial growth in the country, we can easily conclude that the regulatory power of the State government over the liquor sector is the surest recipe for additional resource mobilisation for the government. On the other hand, it is also the most convenient source of bribe. In every State, there are only a few players in the market and it is cost-effective to collect both tax and bribe. While the State government has been monotonically increasing the tax rates, sometimes quoting the objective of prohibition to reduce liquor consumption, at most other times it also expresses the need to mobilise additional revenue to the State exchequer. Although a sin tax, such as the tax on liquor and tobacco, is aimed at discouraging the consumption of such goods, it is openly used by all the States to raise revenue and hardly to curtail consumption. Some State governments, with the stated objective of eradicating spurious liquor, have monopolised the wholesale and retail trade in liquor, and the increase in both consumption and consequent higher tax collection show that it is the effective way of raising revenue and definitely not of eradicating spurious liquor. In every State there are instances of sale of spurious liquor and bootlegging. Even in States where the State public sector undertakings have retail outlets, such outlets are located near schools, hospitals, temples and churches, residential areas and highways in spite of the fact that the State excise authority prohibits locating the retail outlets in such locations. In some cases, the court had to intervene to make the State-owned company relocate its retail outlets.

All the States do not report on the total consumption of all types of liquor and various types of taxes and fees collected from the liquor trade. There is hardly any information about the audited reports on the production and sale of liquor. When the entire liquor trade is regulated by the State government, private liquor producers in a State are the only sellers of liquor to the State monopoly or to retail traders. In such a controlled environment and in the absence of competition, cartelisation for exploiting the consumers is possible. Suppose, the producers’ and sellers’ cartels decides to keep the price far above the actual cost of production, it is beneficial for the State as the tax base in terms of value of liquor goes up, at the same time raising the profitability of the firm. Even if the firms sell the liquor without paying the tax, which is quite possible, it is all the more beneficial for both the seller and the rent-seeker. The seller will sell at a higher price without paying the tax, and, correspondingly, the rent-seeker will get a higher amount of bribe.

On the one hand is Kerala trying to gradually move towards complete prohibition, and on the other, Mizoram trying to move away from complete prohibition because the special rights given to certain groups to brew home-made liquor are misused and there are instances of liquor being smuggled in from other States. There are also States such as Maharashtra that insist on increasing the minimum age for liquor consumption and a permit to be obtained for liquor consumption, and States with weak vigilance that allow almost everyone to consume liquor. Punjab allows serving of liquor at marriage halls without obtaining retail licences. Though delivery of liquor at home by sellers is prohibited, many States have allowed sale of liquor in shopping complexes, malls and hypermarkets.

At the end of the day, we find the differences in liquor policy of States in terms of (a) prohibition on specific types of liquor, mostly country liquor and toddy; (b) excise rates, sales tax rates, licence fees and various other fees for production and distribution of liquor; (c) legal age for possession and consumption of liquor; (d) administered prices for liquor; (e) monopolisation of wholesale and retail trade in liquor; (f) list of dry days in a year; and (g) regulation of the trade through oversight of all the processes from production to sale. These differences in prohibition policy have to be evaluated in terms of efficiency in revenue mobilisation, restriction in consumption of liquor, and effectiveness in eradicating bootlegging and spurious liquor.

R. Srinivasan is Associate Professor, Department of Econometrics, University of Madras