Elections at what cost? The impact of electricity subsidies on groundwater extraction and agricultural production DRAFT

In India, electric utilities are owned and operated by the government. This paper explores whether these utilities have functioned to maximize social welfare and whether electricity pricing, through the provision of agricultural subsidies, has been manipulated for political purposes. We first explore the benefits of electricity subsidies to the agricultural sector between 1995 and 2004. A simple model predicts that electricity subsidies lower the price of groundwater extraction and, in turn, increase agricultural revenues. To isolate the impact of electricity prices on groundwater extraction and revenues, we exploit year-to-year variation in state electricity prices across districts that differ in hydrogeological characteristics. We find that a 10 percent decrease in subsidies would reduce groundwater extraction by 5.4 percent, costing farmers 12 percent in agricultural revenues. Despite the gains in agricultural revenue, the short-run costs of these subsidies exceed the short-run benefits six-fold, suggesting another rationale for the subsidies. Political capture partly explains the persistence of these subsidies, which have historically increased by 10% in the year preceding an election. ∗World Bank †Dept. of Agricultural and Resource Economics, UC Davis ‡Corresponding author e-mail: [email protected]; phone:(530)-752-6977 This has been funded in part by the United States Environmental Protection Agency (EPA) under the Science to Achieve Results (STAR) Graduate Fellowship Program (FP 91690401), the Heinz Fellowship for Environmental Scholars and the V. Kann Rasmussen Foundation grant. The authors, alone, are responsible for any errors.