Issues Around Railway Finances and Recent PMO Directives

What are the major problems of Railway Finances in India? What were the recent directions of PMO to finance ministry regarding the Railway Finances?

Indian Railways faces chronic financial problems. The annual rate of increase in cost has overtaken that of revenues during the last few years. There are several reasons of deterioration of the financial health of the Railways. These include, a high operating ratio, cross subsidization, social service obligations, salaries not a function of commercial viability and competition with roads.

Major Problems

High Operating Ratio

The financial health of the railways is determined by its Operating Ratio (OR), which indicates how many paise railway spends to earn a rupee. An Operating Ratio of 90% means that Railway is spending 90 paisa to earn 100 paisa (i.e. one rupee). A lower figure of Operating Ratio is thus regarded better and is indicative of better financial health. Operating Ratio can be decreased by reducing expenditure and augmenting income and efficiency. Income can be increased by raising fares and expanding its revenue streams. Raising passenger and freight fares are always politically sensitive issues.

Historically, an Operating Ratio of Indian railway was not a problem in 1960s and 1970s. The best ever OR of Indian Railways was 74.7% in 1963-64. However, for the last few decades, this ratio is lingering between 92 to 98.5%. Its worth note here that half of railways earnings generally go towards meeting wage and pensions.

High Cross Subsidization

Indian Railways has to meet the aspirations of two kinds of end-users viz. passenger segment and the freight segment. Freight segment has traditionally been used to cross-subsidize the passenger segment in the hope that both will flourish; however, neither of them has. Money  earned  through  freight  traffic  got  diverted  to meet  the  shortfalls  in  passenger  revenue,  and  thus  the development  of  freight  traffic  infrastructure  suffered. This also implies that the passenger fares  were  kept  artificially low  through cross-subsidies. But due to this, there was never enough money left to invest into the passenger amenities. This is the reason that Indian Railways is not able to provide even the basic passenger amenities.

Further, the cross subsidization by diversion of freight earnings has also helped only till a point. Raising freight fare beyond that point would become counterproductive by driving away freight business. Overall, the problem of cross subsidization has severely affected the internal revenue generation of the Indian Railways.

Social Service Obligations

Railways are barely able to cover its expenses because of the massive Social Service Obligation imposed by years of populist budgets. Apart from being a commercial organization; in the larger social and national interest, Indian Railways is required to engage in certain uneconomic operations to provide affordable transport facilities to poorer sections of society and to facilitate the movement of essential commodities at below normal costs. The losses incurred by Railways on this particular account are called Indian Railways “Social Service Obligation”. The key elements of social service obligation include:

• Loss incurred by transporting essential commodities carried below cost
• Loss incurred in passenger and other coaching services
• Operation of uneconomic branch lines
• New lines opened for traffic

As per latest figures, Railways has to carry Social Service Obligation of more than Rs. 20,000 Crore, which is nearly 16.6% of Gross Traffic Receipts and is almost half of Railways’ Plan Outlay under budgetary sources. The result is that:

• Railways can hardly have adequate resources for its development works.
• Most of money it gets is spent on its running, thus no money for looking beyond running operations. This is shown by the operating ratio which denotes what percentage of money goes into running the Railways. Surplus has decline and there are hardly any resources for development works. There is a rising dependence on budget.
• The Rail budget documents reveal that currently, Railways loses 23 paise per passenger per km.

We note here that the central government used to provide subsidy to railways to fund the losses it incurred on running the trains on non-profitable routes. But this practice was stopped by finance ministry after the merger of the two budgets. This created a tussle and the recent PMO directives are on that, which we have discussed later in this article.

Salaries not function of commercial viability

The salaries of the Railway staff are NOT fixed in relation to the earning potential of the Railways. Some argue that the pay scales of Railways employees are fixed by Central Pay Commission which is an extraneous organization; and unlike a commercial organization, the salaries are not function of commercial viability. Further, the pension liabilities are met out of its own earnings and not from the Consolidated Fund of India, as in the case of the other Ministries.

Competition with Roads

Since the railway routes are saturated and quality of service is low / unreliable; the railways are losing market to roadways. Further, since most of the national highways run parallel to railways, they are consistently eating up the revenues of the railways.

Recent Issue: Problems after Merger of the Railway Budget with General Budget

A tussle had crept in this year when the Railway Budget was merged with the General budget and the Finance Ministry discontinued the practice of annual subsidy to the Railways. This subsidy was provided to Railways for covering the losses incurred in operating the six strategic lines and non-profitable trains in hilly, coastal and backward areas. This subsidization was based on premise that the social obligations of the Railways should be funded by the government and not from its pocket. The key directives are as follows:

• The railways must strive to make good the operating losses that it has been incurring by running non-profitable strategic lines in the difficult terrains like the coastal areas, hilly areas or the backward areas. This should be done by gainfully fulfilling this social obligation, which is only Rs 34,000 crore annually. This money must be taken from the budget as in the case of power utilities of the state which provide subsidies to farmers.
• The social service obligations of the railways must be financed by the three tiers of the government- the centre, state and the local municipal bodies. It is believed that contribution of the local government in the rail subsidies as in the case of Mumbai suburban rail services is a more effective measure of financing.
• The railways must adopt commercial accounting practices in order to incorporate and keep a track of the social costs being incurred. There is a need for a more transparent system of accounting.
• A plan for competitive rail services must be put in place along with the signaling and common track systems and an independent tariff setting must be established.
• It is important to modernize the railways, so measures must be taken to reimburse the social costs speedily so that resources of the railways is better allocated and facilities are upgraded from time to time.
• Most importantly, railways must have clear objectives and not hover around their obligations,

This tussle now seems to have ended as the PMO has directed the finance ministry to reimburse the Railways the losses incurred on non-profitable lines.

Exam Notes: Various Solutions to Issues of Railway Finances

For a question in your examination on issues with Railway finances, you may cite the above issues and some more suggestions for improving the finances of Railways such as reprioritization of works; leveraging idle resources; increasing domestic investment and FDI; more relying on public private partnerships; transparency in protocols; aggressive indigenization of imported products; development of locomotives, coaches and wagons leasing markets.