How the plot thickens

The 8220;eminent domain8221; principle allows the state to acquire land for public use such as roads. But land is also acquired by governments for commercial enterprises like real estate projects, malls, townships, etc. This usually involves purchasing relatively small, contiguous private plots of land, consolidating them, and then selling them to a private developer who makes profit from resale or rent.

Many critics consider the second kind of acquisition as undue favours to business. But logic indicates there8217;s no other way but state intervention for such projects to go through.

When several owners have titles to small, contiguous plots there is a 8220;coordination problem8221;. No individual landowner wants to be the first to sell. Each would like to hold out to maximise his bargaining power. This makes it impossible for private developers to consolidate small and fragmented holdings into large holdings. It is the reason tribals in Orissa do not sell to Posco, farmers in Haryana do not sell to Reliance and cultivators in Bengal do not sell to the Tatas and may not want to sell to the Salim Group either.

But solving coordination problems is not the only rationale for state action. One of the reasons why governments intervene in such land transactions is because they expect positive externalities. Development of the land could bring prosperity to the area, create infrastructure, bring new business, raise employment, raise taxes and so on. China, albeit not a democracy, is a good example of state intervention of this kind. It had 233 cities in 1981. By 1999 the number had risen to 667. This necessarily involved land acquisition on a huge scale.

The second point of controversy is usually pricing. The principle of eminent domain indicates that the prevailing market price should be paid. But politics rarely goes by that. The problem is this: before the land is developed its price is low; after it has been developed, the price goes up. The private developer is often seen to make huge profits from resale. Neighbouring unacquired plots of land also see a sharp increase in price. Owners who have sold to governments tend to feel cheated.

Bengal has sought to address this by paying an amount 30 per cent above market rates. Even China 8212; where land is not private property, people merely have land use rights and there8217;s no land market 8212; is grappling with the compensation problem. The standard compensation is four-six times the average production value of the land in the past three years. In Britain the compensation is based on the value of the land to the owner and this has difficulties because the value, say, of an ancestral home may be above the market value.

8220;Fair price8221; thus remains an unresolved issue. Land is like a financial asset whose price moves as the expected returns from it change. Forest land owned by Orissa tribals and acquired for the steel project had low expected income and thus each parcel of land had a low market price. Agricultural land owned by farmers in Haryana acquired for the SEZ had low productivity, and therefore low price. If a plot continues to be used for forestry or agriculture, its market price would be low. When the same piece of land is put to a different use, the cash flow from it changes. This different use, and enhanced valuation, is made so much easier when land is consolidated.

There8217;s an additional problem in India about fair pricing. Say a government pays farmers Rs 100 crore in total, reflecting current prices, to acquire their land land. The government then sells the land to the private developer at, say, Rs 200 crore. Say Rs 300 crore lines the pockets of politicians who have facilitated the transaction. The value of the land on day one, right after the developer becomes the owner of the large contiguous piece of land, even though no investment has been made, jumps from Rs 100 crore to Rs 500 crore. The problem is that while the developer has paid Rs 500 crore, over and under the table, farmers get only a fifth of it.

Economist Shubhashis Gangopadhyay, director, India Development Foundation, has an elegant solution: an auction where the government8217;s role is only to solve the coordination problem. The government would identify land, forcibly take possession, and auction the large contiguous piece of land for a given use. Private developers who know the potential value of the property would participate in the auction. The price of the property, like the price of any such asset, would be based on the net present value of the future cash flow.

If the developer had paid Rs 500 crore in the non-transparent purchase, that is the minimum that the auction would fetch. But this time the money would go to farmers. The government8217;s role then becomes only that of a facilitator, farmers collectively get a much better deal than any of them individually could have obtained.

Why is this solution not adopted? The answer is fairly obvious. Why should the political class give up the opportunity to make big money on these deals? But given India8217;s huge infrastructural needs and the consequent demand for land, at least the more dynamic CMs should consider this solution. Buddhadeb Bhattacharjee, who has big hopes set on the Salim Group project, certainly should.