India’s Growing Black Economy: Some Key Aspects

India’s Growing Black Economy: Some Key Aspects

Arun Kumar

CESP, SSS, JNU

India’s black economy is roughly estimated to be 50% of GDP, generating $600 billion annually. It is so extensive because it is generated in every area of economic activity: the public and the private sectors, i.e. everyone down the line from the Prime Ministers, Chief Ministers, top industrialists, army men, judges, bureaucrats, lawyers, teachers and so on.

A recent report estimates that since independence, more than $460 billion has been lost due to flight of capital. This is much larger than India’s foreign debt or the Aid it received. A country already short of capital has been exporting this commodity on a large scale. Taking the opportunity cost is also taken into account, the figure runs into a few trillions. If this amount had been invested in the country, say, in rural areas that are woefully short of basic infrastructure, such as water, sanitation or electricity, living conditions could have been far better. Alternatively, investment in industry would have made industrialization, technology and productivity far more advanced than at present.

All-Pervasive Impact of the Black Economy

Black economy leads to policy failure. There is a vast difference between policies on paper and how they are actually implemented. Whether it is environmental regulation or industrial location or urban zoning or traffic lights, all laws are routinely violated. No wonder that at a low level of per capita income, India has some of the worst air and water pollution in the world. Due to insanitary conditions and water pollution, most people suffer from poor health resulting in low labour productivity. Literacy levels are low because money destined for constructing schools is often siphoned off and teachers not appointed. Even in the fifth grade, children are found to have acquired so few skills that they are condemned to work at low levels of productivity and remain poor for the rest of their lives.

The black economy results in revenue loss of about 20% GDP, at current rates of taxes. In comparison, the fiscal deficit is currently around 10% GDP. Without the black economy, there would have been a surplus in the budget and much greater investments in infrastructure and poverty removal. With less corruption, the effectiveness of these expenditures would have been greater. The revenue deficit underlying the fiscal deficit and rising debt in the budget would have been wiped out, meaning that the fiscal health of the government would now be better.

The flight of capital associated with the black economy is the main cause of the BOP problems that have plagued the Indian economy for much of the time since independence. It takes place through under- and over-invoicing of foreign trade, transfer pricing and havala (parallel banking). Much of this is managed through shell companies set up in tax havens (77 at current count) to launder the money siphoned out of the country.

Environmental regulations are systematically violated so that at a low level of consumption, India has one of the highest levels of pollution of its air and water resulting in increased health problems especially for the poor. All this suggests that governance is weak and policy goals, like, eliminating illiteracy, are not achieved. 

Due to fraud, there is rampant insider trading in the stock markets which makes them unreliable and unstable. The Harshad Mehta Scam in 1992 was estimated by the Jankiraman Committee to be upward of Rs.3,000 crores. Between 1991 and 1999 about 2,500 new companies floated in the stock markets disappeared with public money, which scared off retail investors.

The Growing Size of the Black Economy

The size of the black economy is given relative to the white economy and expressed as a per cent of the GDP. It has been estimated to have increased from around 4% in 1955 to 7% in 1970 to 20% in 1980 to 35% in 1990 and 50% currently. Illegality in the country has clearly been growing. More and more scams are surfacing and the sums involved are increasing exponentially. The latest scam to make the headlines was the allocation of frequencies in 2008 for the start of the 2G services. According to the government auditors (CAG), the loss to the exchequer could be as much as $35 billion, much larger than the earlier estimate of $10 billion, and may turn out to be the largest scam globally.

While the number of scams emerging into public gaze was just a handful between 1950 and 1980, this increased to 13 in the eighties and 26 between 1991 and 1996. Between 2005 and 2008 it increased yet again, to 150 Prior to 1980 the biggest scam involving the then PM Rajiv Gandhi was of Rs.64 crore. In contrast, there were 13 scams involving more than Rs.1000 crores in the nineties, and now the amounts run into tens of thousands of crores. The numbers and the per scam average amount involved have increased exponentially.

If, currently, illegality is associated with 50% of the economic activity, it has to be systematic and systemic. Systems are set up to bribe politicians and bureaucrats, for adulteration of food, for producing spurious medicines, for not declaring the full output produced so that profits are generated off the balance sheet and so on. It doesn’t just occur sporadically - it is 24/7.

The Underlying Cause: The Growing Triad

This is only possible if those in charge of rule implementation are party to black income generation. These people connive in the persistence of illegality and share the extra profits generated. A Triad exists between the corrupt businessmen, corrupt politicians and the corrupt government machinery. The last consists of the police, the bureaucrats and the judiciary. Often, now, either the businessman or the politician has a criminal record and this has led to growing criminalization in society. This nexus is so powerful that a financially honest PM voluntarily tolerates the corruption all around them in order to survive.  He or she thus becomes a convenient source of credibility for a corrupt system.

The Triad is mutually convenient to all. The businessman is able to influence policy and protect his ill-gotten profits. The other two need the businessman to invest their funds and launder them. Most politicians have at least one businessman close to them who provides such services. The media is increasingly a party to some of these illegalities. There is manipulation of the laws and cases are stuck in the Courts, where there is a backlog of about 27 million cases. Many cases have dragged on for 10 to 30 years. MCD stated in Delhi High Court in 2002 that not a single honest engineer is left in the Public Works Department. Commissioners of Income Tax polled in 1983 said that 95% of their department was corrupt. Police in Delhi and Mumbai are found to extort money every week from the various illegalities they encourage, and the money goes straight to the top.

The Transparency International India 2005 Report estimates the monetary value of petty corruption in 11 basic services provided by the government (e.g. education, healthcare, judiciary, police) to be around Rs.21,000 crore (US$ 4.8 billion). As surveys are notoriously inaccurate in India these statistics were most likely underestimated. The value could be higher by about 50% by now.

Impact on Inequality and Growth Rates

The black economy is concentrated in the hands of, at most, 3% of the population (Kumar, 1999). Yes, there is petty corruption - but this is insignificant compared to the huge earnings of these elite few. In 1995, the ratio of incomes between the top 3% and the bottom 40% was 12:1 in the white economy, but became 57:1 when including the black economy. Nowadays, the disparities are much worse. In a vast and poor population of 1.15 billion, there are 35 million, the size of a European nation, who are well-off and can afford luxuries.

The black economy tends to generate activities that result in social waste. Roads are constructed poorly so that they break down and have to be repaired, and more money earned by the corrupt, doctors prescribe tests that are not needed and so on. Inefficiencies like these set back development. India has been losing an estimated 5% rate of growth for the last three decades. Its rate of growth could thus have been 9% in the seventies and 13% now, if not for the black economy. The per capita income could have been about $6,000 and it would have been the second largest economy in the world. Growth rates and employment generation in the economy are below its potential. Funds destined for poverty alleviation schemes, education and health are diverted, leading to policy failure.

Policy Response and Failure

Over the last 60 years, countless committees and commissions have examined different aspects of the problem, the most well known being the Wanchoo Committee and the NIPFP Report. Thousands of suggestions have been made. Hundreds of them have been implemented but the size of the black economy still continues to grow. The highest marginal tax rate has come down from 97.5% in 1971 to 30% today. Controls and regulations have decreased substantially since 1991 with MRTP, licensing and FERA gone and small scale reservation reduced.

Voluntary Disclosure Schemes have been floated 6 times but the CAG report stated that it has made people habitual tax offenders. Computerization of tax accounts and allotment of PAN numbers have been implemented by the Tax Department. But the black economy continues to grow, since none of the steps taken touch the underlying cause, the Triad.

The Triad has power and is not interested in checking the black economy. Well-intentioned measures only serve to complicate the laws enabling the black economy to grow faster. Human ingenuity can always find ways of circumventing laws, and the Indian elite are, basically, feudal and think it is their right to violate laws to gain advantage.

Despite the reduction in tax rates and removal of controls like MRTP, FERA, licensing and easing of reservations for small scale after 1991 the size of the black economy has not decreased. The Triad has grown stronger and forms of making black incomes have changed accordingly.

The Right to Information act, introduced in 2005, is merely being subverted by tying it up in knots. Yet this can be a game changer; laws against money laundering and private sector corruption are being strengthened or conceived. However, these will be mainly decorative since the policy makers (politicians and executive) use the havala channels and know who is involved. Action is needed, not new laws.           

Conclusion

The black economy underlies the major macroeconomic problems faced by India - fiscal crisis, inflation and BOP problems. The micro and the sectoral problems of the economy - education, health and infrastructure - also relate to the black economy. It results in the weakening of democracy. If not checked, India’s growth story could become a thing of the past.

arunkumar1000@hotmail.com

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Bringing back what is ours

Bringing back what is ours

Arun Kumar

CESP/SSS, JNU.

The Hindu, March 14, 2012.

Statements by top government functionaries are usually expected to lead to clarity. However, the recent statement by the CBI director on illegal money stashed abroad by Indians at the inauguration of the 1st Interpol Global Programme on Anti-Corruption and Asset Recovery has added confusion to a politically sensitive subject. The Director made three points. First, Indians hold an estimated $500 billion of illegal money abroad. Second, Indians are the largest depositors in banks abroad.  Lastly, shell companies are set up and layered transfers made from one account to another. Funds maybe transferred within hours from Singapore to Switzerland to Cayman Island in a matter of hours as there are no boundaries in banking transactions. The Swiss have reacted to this last point by asking for the evidence but there has been no official response to this query.

It is unclear that the CBI or some government agency has recently estimated the amount of funds held abroad by Indians. This is a difficult task for anyone to carry out since data are hard to come by. New theoretical advances are required to estimate this sum. The difficulty is that there are 77 tax havens in the world according to the Tax Justice Network. Switzerland is the best known and possibly the biggest but it is only one amongst many and we neither have an estimate of how much is held in Switzerland nor in any of the other tax havens.

Stories supposedly quoting Swiss Bankers’ Association Report 2006 suggest that $1.4 trillion of Indian money is in Swiss Banks and that Indians hold more funds in these banks than all other nationalities combined. The official Swiss agencies have denied this. Further, this author could not find any such data in any of the Swiss Bankers’ Reports of 2005 to 2008. Finally, given that the nationals of other countries have also been stashing funds abroad for a long time it is unlikely that Indians would have more black funds in Swiss Banks than all other nationalities combined.

$ 500 billion is quite close to the figure of $462 billion given by Global Financial Integrity (GFI) in November 2010 for the amount of capital that has illegally gone out of India since independence. One only need add the flow for 2010 and 2011 to get a figure of $500 billion. If this is the way the CBI has calculated the figure then it is in for trouble.

GFI has admitted that their figure is a gross under estimate of the magnitude of the funds leaving the country since it does not take into account the outflow due to havala, drug trafficking and other such large flows. It only considers the mis-pricing in official trade and uses the IMF data for a limited number of countries. A new global study has now been commissioned in January 2012 by the Norwegian government to estimate the flows of capital to tax havens. It may come up with more accurate figures for the flight of capital from India and other countries and also the impact that these flows have on development and increase in illegality in the world.

However, this is not the only difficulty if the CBI is using the figure given by GFI. The GFI methodology does not take into account the black money that may have returned back to the country. Hence its figure is not the same as the amount of black money held abroad by Indians. It is well know that in the last 15 years there has been round tripping by Indian businessmen who have brought back some of the hoards of black funds they had spirited abroad. The flows of capital to India through Mauritius belong to this category and especially those coming through the Participatory Note (PN) route.

This is not all, GFI has added to the outflow of capital from India a certain amount of interest that the money held abroad may have earned over the last 60 years. It has used the US treasury bill rate to make this calculation. This method has several problems associated with it. First, this rate of return is very low compared to what is usually earned in businesses. Thus, there would be a tendency to underestimate the amount of funds held abroad. However, if some funds have come back to the country then they would not be earning a return abroad and this would over estimate the funds held abroad. Finally, when illegal funds are taken abroad by Indians they use them for various purposes and do not just invest them. They may be used to finance children’s education, for medical purposes, consumption during vacations and so on.

In brief, the figure estimated by GFI is an opportunity cost of the funds taken out of the country but not the actual figure of funds presently held abroad by Indians. The figure may give a very conservative idea of what the outflow of capital has cost the country in terms of development foregone. But this is not the same as the funds held abroad that can be some how retrieved by the government.

The CBI director has not given any hint as to how the funds held abroad maybe retrieved. What methodology maybe used for this purpose? Bank secrecy and the laws of tax havens come in the way of getting hard information about black money held abroad by not only Indians but of any nationality. Recently, the US prosecuted the largest Swiss bank, UBS, for helping US citizens escape taxation. It fined the bank $750 million and also obtained 4,500 names of US citizens with accounts in UBS.

The German government in 2007 bought a disc for 4 million Euros from a disgruntled LGT banker containing data on foreigners having accounts in that bank. This data is being used in US, Britain, France and Germany to prosecute their citizens with accounts in LGT bank. The Indian government refused to take the data when offered but took it later under the pressure of Courts and the public. The French bought a disc of secret data from a former HSBC banker. This data has been offered to Indian government as well and apparently prosecution has been initiated on the basis of this data. Julian Assange has also claimed that he has been given data by a former Swiss banker, Mr. Rudolf Elmer, on bank accounts held abroad by Indians. But, he has stated that presently he is not in a position to reveal this data since the Swiss government has threatened Mr. Elmer with prosecution.

The lesson is that government agencies have to be pro active in ferreting out names of those who may hold bank accounts abroad. Further, many foreign banks are a party to flow of funds to tax havens but this data will not be revealed by the governments of tax havens. Only stolen data can be used to prosecute individuals. In the name of investments, foreign banks help their high net worth depositors to move funds to various jurisdictions. When the failing Fortis bank of Netherlands was taken over by the government in 2008, it was found to have 700 subsidiaries in tax havens. This is not unusual and most MNC banks in India also offer their services to their clients. Thus, tackling banking secrecy is crucial for stopping flow of black funds from the country.

There are two aspects of the black wealth held abroad. First, the continued siphoning out of the funds from the country needs to be stopped. Secondly, what has been taken out in the past needs to be traced and brought back. For the former, the black income generation in the country needs to be curbed. For the latter, Indians in India who have taken their wealth out need to be brought to book. It maybe argued that since both these activities involve illegality and secrecy, the government will not get to know and, therefore, cannot act. For this reason, the Double Taxation Avoidance Agreement (DTAA) will also not help.

While the government does not officially know how black incomes are generated and spirited out of the country, in their personal capacity, the functionaries of government – the politicians, the bureaucrats and the police -- know what is going on since they indulge in these activities. The havala operators and their place of operations are known to many who use their services. Does CBI not have this information? If it does not, it is not doing its job. If it does, why has it not acted to stop havala in the country? A real conundrum.

arunkumar1000@hotmail.com

Union Budget 2011-12: Missing Big Opportunities while Favouring Business

Union Budget 2011-12: Missing Big Opportunities while Favouring Business

Arun Kumar

CESP, SSS, JNU.

The Mainstream, March 5, 2011. Vol XLIX No 11.

The Union Budget has had a mixed response. It talks of giving some direct benefit to a large section of the pubic – unorganized sector, farmers, small scale industries, salaried tax payers, the elderly in society, businessmen and so on. Seventy per cent of the Finance Minster’s speech was Part A where he talked of general policies and what he would do for the various segments of the population. The tax proposals were in the remaining part of the speech where as they are in some sense the important aspect of the budget which tell us of where the resources are going to come for to implement what is being promised in the Part A. Considering all this, it would not be inappropriate to call the budget a please all budget. This is not unexpected given the current political circumstances of the government.

 I. The Importance of the Macro

The Union budget needs to be analysed at two levels. First, the broad macro thrust of the budget and secondly, the specific proposals. The former forms the sub-text of the latter. If the macro is not set right the specific proposals are not able to achieve what they are supposed to because various contradictions appear. They then become more of window dressing exercises or a smoke screen for giving concessions to vested interests.

The budget is crafted by a clever politician who understands that the credibility of his government is at a low point and is in need of a boost. For this reason he has not only not stepped hard on any toes but been gentle with everyone. For instance, he has talked of raising social sector expenditures by 17 per cent and increasing allocations to Agriculture. But the Central Plan allocations to Agriculture and Rural Development have not increased compared to the revised estimates of 2010-11 so greater emphasis to these sectors is not in sight.

This points to the trap that the budget faced. If it gave greater emphasis to what are critical areas then it would have to raise more  resources through taxation and that would have displeased businesses. For instance, the tax expenditures (The author has been pointing to this in his Budget articles in this journal in the last 5 years) to the tune of Rs.5.7 lakh crore are being given to the corporates and businesses. Last year this figure was close to Rs.5 lakh crore and in the year earlier Rs.4 lakh crore. This is being done quietly and bestowing large benefits to the business community and skewing income distribution in the country against the poor. A bold Finance Minister with a clear plan to address the various big problems of the country would have tackled this issue head on.

II. Inadequate Attention to Inflation Control and Food Security

The Budget speech talks big but this is not backed up by corresponding expenditures. If expenditures were higher then the deficits would have turned out to be higher which would have spoiled the image in international markets. Inadequate allocations to the pro poor schemes like, MGNREGA or Right to Food or to food subsidies stare everyone in the face. The reason is that the required resource raising exercise has not been pushed lest it displease any section of the population. In effect, opportunities presently available in the economy have been lost. With a good rate of growth, a lot of extra resources are being generated which could have helped mitigate poverty and reduce the rapidly growing inequities.

For this, control of inflation is important. 93 % of the work force is in the unorganized sector where there is little indexation of wages to inflation. These people lose real purchasing power in proportion to the rate of inflation and their loss becomes the gain of the employers and the business class. For instance, if the wages in MGNREGA have not risen in the last 5 years when food prices have risen sharply, their real wage has almost halved. Similar is the case with Anganwadi workers whose wages are now being doubled (1,500 to 3,000 and 750 to 1,500) after stagnating for a long time. They have been losing purchasing power over a long period of time and have been restored to where they stood earlier.

It is an unkind cut for the citizen, the FM claims that the rate of food inflation has been brought down from 20.2 per cent to 9.3 per cent. What he fails to mention is that this does not mean a decline in prices to earlier levels but that prices are rising less fast but rising nonetheless. On the high base of prices reached last year, they are continuing to go up and fairly rapidly if not as rapidly as last year. He also glosses over the fact that in the course of the last year prices went up almost as fast as last year so that the poor and the middle class have hardly had a respite since 2007.

In a fast growing economy who is the beneficiary of the extra resources being generated? Clearly with inflation taxing the poor and the middle classes they are hardly gaining in real income terms and the gains are accruing largely to the business community and the corporates who are declaring record profits in spite of the global crisis and the economic slow down earlier in 2007-09. They are gaining both through the white and the black economy. Even the well provided government servants who got a substantial raise in 2006 due to the Sixth Pay Commission are now feeling the pinch of inflation.

Since 65% of the expenditure of the poor is on food, controlling food inflation in the economy is critical to take care of the poor and to prevent inequities from worsening. This was possible in the present circumstances with high growth rate, if the political will existed. Food subsidy for the poor could be raised, procurement increased, public distribution expanded and import of goods where temporary shortages appear could be expanded. It is true that at times supplies in the international markets may be available only at a high price but then this would still help if there is the will to subsidize. After all, when we can export at a loss why can we not import and subsidize the citizens. This also implies that the nation has to take its food security seriously. The liberalizers who used to argue that all that is needed is foreign exchange and not food self sufficiency are being proved wrong. Their mistake is proving to be expensive for the country and especially the poor.

For strengthening food security it is essential that apart from the abovementioned short term measures long term measures are required to improve productivity through investments in irrigation, extension work, spread of literary and education and creation of rural infrastructure (like, electricity and roads). It may be said that with increased allocations for all these kinds of schemes, the government is moving in the correct direction. However, the inadequacy of allocation is illustrated by the case of pulses where an additional Rs.300 crore has been allotted to 60,000 villages that will focus on production of pulses. This amounts to Rs.50,000 per village and one wonders what kind of revolution in production of pulses can this create? The sum would not even be enough to dig a well in a semi-arid area. The scheme even if implemented will largely be a decorative one. Why not focus on 600 villages to begin with or allot Rs.3,000 crore?

The lesson is that given the backlog of infrastructure and the crisis in the lives of the citizens, a lot more was needed and this was possible given that the economy is generating enough resources to provide more for these schemes but the government, not wishing to upset the elite, is letting the opportunity slip by.

III. Inadequate Attention to International Uncertainties

Strengthening the economy at this juncture is important given the wide variety of international uncertainties facing the world. The world economy and especially the European economies are still in the throes of a crisis with strong possibilities of their growth rates plunging. We need only remember that in 2007, when the world economy was doing well the crisis emerged suddenly. The IMF and other agencies could not anticipate the global crisis and its extent. The growing crisis in the Middle East, the uncertainty on the energy front and a rapid rise in energy prices and food prices is sufficient to trigger a rapid decline in global growth rates. In such a situation, India needs to be prepared and not become complacent. Talk about our quick recovery and the second highest growth rate in the world should be tempered with caution. To ward off a possible crisis we need to put our growth on a more firm footing. This is possible while the growth is good but may not be feasible if difficulties arise.

This financial year has shown how volatile foreign capital flows can be. In the middle of the year, it was coming in rapidly to take advantage of the interest rate differentials. This was leading to excess liquidity and rapid rise in real estate and the stock markets. The situation has reversed with capital going out or coming in a trickle. Consequently, the stock markets have declined rapidly in the last few months. This kind of instability is not good for the investment climate in the country. In the budget speech, the FM has mentioned incentives to encourage foreign capital (FDI and FII) but this is not really needed.

India is not dependent for growth on foreign capital which constitutes only about 10% of total investments in the country. It is only an additionality. It can be substituted by internal capital formation if the government wishes to. The government needs to step up public investments and that would lead to further private investment. Government investment in infrastructure would also lead to removal of bottlenecks and speeding up of growth.

IV. Inadequate Steps to Stabilize the Economy

In the context of investments, government has been encouraging Public Private Partnership (PPP). The FM has lauded this scheme. The underlying assumption of this scheme is that the private sector can contribute to risk taking and finances while the government provides cheap infrastructure, like, land. Unfortunately, it is the government that is often taking the risk, providing cheap infrastructure and at times the finance also. Thus, PPP has often become a mechanism of subsidizing the private sector, like, in the case of private hospitals in Delhi who were given cheap land. In the case of 2G spectrum, the official line is that the low price of the spectrum through a (deliberately) faulty mechanism was to enable these services to be provided cheaply so as to enable the market to expand rapidly. It could have also been argued that by raising more funds from this auction, the pro poor schemes could have been better funded. What is the priority of the government?

The macro economic challenge facing the economy, identified by both the Economic Survey and the Budget speech, are the high rate of inflation, the large current account deficit and the high overall fiscal deficit. Why in spite of the high rate of growth and the additional resources generated does the economy face these problems?

The problems are a result of the development strategy based on `growth at any cost’. It is non-inclusive and highly polluting. To mitigate these problem the government artificially has to provide a safety net in society and also adopt measures to clean up air and water. The moot question is why first create problems and then try to take care of them through stepped up expenditures on social sectors and increased expenditures on environment and climate change. In this regard, the FM’s speech mentions forests and water.

There is clear hint of ad hocism. On the one hand, polluting industries are being increasingly allowed and on the other hand, allocations are made for environmental protection or cleaning up. This is highly wasteful for society. Recently, metal ores and mining of other minerals in forest areas has been selectively permitted, like, in the case of POSCO. That Bellary and large parts of Jharkhand, Chattisgarh and Orissa have big mining projects is now an old story. Crony capitalism of the Madhu Koda kind has been the norm in the last twenty years where natural resources are being privatized for a consideration. The poor forest dwellers and those dependent on the environment are marginal to this process.

Similarly, the encouragement being provided to the automobile sector (referred to by the FM in his speech) is leading to massive pollution and congestion in major urban centers. This has required grater allocations to the urban areas and to the neglect of the rural areas because the policy makers are partial to the former. This is leading to the vicious cycle of aggravating crisis both in the rural areas which lack investment and the urban areas that are burdened with having to provide big ticket investments. In spite of JNURM the situation is deteriorating in most urban centres (leaving out Delhi which saw massive infusion of funds for Commonwealth Games) and especially for the poor in the urban areas.

V. Rising Faith in Machines and Declining Faith in Men

The budget speech set the stage for big reforms in taxation by laying the ground for implementation of Goods and Services Tax (GST) and Direct Tax Code (DTC) in the coming years. This is a part of the attempt since 1991 to lower direct taxes and raise indirect taxes to benefit businesses and to shift national income in their favour. It is a part of the `growth at any cost’ strategy. Massive computerization is being favoured even though we know that in the past also this has led to problems. For instance, e-filing of tax returns is creating a problems for many. Data is being incorrectly entered and that has led to extra tax demands on the tax payer.

The implementation of the UID mission and allotment of Aadhaar numbers is being accelerated and subsidies may be targeted through this so that there maybe direct transfers for kerosene and fertilizers. There is touching faith in technology even though we have often failed in delivering to the poor in spite of all the reforms of delivery mechanisms. The importance of the human element is repeatedly ignored in our policies. We want to depoliticize rather than make the individual more politically conscious. Rather than build accountability of administrators they are to be replaced by machines. It is as if the human element behind the machines is unimportant. Have we not herd of computer frauds in banks and hacking and so on. In the corrupt environment that prevails in India this would happen even more so.

In this context, it is important to control the growing black economy (See this author’s articles on the subject in this journal in the last six months) which is visible in the growing scams coming to light with great regularity. The government has been trying to regain lost ground by repeatedly announcing that it is doing something to tackle this problem and also to bring back the funds earlier siphoned out of the economy.

The announcements have been in direct proportion to the public pressure and the growing number of exposes. The will to tackle it is missing. In the budget speech there is a section dealing with the black economy. New studies, signing of DTAA and so on are mentioned. But these do not add up to much if the political will is lacking. What is needed is action and not more studies. Further, if the black economy in the country is checked that would reduce the leakages abroad. The resolution of the problem then lies in the country. The ruling elite would have to tackle itself.

The importance of the human element is brought out in the case of the judiciary which has been allotted extra funds given the huge pendency of cases in courts and the travesty of justice that this leads to. There is a loss of faith in the justice system. Computerization in the judicial system has grown but the problem is the human element. The rising pendency is due to the practice of giving fresh dates to the litigants without forcing their lawyers to argue the case and come to a conclusion. At times the litigants may not show up for several dates and later claim extenuating circumstances and seek more time. There is undue leniency in giving fresh dates rather than proceed with the case. What should have been exceptional has become the norm so cases which should be decided in a short time drag on for years. More money and computerization cannot solve these kinds of problems. It is not the law or mechanization but the human element that is critical for implementation.

Has it been considered what the poor people who may not be able to keep the Aaadhar cards safely or whose cards get damaged will do? Even for the literate it is difficult to get duplicates issued and a lot of paper work is required which the poor and ill educated will not be able to handle. This has been the experience of the voter ID cards. In case of electricity metering in Delhi it is often difficult to get faulty computerized bills corrected. What would happen if the strong get the weak to sign away their cards (like, in rural banks the staff often corners the loans or gets big bribes)? Bio metric cards with various security features can be tricked or cards duplicated. In a vast country with massive corruption there would be any number of ways of vitiating the machines and the process.

In brief, there is a need to tackle the human element, reduce its alienation and raise its commitment to the nation and not to write it off and have a nation increasingly run by machines. Is that what democracy is all about?

VI. Conclusion

In brief, the Union Budget for 2011-12 has many initiatives but a large number of them are misplaced. Above all, the opportunities provided by the rapid economic growth are being allowed to dissipate due to the difficulties the government finds itself politically. It also shows that the business class is being shielded to continue the `growth at any cost’ strategy which has paid it handsome dividends. No wonder the stock markets have risen. But this is a short term strategy since the global and internal uncertainties continue to plague the nation and can led to a deeper crisis and a decline in the stock markets. We have the instance of lack of advance planning leading to the recent food and onion crisis. This is being done at the level of the macro economy as well.

Tackling even 20% of the black economy would give the nation enough resources to implement the rights to food, work and education in all seriousness. Unfortunately, the same lack of will which prevents the black economy from being seriously tackled comes in the way of considering these schemes as the most urgent task of the nation. The elite accept the uncivilized conditions in which a majority of our citizens live as a routine matter rather than a matter of shame. The unhygienic conditions at the CWG village shamed the ruling classes into protest and action but worse conditions for the poor do not move the same classes.

Finally, the present rulers are using every crisis and every problem to push for marketization (say in distribution in agriculture) and to give concessions to the corporate sector and businesses (rising tax expenditures) at the expense of the citizens. The government’s greater faith in machines than its people whom it is supposed to represent and work for which is marginalizing them further is undermining democracy.

arunkumar1000@hotmail.com.

 

The Middle Class in India and the Burden of the Union Budget

The Middle Class in India and the Burden of the Union Budget
Arun Kumar
CESP, SSS, JNU, N. Delhi 110067.

The middle class in India is not the middle of the population distribution. In a population of about 118 crore it is not the 40 crore who fall in the middle of the nation’s income ladder. In fact, most of this middle is poor if not extremely poor (below poverty line). So, who constitute the Indian middle class?
They are the families with purchasing power to buy conveniences of life. In the Indian context such people are the well off, say, the top 10% in the income ladder. They are not the well off by international standards but those of a very poor country with a per capita income of around Rs.45,000, one of the lowest in the world. Hence our middle class is also one of the poorest by world standards.
According to the NSS data for 2004-05, 96% of Indians spent less than Rs.48 per person per day or for a family of five they spent less than Rs.7,200 per month. Only 1 % of the families spent more than Rs.12,500 per month that year. Add to these numbers the black incomes of the rich families which are not declared to the authorities. Further, assume that due to inflation, these figures have doubled since 2004-05. Accounting for all this, the middle class would be not more than 10% of the population.
The middle class is largely out of the income tax net. There are about 35 million individuals (3% of the population) who file income tax returns but only about 10 million (1% of population) pay effective taxes while the remaining 25 million declare very little income and pay negligible income taxes. Thus, income tax is relevant for 25 million middle class individuals (2% of the population) and mostly affects the rich (1% of the population).
There are several reasons for this low tax base. First, there is a large black economy so businessmen and professionals only declare a small part of their actual income. Secondly, taxation begins at about 500% of the per capita income. Thirdly, there are a large number of deductions and concessions which take incomes out of the income tax net. Finally, agricultural incomes are exempt from income taxation. However, even if agricultural incomes were formally taxed, little would have been collected from it since these incomes are mostly below the tax exemption limit and the share of this sector in GDP is declining.
The direct tax net has been narrow since most of the property/wealth taxation has been reduced over the decades. For instance, more wealth tax was collected in 1976 than now even though property and share prices have shot through the roof – the reason is that they have been mostly exempted from taxation. Capital gains, gift taxes and estate duties have been largely diluted or eliminated. These taxes help in collection of income tax so their reduction has weakened the base of income tax.
Consequently, our income tax structure is regressive even though formally it is progressive. The richer one is more is the share of property income and since most of that is exempt, they pay on an average a lower tax rate than the middle class does. The rich shoot from the shoulders of the middle class when they demand lowering of the income tax rates – they are its real beneficiaries and not the middle classes. No wonder India has one of the most moderate income tax rates in the world.
The middle class pays more tax through indirect taxes on their consumption (customs and excise duties and sales tax) than the income taxes. Indirect tax raises prices of goods and services and lightens the pockets of the consumers. The entire consumption is taxed through the indirect taxes. Thus a middle class family that may be paying 5% of its income as income tax may end up paying 15% through indirect taxes because it consumes most of its income. A rich family in contrast consumes a tiny fraction of its declared income, say, 5%. Thus, even if it consumes luxury goods where the indirect tax rate maybe 50%, it only pays 2.5% of its income as indirect tax.
Thus, the rich families pay little direct taxes because of the black incomes and the low income tax rates and they pay little indirect taxes since they consume little of their incomes. The middle class gets fooled into demanding reduction in direct taxes because it sees direct tax being deducted from income but does not think of inflation due to indirect taxes as a tax on its income.
The rich get a large part of their incomes from the ownership of the corporate sector which is concentrated in the hands of 0.1% of the population. They are getting more than 20% of the national income whereas the 55% working in agriculture are getting only 15%. This is partly because the corporate sector gets Rs.5 lakh crores of tax expenditures (indirect subsidies) which boost its incomes. In effect, massive income disparities are being generated in the economy both because of the black and the white incomes. No wonder India has one of the largest number of billionaires in spite of massive poverty and has one of the lowest Direct Tax/GDP ratio in the world, even compared to the developing countries.
In brief, the combined effect of direct and indirect taxes falls on the middle and the poor classes rather than on the rich who are increasingly cornering the nation’s income. If the black economy, about 50% of GDP, could be brought into the tax net, the nation could collect an additional Rs.14 lakh crores of taxes. Then, indirect taxes could be mostly eliminated, benefiting the poor and the middle classes. But, that is like asking for the moon since the black economy is controlled by the elite in society – the businessmen, the politicians, the professionals and the executive – who have little interest in checking its growth.
arunkumar1000@hotmail.com