Blueprint For The Next Gear

One of the most interesting aspects of the demonetisation episode has been the revelation by Prime Minister Narendra Modi that only 2.4 million people have reported a taxable annual income of more than one million rupees. If we ass­ume that there are 250 million households in India and that each household has one earning member, this would mean that less than one per cent of households report taxable incomes of more than one million per year. This has led many people to argue that there is a lot of tax evasion in India for it cannot be that more than 99 per cent of households have taxable inc­ome of less than a million every year. Along with the demonetisation, this mention of the 2.4 million figure by the prime minister and, the persistent warnings by various officials and ministers to those evading taxes, have raised expectations that the budget will come up with sufficient incentives to encourage more people to honestly pay taxes. In particular, most people are adv­ocating for lowering of income tax rates with a simultaneous increase in the tax-base. The hope is that these twin measures will attract more of the ‘more than one-million-a-year income earners’ into the tax net.

First, how valid is the feeling among the salaried that the non-salaried do not pay their share of taxes? In most countries, the logarithm of income follows what is statistically described as a normal distribution (the bell curve). The advantage of the normal distribution is that if we know the average and the variation around the average (or, the variance), we can generate the ent­ire distribution. In India, we do not have income distribution data but we have the consumption distribution from the National Sample Survey (NSS). Luckily, the logarithm of consumption, both in India and in other countries, follows a similar distribution as income. By definition, the average inc­ome is the per capita income. If we assume that the variances are the same in the two distributions (income and consumption), then about 7.5 million people should be earning more than one million a year. Roughly, then, for every three earners above a million, only one owns up. It is more likely that two out of these three taxpayers have been hit hard by demonetisation while only one of them is looking forward to income tax changes!

Two budgets ago, the government had announced a reduction in corporate taxes and a concomitant abolition of the various exemptions in corporate taxation. This year, the government must start delivering on this promise. Investment demand, for some years now, has been low and the upcoming budget will have to do everything possible to correct this trend. The expected changes in corporate tax should help boost investment demand. This will not only bolster growth, it will also generate employment outside of agriculture. Indeed, this will help the rural economy much more than inv­estment in agriculture. There are too many people connected to agriculture and their best bet is to find income earning opportunities outside of agriculture.

Since 1991, the budget speeches have frequently laid out the future policy map of the incumbent government. Given demonetisation, this year, more than in any previous year, people will be looking forward to a blue-print of upcoming policies for the post-demonetisation era in India. Demonetisat­ion was a bold step, regardless of what it has achieved. Similar bold decisions are now required over labour and land.

Land policies are essential for increasing investment in infrastructure, housing, urbanisation and manufacturing. The government needs to take the initiative and start utilising the surplus land that it and its public sector undertakings are holding on to. These lands could not only be used as public spaces but also for raising government revenues to fund essential public investments.

Whenever one talks about labour, one thinks of the ease of hiring and firing. What the budget should consider, instead, is how to transform the informal labour market into a formal one. For this, the budget speech should be bold and make a commitment to get rid of the thresholds that distinguish the small, where labour laws do not apply, from the large units where labour laws do. This is the more important labour market reform than the irrelevant discussion on ease of hiring and firing.

The Indian economy has been slowing down quite independent of the demonetisation event and its aftermath. This is evident from the data on falling private sector investment that started happening much before demonetisation. And, hence, the government needs to focus squarely on generating growth and employment. Simply chasing after black money, while desirable, may not be enough.

(The author is the research director at the India Development Foundation)