governance, political economy, institutional development and economic regulation

Archive for December, 2016

Fiscal love for job loss

unemployed

Times are tough. Exports are in free fall. The import bill is increasing as oil prices harden in response to the international oil cartel’s plans to cut production. Domestic demand is moribund despite the largesse of the Seventh Pay Commission for the public sector. The stock market has sagged. Informal sector jobs are under threat. We need a push to get people over this sullen hump.

Electoral compulsions

Four states, comprising one-fifth of the nation’s population, are about to elect provincial legislatures in the first quarter of 2017. From a national perspective, the BJP has little to lose but much to gain. Goa, that is ruled by the BJP, elects just two MPs; Punjab, ruled by ally Shiromani Akali Dal, elects 12; while Uttarakhand, ruled by the Congress, elects five MPs — which together account for a mere four per cent of the 542 seats in the Lok Sabha.

It is Uttar Pradesh, ruled by the Samajwadi Party, which is the real prize. It elects 80 MPs (just under 15 per cent of total seats) to the Lok Sabha. Varanasi is the Prime Minister’s adopted constituency. This is the Hindu heartland of India. A wipeout in UP may not directly impact the BJPs prospects irretrievably in the 2019 general election. But a win would surely be a grand start to the campaign.

Finance Minister as fire fighter

Finance minister Arun Jaitley seems eager to salve those burnt by “notebandi”. He may offer some tax relief in the coming Budget, but that helps only a tiny sliver of the population — just two per cent who pay income-tax. Lower indirect taxes are hostage to progress on the Goods and Services Tax (GST). But a GST with multiple rates, and with the highest nominal rate at 28 per cent, is unlikely to reduce the incidence of indirect tax or drive growth in GDP.

The FM had budgeted a nominal GDP of Rs 151 trillion for this fiscal, 11 per cent higher than the nominal GDP last fiscal. This is now unlikely for two reasons. First, growth in real terms will slip by between one to two percentage points. Second, inflation is lower by one percentage point. Taken together the nominal GDP increase will be eight, not 11 per cent, over last year. Tax estimates are based on “nominal” GDP — real growth plus inflation. So, tax collection at 10.8 per cent of GDP will also slip by about Rs 0.4 trillion from the budgeted amount of Rs 16.3 trillion. There is little headroom in this fiscal to play with tax reduction.

Even in the next fiscal, with significant economic headwinds and domestic uncertainties, the prospects for a revival in growth is wishful thinking. Tax reform with lower taxes seems a far cry. A temporary income support mechanism is more appropriate.

The losers 

The population segment most affected by demonetisation is domestic migrant labour and their families in villages. Urban migrants live on and save from what they earn daily. Over a period of six months, the income shock will feed back into their families in villages as income transfers decrease or vanish and migrant labour return home.

The FM must provide a “package” to soften the hard landing at home for returning migrant labour. This is urgent. Migrant labour are highly aspirational, having seen the “good life” available in cities. Their aspirations must not be squashed. Of cours it is not easy to distinguish between those affected by the loss of employment and others who never had any. Targeted income support for migrants can be ruled out.  But a more generic income support for all those with stressed incomes is not as wasteful as it sounds.

Income support for stressed families in villages

Three approaches can be combined to suit the context. First, borrow the concept of “helicopter money” from the much talked about income transfer scheme. Make the support freely available on demand with very selected and easily verifiable eligibility criteria. Second, revive the now defunct notion of “taccavi loans”, which were used in the colonial period as a famine relief measure. Third, use a participative and transparent good governance approach to identify the beneficiaries. Ranking families by the extent of income loss in open village meetings mediated by village-level government officers is a useful way to develop consensus and reduce the mistargeting. Lastly, devise the support mechanism in a manner which eliminates the undeserving.

Give consumption loans at market rates repayable in labour

nrega

The income support should be a loan and not a grant. This will deter those looking for a freebie. The interest rate should be reasonable but not subsidised for the same reason. Around 12 per cent per year, or one per cent per month can avoid misuse for interest arbitrage and yet peg it much lower that the unsecured informal market loans, which are available at an interest rate of 40 to 50 per cent per year, or between three to four per cent per month.

To further deter those looking for freebies and to make the scheme attractive only for those who really need the work, the loan and interest should be repayable only through around manual labour by the family in village works and not in cash. Around 50 days of labour can repay a loan of Rs 5000 along with accrued interest over six months. The advantage of this twist is that it leaves the migrant worker free to continue looking for work in cities,once he has secured a “taccavi” loan for his family to help them survive for six months without compromising the future through crippling debt. As in NREGA, the productivity of village-level work is very contextual and varies. But such inefficiencies are a small price to pay for the positive ripple effect of well targeted, publicly funded, social security schemes.

The fiscal burden is bearable.

Around 60-80 million such unsecured loans of Rs 5,000 each could cover all needy families (broadly 15 per cent households in urban areas and 30 per cent households in rural areas), with a sufficient margin to spare for the inevitable leakages from poor identification. The one-time cost of Rs 0.3-0.4 trillion can be met by either enlarging the allocation for NREGA (Rs 0.35 trillion for 2016-17) or by overshooting the fiscal deficit target by 0.25 percentage points (3.75 per cent instead of the budgeted 3.5 per cent). With weak retail demand, this temporary transgression from the fiscal deficit target is unlikely to be inflationary and in effect sustains rural demand.

Desperate times need innovation, with a human face, to soothe the hurt imposed by systemic shocks. Shielding the weak from the unbearable cost of bad economic decisions is a must, to preserve the consensus for change.

yech

Adapted from the authors article in Asian Age December 20, 2016 http://www.asianage.com/opinion/oped/201216/fiscal-love-for-a-sullen-electorate.html

 

Budget 2017 “pull in” black money

beggars

Photo credit: Kundan Srivastava

A month has passed. Opinion is unanimous that demonetisation has failed as an instrument to end terror or black money. Brazen terror strikes continue. The shadow industry for converting black into white has perversely got a boost from a new business vertical — converting “old black” into “new black”. Worse still, the economy has taken a severe hit in the process. The good news is that committing mistakes is a sign of executive action. Mistakes fade from public memory if the government learns from them and takes corrective action. So what is the learning?

Too much black

black

First, black money is too pervasive to be substantively reduced either via anti-corruption legislation; strong-arm tactics like “raids” or moral persuasion. We dont know the proportion of black money creaed out of crime – this is the most difficult to eradicate – and the proportion created due to the evasion of tax – either because the owner considers that she does not get enough for what she pays to government or because she is a congenital free rider. Post colonial democratic economies have this problem. Even after independence citizens continue to remain aleinated from the State. Free riding is the natural consequence of alienation.

Rationalise the tax regime

maze

Things become worse if the marginal rate is ficed very high mimicking what happens in other countries without considering the underlying social compact. India is one such economy. We tax at high rates from a narrow base and end up with a paltry tax to GDP ratio of around 20% (center and states included). High rates provide an incentive to evade tax. Our strategy has been to dilute the high marginal rate of tax by offering a slew of deductions if investments are channeled into government entities. Such tax avoidance options must be rationalised and reduced. Tax exemptions are a non-transparent way of providing a subsidy to either an individual or a business. They are difficult to target narrowly ato achieve the intended objectives and generate perverse, unintended outcomes. The real estate boom and subsequent bust happened because of tax incentives to but multiple houses by leveraging savings with bank debt pushing housing demand into purely speculative territory. Black money, which always looks for supranormal financial returns to defray the risk it carries, boosted the process.

Putting indirect and direct tax together, the incidence of tax in India at the highest level is around 43 per cent on an income of just Rs 83,000 ($1,220) a month if the entire amount left over after paying income-tax is spent on purchasing services or goods. In the United States, the federal income tax rate of 33 per cent is attracted by an income of $75,000 per year. The US is nine times wealthier than India. Factoring in the income differential, the comparable income level in India would be $8,300 per year (Rs 5.6 lakhs per year or Rs 47,000 per month). At this income level, the marginal rate in India is just 20 per cent. This is understandable, purely on considerations of equity, since the income tax base is narrow, unlike in the US and targets only that tiny sliver of the population earning more than Rs 2.5 lakh ($ 3600)a year, other than in agriculture. Just around 3 percent feel compelled to file a tax return.

Plug revenue leaks 

sieve

Numerous deductions reduce the effective incidence of tax by a further 10 percentage points. Loan repayment and interest payments for house building, fixed income investments in postal savings, public sector enterprises and infrastructure, capital gains re-invested in specified government bonds, capital gains on equity held for a paltry one year — all qualify for a tax rebate.

These exemptions distort the fixed income market for attracting savings into banking and private business entities. They also do nothing to “pull in” new taxpayers. On the contrary, these exemptions serve as avenues for parking black money through substitution. Instances abound of the entire salary being deposited in such investments with living expenses met from “other” undisclosed sources.

End deductions & reduce income tax

The finance minister proposed, last year, a lower rate of corporate tax of 25 per cent for new assesses if no tax deductions were availed. A similar strategy of reducing the marginal income-tax rate should be followed in Budget 2017 to widen the tax base. Reducing the marginal rate from 30 to 20 per cent can “pull in” new taxpayers. A simultaneous declaration of an intention to reduce the rate further to 15 per cent, depending on the revenue surge, would provide the much-needed assurance of medium-term stability in the tax architecture. The incentives being provided for digital payments and selective targeting of high-profile tax evasion could provide the “push” factor towards better tax compliance. The lesson here is that in a democratic, open economy, incentives work better than directives.

Institutions matter – preserve or build judiciously

institutions

The second lesson is that whilst politics always drives government policy, the consequences of ignoring well-honed governance principles are severe. Institutions matter for sustainable results. Why are 32,290 gazetted tax officers powerless to perform? Are we aware that 36 per cent of available Grade A tax positions are vacant? Is it appropriate that the academic requirements for becoming a tax officer do not mandate having either a masters in commerce or economics or being a chartered accountant? Nor are candidates tested psychologically for their motivations or their ability to put the public interest first. All these red flags show that tax collection has never been a priority. We tend to focus overly instead on the spending departments.

The ability to tax and to punish citizens as per the law is the best metric of sovereignty. To build institutional support for targeting black money we should take a leaf from the British Raj. During the colonial period, the district collectors were the flag-bearers of the Raj. Today, their successors — the Indian Administrative Service — occupy the same high status. But they do everything except collect tax. Those who collect tax — the Central Board of Direct Taxes and the Central Board of Excise and Customs — are condemned to be second-class bureaucrats, perpetually subservient to a revenue secretary from the IAS. The IAS is an elite because it is treated as such by the government. It attracts the best. It trains and gives its members the opportunity to be leaders. If collecting tax is a national priority, we must give the tax officers the privilege of being an elite and leading the tax effort. This will mould them, over time, into being leaders rather than mere camp followers.

A boost for tax collectors 

A healthy parallel is the possible formation of a tri-services command, in the defence ministry, to establish a direct link between the defence minister and the armed forces. This architecture must be replicated in the department of revenue. Create a “Supreme Tax Council” of secretary-level officers, expert in direct and indirect tax, led by a chairperson in the rank of a minister of state, reporting directly to the finance minister. Consequential changes in the method of recruitment, training, functions, powers and upgrade in the service conditions of the tax services can follow.

Targeting black money is a medium-term task. No government has had the gumption or the political capital to sustain the process. The personal charisma and overwhelming public support that Prime Minister Narendra Modi enjoys places the buck for tax reform squarely at his door.

modi-2016

Adapted from the authors article in Asian Age , December 10, 2016. http://www.asianage.com/opinion/columnists/101216/next-use-budget-to-target-black-money.html

 

 

 

Book review: Tharoor, An era of darkness

tharoor

Shashi Tharoor’s latest book originated in a debate at Oxford on whether Britain should pay reparations to its erstwhile colonies. The YouTube clip of Tharoor systematically demolishing the opposition, his brilliance evident in the thrust and parry of debate, has been watched by more than three million viewers. But the author says he felt a “moral urgency” in informing the “layman and students” in India and in Britain, about the “horrors” of colonialism and hence this book.

The book is conveniently divided into eight chapters. Unusually, each is virtually self contained though each focuses on specific topics, as for example, the extent of the loot; dividing, rather than unifying India; subverting Indian diversity in ersatz modern British institutions; the policy of divide and rule; the absence of enlightened despotism et al. Whilst this stratagem of comprehensive rendition adds to the length, it facilitates selective, speed reading. There are also 295 helpful references to other works—both Indian and foreign, a veritable treasure trove.

The Raj – long on loot short on local benefits?

The author deploys the familiar nationalist tactic of talking up the wealth and virtues of pre-British India, while playing down the inadequacies of much of post-independence India, to book-end the “horrors” of the Raj. The benefits from the Raj are dismissed as few and that too, unintended, barring the development of a pan-India modern press and media; development of canal irrigation; scattered electrification of towns; and of course -the railways. Oddly, the planning and building of regulated, urban settlements for the British, expanded versions of which, subsequently, also became the refuge of India’s political, business and professional elite and in less oppulent versions for India’s middle class, goes unacknowledged.

The “loot” neither began nor ended with the Raj 

The litany of colonial woes is expectedly long. Nothing attracts instant attention more than stories of loot and rape inserted early on in a book. The British drained 8 per cent of India’s GDP as per Paul Baran’s 1957 estimate. Annual outflows are separately estimated by William Digby at 4.2 billion British pounds during the 19th century. Extrapolating this trend onto the first half of the 20th century, the additional outflow was 2 billion British pounds. Huge as this cumulative sum seems, consider that Indians themselves are estimated to have amassed $500 billion of illegal wealth abroad in less than seven decades of India’s independence as per the CBI in 2012. Consider also, that against the less than 10,000 British subjects employed in India, the Report of the Indian States Committee of 1929 lists a total of 562 princely states, each with a retinue of vast numbers of relatives of the ruling family living off the state treasury. There is no corresponding account of how much these effete rulers and their families cost the ordinary Indian.

maharaja-bhupinder-singh-patiala

Indian Maharajas delighted in maintaining humongous households and extravagant habits – and why not, since the aam admi paid for it all.

Yes, the British used India as a source of capital and raw material for their industries, which stilted Indian industrial development. Yes, they helmed organised commerce in India via the Managing Agencies. But just as surely, Jamshedji Tata’s dream of establishing a modern steel mill saw fruition because British India guaranteed the off-take of steel and built the railway to link the steel mill with raw materials and markets, thereby making it India’s first Public Private Partnership.

tata-steel

Jamshedpur, 1912: The first steel ingot is rolled 

The author cites the regulations forcing Indian mills to produce only British Specification Steel as a low stratagem to make them uncompetitive. But it could also be viewed as the first step towards internationalising standards in Indian industry. Not producing to international standards was our failing till we liberalised industry and opened our markets to competition in 1991.

The Raj was neither elightened nor did it serve a moral purpose

Of course, the British, as a colonial community, were rapacious, openly racist and self-serving. But the evidence is thin that they were any worse than the long line of Indian rulers that preceded them. Admittedly, it mattered where you lived. The princely states of south and west India were generally better managed and more progressive than those in north and eastern India.

Colonial consequences: The death of institutionalised privilege & rise of the new middle class

Tharoor’s view that neither the political unity of India nor the adoption of democratic norms was a direct outcome of the pan-India political architecture of the Raj is inadequately backed up with evidence. The mere fact that Arabs refer to all Indians as “Hindi” is hardly evidence that pre-British India was already integrated. By this logic, all those living south of the Vindhyas are “Madrasis” because that is what ignorant North Indians called them and all of Arabia is one because we refer to people from there as “Arabs”.

The author ignores the greatest accomplishments of the Raj—the decimation of the old order of inherited privileges and rights; kindling of the spirit of democracy and incubation of the great Indian middle class via government jobs in the railways, the army and in civil governance.

Prime Minister Indira Gandhi, by abolishing privy purses in 1971, ended what the British began—the consigning of India’s numerous Maharajas to the dustbin of history. By institutionalising the common law and opening up vacancies—admittedly too few—at the very top, the Raj inspired millions of young, ordinary Indians to aspire to be literate and professionally qualified. That three generations of Indians had to serve as clerks to British superiors, not necessarily more accomplished than themselves, is a regrettable but possibly an inevitable consequence of gradual transition.

The Indian Constitution – equity, liberty and inclusion

The Indian Constitution is a direct outcome of the groundwork done over the previous four decades, since the Minto-Morley Reforms of 1909, to implement consultative democracy by including the professional middle class in the process. Ask any Dalit, backward caste, tribe or other minority and they will ascribe their liberation from traditional shackles to the modernist, reformist social and economic thinking which emerged, possibly as a nationalist response, to British rule.

ambedkar2

Babasaheb Ambedkar: Iconic messiah of dalit inclusion

It is not for nothing that Babasaheb Ambedkar wore a suit and a tie rather than a dhoti. For him the suit was a symbol of liberation from the oppressive rule of India’s traditional, upper caste elite and the Constitution was his guide to a more equitable future. Mayawati, Manmohan Singh and Prime Minister Modi are the organic outcomes of the much-needed, albeit self-serving, prising open, by the British, of India’s dormant, traditional cleavages—a black box of competing religions, castes and regions. Consolidation of these traditional identities at the national level via democratic institutions is what has changed the social landscape of India.

Sans the Raj – either a balkanised Hindustan or Red India

Tharoor speculates that if only the East India Company had not been as successful as it was, India would have found its own way to modernity. But what if we had remained hopelessly Balkanised instead? Why would we have not succumbed instead to the romance of Communism and gone the Chinese way? Would bloody revolution, social upheaval, the end of private enterprise, de-legalisation of religion and cultural diversity, unrelieved even by the constitutional promise of human rights and freedoms, have been better?

Contempt for the “box wallah” and the bania -Colonial hangover or the convenience of ersatz socialism? 

Tharoor speciously links our inward looking, anti-business attitude in the first four decades of independence till 1991, to our bad experience with the East India Company. This looks awfully like a red herring. It would be more instructive instead to examine the role played by our ineffective brand of ersatz intrusive socialism, used by the elite as a cloak, to retain domestic privilege. The ordinary Indian has looked westward for higher education and advancement, primarily because the professional choices at home have been too narrow and the glass ceilings too low.

Even the author accepts that the British Raj was more efficient than the domestic institutions it replaced. He is right that the rapacity of the Raj was exaggerated, precisely because its extractive capacity was greater than the loosely regulated Princely States. Consider the establishment of land records and the uniform and regular assessment and collection of revenue.

High taxes, yes but also efficient systems and records

Tharoor bemoans the high rates of taxes and the resultant penury for landowners since the burden of taxation fell on land and not trade. Yes, indeed. But that very system also bequeathed an embedded practice of recording individual property rights and updating transactions thereof, which is fundamental for development of private enterprise and for access to bank finance. The British left us with a treasure chest of land tenure, revenue and demographic data and an entire community of rule-bound “babus”. Better this than the institutional anarchy many other developing countries faced, post-independence.

Tharoor packs in masses of information and opinions around the British Empire in India. But it is all done in a grand, Quixotic style of tilting at windmills. The book is a hard-hitting, one-sided debate and caution is advised in succumbing to its mesmerising message, that the Gora (white man) is to blame.

Adapted from the authors book riview in Swarajyamas December 2016 http://swarajyamag.com/magazine/tilting-at-windmills

hindu-college

Tag Cloud

%d bloggers like this: