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Modi to crank up fight against India’s black money

Well before India’s surprise ban on using 86 per cent of its cash supply, rightwing circles were abuzz with speculation about prime minister Narendra Modi taking such a step to fight so-called black money.

Mainstream economists paid little heed to the chatter — deeming it “too preposterous” to take seriously, given the economic damage it would inflict. 

But with India now reeling from the acute cash crunch triggered by the decision to cancel its old Rs500 and Rs1,000 notes, many economists and observers are debating what other unorthodox economic policy experiments may lie ahead. 

Mr Modi is expected to intensify his campaign against black money, with his next target likely to be property purchased with illicit wealth and not registered in the true owners’ names. Speculation is rife that he is also seriously considering other dramatic and unusual reform measures — including possibly abolishing income tax and replacing it with a banking transaction tax. 

“The long-term question is whether [demonetisation] represents a willing shift from conventional economic policy,” Rajeev Malik, senior economist at CLSA. “After this particular step, I can’t rule out anything. The [ February] budget will pretty much tell us whether this is a starting point for something more unconventional.” 

Mr Modi has said nothing publicly about the origin of the idea of demonetisation — a measure virtually without parallel in contemporary economic history — but few believe New Delhi’s official narrative that it was simply acting on the central bank’s advice.

Instead, the measure appears to be the brainchild of a little known Pune-based organisation, called Arthakranti, which loosely translates as economic revolution.

This group is seeking radical changes to India’s revenue-collecting mechanism.

Its volunteers — founded and led by former small businessman Anil Bokil — have lobbied politicians for years, and their quest brought them into contact with Mr Modi back when he was still chief minister of Gujarat. 

Arthakranti advocates restricting cash use and replacing all of India’s taxes with a single, banking transaction tax of 2 per cent on every transaction through the financial system.

The recent removal of vast amounts of cash from the economy could, some analysts think, be the start of a sustained effort to realise Arthakranti’s vision. “It seems to appeal to a lot of very radical thinkers,” says Saurabh Mukherjea, chief executive of Ambit Capital. “By reducing cash, you force everybody into the banking system, and every transaction gets taxed. If you don’t spend, and don’t transact, you don’t pay tax.”

Arthakranti activists contend their proposals would end the harassment of salaried employees — who account for most of India’s 12.5m income taxpayers — by corrupt income tax officers. They also believe the simplified system would curb pervasive evasion. 

“People in India are not bothered about taxation. They have a problem with the hassles of taxation, but that will be reduced by this system,” said Adarsh Dhavan, an Arthkranti volunteer. “If the base is broader, the percentage of taxation would be very less, and people would not mind paying it.” 

Brazil imposed a banking transaction tax for a decade from the late 1990s. Yet later assessments concluded the taxes tended to drive transactions from the banking system, reducing efficiency and leading to higher interest rates. 

Still, the idea has already won influential supporters from the politically-powerful yoga guru Baba Ramdev to the former editor of Forbes India, R. Jaganathan.

Mr Jaganathan, editorial director of the right-leaning Indian magazine Swarajya, recently wrote that income tax was “not suitable for Indian culture”, given its diversity and deep-rooted mindset that sees taxpaying as a matter of individual judgment and negotiation. “Nobody in the world likes paying income taxes, but Indians are particularly loath to do so,” he wrote recently.

Mainstream economists are doubtful that Mr Modi will embark on dramatic tax policy changes in the February budget, given the disruption already caused by the cash ban. Indirect tax is also considered highly regressive — adding to the tax burden on the poor — and economists also warn it could erode manufacturing competitiveness.

“Hopefully they’ll do their own diligence on how feasible, how practicable, and how sustainable it is from a revenue and spending perspective,” says Mr Malik. “All that will require inputs from all the right people, rather than some bureaucrat saying, ‘it’s a brilliant idea.’” 

Jahangir Aziz, head of emerging markets analysis at JPMorgan, sees big unconventional policy moves as unlikely in the next six months. But after that, he says, decisions may be taken on considerations that are as influenced by politics as by economics — as with the cash ban. “The political gains that have been made have been significant — lots of people think ‘it doesn’t really matter if it didn’t work. At least he did something which is better than doing nothing’,” says Mr Aziz. “Surprise is the new normal.”

Via FT