A business acquaintance asked me two days ago whether a demonitisation was on the cards. What made him think so, I asked? That was the buzz in the bazaar, he told me.
My considered opinion was that it was very unlikely that this would happen, as the immediate costs would far outweigh the long-term benefits and that he could therefore go on his planned pilgrimage.
So when I heard Prime Minister Narendra Modi announce on Tuesday night that the existing Rs 500 and Rs 1,000 notes would be demonitised starting midnight, in an effort to curb the black money economy, I recalled an anecdote from the life of Dr Paul Samuelson, the great economist and Nobel laureate.
At the end of a talk on economic forecasting, when asked if he had anticipating the Great Depression of the 1930s, Samuelson said: “Not a single economist in the star-studded Harvard economics faculty predicted it. Only the janitor of the building did!”
Samuelson said the janitor, who used to collect salary cheques from the faculty on Fridays and encash them for weekend expenditures, asked them one evening to withdraw more as he felt the banks would not open on the following Monday. His advice went unheeded and the following week, the faculty had to borrow money from the janitor.
Ear to the ground
The moral of the story is that the word on the street is often close to the truth. For several days now, I had been hearing of an imminent demonetisation and the introduction of Rs 2,000 notes.
But I take pride in being rational and hence, I have to wonder: How did this come to pass?
For a start, about 86% of the value of notes in circulation is in Rs 1,000 and Rs 500 denominations. The two respectively account for 7% and 17.4% of our currency in circulation. These are significant numbers and the sudden withdrawal of these notes would make an already gloomy economy even more anaemic.
The move has hung lower-, middle- and upper-middle-income households out to dry. This morning, my wife and I took stock and found that we have Rs 600 in usable cash.
Fortunately, my wife and I do not rely much on paper money and can manage with credit and debit cards. But the vast majority of citizens still function with cash. My driver, for instance, told me he has a few Rs 1,000 and Rs 500 notes and needed some smaller denominations.
The prime minister, however, has assured citizens that they deposit or exchange their existing Rs 1000 and Rs 500 notes exchanged in banks starting Thursday, after submitting identity proof in the form of Aadhaar cards and PAN cards, and with certain restrictions on the amount, so this will solve the cash crunch. This is only fair and most of us have little to worry about, except maybe the long queues in banks.
The most competent extra-governmental authorities on these matters, such as yoga guru Baba Ramdev and BJP President Amit Shah, have with predictable hyperbole compared this to the “surgical strikes” on September 28. The comparison might even be apt. For, like the “surgical strikes” which were in reality a series of cross-border raids just about 0.5 km-1.5 km into Pakistan territory, this move too is lacking in depth. Like the Lashkar-e-Taiba leadership, the black money enemies lie deeper inland and making a thrust here and there does not amount to a surgical strike.
The leaders of our nation and the ruling elite understand the gravity and depth of the black-money problem in India, which functions as a thriving parallel economy, but the baying hounds of public opinions too have to be addressed. We are being fobbed off with a few bones.
Bringing black back
“Black money” is an all-encompassing term for income on which no taxes have been paid to the state. This income may come from legitimate sources, such as real estate, or patently illegal activities such as smuggling, counterfeiting, corruption and narcotics.
The estimates of how much black money is generated each year vary. However a widely cited, though supposedly confidential study by the National Institute for Public Finance and Policy, commissioned by the government, estimates the black economy in 2013 to be equal to about 75% of the GDP.
The previous National Institute for Public Finance and Policy official study commissioned by the government in 1985 estimated it be equal to about 21% of the GDP in 1984 – which would have amounted to Rs 36,418 crores, given that the GDP then was about Rs 1,73,420 crores.
In 2014, India’s GDP was about $ 2.047 trillion. The government was expecting to collect taxes and duties amounting to Rs 13.64 lakh crores – this means that there was another 75% of this, about Rs 10.4 lakh crores, that it missed out on because it was being transacted in black. This is huge sum and any government would drool at the thought of all it could do with that money. If this amount were realised, we could contemplate an investment-to-GDP ratio higher than that of China’s. One can only imagine what this will do for the country’s growth and prosperity.
India has only 35 million taxpayers – roughly 3% of its population – of which 89% fall within the under-Rs 5 lakh income slab. This means only 11% Indians declare incomes of above Rs 5 lakh a year – an absurd figure given that Indians purchased over 2.2 million new passenger vehicles and SUVs in 2015, which was by all accounts a slow year.
Clearly, most people who should be paying their taxes are not. Because the Congress-led United Progressive Alliance government failed to address this, the people booted them out, with the expectation that the Modi government would restore what rightfully belongs to the public. The National Democratic Alliance failed to do this for almost 30 months. The now-evident public restiveness and the protracted sluggishness of the economy has apparently persuaded them that a “surgical strike” was needed. So, we are being thrown a few bones.
Last year, Indians illicitly exported $83 billion, making us the second-largest stashers of money abroad after the Chinese. This money is out of the purview of Tuesday’s demonetisation.
The government has so far demonstrated its inability to coerce or cajole the return of the more than $500 billion stashed away in the last decade, as the economy expanded exponentially.
A lot of other tax-evaded incomes are locked in property, jewellery and other fungible assets. The value of black money hoarded in rupees is trivial by comparison. It’s mostly the small businessmen, traders, artisans and peasant proprietors who keep stashes of hard- earned cash at home or buried under mattresses. And these will be the people you and I will meet on Thursday morning when we queue up at the banks to get our money back.
The rooting out of black money cannot be done with such pinpricks. That calls for the revamp of our system through real and deep reforms.
Look at what Finance Minister Arun Jaitely and company did with the Goods and Services Tax. We now have four slabs and plenty of exemptions for the merry-making band to sell with discretion.
A good first step in curbing the black money economy would be to make tax evasion a criminal offence attracting a mandatory jail sentence. We need dedicated courts to try and expeditiously dispose of economic offences. The government needs to put its money where its mouth is – and not the other way around, as is increasingly the case.