Why GST hasn’t helped fulfil Modi’s promise on black money

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(The latest estimate of India’s black economy pegged it at 62% of the GDP in 2012, compared with 4–5% in 1955–56. The triad of corrupt businessmen, corrupt political class and corrupt executive is responsible for this surge in unaccounted wealth.)

Various governments have taken steps to tackle the black economy in the last seventy years. Many committees and commissions have been set up to study the problem and they have made thousands of suggestions and hundreds have been implemented.

In 2016, demonetisation was announced with a big bang. It caused untold misery to the poor who never generated any black incomes while those generating black incomes and who had accumulated much black wealth went scot free; the problem did not get solved. The reason is that the underlying cause of the black economy’s existence is not technical or economic but political and that remains unresolved.

Proponents of GST have been arguing that it would help tackle the black economy since all inputs and outputs in the entire chain of production and distribution would be computerised. As argued, this is not entirely true for the Indian GST since it has various exemptions and certain key commodities are kept out of its purview.

Further, small and cottage sectors are largely outside its scope. More importantly, Indian businesses are adept at keeping two sets of accounts and they can continue to do so.

Finally, it is believed that digitisation would help tackle the black economy. It is argued that the informal sector would get formalised and come under the tax net. This is an incorrect understanding of the nature of the black economy in India.

Most of the unorganised sector earns incomes way below the taxable limit. To understand this, it is important to know that in India, taxation begins at a multiple of the per capita incomes and income inequality is high. Hence, a vast majority of the people earn incomes way below the taxable limit and do not fall in the tax net. An overwhelming majority of those below the taxable limit belong to the low-paid unorganised and informal sector.

Thus, whether these people declare their incomes or not, they remain outside the tax net. Further, they are not the cause of black income generation and even if these people get formalised, this process will not impact the black economy.

To understand whether GST will be able to help tackle the black economy or not, it is important to familiarise oneself with some key aspects of the black economy.

Key features of black economy—misperceptions

Not only is the perception that black incomes are generated in the informal sector incorrect, there are other misperceptions about the black economy.

For instance, demonetisation was premised on the notion that “black means cash.” This led to the unfortunate conclusion that if cash is squeezed out of the system, then the black economy would disappear at one stroke.

The confusion was also about black money and black income. The former is a tiny part of the black wealth that is accumulated over the years while the latter is what is earned every year. Out of the incomes earned, a part is invested which adds up every year and becomes a person’s wealth.

So, it is shown in a recent book that black cash is a tiny part of the black wealth and it does not impact the generation of black incomes. Thus, demonetisation did not manage to curb the black economy.

It has been argued that use of technology can help curtail black economy. It is felt that the human element is incorrigible so it needs to be eliminated from business transactions if the black economy is to be eradicated. The underlying assumption is that the human element can be eliminated in the running of society. This is a flawed notion since it is human beings who operate technology even if the number of human beings running systems can be reduced. As long as human intervention is needed, illegality can persist.

The idea that more laws are needed to check the growth of black economy is also flawed. As explained in a book on the Indian economy by this author there can be no perfect law since human ingenuity can find a way of circumventing any law.

The same book discusses the many other misunderstandings about the black economy, like, that all the black money is held abroad and that it can be easily tracked and brought back. This was a promise at the time of the 2014 national elections. However, only 10% of the black incomes generated annually are taken abroad. So, most of the black money is in India. Further, through round tripping a large part of the money taken abroad is brought back. In effect, what is held abroad is nowhere close to what was stated at the time of the 2014 elections.

Similarly, it is a mistake to believe that black money is generated in real estate. The white paper on black money by the government of India stated that it is the biggest generator of black incomes.

However, this author showed in 1999 that black money is circulated via real estate but not generated there.

GST does impact the process used by businesses to generate black incomes but does it tackle the root of the problem? If not, new processes will be developed by the unscrupulous to generate black incomes in different ways.

Is there a remedy?

Arguments given above imply that the black economy can only be checked if the triad is dismantled.

If not, whatever steps are taken will only lead to a change in the form of the black economy and not its eradication. Unfortunately, the triad in India has strengthened over time, in spite of the many steps taken in the past or the promulgation of new laws.

The triad has not only proved to be durable but has become stronger over time because it serves the interest of each of its components.

In brief, as argued in a recent book, tackling the black economy is a political and societal issue which only movements can address. There is a need to change the consciousness of the public at large so that they demand accountability from their elected representatives.

But the public is also compromised. It votes for a person from its own caste, region, community, etc., even if they are corrupt and/or have a criminal background. No wonder the number of legislators with criminal cases against them has grown rapidly as Association for Democratic Reform (ADR) has documented.

The public chooses one who will do their work, regardless of legality, given that policies fail. There is also a growing belief that one community can only gain at the expense of others.

People have come to believe that it is a zero-sum game and not a positive-sum game. GST does not dismantle the triad and hence cannot tackle the black economy. As argued above, ways to circumvent the GST laws will emerge to enable the black economy to continue, even if its form changes.

Excerpted from Arun Kumar’s book Ground Scorching Tax with permission from Penguin Random House India. We welcome your comments at ideas.india@qz.com.