Here I have compiled my takeaways from this book written by Arun Kumar.
INTRODUCTION:
Black Economy is the main reason why India continues to be poor, underprivileged country. And so respectable Mr. Narendra Modi had implemented demonetization in November 2016. But ironically, it had many flaws.
India’s black economy is estimated to be 62% of total GDP, larger than income generated by agriculture and industry together(39%) and is also larger than government spendings(27%). Due to its existence, India is losing average 5% growth since mid 1970s when black money became significant.
Last time black economy occupied the center stage before 2016 demonetization was in 2011 when a succession of scams surfaced and Arvind Kejriwl and Anna Hazare spearheaded a movement to root out the corruption in the country. In 2014 general election this issue became central, with BJP promising to bring back the black money held abroad by wealthy, corrupt Indians.
Government’s steps to curb black economy:
Since coming to power in 2014, NDA goverment has taken numerous steps
- Black Money (Undisclosed Foreign Income and Assets) and Imposition of Tax Act 2015
- Gold Monetization Scheme 2015
- Income Declaration Scheme 2016
- Benami Transaction(prohibition) Amandment Act 2016
Despite all this, it has not had much success dismantling the black economy. This is because no one truly understands the cause and effects of it.
MISCONCEPTIONS:
- Black money and corruption are synonyms.
- Corruption involves a quid pro quo either in cash or kind.
- Black money may not involve it (Eg. giving tuition and earn but not declare to tax authorities, under-invoicing, etc). While this is illegal to not declare your income, this isn’t corruption.
- They are both closely elated because i one rises, the other will reflect this change.
- Black money is a phenomenon solely concerning with public sector.
- the magnitude is in fact larger in private sector.
- Black Economy doesn’t matter as it is a part of the same economy along with white economy and therefore, results in higher levels of output and employment. Eg. a lawyer not disclosing his full income spends it on travelling, entertainment and other things out of the extra income. He also creates employment and their work increases output.
- It causes ineffeciency and economy is slowed.
- Eg. inadequate amount of tar is used to make roads to save money but they get easily worn out and need repairing every 6 months and we are unable to built new roads.
- It also causes failure of state politics.
- Checking the black ecnomy is a zero sum game with resources being redistributed from one part of the economy to another.
- It is in fact a positive sum game with those adversely affected by the elimination also benefiting. If economy were to be 7 times larger, businessmen presently generating black incomes would also be 7 times larger in spit eof paying taxes.
- Most of the black money is lying abroad in foreign bank accounts in tax havens.
- the opportunity cost of the flight of capital for indian economy was ₹135 lakh crore betweeen 1948-2012.
- Only 10% od annual black income generation goes abroad as flight of capital.
- Also, a large part of this has been brought back to india via round tripping, consumed, invested and so on.
Size of Black Economy
While biggest scam prior to 1990 was the Bofors scam at ₹64 crore, in the 1990s there were many scams that were above ₹1000 crore.The largest was Harshad Mehta led stock market scam od 1991-91.
{On 24 March 1986, a multi-million dollar contract between the Government of India and Swedish arms company Bofors was signed for supply of 410 155mm Howitzer field guns. It was then the biggest arms deal ever in Sweden.
On 16 April 1987, the first news of a possible scam involved in the deal surfaced. Swedish Radio had alleged that kickbacks were paid to people, including top politicians in India, to finalise and formalise the deal. It was alleged that the Swedish company paid ₹640 million in kickbacks to top Indian politicians and key defence officials. Meanwhile, journalist Chitra Subramaniam (now, the editorial advisor of Republic TV) secured over 350 documents that detailed the payoffs. Her investigation into the deal is widely believed to have contributed to the electoral defeat of Rajiv Gandhi in 1989.}
Besides scams, tax evaions have also found its way to the media headlines. Estimated that taxes not collected at present rates of taxes would amount to ₹37 lakh crore in 2016-17. If they were paid, we would show a surplus of ₹30 lakh instead of a fiscal deficit.
APPENDIX – HOW TO MEASURE THE SIZE OF BLACK ECONOMY
1) SURVEY APPROACH:
- Good only if people honestly report data. But in India, many people try to hide facts because they either don’t understand what is being asked or try to mislead the authorities for their own benefits.
- Can the consumption survey be used to track down black income? no. Because as income becomes a smaller and smaller part of one’s income; savings and investment becomes more and more important. Hence, the better off sections who generate black incomes are precisely the ones for whom consumption isn’t a good proxy for their incomes.
2)INPUT – OUTPUT APPROACH:
- If we know how much input is required to produce an output – called input output ratio – we should be able to work out the aggregate output in the economy.
- One can use energy or labour as an input since all production requires both of these. Input-output ratio is technologically defined. But there are many drawbacks: {a} amt of energy used in each sector is different {b} efficiency improves over time {c} forms of energy used also changes
3)MONETARIST APPROACH:
- Based on belief that money is needed to circulate both black and white incomes.
- If we can figure out, using statistical techniques, how much money supply circulates the white economy then the balance can be attributed to the existence of black economy.
- But the segregation of money between black and white economy is next to impossible.
- Also there is lot of deficiencies in the data available: {a}use of statistical techniques in the case of monitory approach turns out to be incorrect. {b} same problem occurs when input-output method is used, since the ratio is distorted by the black economy. Further, they dont take into account sectoral differences.
- eg. Agriculture doesnt generate black income but it uses money to circulate incoomes.
- Eg. Informal sector doesn’t generate black incomes so this sector also needs to be dealt with separately.
- Eg. Finance sector generates a huge amount of transactions for small incomes.
- MIMIC has been devised and used to estimate the size of the black economy for a large number of countries. It recognizes that black economy is an unobserved variable which has an impact on various other variables and they can be measured. Also it is affected by many other variables called input variable. Problem is that it uses same variables for each economy whereas they have thier own specific needs. Some may face problems of terrorism(Sri Lanka), some strong network of narcotic drug cartels(colombia), some face corrupt dictators (egypt) and some weak democracies. Also, black economy is different in developed and developing economies. In developed countries, it largelt comprises of wages and salary incomes and are generated largely in informal and illegal sectors. In developing countries, it emanates from property ( not real estate) income and is largely generated in formal and legal sectors.
- Monetarist method is unable o differentiate between formal and informal sector, it counts the part of informal sector not accounted in national income as black which isn’t correct for indian economy.
- The method is based on counting transactions that are not captured and as transactions are a large multiple on the incomes earned in the economy, it tends to give a higher figure for the black economy.
4)FISCAL APPROACH:
- Correct way to estimate the size of black economy in india.
- It takes into account main institutional factors in india: {a} illegallity is at heart of black economy’s problem in india and this is represented by the levels of crimes {b} bulk of black income is generated in service sector {c} over and under invoicing in foreign trade prevails
TRANSPARENCY INTERNATIONAL :
- Annually brings out a Corruption Index that ranks countries by their lvel of corruption in public sector.
- It also gives score from 0-100, 0 being least corrupt and 100 being most.
- In 2015, India was ranked 78 out of 168 countries and got a score of 38.
- This doesn’t show the size of black economy but the relative standing in the world. So if India reduces its black economy at same rae as other countries, its ranking wont change.
- Drawbacks: {a} It is based on a=survey of business managers who give their ranking and scores of level of corruption that they have perceived in those countries. thus, it’s also called ‘corruption perception index’. {b} it ignores the corruption in private sector {c} the sample of managers could be biased {d} not take into account corporate sector and corporate sector is small and doesn’t represent the masses in developing countries.
CH-1 WHAT IS BLACK ECONOMY ?
1.1 BLACK MONEY
Black money refers to cash saved from one’s black income. Of the income, a part is consumed, a pert is saved and small amount is kept as cash and is used as working capital.
The black economy is about earning incomes (flow) and not the holding of cash (stock).
So if one is trying to determine how large a country’s black economy is, one must understand that stocks do not necessarily tell us about the flow. Hence, it is incorrect to use the term black money to refer to the black economy.
1.2 PARALLEL ECONOMY
The word parallel means that 2 things will never meet. It is used because it is believed that the black and the white economy are separate from each other. This is false as :
- from the same economic activity, one can generate both white and black income. Eg. when selling real estate, you get a black component (say 40%) and a white component ( say 60%).
- Also you can easily convert black money to white and vice versa. Eg. One can obtain from a broker a book entry in, say, the share market. By registering profits, one can convert one’s black money to white and by taking loss, one can convert white into black.
1.3 INFORMAL ECONOMY
Westerners think of this as informal economy because they do a second or third job and they dont show the additional income they earn from it. While the little extra income from one’s informal activity is also taxable, as it is not declared, tax is evaded. In developed countries, taxation begins at a low multiple of per capita income, often even at a quarter of it. Thus, almost everyone comes in the tax net, including those below the poverty line; informal sector income also becomes taxable.
In India, taxation begins at a higher multiple of per capita income, say two or three times. So out of a population of 130 crores, only 5.2 crore people are in the tax net and out of these, only 1.5 crore (1.2% of opulation) pay significant amount of taxes and the rest pay low return or nil return.
94% of workforce in India works in informal sector and agriculture and they earn very low income so whether they declare their income or not, they don’t have to pay taxes and therefore can’t be said to be earning black income. A part of unorganised sector with taxable incomes ( and still not pay taxes) generate black income but vast majority in this sector cannot be said to be earning black income.
Thus, to call black economy as informal economy isn’t appropriate in Indian context as it is generated i both formal and informal sector.
1.4 ILLEGAL ECONOMY
In a country like India, black income comprises wholly illegal activity generating black income, as well as legal activities generating black income by committing an illegality which results in tax evasion.
1.5 UNACCOUNTED ECONOMY
GDP is estimated using different methods to account for the contribution of various sectors of the economy.
Eg. Contribution of agriculture is measured by the crop cutting experment. This involves the measurement of production from the sample fields all over the country and then multiplying it with the total acreage under the crop. So estimates doesn’t depend on anyone reporting their output from their field.
Eg. In construction sector, contribution is measured by product flow method. the inputs are taken into account and the output is estimated. This sector has a large unorganised or informal sector, for which the data isn’t easily available. So the income generated there are estimated with reference to the activity of organised sector.
Thus, the total national income is a mix of white and black incomes while what is not counted is also a mix of the two. Hence, it is incorrect to say that black income is unaccounted income while white is accounted income.
1.6 FACTOR AND TRANSFER INCOME
Factor Income – linked to production and distribution. Factor income generated through production are wages (include wages and salaries) and profit (profit include property incomes like rent, dividend and interest).
Transfer Income – linked to sale and purchase of assets( no production associated except for tiny brokerage). (real estate, stocks,bribe {a transfer takes place})
Only factor incomes are counted in national income because :
- transfer income (say property price rise, a capital gain is made) can easily be reversed due to fall in its price.
- They aren’t related to production
- The fluctuations due to paper gains would fluctuate the national income also.
Since black economy is measured as a percentage of white economy so what isn’t counted in white economy shouldn’t be counted in black either. Hence, gains in real state, stock markets and bribes shouldn’t be counted in calculations of black economy.
This doesn’t mean that transfer income doesn’t have an economic impact. It leads to redistribution of wealth. When paper gains are made, people feel wealthy and spend higher.
1.7 MULTIPLE COUNTING OF INCOMES TO BE AVOIDED
Exercise duty, Octroi tax, Sales tax, Corporation tax and Income tax (on dividends paid) are collected from a sugar supply chain. If production is understated, 5 taxes are evaded. If we count the incomes associated with all the taxes that are being evaded then we will count the black income generation 5 times.
1.8 MECHANISM OF BLACK INCOME GENERATION
Profit = Revenue – cost
White profit = declared revenue – declared cost
Black Profit = Undeclared revenue + Overstated costs
To sum up:
- Employment and wages overstated and so input-output ratio turns out to be incorrect
- capial is overstated while output is understated so Capital output ratio turns out to be overstated.
- taxes paid are lower so tax/GDP ratio come out to be lower.
Developing countries:
- Property (not same as real estate) income majorly constitutes black income.
Developed Countries:
- Factor income (wages) is the main generator of black income.
1.9 DEFINITION
The black economy consists of all activities in which black incomes are generated and black incomes are factor incomes, property incomes, not reported to direct tax authorities.
Kashvi Gandhi 