Surgical strikes on black money in real estate and gold will not be possible
The logical and only consistent long-term way of eliminating black money in any sphere is to promote transparency and coaxing citizens to move away from cash (to e-cash)
Among the arguments one keeps hearing on TV debates, often not the best places to find economic literacy, is that demonetisation will not make any difference since only 5-6% of black money is in cash. Another criticism is that the government simply did not plan well for the fallout and that millions are queuing up before banks and ATMs, causing needless inconvenience to the ordinary citizen and disrupting everyday cash-based transactions.

The government has rejected the second argument by simply citing the need for secrecy. And it is by and large correct. The only way to be better prepared for a situation in which 80% of your currency will be rendered invalid is to have new notes ready in advance, and by reconfiguring the ATMs in advance. Neither effort could have been kept a secret, for ATMs are serviced by hundreds of engineers, and software and logistics service providers. Printing more ₹500 notes in advance would also have been an option, but scores, if not hundreds of people in the Reserve Bank of India, the finance ministry, and the currency printing presses would have been in the know.
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Now, to the larger point raised by critics, that junking high denomination currency is the worst way to attack black money, since cash constitutes only a small fraction of the total stock (and flows) of black money.
Let’s assume that the critics are right about 5% being the likely proportion of black money in the economy. The bulk is in real estate and gold. The flaw in this argument is this: Every illegal real estate deal has a cash component. So 100% of such deals depend on cash.
Then there is the issue of velocity of money movement in illegal deals. Physical cash may be just 5% of deals, but when deals happen multiple times, the same 5% passes through many hands, expanding the level of tax evasion multifold. Cash is the grease needed to facilitate tax-evaded transactions, and if you want to apply the brakes, mixing sand in the grease is a good beginning. This stalls, at least temporarily, the black money engine.
The operative word in the above sentence is “temporarily”. Demonetisation is not the end, but only the beginning. The logical next question thus is: What next?
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There are several answers to this question, especially real estate and gold, where black money is rampant. However, these are not the right places to begin for the simple reason that they can be even more disruptive than demonetisation. Real estate is very closely enmeshed with the entire financial system, and any major damage here can destabilise the economy. Consider the collateral damage: Banks are highly exposed to real estate and home loans; if you attack benami real estate aggressively, property prices will crash, and banks will have to force home buyers to either pay more EMIs or shorten their tenures or bring in more margin money. Moreover, their bad loan problem will get worse. And let’s not forget, the entire core sector — from cement to steel and power — is linked to real estate and construction. So real estate black money will have to be defanged in stages. No surgical strike is possible.
The same applies to gold, which employs lakhs of workers in design and handcrafting of gems and jewellery and is easy to hide. Ferreting out anyone’s hidden gold wealth means invading the privacy of homes — the worst form of tax terrorism possible. Gold-linked black money can be reduced only by bringing the jewellery business into the formal system of taxation, which is what the GST system will do. We should leave the gold business to GST.
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The logical and only consistent long-term way of eliminating black money in any sphere is to promote transparency and coaxing citizens to move away from cash (through digital and web-based payments). Any interface where a citizen has to face a government official and pay fees or taxes in cash needs to be eliminated; this means e-payments must become the norm for registrar offices (for stamp duty, marriage certificates, home registration, etc), traffic violations, issue of trucking permits, highway tolls, et al. Only when the citizen-government interface is eliminated will the tendency of officialdom to demand bribes for speeding up processes reduce.
We have already seen this happen with train ticketing and tax payments. Both Centre and states need to take this to every possible area of citizen-government interface.
The way to tackle real estate corruption and black money is to make all processes — building and environmental permissions, floor-space index (FSI) rules — transparent and time-bound. Big money is generated in real estate primarily in two ways: Politicians and bureaucrats demanding bribes for building permits by using their powers to delay; and through the adoption of arbitrary FSI policies. Mumbai land prices are kept artificially high by maintaining low FSI. The minute the FSI is raised, land prices may crash, making mass housing viable. When these decisions are made rule-based and non-discretionary, netas and babus will lose their ability to demand bribes, most of which comes in the form of benami property ownership.
Unfortunately, these reforms depend on states, and not the central government. Prime Minister Narendra Modi has to prod the state governments to move faster on this front.
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The Gangotri of black money is election funding. Modi talked of reforms in this area. Some commentators wonder if the money can be found for full State funding of polls. The answer is yes. If you end the MPLADS scheme, you get ₹20,000 crore every five years. Or you could add a cess of, say, 0.1-0.3% to GST. It would be enough to finance all polls at the Centre and states. Money is not the problem. Political will is.
R Jagannathan is an economic commentator and editorial director, Swarajya
The views expressed are personal