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More reform, fewer taxes can curb black money

Much like demonetisation, a crusade against black money stashed abroad does nothing to reduce the incentive to generate black money and, therefore, cannot solve the problem in the long run.

analysis Updated: Jul 28, 2018 18:45 IST
Illicit money may now be shifting from Switzerland to elsewhere rather than going down. Data on this is hard to come by since many banks and tax havens do not make their data available for scrutiny for obvious reasons (Getty Images/iStockphoto)

With the Narendra Modi government in its last lap heading toward the next general election, promises made in the last election campaign are rightly being scrutinised. One especially flamboyant promise that Modi made was to bring back to India all the black money that was stashed abroad and redistribute those monies to the poor. Fighting corruption and black money more broadly were important themes of the campaign where Modi was seen as strong and the incumbent Congress led government, vulnerable.

Four years on, despite a lot of noise, not much progress seems to have been made. Demonetisation did not succeed in eliminating black money at home, although it did act like a one time “tax” on holders of illicit cash. As for money stashed abroad, the government has been in a defensive posture since a recent news story which as it turns out erroneously claimed that money deposited in Swiss banks had jumped by 50%. In a bizarre twist, it took the Swiss ambassador to India to point out the error and point to the correct data from the Bank of International Settlements, which showed to the contrary that money deposited in Switzerland fell by 35 percent between 2016-2017, the last year for which we have data.

After the initial report, the government’s response was that not all money stashed abroad is black. However after the error was revealed a month later, it pointed to the decline in money held by Indians in Swiss banks as a sign that the government’s efforts to crackdown were paying off.

Interestingly, BIS data (see chart) paints another picture. This shows clearly that Indian residents’ money in Swiss banks after rising steadily reached a peak in 2007 and has been steadily declining since then. In other words, the decline last year is simply the continuation of a trend that goes back to the previous government, and it is hard to see how the current government can take much credit for this.

More to the point, the decline in monies held in Swiss banks not just by wealthy Indians but by others has much more to do with Switzerland than India. Under fire from many countries, especially the United States who complained the Swiss were providing refuge to illicit money that should rightly be taxed in their home countries, Switzerland has been forced to water down their bank secrecy laws and make data available to the home countries of depositors who were previously secret.

In other words, illicit money may now be shifting from Switzerland to elsewhere rather than going down. Data on this is hard to come by since many banks and tax havens do not make their data available for scrutiny for obvious reasons.

However, Hong Kong has for the last few years and that data shows deposits by Indians in Hong Kong banks increased by 50% in the same year it dropped in Swiss banks. What is more, the amount that went into Hong Kong banks in 2017 (US $4.6 billion) was larger than what was deposited in Swiss banks (US $0.52 billion). Further, as widely reported at present some 53% of money deposited abroad is in Asian tax havens. These are inconvenient facts for anyone who wants to claim that the government’s crackdown on Indians stashing money abroad is working.

The truth is that a promise to bring back black money never made much sense as a priority although it appeared to resonate with voters disgruntled with corruption. But this focusses on the symptoms rather than the cause of the disease. Large quantities of black money are generated in India because of the remnants of the license raj and exorbitantly high taxes and onerous regulations which drive people and businesses into the grey and black economies. Indeed, we’ve been creeping back in this direction with command and control policies like anti-profiteering authority constituted after the GST, price caps, import substitution and the like. This will only increase the possibilities for rent seeking and black money.

A crusade against black money stashed abroad does nothing to reduce the incentive to generate black money and therefore cannot solve the problem in the long run. That would require more reform, reasonable taxes, and wider but simpler regulations.

Rupa Subramanya is an independent economist and researcher based in Mumbai

The views expressed are personal

First Published: Jul 28, 2018 17:43 IST