Category: Vivek Kaul’s Diary | Page 5

30 January, 2018

One Learning from Economic Survey: India’s Future is Pakodanomics

One issue that I have regularly written and discussed in my columns is India’s investment to gross domestic product (GDP) ratio, which has fallen dramatically over the years. The latest Economic Survey gets into great detail regarding this issue and paints, what I would call a very bleak picture of India’s economic future.

India’s investment to GDP ratio “climbed from 26.5 percent in 2003, reached a peak of 35.6 percent in 2007, and then slid back to 26.4 percent in 2017.” This is a huge fall of 9.2 per cent from the peak.

As the Economic Survey points out: “And while it is true that the past 15 years have been a special period for the entire global economy, no other country seems to have gone through such a large investment boom and bust during this period.”

Why has this dramatic fall in investment as a proportion of the overall economy happened? This is something that has been analysed to death. Nevertheless, as the Survey points out: “India’s investment slowdown is unusual in that it is so far relatively moderate in magnitude, long in duration, and started from a relatively high peak rate of 36 percent of GDP. Furthermore, it has a specific nature, in that it is a balance sheet related slowdown. In other words, many companies have had to curtail their investments because their finances are stressed, as the investments they undertook during the boom have not generated enough revenues to allow them to service the debts that they have incurred.”

It is well known that companies tend to invest and expand when they are unable to meet the demand from their current production capacity. The Reserve Bank of India carries out capacity utilisation surveys of manufacturing firms every three months. The latest survey for the period April to June 2017, found that capacity utilisation stood at 71.2 per cent. In fact, capacity utilisation has varied between 70 and 72 per cent for a while now.

As economist Madan Sabnanvis writes in his new book Economics of India-How to Fool all People for all Times: “The capacity utilisation rate has gotten stuck in the region of 70-72 per cent which means two things: first demand is absent, and second, even if it does increase, production can be scaled up without going in for fresh investment.”

While, it is easy to hope that this is something that can be unravelled, history tends to suggest otherwise. The Economic Survey looks at many other countries which, in the past, have gone through what India is currently going through on the lack of investment front. The Survey specifically looks at “cases in which the rate of investment has fallen by at least 8.5 percentage points from its peak over a 9 year period are considered.” It then goes on to find out, “what is the investment rate 11, 14 and 17 years after the peak?”

The results are far from encouraging. As the Survey points out: “Investment declines flowing from balance sheet problems are much more difficult to reverse. In these cases, investment remains highly depressed, even 17 years after the peak… India’s investment decline so far has been unusually large when compared to other balance sheet cases.”

The Survey further points out: “The median country reverses only about 25 percent of the decline 14 years after the peak, and about 40 percent of the decline 17 years after the peak.” This conclusion is based on a sample of 30 countries where the investment to GDP ratio fell by 8.5 per cent from its peak, over a 9-year period. As we have seen earlier, the investment to GDP ratio in the Indian case fell from a peak of 35.6 per cent in 2007 to 26.4 per cent in 2017.

The data points stated above do not give us much hope. It basically means that over a period of 11 years after the investment to GDP ratio peaked, the median country in the sample tends to improve its investment to GDP ratio by 2.5 per cent from the lowest level achieved. As the Survey points out: “A ‘full’ recovery is defined as attainment of an investment rate that completely reverses the fall, while no recovery implies the inability to reverse the fall at all or worse.”

The trouble is in the Indian case, more than a decade has elapsed, and the investment to

GDP ratio has continued to fall.

Take a look at Figure 1.

Figure 1: Count and Extent of Recovery from India-Type Investment Decline*Note: *T is the peak time Period *: A fifty percent recovery implies that the country attained an investment rate that reversed half of the 8.5 percentage point fall. The dots imply the percentage of the total fall that the median country namaged to reverse.

Figure 1, basically points out that over a period of 17 years after the investment to GDP ratio peaked, 10 out of the 28 countries were able to make a recovery of more than 50 per cent. Given that the Indian investment to GDP ratio has continued to fall, this does not give us too much hope. Despite this large fall in investment, India has had to pay a moderate cost in terms of growth. As the Survey points out: “Between 2007 and 2016, rate of real per-capita GDP growth has fallen by about 2.3 percentage points-that is lower than the above 3 percent decline in growth noticed, on average, in episodes in other countries that have registered investment declines of similar magnitudes.”

It is a given that unless this investment slowdown reverses at a very rapid rate, India’s hopes of providing jobs and decent employment opportunities, to a million Indians who are entering the workforce every month and the 8.4 crore Indians who need to be moved out of agriculture to make it economically feasible, remains just that, a hope.

India’s hopes of a double digit economic growth, also remain just a hope. As the Survey points out: “A one percentage point fall in investment rate is expected to dent growth by 0.4-0.7 percentage points.”

What does the Economic Survey think India’s chances are? “India’s investment decline seems particularly difficult to reverse, partly because it stems from balance sheet stress and partly because it has been usually large. Cross -country evidence indicates a notable absence of automatic bounce-backs from investment slowdowns. The deeper the slowdown, the slower and shallower the recovery,” the Survey states.

But given that it is a government document, it ends on a note of hope. “At the same time, it remains true that some countries in similar circumstances have had fairly strong recoveries, suggesting that policy action can decisively improve the outlook,” the Survey states. While this sentence suggests hope, there is nothing in the analysis carried out in the Economic Survey, which gives any hope.

The trouble is that the policy action has had next to no impact on the investment to GDP ratio for more than a decade now. The ratio has simply continued to fall.

So, what does that leave us with? Without an increase in investment there will be very few jobs and employment opportunities being created. Basically, any industry that is set up in any area, first provides jobs to people who work for it. It also creates jobs for the ancillary industries which feed into it. Over and above this, it creates other employment opportunities in the area.

When the IT industry took off in and around Bengaluru, other than providing jobs to engineers, it provided employment opportunities for drivers, cooks, maids, shop keepers, and so on. At the second level, as the engineers earned more, and demanded good residential spaces to live in, it created demand for builders. That in turn created employment opportunities in the construction and the real estate industry. And so cycle worked.

To conclude, the question is what will feed India’s huge demographic dividend of one million youth entering the workforce, every month, if investment doesn’t take off? The only answer right now is: Pakodanomics.

And to distract attention from Pakodanomics, given that it is not a great way to make a living, we will keep having more and more Padmavats, for distraction.

(You can read in detail about pakodanomics here and here).

The column was originally published in Equitymaster on January 30, 2018.

24 January, 2018

Why Pakodanomics is Not the Answer to Creating Employment

narendra_modi

India gave the world zero, and helped Mathematics, which until then was dependent on Roman numerals, leapfrog.

Last week we also gave the world, what I would like to call pakodanomics (I guess even bondanomics would work fine).

In a television interview, prime minister Narendra Modi, said: “If someone opens a ‘pakoda’ shop in front of your office, does that not count at employment? The person’s daily earning of Rs 200 will never come into any books or accounts. The truth is massive people are being employed.”

Thus, prime minister Modi, helped found a new discipline in economics, pakodanomics.

What was prime minister Modi really trying to say here? This entire jobs crisis is being overblown. What is important is employment and not jobs. This, I think, is a fair point, which most people in India do not get, given our fascination for sarkari (i.e. government) jobs. Of course, expecting the government to create employment for one million Indians entering the workforce every month and the 8.4 crore Indians who need to be moved from agriculture to make it economically feasible, is unfair. That point is well taken.

Employment can come in various forms. Even selling pakodas and making Rs 200 per day is employment. Selling pakodas on the street is incidental here. What is more important is that the prime minister of India is saying that people can sell stuff on the street, make money and employment can thus be generated.

There is a basic problem with this argument. Before I get into explaining that problem, a couple of clarifications: a) I didn’t come up with the example of the selling pakodas, the prime minister did. b) The piece is not about the unit economics of pakodawallahs and how much money they make on a given day (I know, dear reader, you know a pakodawallah who is a millionaire). But it is about selling any product on the street to earn Rs 200 per day and the prime minister of our country offering this as an employment opportunity.

At Rs 200 per day, the annual income of an individual selling pakodas (Again, let me repeat here, pakodas are incidental to the entire example. It is about making money by selling stuff on the street) would be Rs 73,000 (Rs 200 x 365 days). This is assuming that he sells 365 days a year. This is an unrealistic assumption, but we will let it be.

The per capita income of an average Indian was Rs 1.03 lakh in 2016-2017. Hence, the individual selling pakodas earns 29 per cent less than the average Indian. If I were to flip this point, an average Indian makes 41 per cent more than the individual selling pakodas. So, clearly there is a problem.

Of course, someone has to earn lower than the average income. But the difference between the average income and the income of the individual selling pakodas is significant. PM Modi’s pakoda seller is not earning much simply because there are too many people out there selling pakodas. At a broader level there are too many Indians selling stuff on streets. This is primarily because there aren’t proper jobs going around. And if there are, people are unskilled to carry them out.

Let’s get into a little more detail by looking at some data. Take a look at Table 1, which deals with the self-employed people in India.

Table 1: Self Employed / Regular wage salaried / Contract/ Casual Workers
according to Average Monthly Earnings

What does Table 1 tell us? It tells us that nearly half of India’s workforce (46.6 per cent to be exact) is self-employed. Further, 67.5 per cent of India’s self employed make up to Rs 90,000 a year. A little over 41 per cent make only up to Rs 60,000 a year. What does this tell us? It tells us very clearly that self-employment (selling pakodas for example) does not pay well.

Most of India’s self-employed workers make lesser money per year than the average per capita income of the country, which in 2015-2016 (for which the self-employed data is), was Rs 94,130. So, there is a clearly a problem with being self-employed. (The good part is, it is better than being a casual labourer, which is by far worse. But to be self-employed you need some basic capital to start, which many Indians, who end up as casual labourers, don’t).

People in India are self-employed because they do not have a choice. Currently, the government is busy trying to pass of self-employment in India as entrepreneurship, which are two very different things. People in India become self-employed because there are no jobs going around for them. Entrepreneurship, on the other hand, is by choice.

Further, as can be seen from Table 1, getting a job is more monetarily rewarding than being self-employed. Hence, selling pakodas or being self-employed, is not the solution to the problem. It is a symptom of the problem, an indication of the problem and the fact that barely anything is being done about it.

To conclude, zero was a useful invention, pakodanomics isn’t. It’s better to get rid of it as soon as possible and concentrate on the real problem of creating the right environment which will help the real entrepreneurs create genuine employment opportunities for India’s youth.

As I keep saying, the first step towards solving a problem is recognising that it exists.

The column originally appeared in Equitymaster on January 24, 2018.

22 January, 2018

India’s Jobs Problem: No One Sells Pakodas In Front of Your Office?

So, India does not have a jobs problem. We are generating enough jobs and everybody is living happily ever after.

Or so seems to suggest a new study carried out by Soumya Kanti Ghosh, Chief Economic Adviser at the State Bank of India and Pulak Ghosh, a Professor at IIM Bangalore. The study uses data from Employees Provident Fund Organisation (EPFO).

In a column in The Times of India, the authors write: “Based on all estimates, we believe that 7 million formal jobs are being added to payroll on a yearly basis.”

This new study has caught the imagination of the media and the politicians in power and is being flagged all around. If seven million jobs are being created in the formal sector every year, India does not have a jobs problem. The informal sector does not have to register with the EPFO. Informal sector is that part of the economy which is not really monitored by the government and hence, it is not taxed.

The informal sector in India, up until now, has been creating a bulk of the jobs. There are various estimates available on this. Ritika Mankar Mukherjee and Sumit Shekhar of Ambit Capital wrote in a recent research note: “India’s informal sector is large and labour-intensive. The informal sector accounts for ~40% of India’s GDP and employs close to ~75% of the Indian labour force.”

The Institute for Human Development, India Labour and Employment Report, 2014, points out: “An overwhelmingly large percentage of workers (about 92 per cent) are engaged in informal employment and a large majority of them have low earnings with limited or no social protection.”

As the Economic Survey of 2015-2016 points out: “The informal sector should… be credited with creating jobs and keeping If unemployment low.” If seven million jobs are being created just in the formal sector, imagine what must be happening in the informal sector. Firms and individuals operating in the informal sector, must be falling over one another to recruit people for jobs they have on offer. But is that really happening?

As I have mentioned in the past, 12 to 15 million Indians are entering the workforce every year. And given that seven million jobs are being created just in the formal sector, the individuals currently entering the workforce must be having a ball of a time, with so much to choose from.

Of course, all this goes against what I have been writing all along about India having a huge jobs problem and the fact that India’s so called demographic dividend is being destroyed. But it also goes against a lot of other data that is on offer.

Jobs are created when companies invest and expand. Let’s first look at the investment to gross domestic product (GDP at constant prices) ratio of the Indian economy. This ratio as I have written in the past has been falling for a while now. Take a look at Figure 1:

Figure 1:

As is clear from Figure 1, investment as a part of the overall economy (represented by the GDP) has been falling over the years. How are seven million jobs being created in this scenario? In fact, let’s take a look at the incremental investment to incremental GDP ratio, over the years, in Figure 2. This basically plots the ratio of the increase in investment during the course of a year, against the increase in GDP during that year.

Figure 2.

The incremental investment to incremental GDP Ratio between 2013-2014 and the current financial year (2017-2018) has varied between 8-25 per cent. India seems to have discovered a new economic model of creating jobs without a pickup in investment, i.e., if seven million jobs are indeed being created every year.

Companies tend to expand when they are unable to meet the demand from their current production capacity. The Reserve Bank of India carries out capacity utilisation surveys of manufacturing firms every three months. The latest survey for the period April to June 2017, found that capacity utilisation stood at 71.2 per cent. In fact, capacity utilisation has varied between 70 and 72 per cent for a while now.

The question is how are jobs being created without expansion?

In fact, the data from Centre for Monitoring Indian Economy suggests that new projects announcement in the period of three months ending December 2017, came in at a 13-year low. Take a look at Figure 3.

Figure: 3

The new investment projects announced during the period of three months up to December 2017, were the lowest since the period of three months ending June 2004. This is a clear indication of the fact that the industry is not betting much on India’s economic future because if they were they would be expanding at a much faster rate and announcing more investment projects than they currently are.

The industrialists may say good things about India in the public domain and in the media, but they are clearly not betting much of their money on the country. And this brings us back to the question, if the industry is not investing, how are jobs being created?

Let’s take a look at the money lent by banks to industry, in Figure 4.

Figure 4:

The bank lending to industry has been falling over the years. In fact, lately, it has been in negative territory, which means that the overall bank lending to industry has contracted.

This means that on the whole, banks haven’t lent a single new rupee to industry, lately. And that is another good example of industries not expanding. This brings us back to the question: how are seven million formal jobs being created then?

One argument that can be offered against Figure 5 is that over the years many corporates haven’t been borrowing from banks to meet their funding needs. This is true. But this is largely limited to large corporates. Global experience suggests that jobs are actually created when micro, small and medium enterprises expand, and become bigger. In order to do that, they need to borrow.

How does the scene look when we leave out large corporates? Let’s take a look at Figure 5.

Figure 5:

Bank lending to micro, small and medium enterprises, has been in negative territory for a while now. This basically means that the overall lending to these enterprises has contracted and not a single new rupee has been lent by banks to these firms. How are these firms investing and expanding and creating jobs?

Of course, manufacturing is not the only sector creating jobs. The services sector creates a huge number of jobs of India. One of the biggest job creators in the services sector are real estate companies, which are currently down in the dumps. The construction sector is also a heavy job creator, but with real estate being the way it is, construction is not doing too well either. The information technology sector is looking to shed jobs at the lower end, with robots taking over. Tourism was never a heavy employer of people, in the formal sector, which is what we are talking about here.

Arvind Panagariya, who was the vice chairman of the NITI Aayog, until August 2017, maintained during his tenure, that India was not creating jobs, because India’s entrepreneurs were not investing in labour intensive activities.

In fact, on August 25, 2017, a few days before his tenure ended, Panagariya said: “The major impediment in job creation is that our entrepreneurs simply do not invest in labour intensive activities.”

This becomes clear from India’s exports. If one looks at labour intensive exports like textiles, electronic goods, gems & jewellery, leather and agriculture, exports have more or less remained flattish over the last few years. (For a detailed exposition on this, you can click here). So, how are jobs being created with exports remaining flat in labour intensive sectors? Further, if we do believe that seven million jobs are being created every year, then was one of the main economic advisers to the prime minister, wrong all along?

Also, if so many jobs are being created, why does India have so much underemployment. Take a look at Table 1.

Table 1: Percentage distribution of persons available for 12 months based on UPSS approach

What does Table 1 tell us? It tells us that in rural India, only 52.7 per cent of the workforce which was looking for work all through the year, actually found it. 42.1 per cent of the workforce found work for six to 11 months. If there are so many jobs being created, why are these people finding it difficult to find work all through the year, is a question worth asking. Further, if so many people are finding jobs, why has economic growth slowed down over the years. Are these people earning and not spending money? Also, if there are so many jobs going around, why have the land-owning castes across the country been protesting and demanding reservations in government jobs. Is there an explanation for that?

In the end, there is way too much evidence against not enough jobs being created. Trying to brush that aside, on the basis of a shaky study, will do the nation way too much harm. As I keep saying, the first step towards solving a problem is acknowledging that it exists, otherwise there are enough people selling pakodas, bondas, sandwiches, timepass and what not, outside our offices. But that doesn’t really solve the problem.

Postscript: In order to understand the basic methodological flaws in the study carried out by Ghosh and Ghosh, I suggest you read this.

In order to understand the basic problems in using EPFO data to estimate jobs, I suggest you read this.

The column originally appeared in Equitymaster on January 22, 2018.

18 January, 2018

Selling Air India Will Be a Real Test for Modi Govt

Air_India_001
The government owned airline Air India has been losing a lot of money over the years. Take a look at Table 1, which lists out the losses of the airline over the last few years.

As can be seen from Table 1, over the last seven financial years, the airline has made losses of Rs 39,535 crore. Over the years, many experts have attributed different reasons for the airline doing so badly. While we can keep debating about these reasons, what is more important is that the government stops supporting the airline now and use that money in other more important areas like education, health, agriculture etc.

Table 1:

	Air India Losses (in Rs crore)
2010-2011	6,865
2011-2012	7,560
2012-2013	5,490
2013-2014	6,280

2014-2015	5,860
2015-2016	3,837
2016-2017	3,643
Total Losses	39,535

Source: Public Sector Enterprises Surveys and Loksabha Questions PDF

In 2012, the government had approved a turnaround plan for Air India. It entailed an equity support of Rs 30,231 crore from the government, over a period of ten years. Of this amount a total of Rs 26,545.21 crore had already been released by the government to Air India, as of December 2017. Given that the airline continues to lose money, it is important that the government stops investing more money in the airline.

As on September 30, 2017, the airline had a total debt of Rs 51,890 crore. Of this working capital loans amounted to Rs 33,526 crore. A reasonable question to ask here is why are the working capital loans of the airline so high? Given that the airline has been making huge losses over the years, it has needed loans to keep afloat.

The next question is why have banks lent money to an airline which has lost so much money over the years? The answer lies in the fact that lending to Air India, is like lending to the government and governments typically don’t default on the money they borrow. (At least that is what the financial markets tend to assume most of the time).

Also, in order to keep repaying working capital loans over the years, the airline has had to take on more loans. Of course, the only institution which can keep taking new loans to repay old loans, without being questioned, is the government.

To its credit, the Narendra Modi government has initiated the strategic disinvestment plans for Air India (strategic disinvestment is a government euphemism for privatisation). In May 2017, the NITI Aayog recommended the disinvestment of Air India and its subsidiaries. In June 2017, the Cabinet Committee on Economic Affairs (CCEA), gave an in-principle approval for considering strategic disinvestment of Air India and its five subsidiaries.

Further, last week the government allowed 49 per cent foreign direct investment in Air India. This means that foreign airlines can now team up local players to buy the airline. Up until now, foreign airlines were allowed to buy up to 49 per cent of a local Indian airline, but this wasn’t allowed for Air India.

There are a number of issues that still remain and need to be handled smoothly and successfully, if Air India has to be sold.

1) The airline has a debt of close to Rs 52,000 crore. No airline is going to buy Air India along with this debt. The CCEA which gave an approval to privatise the airline in June last year, also decided to constitute an “Air India Specific Alternative Mechanism (AISAM) to guide the process on Strategic Disinvestment of the same.”

As the minister of state for finance Pon Radhakrishnan told the Lok Sabha in a written answer in December 2017: “AISAM decided for creation of a Special Purpose Vehicle (SPV) for warehousing accumulated working Capital Loan not backed by any asset along with is four Subsidiaries, noncore assets, painting and artifacts and other non-operations assets of Air lndia Limited.”

This basically means that in order to sell Air India, the government is ready to take on the working capital loans of Air India.

2) If the government is ready to take on the working capital loans of Air India, amounting to Rs 33,526 crore, then the unions of Air India might have a question or two for the government. As a Business Standard report points out: “The Air India unions have represented to the government that if the government writes off the Rs 30,000 crore debt, which is the key to the financial problem, there is no justification to privatise the airline. Surely they will not take it lying down.”

It remains to be seen how does the Modi government handle the nuisance value of the trade unions.

3) Further, Air India has aircraft loans of Rs 18,364 crore. It remains to be seen whether prospective bidders for the airline would want to start their business with loans of more than Rs 18,000 crore. If they do take on this debt, the price they will be ready to pay for the airline won’t be very high. It remains to be seen if this will be acceptable to the government, which tends to treat its ownership in public sector enterprises as family jewels (By government I mean any government and not just the current one. This attitude of treating public sector enterprises as family jewels has cost the nation so much. But that is a topic for another time and another day).

One way to handle this would be to handover Air India to another airline or a company, at a nominal price, on the condition that they take over the debt. The Business Standard report quoted earlier points out: “Look at how the government in Malaysia sold the debt-ridden Air Asia to Tony Fernandes at just one ringgit, and he took over the debt. That has to be the approach because you are not going to make money for your disinvestment target through the Air India sale.” This makes tremendous sense, but given the family jewels point, I am not sure how realistic it is. Also, in this case, the government can retain some minority stake in the airline and if and when the airline starts to do well that stake can be encashed (Precisely like it did in case of Maruti).

4) Most importantly, what happens to all the employees of Air India. As per the 2015-2016, annual report of Air India, the airline had 19,285 employees (this does not include the people working for its subsidiaries). While, the airline seems have the right number of pilots and air crew, it is particularly bloated when it comes to maintenance and ticketing and sales divisions.

A December 2017 report in the Mint points out that the airline had 5,931 employees in its maintenance division and 4,221 employees in its ticketing and sales division. In comparison, Indigo, had 739 and 69 employees in these divisions, respectively.

It remains to be seen how does the government handle this. Any airline which wants to acquire Air India is not going to employ 4,221 employees in the ticketing and sales division.

That much is very clear.

So, what happens to these and other employees? “Various options are under consideration to protect the interests of the employees,” civil aviation secretary R N Choubey told PTI. Last week, minister of state for civil aviation Jayant Sinha had told CNBC TV18, “We will make every effort to protect Air India staff.”

In an answer to a Lok Sabha question, Sinha denied any plans to offer a voluntary retirement scheme to around 15,000 employees of Air India, before the disinvestment of the airline.

Handling the employees of Air India, will be the most significant challenge for the government in the run-up to the sale. In the past, when government owned airlines have been sold in other parts of the world, the number of employees working for the airline has come down considerably, for the airline to be viable for the firm buying it.

Once we consider all these factors, the privatisation of Air India will be a real challenge for the Modi government. I sincerely hope that they are able to push it through and the money thus saved is better spent somewhere else. Also, once Air India is privatised, the chances of the government getting out of many other businesses, will go up dramatically.

The column appeared originally on Equitymaster on January 15, 2018.

18 January, 2018

Why Income Tax Will Stay

Every year, before the annual budget is presented, suggestions are made to scrapthe income tax paid by individuals. The economist/politician Subramanian Swamy has also said so in the past. The logic typically offered is that the individual income tax forms a very small part of the total taxes collected by the government, and hence, it should be scrapped.

Let’s look at Table 1, which

Table 1:

Assessment year	Individual income tax as a proportion of total taxes collected by the government	Individual income tax as a proportion of GDP
2012-2013	12.67%	1.24%
2013-2014	13.52%	1.38%
2014-2015	16.86%	1.68%
2015-2016	15.18%	1.50%

Source: Author calculations on data from Incometaxindia.gov.in.Table 1 has data up to assessment year 2015-2016. Income tax for the money earned in the financial year 2014-2015, would have been paid in the assessment year 2015-2016. The budget documents of the government of India do not list out the total income tax paid by individuals, separately. Hence, the latest numbers for the total income tax paid by individuals, isn’t available in the public domain.

These numbers are separately declared by the income tax department, on a non-regular basis.

What does Table 1 tell us? It tells us that the income tax paid by individuals, forms a small portion of the total tax collected by the government, during any given year. This is the logic offered by those who say that individual income tax needs to be scrapped. More than this, once the taxes are scrapped, people are likely to spend the money not paid in the form of income tax, in various ways. They might decide to go on a holiday or redo the house or go out and eat more often.

Hence, when this extra spending happens, the incomes of many other people will go up and they are also likely to spend more as well. Thus, the multiplier effect will work. This will ultimately benefit businesses, which will make higher profits, and hence, pay more income tax on their profits. Further, the government is also likely to collect more indirect tax. And net net, scrapping income tax for individuals won’t make much of a difference, for the government.

Also, this is likely to force the government to cut down on frivolous expenditure. It is also likely to force the government to get rid of many loss-incurring public-sector enterprises, which continue to bleed. Basically, it will force the government to cut down on what I have been calling Big Government in many of my previous pieces.

All this makes perfect sense, but in theory. Now let’s take a look at Table 2, which basically lists out individual income tax in rupee terms.

Table 2:

Assessment year	Total individual income tax (in Rs crore)
2012-2013	1,12,112
2013-2014	1,39,500
2014-2015	1,91,208
2015-2016	1,88,031

Source: Incometaxindia.gov.in.While, income tax from individuals, might look very small as a proportion of total taxes collected by the government, but the absolute amounts on their own are not small at all. In fact, let’s take a look at the assessment year 2015-2016. The total income tax from individuals during this year stands at Rs 1,88,031 crore. This money is enough to finance the budget of many departments of the government of India. And this is money that the government is collecting for sure.

If the government scraps this, where will it get this money from? By now, the income tax paid by individuals must have easily touched Rs 2,50,000 crore. As supporters for scrapping individual income tax point out, the government is likely to earn more money from corporations paying higher income tax on their higher profits. Also, it is likely to collect more indirect tax as people end up spending more money.

The word to mark here is likely. No government is going to want to take such a big risk. Every government likes some amount of certainty when it comes to the taxes that it collects. Also, it has been suggested that if scrapping income tax for individuals is not possible, income tax can be done away at the lower levels of income.

This is where things get even more interesting. Take a look at Table 3. Table 3 basically plots the total taxes paid by individuals paying an income tax of greater than zero but lower than and equal to Rs 1,50,000. This is the lowest bracket for which the income tax department provides data.

Table 3:

Assessment year	Total income tax paid by individuals paying an income tax of > 0 and <=1,50,000 (in Rs crore)	Total individual income tax (in Rs crore)	Proportion of total income tax
2012-2013	23,551	1,12,112	21.01%
2013-2014	37,107	1,39,500	26.60%
2014-2015	43,964	1,91,208	22.99%
2015-2016	44,615	1,88,031	23.73%

Source: Author calculations on data from Incometaxindia.gov.in.While, the individuals paying an income tax of less than or equal to Rs 1,50,000, pay a very low average income tax every year (around Rs 25,000 in assessment year 2015-2016), on the whole it adds up to a substantial amount. This is what Professor CK Prahalad called the fortune at the bottom of the pyramid. For assessment year 2015-2016, it amounted to a total of Rs 44,615 crore, which would have again enough to finance the budgets of several government departments.

Also, at lower levels, the idea is to get people to start paying income tax. Once they start doing that, they are more likely to continue doing it, in the years to come. Further, given that a major portion of these taxes are directly cut from salaries by companies and handed over to the government, the government has to do very little in order to collect this money. Hence, there is no reason for the government to scrap individual income tax, though theoretically it might make immense sense.

Also, the things that the government will have to do if it scraps individual income tax would require much more work than it is currently used to. And we all like to take the easy way out.

The column originally appeared on Equitymaster on January 16, 2018.