Inequalities in India: Causes and Consequences

Wealth Inequality

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I. Introduction

During the campaigning for 2024 general elections, inequality became an issue. A Congress leader suggested imposition of an Estate Duty to reduce inter-generation inequality. The idea was to achieve greater equity through redistribution. The ruling BJP leadership attacked it as a Robin Hood idea of stealing from the rich to give to the poor. The idea makes sense given the rising inequality in India and its macroeconomic implications. Just before the elections, the government claimed that multidimensional poverty has declined drastically and that poverty has been almost eliminated. This needs analysis. For that some conceptual clarity is required.

II. Different kinds of Inequality – Wealth, Income and Consumption

II.1 Consumption

The Delhi socio-economic survey of 2018 showed that in Delhi, 90% of the households spent less than Rs.25,000 while 98% spent less than Rs.50,000. Since Delhi’s per capita income is 3 times the all India average, one can deflate the Delhi figures by this factor to approximately arrive at the all India figures. So, 98% of the families spent less than Rs.16,667 per month and 90% spent less than Rs.8,334 per month. At 4.4 persons per family the latter figure gives an average expenditure of Rs.1,894 per month per person or Rs. 63.14 per person per day. The World Bank international poverty line then was $1.9 per person per day or Rs.133 per person per day. This is in nominal dollars. In PPP terms it would be about Rs.44.4 per person per day. But PPP dollar is not relevant to the poor since it is their low wages that result in cheap services, most of which they hardly consume. Thus, PPP dollar is a double disadvantage to the poor. Going by the nominal dollar, in 2018, effectively 90% of Indian families were poor, if not extremely poor, by international standards. The situation deteriorated further during the pandemic and there has been inadequate recovery for the poor since then. In India, the policy makers and the elite feel that the poor should be glad if their lot has even marginally improved. If the poor have crossed some poverty line, determined earlier in 1962 or 1993, they ought to be grateful. The marginal improvements in the life of the poor then enables the elite to justify their cornering of most of the gains of development since Independence. It absolves them of feeling of guilt about the growing inequality.

II.2. Income

The estimates discussed above are for consumption. The government does not conduct income surveys. So, data on income distribution comes from private agencies. But these are usually based on limited tax data and other sources. Direct taxes – income tax and corporation tax – are paid by the well-off, sections. The vast majority have an income below the taxable limit of Rs. 5 lakh. In 2023-24, about 90 million out of a population of 1.4 billion (about 6.5%) filed income tax return but only about 15 million (1.1%) were effective tax payers. Corporation tax is paid by companies on their earning. These incomes belong entirely to the well-off sections. Even for income tax, most of the taxes are paid out of business income and not wage and salary income. So, bulk of the direct taxes fall on business income. At the other end of the spectrum of income earners are the unorganized workers in agriculture and other kind of work. They are supposed to register on the e-shram portal. Of the 300 million registered, apparently 90% declare their income to be less than Rs.10,000 per month. That is way below the taxable limit. The real divide in India is between those who have large business income and the earnings in the unorganized sector. This disparity is far greater than that among the wage and salary earners. Further, disparity based on officially available data does not give the true picture since India has a large black economy. Black incomes are largely earned by the top 3% in the income ladder and this is not captured in the official data. Black incomes are shown to be ‘property incomes’ (profit, interest, rent and dividend), that accrue to individual businessmen. This adds to their already large white incomes, thereby aggravating the disparity between business incomes and wage incomes. Analysis suggests that individuals not only do not reveal their black incomes to private surveys, they also under report their white incomes. Effectively, private surveys, do not correctly capture the incomes of the well-off. Further, these surveys typically have inadequate representation of earners at the bottom and the top of the income ladder. Consequently, these surveys typically under-report disparities in white incomes and do not capture the disparities due to black incomes.

II.3 Wealth

Credit Suisse and OXFAM have been publishing reports on wealth and income inequality. They have highlighted the growing gap between the top 1% (or, top 10%) vs. the bottom 50%. According to Credit Suisse in 2018, of the total wealth, the richest 1% held 51.5%, the richest 10% owned 77.4% of it while
the bottom 60%, only had 4.7%. But, surveys of wealth are even more tricky than survey of incomes since the valuation of wealth poses severe problems. Financial wealth in the shape of equity and bank deposits, etc., is easy to estimate but real estate and jewellery are difficult since their undervaluation is hard to check. Often, real estate is valued at historical cost which is often way below the current market
price. Further, property is split up in the names of various family members by various devices. This is also done in the case of incomes which are also split up among the family members. Property is also held Benami – that is in the name of a proxy. All these strategy reduce the concentration of wealth at the top.

III. Hierarchy of Inequality

Theoretically, wealth disparity is greater than income disparity which is greater than consumption disparity. The reason for this hierarchy is that poor barely earn enough to fulfil their basic needs so they hardly save. Often they dissave when they borrow for consumption. The better-off sections save, so their consumption is less than their income. The well-off consume more than the poor but as a fraction of their income their consumption declines. So, the higher the income, the more the
savings as a fraction of the income. That is why the income disparity is greater than the consumption disparity. The savings of the well-off accumulate every year and add to their wealth which gets them a return so they get both a higher income and growth of wealth. The poor who hardly save have little wealth. That is why wealth disparity tends to be greater than income disparity. Wealth disparity impacts income disparity since there is a return on investments. This can be substantial. Those owning capital have a profit income and typically also an income as a manager in their business. Usually, income differential between a manager and a worker is less than that between the profits earned on capital and the wage of workers. So, the real disparity in society is between holders of capital and wage earners and not among different category of wage and salary earners. Further, wealth is passed on to the next generation and keeps accumulating in the hands of the well-off families. So, to reduce this disparity, an Inheritance tax or Estate duty is suggested. But, due to their political clout, the wealthy get various concessions in taxes on the ground that they need to be incentivized to invest more to boost the economy. This leads to lower tax rates on their wealth and income which results in their faster growth. Some of the rich Americans have argued that they pay a lower tax rate than their secretary who earns not even 0.1% of their income. These rich proposed in 2012 that the rich need to pay a higher tax rate on their income if capitalism is to survive. They were supported by many of the rich in Europe. This call was repeated in 2018 and 2022. President Biden has also supported the idea that the rich need to pay more tax. That would bring about greater post-tax equity.

IV. Trickle down Policies and Political Fall out

Indian elite in control of power since Independence has been self-serving. Its goal has been to quickly catch up with the Western elites (become westernized) – calling it ‘modernization’. The image created is that the whole country will benefit. So, it went in for expanding the developed sector of the economy, leaving the backward sector to fend for itself. It chose ‘trickle down’ policies with an urban and pro industry bias. Unfortunately, given the technology gap between the advanced and the backward sectors of the economy, there has been little trickle down. The term, trickle down itself suggests a widening of inequality. A vast number of people not only got little benefit from this skewed development, they actually have lost out due to its ill- effects. There has been repeated displacement, massive pollution and deteriorating environment, loss of traditional lifestyle, ill health and alienation. So, large numbers of the displaced are living in urban slums in uncivilized conditions or in rural areas with little infrastructure. This was apparent during the pandemic. This skewed development has had political implications. With growing inequality and the cost of development falling on the marginalized, expectations have been belied. They have lost faith in the development process and the elite leadership. So, different sections of the population have concluded that without a share in power they would remain marginalized. Every division in society – caste, region, community, etc. – has been politically exploited. This has fractured politics in India. The leadership’s response to people’s disbelief in them has been to become short termist and indulge in competitive populism by promising immediate gains to the marginalized, especially at election time. The elite resist these giveaways and call them ‘freebies’ while the concessions they obtain from the government are justified as ‘incentives’. So, what the marginalized get because of their poverty are decried, what the elite obtain are seen to be justified even though they already have enough. Such biased premises underlies policy maker’s thinking. They also play down persisting poverty by pointing to increased levels of consumption, compared to, say, in 1947 or 1990. Therefore, they argue that the focus should not be on growing inequality, especially after 1991. But, poverty is not fixed. It changes with the social situation and is defined in terms of the `social minimum necessary consumption’. This minimum is space and time specific due to changing societal situation. Hence, it is not fixed for all times. What it is for Ladakh with its extreme cold will differ from its definition in temperate Tamil Nadu. Further, as technology and living conditions change, its yardstick changes. So, today cannot be what it was in 1947 or in 2011. The ongoing process of marketization since 1991 has changed the minimum by due to growing consumerism and imposition of heavy health costs due to growing pollution. For instance, today having a mobile phone has become a necessity for many. Further, health costs of the marginalized have shot up since they are the worst affected by pollution and climate change. Thus, in spite of increase in incomes, most of the marginalized are unable to break out of the poverty trap. As argued earlier, from consumption perspective, 90% are poor in India.

V. New Economic Policies: More Marginalizing

New Economic Policies (NEP) launched in 1991 were unapologetically based on trickle down. At least earlier, there was concern for bringing about equity through provision of free or cheap public services. NEP are based on `supply side’. That is, giving concessions to businesses. Equity is no more a consideration. The result is a rapid increase in inequality. In a self-serving argument, the elite propound `grow the pie before dividing it’. The PM has weighed in by saying, ‘Do you want to divide poverty’. This is a clear indication that equity is no more a concern of the policy makers. Question is what is wrong with having equitable growth which includes everyone? Why should there be a hierarchy of gains? The growth first policy has implicitly been the basis of the trickle down policies since Independence. Their failure is visible in the further marginalization of the marginals. That is, not only the pie has never been fairly divided but the gainers have asked for more concessions by claiming that they are the ones responsible for growth. This was pointed out by Kalecki a long time back. So, the unfairness of the economic system has grown over time. The pro-urban bias, has worked through shift in ‘income terms of trade’ against agriculture. This enabled most of the surplus from agriculture to be siphoned out to the cities and industry/ services. In fact, the rising standard of living of the small middle classes and well-off has depended on keeping the entire unorganized sector marginalized so as to obtain cheap labour for cities and industry.

VI. Unorganized sector as the reserve army of labour

Investment in India has mostly gone to the more capital intensive organized sector. This has had the dual effect of starving the unorganized sector of investment and of inadequate job creation which forces most workers to work in the unorganized sector at low wages. A large part of the unorganized sector consists of people creating work for themselves since the system is not generating work for them and because of poverty they have to earn to survive. There is no unemployment allowance which can enable the poor to survive while out of work. They have to work to survive – do head load work, drive a rickshaw or sell pakoras. Further, a vast number of the marginalized do not find work appropriate to their education/training. So, Ph.Ds apply for peon’s job or those with high degrees applied for Railways non-technical jobs or M.BA.s appearing for test for a safai karamchari job which required them to clean drains. This results in frustration and disappointment in life for a vast majority. The problem is particularly acute in agriculture which is receiving a declining share of public investment since the 1980s. Whatever investment is coming is for mechanization – more tractors, harvester combines, etc. This is labour displacing. But, the surplus labour is stuck in agriculture since there is little work
outside of it, resulting in disguised unemployment. 85% of the farmers cultivate less than 5 acres of land and have low incomes but have to support additional members of the family who do
not find productive work. This aggravates poverty in agriculture. In effect, neither the organized sector (employing 6% of the work force) nor agriculture (employing 45% of the work force) are generating additional work. Consequently, potential new entrants to the job market every year, numbering about 24 million, are forced to join the non-agriculture unorganized sector, which is a residual sector, where the wages are a fraction of the wages in the organized sector. There is a big differential in wages (for the same work) between the organized and unorganized sector workers. Compare for example, a postman with a courier guy or a taxi driver compared to a company or public sector car driver. So, the unorganized sector acts like a ‘reserve army of labour’. The organized sector is also increasingly employment contract labour and not permanent workers. Labour is supplied by small companies which hire unorganized workers at very low wages. So, the organized sector workers know that if they lose their job, they will slip into the unorganized sector at a fraction of the salary they get. This fear reduces their bargaining power viz.-a- viz. their employers and they cannot ask for the wage increase they deserve. This keeps organized sector wages in check and is at the root of the growing inequality between capital and labour. The above also points to technology as an important determinant of unemployment and inequality in India. Technology is leading to mechanization and automation. Now of course the danger is the increasing use of artificial intelligence (AI). Today, banking can be done via net or machines and requires fewer workers. Earlier in big infrastructure projects like, construction of roads one could see hundreds of people working but now big machines are used along with a few workers. In brief, all sectors of the economy, whether, agriculture, industry or services, are displacing labour as they modernize. This resulted in jobless growth in 2000s and now to job loss growth. So, investment in modern sectors is not generating enough productive work. People are forced into self- employment and to do what they can.

VII. Black Economy and Marginalization

The growing black economy is the single biggest source of inequality in India. It is estimated to be above 60% of GDP and concentrated in the hands of 3% of the population. Thus, in addition to the top 1% in the income ladder earning 22% of GDP as white incomes, these people have additional massive black incomes so that their share of the total GDP (black plus white) would be around 40%. The rest, the 97% lose due to the black economy since they not only do not have black incomes but also because black economy leads to over invoicing of costs which results in higher prices in the economy. In turn that results lower real wages. Black economy also slows down development through two channels. First, due to tax evasion, resource availability to the government decreases. If the black incomes could be brought under the tax net, at current rates of taxes (direct and indirect), the tax/GDP ratio could rise by 24%. Currently, this ratio is 17.5% which is one of the lowest in the world. This low tax/GDP ratio leads to high fiscal deficit which then results in and cut back on expenditures on public social sectors. Like, in the fields of education, health and employment generation. This impacts the marginalized sections directly. The high fiscal deficit also results in larger borrowing by the government which in turn leads to higher outgo on account of interest payment. Government borrows from the well-off with one hand and returns it to with them with the other. Interest payment has been the largest item of expenditure of the Revenue budget for a long time and there has been a Revenue account deficit in the budget since 1980. In effect, borrowings are used finance current consumption – a bit like a bonded labourer. This is called the ‘debt trap’. Consequently, resources spent on development keep declining and the lot of the marginalized deteriorates. Secondly, it leads to policy failure. Goals are not achieved since the funds sent for projects do not reach where they should – `expenditures do not lead to outcomes’. The investment productivity declines and that lowers the growth rate of the economy. It also causes delays in decision making and there is a break-down of trust in policy makers. Checking the black economy would raise the share of direct taxes in revenue which at present is around 6.2% of GDP. This could be used to reduce the regressive indirect taxes (at present 11% of GDP) and that would help lower inflation which is a tax on the marginalized sections. In brief, curbing the black economy is an important step in taking care of India’s various developmental problems, whether it be inadequate trickle down, persisting poverty, growing inequality, policy failure, inadequate employment generation, etc. In brief, black economy is a key reason for increase in inequality between the top 3% and bottom 97% in a variety of ways.

VIII. Taxation and Equity in India

Progressive direct taxes are supposed to reduce inequality. On paper India has a progressive income tax. But, the well-off legally use deductions and concessions to lower the tax they pay and thereby lower their average tax rate. Concessions are called `tax expenditures’ and are officially justified as incentive to production and to savings. This is on top of the above mentioned, use of tax evasion to substantially escape taxation. Thus, using legal and illegal means the well-off reduce their tax incidence and turn the theoretically progressive direct taxes into a regressive tax. The PM said in August 2021, only 15 million Indians effectively pay direct taxes – about 1.1% of the population. This points to the narrowness of the direct tax base. To get the revenues needed, the government has happily depended on the regressive indirect taxes. The organized sector which pays most of the indirect taxes evades them substantially. In fact, the evasion of indirect taxes and direct taxes are interlinked. Since July 2017, the indirect taxes are mostly collected via the structurally flawed GST. While it was expected to check black income generation, in reality, it has had the opposite effect for a variety of reasons. It has damaged the unorganized sector which cannot cope with the complications of GST and the benefit to the organized sector due to GST which has resulted in a shift in demand from the unorganized to the organized sectors. This is widening disparities between the advanced and the backward states. Its impact was to slow down the economy even before the pandemic hit the country in 2020. It has also damaged fiscal
federalism, a key feature of the Indian Union. It is often argued that India collects a low per cent of its GDP as direct taxes because of poverty. It is said that the poor do not have taxable incomes so are outside the tax net. Only about 9 crore Indians, 7% of the people, file income tax returns. But a vast majority file nil return or a very low return and pay little tax. That is why only 1.1% of the Indians are effective direct tax payers. This argument is flawed since incomes are concentrated in the hands of 3% of Indians. So, it should be possible to bring them into the tax net. However, due to their political clout the well-off substantially escape the tax net, as explained earlier. So, the blame for low tax/GDP ratio lies in the political economy. The rulers are the tax evaders who do not want to pay their share of direct taxes by resorting to the black economy and concessions and deductions. If the political will had existed, given the concentration of income and wealth, a lot more of direct taxes can be collected via wealth tax, estate duty and gift tax. Instead they have been eliminated. First they were made ineffective by giving many concessions and then they were eliminated on the pretext that they are unproductive. Corporate tax rates were reduced in 2019 on the plea that Indian tax rates have to be competitive with those in S E Asian countries to attract foreign capital. Globally, there has been a ‘race to the bottom’ since the early 1990s when the Soviet Bloc collapsed. Capital due to its high mobility has made nations and states compete with each other in offering it concessions. This is also a serf-serving argument. A strongly growing Indian economy would attract capital in any case due to profitability of investment. Finally, foreign capital is only about 6% of the total investment in the Indian economy. So, the problem has not been foreign investment but internal investment, due to inadequacy of demand and low capacity utilization. The investment rate declined post 2012-13. Politically, the well-off shoot from the shoulder of the middle classes to keep direct taxes low which leads to high indirect taxes. The middle classes do not see that they pay far more of indirect taxes than direct taxes and don’t realize it since it does not directly fall on their incomes. A lowering of indirect taxes and raising of direct taxes would benefit the middle classes too. Finally, GST needs reform. It is a last point tax but collected at every stage of production and distribution which makes it complicated and leads to disadvantage for the small and micro sectors. Thus, if GST is collected only from final goods and services, the economy would benefit a great deal because the disadvantage of the unorganized sector would disappear and it
would start to do well. This would reduce disparities all across including among States.


IX. Conclusion

Indian Policy makers have been self-serving and deliberately non-transparent. They have pursued trickle down and `supply side’ polices all along. The opening up of the economy since 1991 has further marginalized the majority of Indians and led to rising inequality. It has taken Indian economy into the grip of International Finance Capital and truncated sovereignty. It has also led to a growing crisis for capitalism. Alternatives need to be worked out including how to face the challenge of the global financial architecture. Consequently, inequality has been on the rise and equity has been removed from the political agenda on various pretext. To address these concerns, a new paradigm is required with a changed political economy.

The Above article is based on Author’s Select Writings:

1. ‘The Black Economy in India’. Penguin India. 1999.

2. `Indian Economy since Independence: Persisting Colonial Disruption’. Vision Books. 2013.

3. ‘Black Economy and Demonetization’. Penguin Random House. 2017.

4. ‘Ground Scorching Tax’. Penguin Random House. 2018.

5. ‘Indian Economy’s Greatest Crisis: Impact of the Coronavirus and the Road Ahead’. Penguin Random House. 2020.

6. Digitalisation’s Marginalising Impact on India’s Unorganised Sector. RUPE, April 7th, 2024. https://rupe-india.org/aspects-no-81-82/digitalisations-marginalising-impact-on-indias-unorganised-sector/

7. The K is Indian GDP’s Reality: Why Deny? The Leaflet.
January 31, 2024. https://theleaflet.in/the-k-is-indian-gdps-
reality-why-deny/

 Arun Kumar is Retd. Professor of Economics, JNU.

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