Ahead of the budget, lessons from the Oxfam report on inequality and why the wealthy must be taxed

The Union Budget on February 1 will be the Narendra Modi-led government’s last full-fledged budget before the general elections due in 2024.

Union Finance Minister Nirmala Sitharaman deserves praise for last year’s budget that gave some respite to distressed migrant workers and the poor with adequate funds allocated for food and the rural employment guarantee scheme.

The budget also increased capital expenditure by 35%, promoting the production-linked incentive scheme that has helped generate export revenues of $5 billion in mobile sets. Extending the Emergency Credit Line Guarantee Scheme benefited beleaguered Micro, Small and Enterprises.

But there are matters of concern such as the high fiscal deficit of 6.4% of the gross domestic product, which shows the shortfall in the government’s income versus its expenses, inflation as well as a stagnant GDP-to-tax ratio.

Against this economic backdrop, non-profit Oxfam released a report on January 16 pointing out the stark income disparities in India. The report, titled “Survival of the Richest: The India Supplement”, is a timely reminder of the need to contain growing income inequalities and improve tax collection.

In economics, there are two ideological perspectives on taxation. Economist Arthur Laffer advocated low taxation for higher revenue while French economist Thomas Piketty and the Oxfam report show that this is not really the case.

“Reaganomics” – trickle-down economic policies advocated by American President Ronald Regan – thrived in the 1980s during which the tax rate on the super-rich was slashed and income inequality increased sharply in the United States thereafter. In India, too, the tax rate on the rich was reduced significantly in 1997 by P Chidambaram, Union finance minister at the time.

The World Inequality Report, 2018, observed that the income share of the bottom 50% of India’s population, which accounted for 21% of the national income share in 1991, dropped to 15% by 2015. This was based on an analysis by economists Lucas Chancel and Piketty. According to the World Inequality Report, 2022, the share of income of the bottom 50% population stood at 13.1%

By 1990, the share of the top 10% in national income grew to 34% from 1983. It had climbed further to 56% by 2014, according to the World Inequality Report, 2018.

In 1983, the middle 40% of the population accounted for over 46% of the national income share. But by 1990, this share had fallen to 44%, said the World Inequality Report, 2018. According to the World Inequality Report, 2022, the middle 40% of India’s population accounted for just 29.7% of the national income share.

Evidently, the soft taxation policy that followed the 1991 economic liberalisation has left the bottom 50% and middle 40% of the population poorer, while the top 10% has cornered most of the wealth.

On the global scale, too, the bottom 50% accounts for just 8.5% of income while the top 10% claims 52%, as calculated in the World Inequality Report, 2022. In terms of wealth inequality, the bottom 50% owns only 2% of global assets while the top 10% account for 76%.

Under target 10.1 of the Sustainable Development Goals, the United Nations, advises all countries to focus on the bottom 40% of the population. Piketty’s seminal book, Capital in the Twenty-First Century, was the first to demolish Russian statistician and economist Simon Kuznets’s grand proposition that inequality would be reduced as countries grow richer. For Piketty, inequality is not an accident of history but an aspect of capitalism that can be reversed through state intervention.

Austrian historian Walter Scheidel’s The Great Leveler also showed that the average tax rate on top 1% households reduced from 42% to 27% between 1980 to 2013. While agreeing with Piketty’s finding, Scheidel was not convinced that governments have the political will to increase the personal income tax rate of the super-rich or impose a wealth tax. Scheidel was prescient enough to conclude that “peaceful policy reforms will prove unequal to the growing challenge of inequality”.

The Oxfam report reiterates some of the concerns raised by Piketty and Scheidel but also includes significant post-pandemic insights. It shows that poverty has increased for the first time in 25 years, and that since 2020, the top 1% have captured 66% of the new wealth created.

The fortunes of billionaires increased by $2.7 billion dollars per day, while inflation outpaced the wages of 1.7 billion workers across the world. While food and energy companies doubled their profits in 2022, 800 million people went to bed hungry, says the report.

The Oxfam report recommends a wealth tax of up to 5% on multi-millionaires and billionaires that will earn $1.57 trillion dollars per year, enough to lift two billion people out of poverty.

A 5% wealth tax on Indian tycoons Mukesh Ambani and Gautam Adani can earn $8.6 billion, says the report, enough to cover the government’s rural employment guarantee scheme.

It recommends that the tax rates on millionaires should be increased to 50%-60%. The tendency of the corporate rich to stash their money in tax havens can be checked by bringing in legislation such as the General Anti -Avoidance Rule, which has been effectively used in countries such as Australia and Germany. According to the International Monetary Fund, the General Anti -Avoidance Rule can be used to strike down lawful tax practices that have been carried out in a manner that undermines the tax law.

The Oxfam report also calls for taxing capital gains at 18% and removing exemptions that principally benefit the rich.

Finance minister Sitharaman may look to continue her strategy to increase capital expenditure and support the production-linked incentive scheme as well as Micro, Small and Medium Enterprises.

The country’s gross tax-to-GDP-ratio was 11% in 2018-’19. It declined to 9.9% in 2019-’20 and increased to 10.2% in 202-’21, according to the Centre for Monitoring Indian Economy. This is significantly lower than most emerging market economies like China where it is around 10% while in developed countries, it ratio hovers between 20-30%.

At the same time, the country’s fiscal deficit numbers are alarming. From 3.4% in 2018-’19, the fiscal deficit increased to 9.5% in 2020-’21 and is expected to be contained at 6.4% in 2022-’23. The fiscal deficit indicates the shortfall in the government’s revenue.

In December, the International Monetary Fund flagged India’s high debt-to-GDP ratio of 84% for the financial year 2022. Debt-to-GDP measures a country’s debt against its GDP and is a key indicator of the sustainability of government finance.

According to economists Carmen Reinhart and Kenneth Rogoff, a country is more likely to witness low or negative growth if its debt-to-GDP ratio exceeds 90%.

Now, the challenge before finance minister Sitharaman is two-fold: to increase capital expenditure and bolster employment, and to ensure economic stability by containing the fiscal deficit.

Instead of a debt-propelled policy strategy (higher market borrowing) with an inflationary potential, it will be more sensible to increase the tax collection, particularly of direct taxes.

It is time for Sitharaman to consider upturning the pro-rich policy of the late Arun Jaitley, who, as finance minister, abolished wealth tax in 2015.

A 5% wealth tax while increasing the tax on the super-rich to 40% will help gather enough revenue to spend on most of India’s social sector schemes such as mid-day meals, the rural employment guarantee programme, Sarva Shiksha Abhiyan for universal elementary education and the Integrated Child Development Services, under which various healthcare initiatives are run.

The critical needs of the nation are quality education, basic healthcare and minimum nutrition for children and anaemic adolescent girls and women. Working towards an inclusive India will require a sharp departure from a pro-rich tax policy and crony capitalism.

Economist and academician Joseph Stiglitz constantly talks about the importance of shared prosperity in a liberal democracy like India. In line with that, Sitharaman must not forget that reducing income inequality is a constitutional mandate under Article 38(2).

SN Misra is Emeritus Professor at Kalinga Institute of Industrial Technology, University, Bhubaneswar, and teaches Economics and Constitutional Law.