In recent days, there have been increasing calls for levying a tax on the super-rich across the world. India has not escaped this development. Industrial leaders, politicians and civil society activists have made demands for such a tax, almost in unison. Their rationale is simple: inequality is bad per se and leads to adverse economic outcomes.
The issue needs to be unpacked carefully. The case against tolerating inequality has been strong for a long time, going back almost to the time of the Great Depression. Keynesian economists famously argued that inequality presages an aggregate demand failure that ultimately is responsible for various episodes of growth collapse at least since 1973. The causal link is simple. Without sustained income increases, individual disposable income cannot generate consumption growth. This, in turn, kills investment demand leading to lower unemployment, completing the vicious circle.
Both in the West and in India, the demand for higher taxes on the rich has its basis in efforts to ensure higher consumption; in the West to prevent its collapse and in India to ensure the hungry millions get food. In both cases, the tax-fuelled medicine is likely to be worse than the disease it seeks to cure.
In India, the objections to this kind of spending are straightforward. Tax-fuelled largesse will only lead to two outcomes. One, the poor—at least in the lowest two quintiles by income or consumption—are likely to chase primary articles like food. In an economy where the government refuses to augment supply, this has only led to inflation. The problem of higher inflation, especially in food items, started almost immediately after the round of massive spending began in 2007. The huge divergence between wholesale and retail inflation—close to 340 basis points in December—indicates this very clearly. Since 2007, the government had six years to do something about boosting agricultural productivity to stanch inflationary fires.
It did nothing.
This leads to the larger point about the government’s ability to spend ever larger tax proceeds meaningfully. Ideally, the long-run solution to the problem of poverty and inequality requires much higher investment in education and healthcare. With an electoral cycle virtually every year at the state level, the temptation to spend one’s way to victory—largely by fuelling consumption—is simply too high. So even if the government had more tax money, it is unlikely that it will use it wisely to create conditions for reduction of inequality and poverty. The issue isn’t one of taxing the rich or not; it is more of a practical problem of what will be done with such money.
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