Living with Black Money

Elections are contested with money. Candidates routinely spend five lacs in village pradhan's election, 50 lacs in that of a MLA and five crores in that of MP. Most of it is black money. One way to have clean elections is to try to end the menace of black money in the economy. Most attempts to control black money have, however, failed. Recently it has been suggested that income tax, excise duties, VAT and local taxes may be scrapped and all these be replaced with a single Bank Transaction Tax (BTT) which will be collected as a small percentage, say 2 percent, of all transactions passing through the banking system. Simultaneously all notes above 100 rupee denomination may be demonetized. This will make it difficult fake large transactions in cash. All transactions will be routed through the banks and BTT could be collected. The question is whether BTT will lead to a reduction- or an increase in corruption.

The assumption underlying the proposal is that businesses will be happy to pay a small transaction tax if they could get peace of mind. Businessmen will always want to avoid paying taxes even if it be small. They would be happy if the present 30-odd percent taxation would be reduced to a 2 percent BTT; but they would continue to try to avoid paying that 2 percent. There are many ways they could take to avoid the BTT. The most likely way would be to institute a system of Promissory Notes or Hundi. Famous banker Rothschild had made a fortune this way. A Jewish History website explains: "In the 18th century, there was a Jew in Frankfurt Am Main by the name of Mayer Amshel Rothschild. He had five sons, so he sent each one to a different country. One went to London, one went to Paris, one went to Vienna, one went to Naples, and one stayed with him in Frankfurt. That created what people today call "international banking." Because of the trust between the brothers, the Rothschilds created an international banking system. One could deposit money with the Rothschilds in Vienna and receive an equal amount in Frankfurt. That is precisely how the Hundi and Hawala systems work. Businessmen will start routing their payments through such hundis instead of through the banks. Tatas, Birlas and Premjis will issue hundis which will serve as an alternate currency. Payments will be made across the country without entering the banking system. Any attempt to stamp out this practice will spawn another cat-and-mouse game between the evaders and tax collectors.

The problem will extend to retail outlets. The retail shop has to pay VAT because it has purchased excise-duty paid goods in its books. This check at the point of manufacture will be dismantled in the proposed BTT system. Thus a parallel cash economy will be created which will be very difficult to control because it will be very diffused.

Another way to avoid would be to transport truck loads of cash in small denominations. A rough collection indicates that a payment of Rs five crores in cash would require 20 suitcases of notes of 50 rupee denomination. The cost of transporting these 20 suitcases from Delhi to Mumbai with an armoured carrier and guards would be, say, Rs one lac. Against this one would have to pay Rs 10 lacs as BTT. Any attempt to penalize such cash transactions would involve setting up of a police system and, in turn, create a huge source of corruption.

Such was the experience of Ghana in the eighties. A World Bank report says that the problems "were compounded by a series of measures which shook the confidence of the public in the banking system. These measures included the demonetization of 50 cedi notes, the freezing of bank deposit accounts in excess of 50,000 cedis and the compulsory payment by checks for all business transactions in excess of 1,000 cedis. The immediate response by firms and individuals was to rechannel their financial resources into the unregulated informal financial sector." That is what BTT will do to India.

BTT will not work and other measures have not worked. Black money is like cigarette or liquor. The rich and powerful will continue to use money in elections. The way forward then would be to public support cleaner candidates who have less money. 'AAP' has established a new paradigm of collecting money from the voters which has potential.

Frontier
Vol. 46, No. 38, Ma r30 - Apr 5, 2014