Tackling inequality

Govt must make the right interventions in the Budget

The Covid-19 pandemic has increased inequality at multiple levels in different countries, including India. The initial lockdown and intermittent restrictions on public mobility have affected incomes for a large number of households. The pandemic also disproportionately affected smaller firms in the unorganised sector, which tends to be more labour-intensive. In fact, the business seems to have moved to more capital-intensive large firms exacerbating overall inequality. Large firms also benefited from lower corporate taxes and lower interest rates, which boosted profits. Most central banks, including the Reserve Bank of India, lowered interest rates and flooded the system with liquidity to contain the impact of Covid-19, which also pushed up stock prices and valuations. Since financial assets are owned mostly by the better-off sections of society, their wealth increased. In this context, a recent report by Oxfam India noted that 84 per cent of Indian households suffered income losses in 2021, while the wealth of the richest segment increased.
 

There is no dispute that the issue of inequality needs to be addressed. The K-shaped recovery from the pandemic may not be sustainable in the medium term. If income doesn’t recover soon, it will affect demand in the medium term. The concentration of income and wealth will also have implications for social stability. Part of this would perhaps get reversed once the impact of the pandemic decisively wanes. As restrictions are removed and economic activity gains traction, particularly in the contact-intensive businesses, some of the lost jobs would come back. However, the underlying trend of increasing income and wealth inequality needs to be addressed. This would require policy intervention at multiple levels. The government is unable to extend more support because of budgetary constraints. It doesn’t raise enough revenue, and the tax-to-gross domestic product (GDP) ratio has remained low. The government must focus on increasing revenue. The Fifteenth Finance Commission had noted that India’s tax-to-GDP ratio can be increased by 5 percentage points over time with corrective measures.

The government can start the process in the upcoming Budget itself by making the right interventions. It can, for instance, remove tax deductions on investments for individual taxpayers, which essentially benefits the better-off sections. Although the government has given such an option, it may not help. Giving options to taxpayers would lead to lower tax collection because people would opt for the one with lower outgo. This is also true in the case of corporation tax. Companies benefiting from exemptions at the net level would not go for a lower tax rate. The government should phase out such options. Further, in the context of personal income tax, the government can tax income from all investment instruments at that marginal rate. The risk in investment can be addressed by allowing offsets.

These changes would not only increase revenue but also address the issue of inequality directly. Similarly, the government can adjust its expenditure to create jobs for lower-income groups. One of the biggest policy weaknesses over the years in India has been the inability to create a sufficiently large manufacturing base for labour-intensive products, which would have created jobs at scale and improved income levels. This is another area the government must focus on. It would not only increase income and growth but also dent inequality to a large extent.