Redistribution, but not at the cost of growth
In the years since Independence, redistribution of wealth took priority over economic growth in India. However, the redistribution policies failed to make a serious dent in poverty levels, and kept economic growth subdued. While the liberalisation efforts of the early 90s led to an explosion in wealth creation and a substantial reduction in poverty, the reform agenda lost steam in the coming decades. Building on the impressive growth brought on as a result of reforms and increases in infrastructure spending, large scale redistributive policies were launched in India in the late-2000s. However, as the economy slowed down in the aftermath of the Global Financial Crisis, the scale of government spending became unsustainable.
This is not to say redistribution should not be pursued. However, the means through which redistribution is undertaken is crucial. Cash transfers, progressive taxation and investments in human capital are the key instruments through which redistribution is undertaken, according to an IMF paper. There are of course, limits through which the first and second instruments can be utilised. For instance, take the early 1970s, where the highest personal income tax bracket was in excess of 95%. In a progressive taxation system, efforts must be made to increase government revenues through a widening tax base, and not through increasing marginal tax rates. Similarly, cash transfers, while important, must be accompanied by efforts to increase access to government benefits & services. Investment in human capital must also be regularly monitored and evaluated, not in terms of inputs alone, but also in outputs and outcomes.
Large scale redistribution programmes come with a fiscal cost. Government revenues can either come from tax revenues or non-tax revenues. Tax revenues form a lion’s share of revenues in India. Tax revenues, in turn are crucially linked to the overall health of the economy. The logic is simple, as people earn more, more taxes are collected. Important also is the tax collection mechanism, which should encourage voluntary compliance. Deficit financing is employed when government expenditures are greater than revenues. This means that the government is borrowing money from markets to fund their expenditures. This is what has been termed as the fiscal deficit. (To be contd)