GST surpluses should be used more purposefully

https://www.financialexpress.com/opinion/gst-put-surplus-to-more-purposeful-use/1248647/

GST collections have been buoyant. The implementation seems to have gone off smoothly after initial fears, making one international indirect tax practitioner to grant that India’s experiment has been a source of positive learning for the rest and ‘no other country has implemented tax changes as fast as India’. As per reports, collections have been gathering pace and June 2019 collections are Rs 6,000 crore more than the average of last year. The GST Council has reduced the rates for 178 items from 28% to 18% in most cases and, in some cases, to 12%.

While the items seem carefully chosen, one does not know what are the alternatives the government considered before coming to the conclusion that such a step would benefit the country most optimally. The unexpected buoyancy should have been used in the best possible way to serve the greatest common good. Instead, the government and/or the GST Council seem to have settled for what looks fashionable. The government/GST Council seem to have erred for the following reasons.
First, almost all tax rates on products and services have come down under GST compared to the earlier regime of excise + CST + VAT and several other local levies cumulated. Yet, the tax collections have gone up. It is only reasonable to conclude that the enhanced tax collections have come from reduced levels of tax evasion, reduced cash transaction levels and more informal sector units getting formalised and thus getting into the tax net, besides some uptick in economic activity. The neo-converts to the formal sector are mostly small and medium enterprises and rural and semi-urban entities.

The government should have kept in mind the sources of ‘excess’ collections and its employment-generating and other distributional effects while deciding how and whom to ‘refund’ it to. There is no need to reward erstwhile tax evaders in the formal sector who have become compliant now. Since a substantial additional GST collections have come from the rural and informal sector, it would have had an impact on the employment levels there or at least reduced their net disposable income. It would be a mistake, if not sheer travesty, to sponge resources from this poorer section and pass it on to items mainly consumed by richer segments.

Second, the lost opportunity to create much-needed employment. Let us assume the government wanted to use the entire excess and it deployed this in employment-intensive and wage-intensive sectors. Let us say wages would account for half, and the other half would be used for non-wage overheads. It would leave Rs 3,000 crore in wages per month. At Rs 5,000 per month per worker, this works out to 60 lakh jobs.

Here are some areas which could have absorbed such a vast army of people. Traffic regulation to bring back discipline on our roads. Against just the belief that CCTVs and cameras would bring about discipline and maintain order on our roads, the presence of uniformed staff at every street corner would have had a far more pronounced impact.

We could have created a plastic/pollution police or litter collectors. The police force alone is short of 5 lakh personnel, compared even with a standard fixed years ago.

Third, it is not that India is a highly taxed country. Its tax-GDP ratio is one of the lowest, considering the number of things it supplies free of cost or at subsidised rates. Most of the government services are in an awful state in terms of delivery delays, due to lack of staff or ill-trained staff. Ensuring safety and security, fast and timely justice, adequate education should all be considered fundamental rights, much more so than six-lane highways and high-speed lanes. For achieving basic standards on these, it is necessary to garner greater resources. It is ironic that we have shrank from collecting resources to ensure basic minimum services.

Distributional efforts may not have the same effect on Keynesian income multipliers as fresh ‘autonomous’ investments and hence indirect job creation may not be much. But, it is likely to be far more advantageous than mere tax-cuts that are being planned now, tax cuts for people with higher than average propensity to save might even shrink employment.

Even from a political angle, it makes more sense to use it for funding low-wage employment. An increase of low-wage employment is more certain to translate into positive votes. One is not sure if the tax reduction—largely in the consumption basket of upper- and middle-class— would induce the beneficiaries to vote positively. This educated class would decide on voting preferences based on a more informed and educated choice than just tax reduction. Several such beneficiaries may not even take the trouble of voting.

Employment generation of the scale talked about here could have alleviated urban poverty in most of our major cities quite fast. Or, if the employment was focussed in rural villages, it would have meant 10 jobs in each of our 6 lakh villages, each with 200-300 households—small yet significant. That would have been the most impactful advertisement for our employment-starved reforms agenda.

For the Poor Interest Rates are more a function of Culture; not arithmatics

https://www.financialexpress.com/opinion/a-poor-understanding-of-monetary-policy/1234554/

For much of poor – rural or urban – in many parts of the world, interest rates are not a monolithic price point balancing demand and supply of credit with variations mainly (if not solely) for credit risks and time duration.

Poor people have been observed to keep currencies for safe custody without any compensation with the same wealthy lender from whom they have borrowed money at  usuary rates of interest. This seems irrational but is compelling to the poor to ensure cashflows for upcoming events like marriage, funeral, school admission, or sowing. This perhaps addresses their ‘fear’ against an irresponsible husband or ‘lack of self control’ over competing short term spending itches.

Nothing can explain so many irrational practices (as formal system sees them) in South Africa surrounding funeral finances. A decent funeral is a matter of prestige and social standing (ranks perhaps number 1 in their Maslows hierarchy) and consumes about half/full years income. Years of zero interest (or even paying safe keeping fees), deposits with funeral societies defeats arithmatic rationality but addresses anxieties on maintaning social prestige.

As the book Portfolios of the Poor reports, moneylenders to the poor almost always collect interest rates in advance and don’t refund proportionate portion for unutilized period on any prepayment. Yet just to feel relieved from the burden/shame of indebtedness the poor pay up most loans ahead of time thus increasing the ex post interest rates by several % points – irrational arithmatic wise but rational mental relief wise. The book also observes practices where people borrow expensive monies leaving savings accounts intact due to a silo (usewise) mentality.

Just no commentator or official have understood the ‘Rs 10.50 in the evening for Rs 10 in the morning’ small trade finances. Simple arithmatic tells us it is more than 1800% per annum even without compounding. But the money lender apart from running counter party risks also knows the purpose and can get into such business himself or set up someone else who can. So why should he not get to share the spoils with the trader. In that sense it is more a share in the joint venture profits not interest. Its just dividends with a Cap in treasury managers parlance.

Surely in the ladder of social shame, borrowing ranks somewhere sub-ordinate to other social compulsions (gifts and donations in marriages, funerals, festivals, religious functions, etc), medical emergencies etc. Otherwise they wont be borrowing. Borrowing for economic purposes like for sowing, cattle buying, houses etc. may be justified on rational grounds. If Governments want the poor to become rational, they may have to invest a lot in social education and training to move up indebtedness and make other non economic needs less shameful than borrowing.

In fact this sense of indebtedness and shame from failures to meet obligations and social policing have induced repayment discipline amongst the poor. This is a great social collateral which the formal systems refuse to recognise or promote.

Most poor cannot count; even if they can, most don’t

Many studies indicate that in their decision on when to borrow, from whom (for some loans from next door neighbour is preferred, for some relatives but some other purposes it is considered shameful to borrow from them), and when to repay or prepay, the arithmatic of interest rates weighs far lower as compared to a rational person. Culture, social customs, peer pressure, shame and fear, family pressures decisively overshadow the arithmatic.

Thus when the RBI’s appointed committee put caps on the interest rates charged by MFIs as the main weapon to deal with some events in the erstwhile combined Andhra Pradesh, it only betrayed its lack of understanding of the financial culture of the poor. The arithmatics of interest rate may work better for formal systems, between banks and financial markets, in cities and amongst the rich and heavily banked but not amongst the poor.

The poor levels of financial integration and inclusion in india is the result of this lack or refusal to understand the culture. RBI (or its equivalent monetary authorities) should stop their colonising mindset: they should not  supplant the financial culture by dictating the price, acceptable instruments and institutions. Formal form over substance KYC’s can never match the KYC of the local moneylender whose self interest is locked in with his customers fortunes.

Establish the role of money first before seeking policy effectiveness

Before trying to establish the suzerinity of its policies over the rural and poor India, RBI should first establish the hold of our currency (Rupee) on the poor. For some of more important functions of money the poor trust its surrogates more. Gold (cows in Swaziland or cattle in many parts of Africa) has much more dominance in store of value function of money and to a limited extent even in liquidity and transaction demand. Policies and schemes about Gold over the years have been rather unimaginative. The high levels of informal economy does not help either.

Some aspects of the financial culture of the poor described above also come out of fear and anxieties, cashflow uncertainties, ill timed arrival of cultural exigencies, etc. These can be overcome to a large degree by appropriate insurance whose penetration is very poor now. Proper insurances on various cashflow risks that the poor face, will release a lot of gold and make the poor adopt a more ‘rational’ and self-optimal practices.

Indian authorities should subsume the existing system into its network by refinancing money lenders and accepting social collaterals, finance Nidhis and Chit funds, etc.; instead they erect barriers against such practices on institutions which seek to use the available conducive social infrastructure.

We should of course continue to educate the poor communities about the arithmatics so that wherever possible the poor could act rationally, including proper search of alternatives in their own ‘irrational’ markets.

A regulator who fails to have a grip of the market culture, market practices or interact with its participants continuously to gather market intelligence and spot any significant trends and shifts, is bound to falter. East Asian societies like Indonesia (as spread out), Malaysia, Vietnam (as dense as India) have not tried to supplant the local systems but have sensibly allowed them to co-exist and serve their societies.