On a recent vacation to Sint Maarten, a small Caribbean island of some 50,000 people, I asked the Sindhi owner of one of its many jewellery stores how business was going. He smiled and said business has been great. Just the other day, a rich businessman from India had flown in with his friends and family on a private jet and the ladies had gone on a shopping spree. Sales have been brisk given his well-heeled clientele in India and elsewhere.
According to the IMF, India is now the fastest-growing major economy. Yet, many of its cities are pockmarked by slums sprawling right next to expensive real estate. Dharavi in Mumbai happens to be Asia’s largest. This booming India and broken India is a tale of two cities where people live entirely different lives. In the first, money is often no object while in the second, want and deprivation keep constant company.
There is a reason why India’s economic growth has been so lop-sided. Nobel prize winning economist Amartya Sen noted that since independence, India’s income inequality has been mainly driven by low investment in good-quality education and healthcare. So, while the educated and healthy workers in upper-income groups take advantage of new opportunities to make more money in a growing economy, poorly educated and unproductive workers in low-income groups struggle to make ends meet.
Today, India is one of the most unequal countries in the world where the top 1% income group captures a larger share of the pie than it does in South Africa, Brazil, or the United States (World Inequality Report 2022). Inequality within this group is also increasing, outpacing the rest of the affluent.
Meanwhile, media reports hyping India’s rise often obscure the underlying issues. For instance, a recent article touted the fact that more Indians are travelling abroad. While this sounds as if growth is bringing about shared prosperity, the converse has been true. Consider the fact that even if the middle class was to expand by 1% in a population of more than 1.4 billion people, that development alone would enable at least a million more to travel internationally. However, a small increase in the middle class can also be accompanied by a large decline in the share of incomes going to the relatively poor.
Another case in point is the United States. More Americans have been travelling by air even as U.S. income inequality steadily increased to become an outlier among developed countries. In other words, an increasing number of people travelling abroad does not necessarily mean that the country’s income distribution is improving.
India’s Income Inequality: 1950-2020
Income inequality is widely measured by the Gini coefficient – an index between zero and one, where the former represents perfect equality, or that everyone has the same income, and one represents perfect inequality where only one person makes all the money. In other words, the Gini measures the extent to which the distribution of a country’s pre-tax income is skewed.
The following graph tracks Gini based on income data stored in two global databases – the United Nations University (UNU) WIDER and the World Inequality Lab (World Inequality Database, WID). While the UNU WIDER GINI (yellow) is based on incomes reported in household surveys, the WID GINI (blue) reflects inequality based on a more comprehensive source of data on incomes. The latter combines survey-based income information with those using secondary sources such as administrative data, list of rich citizens, fiscal and national accounts sources. Thus, the WID captures inequality due to incomes not reported in household surveys. We call this “actual” income inequality.
Piketty and others have noted that inequality estimates based on household surveys rely almost wholly on self-reported incomes which are typically understated for the top 10% and 1% income groups. Hence, they also make an adjustment to the incomes of the rich based on their unreported incomes from foreign sources. The total unreported income or black money is the most important reason why actual inequality is worse than reported inequality.
The widening gap between the two also reflects the following major trends:
- Income inequality declined significantly from 1950 to 1990, barring a few years between the late 70s and early 80s when the two GINIs somewhat diverged. The downward trend in inequality was largely due to a number of “socialist” policies such as the integration of the princely states under a democratic Constitution, ending of royalties and privy purses, agricultural land ceilings and redistribution, nationalisations, government control over prices, etc. In general, the two indices tracked each other quite well during this pre-reform period.
- India’s income inequality started widening after the economic liberalisation policies began in 1991. A number of economists have noted these trends. As economic growth accelerated from the “Hindu-rate” of growth, the rich became richer while the share of national income going to others declined. The gap between the two GINIs reached the highest level after the BJP came to power in 2014. The worsening of inequality is consistent with observations regarding crony capitalism and the rise of the billionaire raj.
There is a parallel between the significant increase in unreported (and hence, untaxed) incomes and the rise of an opaque global financial system which afford greater anonymity and ease in the transfer of black money from developing countries like India. In other words, the income and wealth of those who are effectively connected to the global financial system increased much faster than the rest of the population who do not have the necessary financial capacity or knowledge.
- The change in inequality in recent years is not actually flat as shown in the chart. The flat lines simply reflect the fact that the government has not released detailed income and tax data since 2015, compelling researchers to simply extrapolate the last reported data.
A key feature of the rising income inequality within countries is due to the growing importance of capital income derived from interest, dividends, retained earnings and rents. This has been observed in India too, where increasing share of capital incomes of the rich has been one of the key drivers of rising income inequality in the post-liberalisation period. Meanwhile, data shows that the incomes of people in the middle 50% of the distribution are shrinking.
The unreported incomes of the rich, from black money stashed tax havens and developed country banks (DCBs), is likely to be much higher than incomes derived from domestic investments. This is because the uber-rich typically prefer to accumulate a larger portion of their black money holdings abroad rather than domestically in order to avoid the risk of confiscation by regulatory agencies like the income tax department and the enforcement directorate. They easily avoid that risk by depositing the money in tax havens and DCBs using shell companies, anonymous trusts and financial derivatives.
The Panama Papers was a one-of-a-kind information leak by the International Consortium of Investigative Journalists (ICIJ) in 2013. The consortium exposed the holdings of the rich and famous in Panama, a nondescript tax haven. While the names of several Indian celebrities came up, ultimately none of them could be convicted given the difficult and protracted nature of transnational litigation involved. Generally speaking, national tax and investigative agencies have no clue about the actual owners of offshore accounts thanks to the loopholes in global financial regulations. For instance, tax havens are seldom signatories to financial disclosure agreements between nations nor are their financial institutions subject to the reporting requirements of onshore banks.
Small wonder then that the World Bank’s Stolen Asset Recovery (StAR) initiative, which was officially launched on September 17, 2007, and endorsed by its near-universal membership, has only managed to recover a miniscule portion of the tens of billions of dollars stolen from developing countries each year (Few and Far: The Hard Facts on Stolen Asset Recovery). In fact, India’s own experience with the recovery of stolen money has been rather dismal – it has yet to recover a dime from fugitives like Nirav Modi and Vijay Mallaya.
Meanwhile, the volume of black money transfers from the country has been copious and growing. According to research at Global Financial Integrity (GFI), a think-tank based in Washington DC, a total of US$ 213.2 billion was shifted out of India over the period 1948-2008 through deliberate trade mis-invoicing alone. This was one of the earliest studies pointing out the counterintuitive – outflow of black money from India increased after the economic reforms of 1991.
Revenue performance and income inequality
Normally, as an economy grows, it should generate more revenue from tax and non-tax sources. As businesses make more profits, they pay more corporate tax, increasing employment generates more income tax, and GST collection increases as people spend more. But, if rapid growth does not generate enough formal sector jobs – forcing most to eke out a living working in the informal sector where incomes are not taxed – revenue performance, defined as total government revenue to GDP, will be sluggish even if the economy expands at a healthy clip.
The relatively poor revenue performance may also reflect tax evasion, resulting from tax fatigue, as a small number of taxpayers are forced to carry the tax burden of the nonpaying majority. In fact, India’s average revenue performance over the past 25 years (2000-2024) not only lags behind China’s but also that of developing countries, whether in Asia or otherwise. Over the period 2000 to 2022 (excluding estimated data for the last two years), India’s revenue performance increased by just 2.1% of the GDP while China’s nearly doubled from 13.4 to 26% of its GDP. At the same time, developing countries as a group improved revenue collections by 4.5% of GDP.
Given the need to spend more on health, education, defence, infrastructure and other areas in the coming years, any expansion of social benefits will place further strain on government finances. Meanwhile, various government initiatives to help the poor, such as cash transfers, housing, subsidies and health care for the poor often do not reach many eligible beneficiaries due to corruption and weaknesses in the administrative machinery. For example, access to good quality healthcare is not just unequal and inadequate.
Concluding observations
Research at the IMF shows that when rapid rates of economic growth largely benefit the rich, growth itself may be derailed. While many poor countries have been able to achieve impressive rates of economic growth, they face the far more serious challenge of sustaining them rather than to simply get growth going. One way inequality short-circuits economic growth is by limiting the increase in personal consumption, which is often a major driver. After all, there are limits to how much more the rich can consume out of a rising income. They cannot make up for the decline or stagnation in the consumption of the vast majority whose inflation-adjusted incomes are stagnant or eroding.
Countries with a highly unequal distribution of wealth and income also tend to face a much greater risk of democratic backsliding. While there is strong public confidence and respect for institutions and media freedom in inclusive societies, governments of unequal societies tend to weaken institutions and co-opt the media for propaganda purposes. There has been an unmistakable link between the sharply rising income inequality and democratic backsliding since the Bharatiya Janata Party came to power in 2014.
Inclusive economic policies aimed at reducing income inequality take time to work, just like we cannot expect today’s investment in high quality primary education to start producing skilful workers tomorrow. Meanwhile, the increasing government handouts and subsidies to support the poor have not only failed to stem income inequality, but also failed to garner enough electoral support for Prime Minister Modi. Despite this, politicians would rather play vote-bank politics than set out for widespread human development.
Dev Kar, a fellow at the Global Justice Program, Yale University, is chief economist emeritus at Global Financial Integrity, a think tank based in Washington DC. Prior to joining GFI, he was a senior economist at the International Monetary Fund. His book, India: Still A Shackled Giant, was published by Penguin Random House India in October 2019.
