I’ve waded into the Demonetization debate later than most. Mostly because I’ve been stunned by the sub-optimal, poorly executed and cavalier nature of this policy action. Despite the public service messages, the claims that this move will rid us of the scourge of black money and the rationalization that the pain caused is a necessary evil for the greater good, the facts of the matter paint a different reality.
I’m going to do a series of posts on the Demonetization action and its impact. In this current post, I will estimate the % of the total stock of black money held by Indians that the government has been able to trap through demonetization.
I’ve been reading everywhere that 5-6% of black money in India is held in cash. Where is this figure coming from?
This statistic is based on data from recent tax raids and investigations. In tax probes conducted from April - Oct 2016, black money holders admitted to holding Rs. 7,700 crore worth of assets bought with black money. Black money held in cash was only Rs. 408 crore or 5% of total black money held. The remaining was invested in businesses, stocks, real estate, Benami bank accounts etc.
This is consistent with data provided in the white paper on Black Money, published by the Ministry of Finance, GOI in 2012. The average % of cash in the total undisclosed income admitted for the period 2006-07 to 2011-12 was 5%.
It’s important to note here that this statistic is based on the undisclosed income admitted by black money holders; the actual amount of black money (including what is not admitted) is much more.
With that out the way, let's get some rough estimates and do some back-of-the-envelope calculations of our own.
How much is the black economy as a % of GDP?
It is very hard to estimate the amount of black money generated annually in India. As expected, there is a wide range of estimates. In the same white paper released by the Ministry of Finance in 2012 that we mentioned above, black money in India was estimated at 19-21% of GDP for 1983-84. The World Bank estimated that in 2007, the size of the black economy in India was 20% of GDP. Independent scholars however, have much higher estimates. For instance, Professor Arun Kumar (retired, JNU), who has authored the book “The Black Economy in India”, estimates the black economy at ~50% of GDP today!
Since government figures tend to be conservative especially for subjects such as the shadow economy, let’s assume that the black economy in India is ~30% of GDP.
The Business Standard and Economic Times reported today (10/1/17) that as the government analyses data on the bank deposits made post the demonetization (8th Nov 2016), it estimates that Rs. 3-4 lakh crore of tax evaded income (black money) could have been deposited during the 50-day window (till Dec 30th 2016) provided to deposit old 500 and 1000 rupee notes.
Now let’s do some math. (Table below is self-explanatory)
Based on our assumption of the black economy being ~30% of GDP, and assuming that the Rs. 3-4 lakh crore that the government suspects is tax evaded income is indeed black money, demonetization has succeed in trapping 7-9% of the black money likely to be generated in FY17.
That said, black money generation is a continuous process. Every year, citizens conceal income and avoid paying taxes. Most of the black money that is stored over the years (and not spent on consumption) is held in the form of gold, land, real estate, foreign currency deposits and assets abroad. Currency forms only a small proportion of the black money held.
How to estimate the quantum of the entire stock of black money?
This brings us to the next logical question. How much is the entire stock of black money held by Indians (this includes accumulation over the years through investment in gold, property, land, overseas deposits etc.)? This is almost impossible to estimate accurately.
That said, we can make a rough estimate by adding together some broad categories: 1) the amount of black money held abroad (in tax havens such as Switzerland), 2) the amount of black money held in the form of gold, and 3) the amount of black money invested in real estate.
How much black money is held abroad?
There is a wide array of estimates here. According to Washington-based think-tank, Global Financial Integrity (GFI), Indians stashed away $462 billion (Rs 32 lakh crore at current exchange rate) in overseas tax havens between 1948-2008. Former CBI director, AP Singh estimated that ~$500 Billion (Rs 34 lakh crore) in black money was lying abroad. These two estimates are broadly consistent.
Assocham however, has estimated Indian black money stashed abroad at ~$2 Trillion (Rs 136 lakh crore)!
Let’s go with the CBI Director’s estimate and assume that $500 Billion or Rs 34 lakh crore (at the current exchange rate of 68.35 INR/USD) in black money is lying abroad in tax shelters.
Note: We are assuming that this figure ($500 Bn) includes the entire stock of black money lying in tax havens abroad at the beginning for FY17, and excludes any black money transferred abroad during the current fiscal. We will make this same assumption for the amount of black money held in gold and in real estate.
How much black money is held in gold?
According to an estimate by the Gold Council a few years ago, around 22,000 tonnes of gold is held privately in India. At current gold prices (Rs 28,179 per 10 grams), this gold is worth Rs. 62 lakh crores. Let’s assume that a third of this gold was purchased with black money. I have no published research to rely on here; 1/3rd is just a guesstimate that seems reasonable. Based on this guesstimate, we assume that ~Rs 21 lakh crore of black money is held in gold.
How much black money is tied up in real estate?
This is rather difficult to size. I will make a very rough estimate here. Officials in the income tax department as well as real estate participants have often said that the amount of black money stashed away in real estate, is much more than the amount of money stashed away abroad.
So, let's assume (to be conservative) that the quantum of black money invested in real estate is at least as much as the money stashed away abroad. I estimated earlier in this post that the black money held in foreign tax havens is around Rs 34 lakh crore. I’m going to assume that the same amount is tied up in real estate.
Let’s add it all up, shall we?
Note: As I’ve mentioned above, I’ve assumed that estimates made for money held in tax havens abroad, in gold and in real estate represent the amount of black money held at the beginning of FY17. To their sum, I’ve added the amount of black money estimated to have been generated this fiscal. This gives us a figure of ~Rs. 135 lakh crore for the total stock of black money at the end of FY17 (March 2017).
The cash trapped by demonetization (3.5 lakh crore - I’ve taken an average of the government’s estimate of 3-4 lakh crore) is just ~2.5% of this total stock of black money.
Conclusion
Per my admittedly rough estimate (likely generous), the government has been able to capture only ~2.5% of the stock of black money held by Indians through this historic demonetization that has stunned the world, decelerated domestic growth, disproportionally affected the poor and put the Indian masses through an incredible amount of distress. Its small gains do not justify the substantial costs.
More in my following posts.
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