RELATIONSHIP BETWEEN GROWTH AND INEQUALITY IN INDIA AND TAX POLICY IMPLICATIONS

THE CONTEXT: 

Post-1991 reforms, India faces conflicting inequality trends: the top 1% holds 22.6% income and 40.1% wealth, while NABARD’s NAFIS shows rural income Gini fell from 0.351 (2016–17) to 0.198 (2021–22) amid subsidies (10.3% of rural income in 2025). Debates on wealth tax (0.5% GDP revenue) clash with growth-centric arguments, as PRICE reports a rising middle class despite tax underreporting.

 

TRENDS IN INEQUALITY:

 Income and Consumption Patterns (NAFIS Data):

• • • • Between 2016–17 and 2021–22, average monthly income increased by 57.6%, and consumption by 69.5%.
      • Income inequality (Gini coefficient) fell from 0.351 to 0.118.
      • Consumption inequality fell from 0.262 to 0.190.

 Share of Government Transfers:

• • • • Government transfers and subsidies now constitute ~10.3% of household income in rural areas.
      • For the bottom deciles, this figure exceeds 20% (Figure 2), showing targeted redistribution.

 

Pre-Tax National Income Shares:

• • • • The top 10% now hold 57.7% of national income.
      • Bottom 50% saw their share decline to 15%.
      • Wealth inequality is sharper, with the top 1% holding ~40% of national wealth.

CAUSES:

 Structural Causes

• • • • Technological change, financialisation, and globalisation have benefitted the upper income classes.
      • Urban-rural divide remains, though Gini coefficients have converged post-COVID-19.

 Policy Drivers

• • • • Cash transfer schemes have boosted consumption at the bottom, narrowing consumption inequality.
      • Credit slowdowns may have reduced upper-class discretionary spending (Krishnan, 2025).

 

 

GROWTH-INEQUALITY RELATIONSHIP:

 Kuznets Hypothesis

• • • • Suggests inequality rises during industrialisation and falls at higher income levels.
      • India may be at an inflection point.

 Granger Causality and Regression Results

• • • • No evidence of growth causing inequality.
      • Weak evidence that inequality affects growth:
      • Growth slows when the income share of the bottom 50% rises.
      • No consistent effect of top 10%/1% income shares on growth.

 Empirical Inference

• • • • Inequality may not be an impediment to growth in India currently.
      • Emphasis should shift from perception to rigorous, country-specific analysis.

 

 

METHODOLOGICAL CHALLENGES:

 Survey vs Tax Data

• • • • Survey data underreport top-end incomes.
      • Tax data lacks coverage and may exclude informal incomes.

 Problems of Under-Reporting

• • • • Average monthly expenditure reported by top 5% in 2023–24 is low.
      • Transfers in kind often omitted or under-valued.

 

 

POLICY DEBATE: SHOULD INDIA REVAMP ITS TAX SYSTEM

Arguments For Progressive Taxation

1. High Concentration of Wealth and Income

   • The top 1% of earners hold 22.6% of income and over 40.1% of wealth in 2022–23, reflecting an oligarchic concentration of economic power.
   • Wealth-to-income ratios of 4,600% at the top highlight entrenched intergenerational inequality—violative of Article 38(2) of the Indian Constitution.

2. Under-utilisation of Direct Taxes

   • Only 6.75 crore individuals filed income tax returns in 2023–24, which is just ~5% of the population.
   • India’s direct tax-to-GDP ratio (~6%) remains well below the OECD average (~11%).
   •  2% annual wealth tax on India’s billionaires could yield 0.5% of national income, enabling a redistribution-oriented fiscal policy.

3. Comparative Perspective and Fiscal Justice

   • China’s income tax base expanded from 10% in the 1980s to ~70% now (Brookings, 2023), showing what sustained compliance efforts can achieve.
   • With rising fiscal needs for public goods, targeted taxation of the ultra-rich aligns with vertical equity principles.

4. Redistributive Justice and Sustainable Development

   • Economic disparity undermines inclusive growth, social cohesion, and violates Rawlsian principles of justice.
   • Once food subsidies are accounted for, inequality levels drop—suggesting progressive taxation can complement subsidies to improve social welfare maximisation.

5. Global Trends and Moral Argument

   • OECD (2022) and IMF (2023) have recommended temporary solidarity taxes on the rich post-COVID-19.
   • The moral argument, as per Amartya Sen, is not anti-wealth but pro-justice—ensuring the poorest have equal opportunities for capability development.

 

Arguments Against Progressive Taxation

1. Risk of Capital Flight and Informality

   • India has a low tax morale and a large informal sector (~45% of GDP).
   • Excessive taxation may incentivise offshore wealth parking (e.g., Mauritius route), capital flight, and reduced entrepreneurial risk-taking.

2. Compliance Challenges and Tax Evasion

   • As per Global Financial Integrity (2023), India loses ~$83 billion annually to illicit financial flows.
   • Wealth is often held in non-transparent assets (real estate, gold, shell firms), making assessment and enforcement extremely difficult.

3. Pragmatism vs Idealism

• • “Taxing wealth is high on idealism, low on feasibility.”

1. • Current 43% effective tax rate on high income is already comparable to global benchmarks, yet ineffective due to evasion loopholes.

2. Entrepreneurial Incentive and Investment Climate

   • Excessive redistribution may violate Laffer Curve logic—beyond a point, tax rates discourage productive effort and reduce actual revenue.

3. Historical Ineffectiveness

   • India had a 97.5% income tax rate in the pre-1991 era, leading to tax terrorism, evasion, and black money—not equity.

 

MIDDLE GROUND SUGGESTIONS: TOWARDS FISCAL MODERATION WITH EQUITY

     1. Widening the Tax Base, Not Just Tax Rates

• • A 1% universal tax on all those who can afford it—minimalist, but symbolic and compliance-friendly.
  • Inspired by Chanakya’s Arthashastra: “Collect taxes like a bee collects honey—without harming the flower.”

• Luxury and Behavioural Surcharges

  •  Luxury taxes on high-end air travel, celebrity endorsements, 5-star hotel stays, and premium vehicles.
  • Pigovian taxation on conspicuous consumption can simultaneously raise revenue and correct market externalities.

• Agricultural Income Tax for the Affluent

  • A progressive tax on large landholders and high-income agriculturists (with turnover above a threshold) can improve horizontal equity.
  • Estimates suggest over ₹50,000 crore of un-taxed income annually flows through the agriculture route (NIPFP, 2023).

• Use Technology for Compliance

  • Leverage AI and Big Data for taxpayer profiling, e-verification, and cash flow tracking.
  • Faceless Assessment Scheme and Aadhaar-PAN linkage already show promise in reducing discretion and corruption.

• Earmarked Redistribution

  • Allocate new progressive taxes to education, health, and nutrition, especially for SC/STs, women, and rural populations—linking taxation directly to social empowerment.
  • Telangana’s Rythu Bandhu and Odisha’s KALIA scheme—well-targeted DBTs that boost farmer welfare without leakage.

• Periodic Wealth Disclosure & Transparency Mandates

  • Mandate high net-worth individuals (HNIs) to publicly disclose assets, as in Scandinavian countries.
  • Increase estate duty selectively, with exemptions for SMEs and family-owned businesses under thresholds.

 

 

THE CONCLUSION: Revamping India’s tax system must be guided by the triad of equity, efficiency, and ease of compliance. A blanket wealth tax may be politically and administratively infeasible, but a hybrid approach—emphasising base widening, smart surcharges, behavioural taxes, and targeted redistribution—offers a sustainable roadmap.

 

UPSC PAST YEAR QUESTION: Comment on the important changes introduced in respect of the Long-term Capital Gains Tax (LCGT) and Dividend Distribution Tax (DDT) in the Union Budget for 2018-2019. 2018

 

MAINS PRACTICE QUESTION: “The relationship between inequality and economic growth in India is neither linear nor conclusive.” Examine this statement in light of recent empirical evidence on income and wealth inequality in India.

SOURCE:

https://www.epw.in/journal/2025/11/perspectives/relationship-between-growth-and-inequality-india.html?check_logged_in=1

 

 

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