Lessons in Laffer Curve

After Dikshit lowered VAT on diesel, Mukherjee should revisit IT rate too

vishv

Vishwabandhu Gupta | July 21, 2010



Delhi chief minister Sheila Dikshit has learnt a bitter lesson in the interlink between the tax rates and the revenue raised. Believing in the dangerous myth that higher taxes means higher revenues, she raised the value-added tax (VAT) on diesel from 8.5 percent to 20 percent in Delhi in April. She hoped that the higher tax on diesel in the seemingly affluent capital would get more revenue for the Commonwealth Games. Results were disastrous.

There was a massive decrease of 60 to 90 percent in diesel sales in Delhi in just a little over 90 days after this decision. Around 200 petrol pumps started incurring heavy financial losses. Tentative assessments showed most petrol pumps would incur a further heavy loss and might get closed down by the end of September. Also as a result at least 5,000 employees would lose their jobs and more than 25,000 dependent family members would starve until diesel consumers return to the petrol pumps.

The transport vehicles started getting their tanks filled from Haryana, going 10 km across the borders. This can be verified from the Municipal Council of Delhi toll tax barriers. Haryana has a VAT rate on diesel at 8.5 percent. Alarmed at dwindling revenues, Dikshit has brought down the VAT rate of diesel to 12 percent effective from August 20.

It remains to be seen if the consumers will move to Haryana even after August 20 as the neighbouring state's VAT remains still remains lower.

Dixit has just learnt what is known as Laffer Curve in economics textbooks. In simple terms, Laffer Curve implies that lower tax rates change people's economic behavior and stimulate economic growth, which leads to tax revenues exceeding static estimates. Under some circumstances, tax cuts can lead to more (and not less) tax revenues. ON the other hand, the exact opposite occurs with tax rate hikes. The license raj of Indira Gandhi in the 1970s, when the income tax rate was over 90 percent, increased only poverty in India and not the revenue. Today when tax rates have been brought down to 30 percent gradually, tax revenues have gone up with every scale-down.

A few years ago when the Delhi government introduced a regime of low house tax rates the revenue increased manifold. When the import duty on gold was slashed dramatically, the gold smuggling empire of the late underworld don Haji Mastan crumbled like a pack of cards.

The simple axiom in life, anywhere, is to bring tax rates down so low that effort to evade taxes and the money and the time that go in it become a virtually worthless exercise. The same thing will happen if entertainment tax rates were lowered; it will bring more revenue as lower film viewing expenses will bring more viewers to now largely empty cinema halls across India.

The G20 has passed a resolution asking major 28 tax havens around the globe including Switzerland to shut shop or face economic sanctions, the OECD countries including India will succeed in curbing that menace. But India still charges a 30 percent income tax on individuals, as against the effective rate of 19 percent on corporations (11 percent deductions have been inbuilt in taxation rates of companies with dividend untaxable) and humiliating to the common man. Owners of biggest industrial houses in India pay little income tax on personal incomes even as companies they control are adding their names fast to list of billionaires cheating ordinary tax payers.

Unless the income tax rate for individuals is slashed to at least 10-15 percent in India, where there is no or very little social safety network (don’t compare with the Scandinavian countries which has higher personal income tax rates but provide various free services like open heart surgery to funeral expenses, low rate home rents, etc.), it is only a matter of time before new tax havens breed.

Comments

 

Other News

Here’s an I.D.E.A. for career growth and success

Success in today’s professional organisation is no longer solely determined by academic qualifications, technical expertise or years of experience. While these attributes do matter, organisations increasingly value individuals who demonstrate the right mindset and behavioural qualities. The ability

PM interacts with CEOs, founders of space startups

Prime minister Narendra Modi interacted with CEOs and Founders of 20 Space Startups at Seva Teerth on Friday.   CEOs of leading companies in the space sector working in diverse fields ranging from building rockets and reusable semi-cryogenic launch vehicles, avionics, satelli

From one cow to a dairy business

In 2012, Anita Dash wasn`t dreaming of building a dairy brand. She wasn`t studying business models or planning market expansion. Like countless mothers across India, her focus was on something much simpler: giving her children a better future.   At the time, her most valuable

Ethanol blending: The two sides of a story

India`s crude oil consumption is estimated to be around 88.5% imported from abroad. This one single figure is also responsible for why ethanol has become both an economic strategy and fuel policy at the same time. In an economy like India, which depends so heavily on foreign oil, any increase in internat

Food inflation: Not a macroeconomic statistic but a developmental indicator

India`s retail inflation shows a reassuring picture at first glance. According to the latest data, Consumer Price Index (CPI) inflation edged up to 4.38% in June 2026 from 3.93% in May 2026, but continued to remain within the Reserve Bank of India`s (RBI) target band of 4% (+/- 2%). However, beneath this

Skin in the game or masterful market timing?

When a company founder opens their personal chequebook to buy shares in their own business, stock markets usually applaud. To the average retail investor, it feels like the ultimate vote of confidence, a sign that the people running the show have real skin in the game and believe brighter days are ahead.

Upcoming Conferences



-->

Archives

Current Issue

Opinion

Facebook Twitter Google Plus Linkedin Subscribe Newsletter

Twitter