The budget served India’s self-proclaimed middle class a reality check

We have been told by rich mutual fund agents, chartered accountants and registered investment advisors in the business of managing other people’s money that this is an anti-middle class move. 

Many of those complaining about the move have been supporters of the Modi government, making their discontent on social media funnier, given how they now feel that their support has counted for nothing.

Now, before getting into further details, let me make a couple of points. First, the government shouldn’t be incentivizing one kind of income over another, and all income should be taxed the same way. Removing indexation benefits is a move towards that.

Also read: Removing indexation on real estate will benefit almost nobody. Here's proof.

Second, more than 10 million flats in India have been bought and kept locked for investment purposes. It’s these flat-owners who will be hurt by the government’s decision. And anyone who can afford to buy a flat and keep it locked isn’t really middle-class, despite the lack of a proper definition of the term.

So, that leaves us with another question: What about the well-to-do who have supported the Modi government and, as they have been saying on social media lately, gotten nothing material in return?

Well, let me tell you a small story. In late July, I was part of two tourist tours, one in Oxford and another in Edinburgh. As we went around, the guides showed us several old buildings with many sealed windows. This was because in the 17th and 18th century, the government came up with a unique ‘windows tax’ based on the number of windows in a house. 

The logic being that the bigger the house, the more windows it would have, and having more windows became a symbol of prosperity, and hence the tax. This led a lot of people to simply seal off their windows in order to pay less or no tax.

What’s the point of this story? There are three things that make a government a government: the right to legal violence, the right to create money out of thin air and the right to tax. And when a government wants money, it will tax anything and everything. So, the removal of indexation benefits should hardly come as a surprise.

In 2018-19, before the pandemic broke out, the total expenditure of the central government and state governments stood at 26.7% of gross domestic product (GDP). This jumped to 32% in 2020-21 and was at 30.6% in 2023-24. 

Also read: Budget 2024: No indexation benefit for property sales; new LTCG rate fixed at 12.5%

With the private part of the economy not doing well, governments have had to spend more. In fact, as the Economic Survey of 2022-23 had pointed out, more than 300 direct benefit transfer schemes are run by the central government and more than 2,000 by state governments.

While politicians may not admit it publicly, they know that a large section of the population is struggling in the aftermath of the pandemic. Through such schemes, they have been trying to do the right thing, along with trying to address this important vote bank.

Also, thanks to technology, the delivery of such schemes has improved considerably. As Raghuram G. Rajan and Rohit Lamba write in Breaking the Mould: Reimagining India’s Economic Future: “Ironically, as technological advances have improved delivery of targeted benefits… the top leadership in the state or national capital can now identify themselves with the delivery of a specific benefit such as cash transfers, toilets, food grains, gas cylinders or education loans, and directly build a personal rapport with the voter." And all this costs money. A lot of it.

The total expenditure of the central and state governments has gone up over the years. Also, there is pressure to bring down overall government debt. And given that the central government shares a good proportion of the taxes it collects with state governments, there is great pressure on it to collect more tax money in general.

What hasn’t helped is the fact that in September 2019, the central government cut the corporate income tax rate in the hope that it will incentivize companies to invest more. In 2018-19, the corporation tax collected stood at 3.5% of GDP. 

In 2023-24, it stood at 3.1% of GDP, despite corporations earning higher profits. It’s expected to be at 3.1% even in 2024-25. Now, such a narrative-focused government cannot reverse this move, given the uncomfortable questions that would arise.

Hence, among other things, the government will have to try and collect higher taxes on income. In 2018-19, these collections stood at 2.4% of GDP, jumping to 3.5% in 2023-24, and are seen rising further to 3.6% in 2024-25. Taxing capital gains at higher rates will help improve tax collections.

Also read: India faces ‘middle income trap’, may take over 75 years to reach one-quarter of US income per capita, says World Bank

So, that leaves us with the well-to-do trying to pass themselves off as middle class and getting angry about the removal of indexation benefits. The joke has always been on them because someone’s got to foot the government’s bills. It’s just that they might finally be getting around to realizing it.