With falling direct and indirect tax revenues (sic), the Modi government is desperate to raise more money to spend on their fiscal programs to allegedly bring the economy out of the slump which they think is caused by a fall in aggregate demand.
Experts and even BJP MPs like Subramanian Swamy are calling this tax terrorism. I am going to analyze two questions in this article: One, is the economy in slump because of fall in aggregate demand? And two, can this tax terrorism to raise and then spend more money bring the economy out of this slump? Let’s see.
In my previous article I have tackled the issue of whether a fall In aggregate demand is responsible for this slump in the economy so I am not going to spend time on that question here. As I have said there, demand is never a problem for any economy. Supply is. And that supply is now chocked by the Modi government via their knucklehead policies like demonetization, GST and overkill central planning controls and regulations of every minute thing in India.
The answer to second question is, no the tax terrorism can never bring the economy out of slump. In fact, it will only make things worse. Let us see why.
To understand why taxes and then spending can never bring the economy out of the slump, I want my readers to fully understand the important economic concept of broken window fallacy, which is also known in mainstream economic science as opportunity cost. Video below gives a nice presentation of the broken window fallacy.
As its conceiver Frederic Bastiat and its popularizer Henry Hazlitt said, the common mistake that people make while doing an economic analysis of any policy action is of only looking at the seen effects of that policy; what they ignore is the unseen effects. As Bastiat and Hazlitt said, the crucial difference between a good and bad economist is that the good economist not only looks at the short run and seen effects of any policy action but also at the long run and unseen effects. Government taxation and spending policy is nothing but a classic example of broken window fallacy. What government takes in taxes and spends on its programs are the resources that they have taken away from the private sector of the economy. People only see the effects of governments spending programs while ignoring the forgone unseen opportunities that never came into existence because government taxation. In the absence of government taxation, the tax money would’ve remained with the private sector which it could and would have used to start new businesses employing more people and generating more output in the economy. And the activities of the private sector are aligned with consumer preferences because they are driven by the market price and profit and loss system which represent consumer preferences correctly unlike government spending which has no such aid of price and profit and loss system. As Ludwig von Mises said, government’s socialist calculation is impossible.
As we have seen above, what government taxes and spending actually does is divert precious scarce resources of an economy from productive sectors to the unproductive sectors. And by doing so, government only damages the economy further. Thus, every tax penny represents wastage. Government is nothing but a gigantic system of wasting our resources. It can never do any positive work. It can only damage our economies.
Sound economic analysis tells us that government taxation is nothing but a wastage of our resources. More taxes only means more wastage. Modi government, like all other governments, is so clueless about economics, and everything else, that it doesn’t understand that their tax revenue is falling because of their own policy of tax terrorism of imposing higher taxes on everyone. If any of his advisors studied public finance then they must know the concept of Laffer Curve, which tells us that as the tax rate goes up, tax revenue falls. Modi government is trapped in a vicious circle of taxation. More they tax the people, more their revenue falls and more they become desperate to increase tax rates and on and on. And in this madness, they are destroying the already dead economy. Instead of bringing economy out of the slump, this policy of tax terrorism is only going to create more problems. Thousands of millionaires are leaving India because of this high tax regime since Modi came to power in 2014. Increasing tax terrorism only means more such people will continue to leave India en masse. These wealthy people are the ones who are generating wealth in India. Once they are gone, there will be no one left behind to generate wealth. Without wealth generation, who is going to feed billion plus population of India? If this policy of tax terrorism is going to continue then we are staring at a very bleak future indeed.