Adding Insult to Catastrophe in India

The Gujarat earthquake is New Delhi's latest excuse to gouge taxpayers, this time in the cruel guise of emergency relief

By Manjeet Kripalani

As Bombay art gallery owner Ritu Prakash watched the televised images of devastation from a massive earthquake on Jan. 26 in India's western state of Gujarat, she was moved enough to reach for her checkbook. She quickly wrote out checks to charitable organizations involved in the relief effort and called friends who had relatives in Gujarat to express her concern and offer help.

But two days later, when the initial shock had eased, Prakash had another sinking thought: "The government is going to raise our taxes again." Sure enough, as if on cue, Indian Finance Minister Yashwant Sinha announced that, because of the calamity, citizens would be slapped with a 2% income tax surcharge for 2001, in addition to other indirect taxes yet to be revealed.

Prakash wasn't alone. Most of middle-class India -- the less than 5% of the country's citizens that pay taxes -- had the same sinking feeling. Not because they begrudge giving part of their income to their suffering brethren, but because they worry that instead of being used to rebuild Gujarat, the money will be used by the government to pay down its alarmingly high budget deficit, now at 10% of India's gross domestic product.


  What made it worse for Indians was that New Delhi made no sacrifices of its own: no cutbacks in government spending or slashing of subsidies, the main source of political patronage in India and the chief contributor to the deficit. "Raising taxes will only reduce the government's credibility and reduce tax compliance," predicts New Delhi economist Surjit Bhalla. "It's the government's usual unimaginative, knee-jerk reaction to any disaster."

For a brief moment a few years ago, it appeared that reforms were possible. In 1997, India slashed top income taxes dramatically from 40%, to 30%, helping to cut down on tax evasion and widen the tax base. But since then, the government has used every extraordinary event to hit the nation as an excuse for a tax hike. In 1997, when the world slapped economic sanctions on India after it tested the nuclear bomb, the ruling Bharatiya Janata Party government imposed a 10% income-tax surcharge.

The year after that, when India skirmished anew with Pakistan over Kashmir, New Delhi asked its people to fork over an additional 1% in taxes -- despite billions in voluntary contributions from concerned, patriotic Indian citizens. Now, once again, the government is imposing more taxes to help pay for the rebuilding of Gujarat. The top rate for income taxes will now be 36%, and the top corporate tax rate will rise to 42% -- among the highest in the world.


  Not that Gujarat can't use a hand. At least 50,000 died in the quake, and the damage estimates top $4 billion -- a severe blow to India's second-richest state. Gujarat has enjoyed 9.6% annual growth rates, nearly twice the national average of 5.7%. It has some of the best infrastructure in roads and power in India -- all its villages have electricity -- and its industries like petrochemicals, diamond cutting, handicrafts, and textiles make up 11% of India's $400 billion economy, and 35% of total exports.

Gujaratis are mostly self-employed traders, known for their shrewd commercial sense, and wealthier than most Indians. The quake destroyed the homes and livelihoods of many of these small businesspeople, and economists estimate it has set back the state's economy by three to five years.

As members of India's entrepreneurial class, residents of Gujarat are better equipped to cope with such tragedy and don't rely heavily on the mismanaged government aid machinery. Flights into the region have been packed with relatives from wealthy Bombay or from the Gujarati Indian diaspora, bringing private assistance.


  Corporate India, largely headquartered in Bombay where the Gujarati community rules commerce, is helping, too, adopting villages and towns and taking charge where the government has failed. Large Gujarati-owned corporations like Reliance Industries, which has a 540,000 barrels-per-day oil refinery in Gujarat, are spending millions of dollars to help rebuild the state.

The locals' natural enterprise streak is already starting to reemerge. Anil Gupta, a professor of technology at the prestigious Indian Institute of Management in Ahmedabad, recently toured the ravaged villages of Kutch in Gujarat to help set up communications links with remote villages there. Dhamadka, a town reknowned for its unique block-printing techniques, was destroyed. There, people have not received much assistance from government -- nor do they seek it. "All they want is for the public transport buses to start plying their routes again and for electricity to be restored," says Gupta. "They're ready to work again."

Rebuilding Gujarat's infrastructure will take millions of dollars in investment. That, say economists, can be more efficiently achieved by issuing special-purpose earthquake bonds, for example. Or they say, the government could consider a disaster hedge fund to protect against future earthquakes and other natural catastrophes.


  Alas, gouging the haves has always been considered good short-term politics in India and hard for governments to resist. So despite the economy's dangerous signals -- a monstrous budget deficit, 8% inflation, high interest rates, falling foreign investment, and slowing GDP growth -- New Delhi has added higher taxes. What it should do instead is tighten its own belt and use the opportunity to push through tough reforms like cuts in subsidies. A shrinking economy will only add to India's many other pressures, not the least of which is a growing population of job seekers -- more than 500 million by 2010 -- in a stagnant job market.

For investors, all this only makes the country a less attractive place to do business. "Coming in the wake of India's other uncertainties, this is just another lost opportunity and puts another nail in the coffin," says Subir Gokarn, chief economist at the National Centre for Applied Economic Research in New Delhi.

One more catastrophe, even higher taxes, and the Indian economy could collapse. That's not a prescription for eradicating the poverty that so drags the subcontinent down -- and makes the people so vulnerable when disaster strikes.

Kripalani is Bombay bureau chief for BusinessWeek

Edited by Douglas Harbrecht

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