Dr.

RAM MANOHAR LOHIYA NATIONAL

LAW UNIVERSITY

ECONOMICS

Project

On

PARALLEL ECONOMY IN INDIA

Submitted to Submitted by

Dr. Mitali Tiwari Anushka

Assistant Prof. (Economics) Roll No. 033

Ist Year (Ist Semester)

2017-2018

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 ACKNOWLEDGEMENT

I owe a great many thanks to a great many people who helped and
supported me during the making of this project.

Words are inadequate in offering my deep sense of gratitude to my

Professor for her precious guidance.

With her enthusiasm, her inspiration and her great efforts to

explain things clearly and simply, she helped throughout my
analysis of work with lots of encouragement, sound advice, and good
innovation.

I would also like to thank the librarians of Dr. Madhu Limaye

Library who extended their assistance to me by helping me out
consult the relevant books.

I know that despite my best efforts some discrepancies might have

crept in which I believe my humble Professor would forgive.

Thanking You All.

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TABLE OF CONTENTS

CHAPTERISATION:

Introduction……………………………………………………….…………. 4-5

Research question……………………………………………………………...5

1. Meaning of parallel economy…………………….………..…..…..….. 6-8

i.) Definition of parallel economy….…………………………..……… 6

ii.) History of black economy in India…………………………..…… 6-7

iii.) The estimates of black money in different countries……………… 7

iv.) Assessment of black money in India……………………………. 7-8

2. Reasons behind growth of black money……………………..…… 9-10

3. Impact of black money on Indian economy……………………....11-13

4. Measures to curb black money in India...…………………..……14-16

Conclusion……………………………………………………………....17

References………………………………………………………….…..18

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INTRODUCTION

The Indian economy has continuously recorded high growth rates and has become an
attractive destination for investments; but the recent unearthing of corruption cases has
thrown light on the dark side of the growth that is rise of the black money circulation in the
economy. Black money may be defined as the money that is generated by activities that are
kept secret in the sense that these are not reported to the authorities. This is variously
referred to as ‘unaccounted money’, ‘illegal economy’, ‘subterranean economy’ or
‘unsanctioned economy’. As such this money is also not accounted to the fiscal authorities
i.e., taxes are not paid on this money. Contrasted to this is the white money that is shown in
relevant accounts and tax paid, if due.

When economic activities goes unreported or not measured by societies current techniques to
monitor economic activity it falls under parallel economy. Money that have neither been
reported to the public authorities at the time of their generation or at any time of possession;
no taxes have been paid on it. Also known as ‘Phantom trades’ or ‘Shadow economy’.

According to D.K. Rangnekar (Datta & Sundharam, 2004, 376), “If the ‘Parallel Economy’
poses a serious threat to stability and growth of the official economy, surely it stems from the
fact that the magnitude of ‘black money’ is large and rigged deals are growing in volume and
complexity at an alarming. Apart from the wide ramifications of the ‘parallel economy’, one
might also be alive to the fact that ‘black incomes’ are accentuating the inequalities in income
and wealth and breeding a new class of ‘black’ rich in a society which is already harshly
stratified.”

According to Feige, “The hidden or parallel economy includes those activities that go
unreported or are unmeasured by the society’s current techniques of monitoring economic
activities.”

Illegal economy is tax‐evaded economy. It is possible to convert illegal economy or black

money into white money and vice versa. For example, when a person manages to get the
receipt from the shopkeeper by paying the sales‐tax for a commodity but does not purchase it
actually, he generates black money as reimbursement is made to him against the receipt. The
money not actually paid is the black money in such a case. In such case, the shopkeeper sells

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the same commodity to another person without giving him any receipt for it. On the other
hand, if a person purchases something (say, a scooter, or a VCR, etc.) and plays Rs.15,000
for it out of white money but gets a receipt of only Rs.10,000, the balance of Rs.5,000
becomes black money for the seller. In this case, the white money becomes the black money.
(Ahuja, 2007, 489).

A hidden economy in its broadest sense may consist of:

 Illegal economy, such as money laundering, smuggling, etc.,

 Unreported economy including tax evasion;
 Unregulated economy, that is, economic activities outside law and regulations.

The parallel economy has political, commercial, legal, industrial, social and ethical aspects.
There are wide confrontations between the objectives of the legitimate and illegitimate
sectors under parallel economy (Lekhi, 2003, 191).There are two possible sources of black
money. Firstly, it may originate from illegitimate source of income arising out of illegal
gratification such as payment of income from smuggling, bribery, etc. Secondly, it may
originate from legitimate and legal source of income but concealed from tax authorities out of
tax evasion.

Research Questions

1. How is black money assessed in India?

2. What is the impact of black money on the Indian Economy?

3. How to curb black money?

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CHAPTER 1: MEANING OF PARALLEL ECONOMY

i. DEFINITION OF PARALLEL ECONOMY

Parallel economy signifies the functioning of unsanctioned sector in the economy
where the objective of such economy is to run parallel which is against the social
objectives. Parallel economy is termed as ‘black economy’, ‘unaccounted economy’,
‘illegal economy’, ‘subterranean economy’, ‘shadow economy’ or ‘unaccounted
economy’.
Wealth earned through illegal means, the term black money would also include legal
income that is concealed from public authorities:
 To evade tax payment (income tax, excise duty, sales tax, stamp duty, etc.).
 To evade payment of other statutory contributions.
 To evade compliance with the provisions of industrial laws such as the
Industrial Dispute Act 1947, Minimum Wages Act 1948, Payment of Bonus
Act 1936, Factories Act 1948 and Contract Labor (Regulation and Abolition)
Act 1970.
 To evade compliance with other laws and administrative procedures.

ii. THE HISTORY OF BLACK MONEY IN INDIA

The British East India Company in late 18th century laid the foundations of both a
corrupt bureaucracy and a parallel economy during World War II. The Indian black
economy is immense, lucrative, widespread, and has grown significantly since
independence. The black economy has grown from about 3% in the mid-50s to 20%
by 1980, to 35% by 1990, and 40% by 1995. The size of black money was over 50%
of GDP in 1987-88. It is also stated that annual rate of growth of black money is
higher than the annual growth rate of GDP.

By the early 1980s, the problem was virtually blaring bright red danger signals. By
one count, the rate of growth in the parallel economy was higher than that of GDP in
the period from 1980-81 to 1987-89; the former rose by 46.7% and the latter by 40%.

Only China, Russia, Malaysia and Mexico had larger black economies than India.
Most Indian black money holders prefer to stash their cash in Swiss banks, and in

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2013, Indians held as much as ₹14,000 crore in the banks there, seeing a 40% jump
from the previous year. Estimates of India's black economy range anywhere between
$100 billion to $500 billion.

iii. THE ESTIMATES OF BLACK MONEY IN DIFFERENT COUNTRIES

Parallel economy or black money exist both in developing as well as non-developing

countries. There is an abundance of literate available upon measurement techniques
and about estimates of parallel economy. A variety of methods have been used and
the different methods appears to generate widely divergent estimates.

PARALLEL ECONOMY AS PERCENTAGE OF GDP IN DEVELOPED NATIONS

The parallel economy as percentage of GDP estimates in developed countries like

Greece, Italy, Spain, Portugal and Belgium is 24% to 30%. Sweden, Norway,
Denmark, Ireland, France, The Netherlands, Germany and Great Britain estimate a
total of 13% to 23% as GDP in parallel economy. Lastly, the countries like Japan,
USA, Australia and Switzerland sum up to 8% to 10% GDP in parallel economy.

PARALLEL ECONOMY AS PERCENTAGE OF GDP IN DEVELOPING

NATIONS

The estimates of parallel economy in the context of some developing counties like
Nigeria and Egypt is 68% to 76%. Tunisia and Morocco contribute around 39% to
49%. Thailand majorly contributes 70% of GDP in parallel economy.

There are various developing countries where black money is increasing very quickly.
It occurs at all levels of society, from local and national governments, civil society,
judiciary, functions, large and small business, military and other services.

iv. HOW IS BLACK MONEY ASSESSED IN INDIA?

Various attempts have been made to assess black money in India from time to
time. Major few of them are as follows:
I. Kaldor’s Estimate – Prof. Kaldor in his report on Indian Tax Reform estimated the
non-national income- i.) wages and salaries, ii.) income of self-employed and iii.)
profit, interest and rent. (Datt and Sundharam, 2004, 378‐379).

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II. Wanchoo Committee’s Estimate - Shri K.N. Wanchoo, retired Chief Justice of the
Supreme Court of India, as chairman explained what the term black money meant in
its final report submitted in December 1971. This committee estimated non-salary
income for 1961-62 of amounting Rs.2686 crores and non-salary income actually
assessed to tax as Rs.1875 crores, thus, tax escaped for Rs.811 crores. (Dhar, 2003,
719).
III. Ragnekar’s Estimate – According to Rangnekar, tax evaded income for 1961-62 was
the order of Rs.1150 crores, as compared to the DTCE estimate of Rs.850 crores.
(Datt and Sundharam, 2004, 378).
IV. Chopra’s Estimate – O.P. Chopra prepared a series of estimates of black income in
India. The study showed that buoyant economy offers more opportunities of
unaccounted income. During periods of recession, it may be difficult for producers to
exact unaccounted money. (Datt and Sundharam, 2004, 379).
V. Gupta’s Estimate – Government of India formed a committee under Poonam Gupta
and Sanjeev Gupta in 1981 for calculating black money in India. They used Feige’s
method of transaction income ratio to estimate black money in a country.
The National Institute of Public Finance and Policy estimated that in 1985 amount of
black money in India was nearly Rs.1,00,000 crore, which is approximately 20
percent of the national income. In 1996, the estimated black money was believed to be
more than Rs.4, 00,000 crore (The Hindustan Times, January 20, 1997).

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CHAPTER 2: REASONS BEHIND GROWTH OF BLACK

MONEY IN INDIA

Income generated from illegitimate activities like smuggling, arms trafficking, corruption;
even those generating income legitimate activities avoid paying taxes because of excessive
taxation, greed and perception that government is corrupt and won't use it for public good. As
a percentage of GDP and at almost $1 trillion in absolute terms, the black economy is larger
than both the industrial and agricultural sectors. Corruption is pervasive from the lowest to
the highest levels of public administration, public enterprise, bureaucracy, judiciary, law
enforcement, and elected officials.

The major causes of generating black money:

I. Controls and licensing system: Black money is increasing in India for the reasons of
controls, permits, quotas and licenses.
II. Higher Rates of Taxes: Higher rates of taxes has resulted a growing tendency of tax
evasion among the tax payers. Tax evasion is common in income tax, corporate tax,
corporation tax, union excise duties, custom duties, sales tax, etc.
III. Ineffective enforcement of tax laws: In India, the enforcement of tax laws in respect
of income tax, sales tax, excise duty, stamp duty, etc. is quite weak. This has led to
enormous unrestricted evasion of taxes and piling up of black money.
IV. Funding of political parties: There is an upward tendency of supporting of political
parties with the help of black money. Big trade houses donating an enormous amount
of black money to the political parties, especially the ruling party with the sole
objective to tame the political leadership for deriving undue profit by manipulating
policy decision. (Lekhi, 2003, 193).
V. Second World War after Influence: During the time of Second World War, a lot of
Indian industry found circumstances favourable for black marketing. Supply industrial
goods from the traditional supplies of the West were cut‐ off, which resulted severe
shortages in many essential fields. This formed the sentiment of making of marketing
money out of shortages and not out of extension of the business activities.

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VI. Inflation: The addition in prices of commodities like petrol, etc. in international
market, boost in prices of commodities due to high increase in duties and taxes
imposed by the government, the conspicuous utilization created by people with
unaccountable money, diverting resources from manufacture to speculation‐  all these
is the root of inflation which in turn creates black money.
VII. Agricultural Income: The reluctance to bring agricultural earnings in the realm of
income tax has also contributed to creation of black money. Big industrial houses,
over the past few decades have entered the agriculture sector in a big way by
acquiring big farms. The black money accrued from other sources is sought to be
transformed into white by viewing it on the agricultural returns account.
VIII. Privatization: Privatization has opened up a new area to the private sector as well as
to ministers and bureaucrats for making black money. It is expected that many scams
come to light for making black money through privatization.
IX. Transaction in Urban Real Estates: Real estate transaction is a significant source of
generating black money in India.
X. Other Factors: Generation of black income in a country like India also results from
other different activities like smuggling, property deals, bribery, kick‐ backs,
commissions, concealment of income by professionals, artists etc. In this way an
enormous amounts of black income incessantly results in enhancement of the area and
activities of parallel economy (Lekhi, 2003, 194).

EMERGENCE OF BLACK MARKET: The black market is a market where all commerce is
conducted without regard to taxation, law or regulations of trade. It is generally smallest in
countries where economic freedom is greatest, and becomes progressively larger in those
areas where corruption, regulation or legal monopolies restrict legitimate economy activity.
Goods acquired illegally may be cheaper than legal market prices. The supplier does not have
to pay for production costs or taxes. This is usually the case in the underground market for
stolen goods. Criminal steal goods and sell them below the legal market price, but there is no
receipt, guarantee, and so forth. The range of activities that take place in black economies is
vast, spanning from the innocuous (t-shirts and shoes) to the edgy and dangerous (drugs and
guns). Also, much of a black market is legal business being conducted in an effort to evade
tax authorities. It is a challenge for economists to accurately measure, or even estimate the
size of many black economies. This is because they may be illegal and therefore, are not

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reported to tax authorities and stock exchanges. The money that changes hands in such an
economy are never recorded and no taxes are ever paid.

CHAPTER 3: IMPACT OF BLACK MONEY ON THE

ECONOMY

Generation of black income and thereby establishment of parallel economy has been creating
serious impacts on the social and economic system of the country.   Black income has been
causing underestimation of GDP in India as an enormous volume of income is diverted to this
unaccounted sector resulting in growing continuation of parallel economy of the country. The
direct effect of black income is the loss of revenue to the state exchequer as a tax evasion.
Black money has resulted in the diversion of resources for the purchase of real estate and
luxury housing. Black money has resulted in transfer of funds from India to foreign countries
through clandestine channels (Dhar, 2003, 721). The availability of black incomes with
businessmen and capitalists and the consequent inequalities of income place a large amount
of funds at their disposal. A part of the black incomes is held in cash and as a result there is
an abundance of liquidity which becomes available through the addition of savings held in
the form of cash, bullion, gold, silver, etc.   Money evaded by illegitimate way is spent in
undesirable and vulgar manner. Virtues like hard work and honesty are underestimated.

In India, the black economy has resulted in an immense loss of tax revenue. If it accounted
for 40% of GDP in 1998-99, the loss of direct tax revenue at the prevailing rate would
amount to at least Rs.200,000 crore. Only 2 million of India's billion people pay taxes, just
2% of the population. The government therefore suffers a perennial shortage of funds and
public services languish. Policies fail both at the macro-level and the micro-level. Targets for
education, health, drinking water and so on are not achieved because “expenditures do not
mean outcomes.” Much investment goes into wasteful and unproductive channels, like
holding gold or real estate abroad. A country is considered as capital-short has been exporting
capital. A nation that gives concessions to multinational corporations to bring in capital loses
more capital than it gets, and that too at a high cost, from foreign institutional investments or
foreign direct investment.

The major impact of black money on the Indian economy is as follows:

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I. Loss of revenue to the government and running of parallel economy in country - The
circulation of black money has a deep impact on the economy resulting in a decrease
in government revenues. A part of the black money which circulates in the economy
could have gone into the hands of the government in the form of taxes. Such is the
volume of the black money in the country that a parallel economy is said to be
running in the country with the black money alone. According to some estimates the
amount of black money in the country equals 40 per cent of our gross domestic
product. (GDP).
II. Black money and corruption form a vicious circle - Since most of the transactions
done in black money are illegal, it adds to already existing high levels of corruption.
All bribes for whatever reason they are paid goes unaccounted creasing more black
money in the society. This vicious circle of corruption generating black money and
black money generating corruption will never come to an end, unless some serious
steps are taken by the government to curb this evil practice.
III. Black money effects real capita income and national income of country - Since the
black money circulating in the country is not recorded in the government's books of
accounts, the real per capita income of the people and the national income of the
country are shown as low. If all the black money circulating in the economy is flowed
back into the national economy of the country, there will a substantial rise in the real
incomes of the people and the national income of the country. For example, although
the incomes earned by the immigrant labour of our country help to improve the
standard of living of the people earning them, yet they don't get added into the tax net
of the country if transacted through hawala. So they cannot be taken into account in
computing the national income and per capita income of the country.
IV. Black money causes decrease in quality of public goods and services - When bribes
which are to paid as black money to the producers of goods and provider of services,
it is but natural that they will provide the quality of goods and services only to the
people who pay bribes whereas the general public has to suffer as the same quality
and service is not provided to everyone. For example, if you have to get a job done in
office, your work will be done without any delay if you pay bribes to the officials who
have to do your job. But for the same kind of job, another person who does not bribe
the officials has to wait for several days, weeks or even months.

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V. Black money results in higher taxation and inflation - The government taxes the
people to earn revenue for its expenses in order to balance the budget. It is but natural
that if the black money circulating in the economy is brought back to the
government's treasury, the government will have more money in its hand for its
expenses and thereby the tax burden on the people can be reduced. Similarly the
inflation results with too much money chase too few goods available in the market.
The accounted money in the market is hyped by the figure of unaccounted money in
the market and the actual money in circulation becomes much more to chase the
goods produced in the country leading to higher inflationary trends.
VI. Black money causes difficulty in the formation of monetary and fiscal policy - Since
the government cannot take into account the black money in circulation in the
economy while forming its monetary and fiscal policies, the policies so formed by the
government cannot be realistic. It is difficult to form these policies in the absence of
the exact calculation of the black money and without bringing it in the accounting
procedures of the government.
VII. Black money results in increased criminal activities - The ill-gotten money in the
market results in all sorts of criminal activities that go on in the society including
corruption of all sorts in the society. It encourages its illegal use especially during
elections. The black money is used to support terrorist activities which undermine
even the security of the country. It is used to get illegal weapons in the hands of the
groups of unsocial elements. The illegal money is squandered on large scale in clubs
and hotels on all types of illegal activities including drug trafficking. Even murders
are got done for political revenges where black money changes hands among the
murderers and the people who engage these murderers to engage in these crime. It is
said that money corrupts and the excess of it corrupts extremely. And it is more so
when such excess money is in the form of black money. The lavish and ostentatious
way the hoarders of black money live in India and the wasteful expenditure they
indulge in celebrating their social, political and even religious functions is a social
crime even though the law does not take cognizance of it.

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CHAPTER 4: MEASURES TO CURB BLACK MONEY IN

INDIA

The government has taken a number of steps to curb black money. Searches, seizures,
surveys, and scrutiny of income tax returns are being done by the Income Tax Department.
Amendments have also been made to the Finance Act 2004 to intensify efforts to curb black
money. These include prosecution for falsification of books of accounts and taxing of gifts
worth more than Rs.25, 000 to unrelated persons. There have been two amendments of the
Voluntary Disclosure of Income Scheme (VDIS) under which black incomes and assets could
be declared, the tax paid at current rates and amnesty availed from penalty and prosecution.
For the smooth functioning of the economy, the following measures are suggested to combat
the menace of the parallel economy:

 Controlling black by money by its conversion into white money: First of all,
the government should plug loopholes in its two decades old Double Taxation
Avoidance Convention entered into with Mauritius to check inflow of black
money into India by bogus companies of Mauritius which evade paying taxes in
India under the cover of this bilateral agreement between India and Mauritius.
 Voluntary disclosure of income scheme (VDIS): Though such measures were
initiated by the government earlier including gold bond schemes, but this was
resorted on a large scale when the government launched a Voluntary Disclosure of
Income Scheme (VDIS) on June 18, 1997 whereby the tax-defaulters were given
an opportunity to disclose their hidden incomes at the prevailing tax rates by
giving them immunity from major laws relating to economic offences from 01
July 1997. The then Finance Minister P. Chidambaram said that the VDIS
collections amounted to collection about Rs.8,000 crores from about two lakh
declarants when the scheme closed down on December 31, 1997. The government
may once again announce such a scheme with proper guidelines to enable the
people hiding their black money to declare the scheme. The government at the

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same must show its political will to enact a bill with stringent punishments against
the people who were found with undisclosed income after certain specified date.
 Special Bearer Bond Scheme: Bearer bonds were most likely first used in the
United States during the post‐Civil War era to fund Reconstruction (1865–1885).
Bare bonds that are owned by whoever is holding them, rather than having
registered owners like most other securities. Like most other bonds, they have a
stated maturity date and interest rate, but coupons representing interest payments
are generally physically attached to the security and must be submitted to the
company for payment (Bernfeld, 2010). Special Bearer Bonds Scheme (1981) was
intended for canalizing unaccounted money for productive purposes. The Special
Bearer Bonds, 1981 of the face value of Rs.10, 000 each were issued at par with a
maturity period of 10 years.
 Measures to Check Tax Evasion: Dealing with tax evasion has always been one
of the most difficult challenges for governments all round the world. Tax evasion
is done by individuals belonging to different strata of the society in different ways.
As per the surveys and reports, there are many people who provide false income
details to the tax authorities to reduce the amount of liability. The income tax
evasion penalties can help the government recover maximum amounts in the form
of tax and utilize the money for the benefit of the common public. Tax evasion is
one of the basic causes to generate the black income. Therefore, various measures
were undertaken to plug the loopholes in tax evasion. Most of these measures
were based on the recommendations of various committees and commissions viz
Taxation Enquiry Commission (1953), Administrative Reforms Commission
(1969), Direct Tax Enquiry Committee (1971) etc. Most of these
recommendations were an upgrading in tax laws (Charlie, 2010).
 Economic Liberalization: Introduction of economic liberalization has detached
the regime of controls and regulations and thereby the extent of black economy
would be reduced regularly (Lekhi, 2003, 196).
 Other Measures: The Government has also introduced some measures to contain
the growth of black income in the country which includes Deposit in the National
Housing Bank in 1991, NRI foreign exchange remittance, issuing National
Development Bonds in US dollars, controlling the election expenses incurred by

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the candidates, conducting searches, seizures, raids and other steps to plug
loopholes in the tax administration etc.

Controlling black by money by preventive measures

Restructuring tax system & severe punishment to errant tax officials

The government should restructure its tax system including GST and VAT making it
more convenient and easy for the income earner to pay the taxes. All the cumbersome
procedures in submission of forms and returns should be done away with. The
government has become aware of this and have done a lot of work to improve the system.
It has recently come out with an announcement that salaried employees with salary
income up to Rs.5 lakh and saving bank interest up to Rs.10, 000 need not to file income
tax returns for the year 2011-12. Much more needed to be done by simplifying the rules
and regulations in this respect. The government should broaden the tax base and should
bring all people in whatever is the source of income including agricultural income if the
income exceeds Rs.5 lakh a year. All people above this limit should be taxed with no
exemptions. No return needs to be filed by any person if the income is below Rs.5 lakhs.
Similar tax reforms should be made in the corporate direct tax and all other indirect taxes.
Severe punishment should be mooted out to the tax personnel who are found to be
involved in the corrupt practices including the persons who are found to have paid bribes
to the tax officials to avoid taxes. These should include tax consultants and chartered
accountants who guide the tax payers with tips to avoid tax taking advantage of loopholes
in the tax laws.

Use of electronic media and banks for money transfers

Maximum use of electronic media should be made for money transfers. Most of the
money transactions should be encouraged to be made through the banking channels.
Limitation should be laid down for cash transactions in any deal. Use of PAN and identity
card should be made mandatory for all transactions amounting huge amounts. There
should be a powerful Income Tax and Vigilance department. People should be
continuously made aware of the benefits of paying taxes.

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CONCLUSION

Parallel economy is a new threat for the Indian economy. In India parallel economy is
expanding very rapidly. There are many factors like Controls and Licensing System,
Higher Rates of Taxes, Ineffective Enforcement of Tax Laws, Inflation, Funding of
political parties etc. that  influence its growth. In India amount of black money are
increasing continuously which badly impacts the economic growth of the nation. Such
money is a new challenge for Indian economy. Indian economy is badly affected by black
money as it is underestimating GDP, increasing inequality of income, increasing illegal
activities etc. Over the past 50 years, the government has at various times announced
several schemes offering opportunities to bring black money overboard but the result are
not so effective. Some of these schemes are: introducing the scheme of Special Bearer
Bonds, demonetizing high denomination currency notes, stringent raids and scheme of
voluntary disclosures. These instruments are expected to reduce the volume of the black
economy.

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 The parallel economy in India. (2007, May 2).

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