Let me begin on a tangent…

Parallel Economy and

measures to control it

Suraj Pujari (09467)Girik Dave (09503)

Gaurav S. Kudtarkar (09505)Sailesh Sridhar (09515)

“Would you tell me please, which way I ought to go from here?”

“That depends a good deal on where you want to get to,” said the Cat.

“I don’t much care where,” said Alice.

“Then it doesn’t matter which way you go,” said the Cat.

-Lewis Carroll, Alice in Wonderland

Parallel Economy - Definitions

• “Those economic activities which go unreported or are unmeasured by the society’s current techniques for monitoring economic activity.”

- Fiege

• Characteristics:– Bias inclusive. –Measurement Error inclusive.

• “All unregistered economic activities which contribute to the officially calculated or observed GNP (Gross National Product).”

- Schneider and Enste

• Characteristics:– Parallel economy as unrecorded

income.

The Components…

Criminal

Irregular

Household Informal

Parallel Economy

Underground economy

Informal economy

The Parallel economy includes…• Black market

• Smuggling

• Corruption

• Fraud

• Black money

How does the parallel economy work?

• Overtly or covertly cornering and subverting the law of the land.

• Running tandem vis-à-vis such law and its jurisprudence.

• Taking advantage of the loose ends in the jurisprudence.

Why treat the parallel economy like an alternate

economy?

“The strategies that it deploys, the currency and produce that it controls, and the socio-economic consequences that it brings about, form a definite branch of applied economics.”

- S. K. Ray, The Parallel Economy, PHI, 1991.

Spark igniting the parallel fire…

• Flaws in E-laws

That is…

• Flaws in Economic laws.

The Flaws…

• Economic laws hold good for aggregates and not for individual circumstances or entrepreneurships.

• Economic laws are not perfect and cannot determine future developments.

• An economic law, once formulated, becomes so rigid that it ceases to be applicable in actual fiscal, developmental, planning and monetary policies.

Size of the Parallel economy…

• Monetary approaches.

• Labour Market Methods.

• Accounting methods.

• Compound methods.

Size does matter…

• India’s parallel economy was Rs. 1, 95, 200 crores in 1992. This was 90% of the GDP at 1980-81 prices.

• Growth from 3% of GDP in the 50’s to 50%

today.

• Black money in 1967-68 was Rs. 3034 crores. In 1978-79, it was Rs. 46867 crores. (Jump of > 15 times in 12 years)

- Growing faster than the speed of light!

Aspects of Parallel Economy

Black market

―Smuggling ―Corruption ―Fraud―Currency exchange

Black money

―Money laundering―Hawala

Black market

Contd..

• Business transactions carried out without any regards for rules and regulations of trade.

• Goods acquired illegally

• No record of the transactions that was carried out and no taxes paid

• Black market manifests itself in the following forms:> adulteration> imitations and fakes> false packaging > production of spurious commodities

Components of black market1. Smuggling

Supply of items that cannot be obtained legally e.g. arms and ammunitions from one country to the other

Illegal drug trade among nations and inside the country

Illegal drug trade involves cultivation, manufacture distribution of illegally controlled drugs and tobacco

Corruption• Corruption arises due to

the tendency of greed

• Corruption - a vicious cycle

• Private sector v/s public sector

e.g. police constable

• Morally correct attitude towards corruption as a result more officers are becoming corrupt

Fraud

• A fraud may be committed in terms of its assets, bank balance, investments etc.

• Involves the tampering of investments, cash and other assets

• Fraud may include misappropriation and falsification of accounts with illicit objectives

• Also includes the transfer of assets to other party without the appropriate authorisation.

Currency exchange

• Trading of money itself in the black market which may be due to the following reasons:

– Illegal ownership of foreign currency– Tax on exchange of currency– Counterfeit currency– Illegally acquired currency

Black Economy (Money)

• A hidden sector of the economy where private cash transactions go unreported. It is a sector of economic activities involving illegal economic activities including buying and selling of drugs.

• That part of an economy that is hidden from the government and on which taxes are not paid.

Sources of black money

• Import licenses

• Selling license for iron

• Transaction in heavy industries

• Government and commercial transactions

• Forged currency

Swiss Banking Association report

TOP 5 COUNTRIES

1. India - $1,500 billion2. Russia - $470 billion 3. UK - $390 billion 4. Ukraine - $100 billion 5. China - $96 billion

Is India Poor?Some facts….

With personal account deposit bank of $1500 billion in foreign reserve which have been misappropriated, an amount 13 times larger than the country’s foreign debt, one needs to rethink if India is a poor country?.

With this amount 45 crore poor people can get Rs 1,00,000 each. This huge amount has been appropriated from the people of India by exploiting and betraying them.

Once this huge amount of black money and property comes back to India , the entire foreign debt can be repaid in 24 hours.

After paying the entire foreign debt, we will have surplus amount, almost 12 times larger than the foreign debt. If this surplus amount is invested in earning interest, the amount of interest will be more than the annual budget of the Central government.

• India with $1500 billion or $1.5 trillion has more money in Swiss banks than rest of the world combined.

Money laundering

• Money laundering is an illegal practice which engages in specific financial transactions, in order to conceal the identity, source and destination of money.

• The aggregate money laundered in the whole world could be approximately $800 billion to $2 trillion each year.

How It Happens

• The basic concept of money laundering originated in U.S.

• It basically consists of three steps i.e. placement, layering and integration.

Steps in money laundering

• In placement, money derived from criminal activities is introduced into the financial system

• In the layering stage, the money launderer manipulates the illicit funds to make them appear as though they were derived from a legitimate source.(Eg: Hawala transfers leave a sparse or confusing paper trail if any)

• Integration means re-injection of money after it has been laundered in a way that it looks as if it is proceeds from normal business activities.

What is the volume of black money?

• Black money in India is estimated to be around 40% of the GDP.

Top seven money laundering in corporate

sector of IndiaName of the

PersonRs. In Crores

Ramalinga Raju 8000

Harshad Mehta 4000

Ketan Parekh 1250

C R Bhansali 1200

Dinesh Dalmia 595

Abdul Karim Telgi

171

The UTI Scam 32 (Source: http://www.drishtikone.com/?q=blog/indias-top-10-scams)

HAWALA

An alternative or parallel remittance system.

Exists and operates outside of, or parallel to 'traditional' banking or financial channels.

Developed in India, before the introduction of western banking practices, and is currently a major remittance system used around the world.

What is different?

Components that distinguish it from other remittance systems are trust and the extensive use of connections such as family relationships or regional affiliations.

Makes minimal (often no) use of any sort of negotiable instrument. Transfers of money take place based on communications between members of a network of hawaladars, or hawala dealers.

How does Hawala work?

• Hawala works by transferring money without actually moving it

• For 31------------------------------------ 154,225

• For 35------------------------------------ 166,250

• For 37------------------------------------ 180,000

There are two related issues to be addressed:

1. The relationship between Yasmeen and Ghulam

2. The second is how Ghulam 'recovers' the money that he paid to Mohammad on Abdul's behalf

Why would one prefer Hawala?

– Cost effectiveness

– Efficiency

– Reliability

Contd…

– Lack of bureaucracy

– Lack of proper trail

– Tax evasion

Why hawala works

• Low overhead

• Exchange rate speculation

• The rates cited reflect a difference of 12-19% over the official rate.

Most affected markets…

Source: http://www.indianmba.com/Faculty_Column/FC177/fc177.html

Reasons for the perpetuation of the parallel economy.

Source: http://www.indianmba.com/Faculty_Column/FC177/fc177.html

Reasons…• High tax rates implemented by the

government.

• Complicated tax paying procedures and policies.

• Unfair taxes.

• People do not get enough return on their paid taxes.

• High inflation which puts tax payers under high tax paying brackets.

Reasons…

• Involvement of government agencies and officials in corrupt practices.

• Insufficient laws and their implementation to counter such activities.

• People believe that their money is not going to be properly utilized by government.

Reasons…

• Inflation.

• Greater flexibility in remuneration to employees.

• Bypass Trade Union vigilance.

• Lack of political will.

Reasons for Black Money…

• Illegal forex deals, gifts and remittances.

• Real estate murkiness.

• Election spending.

Impact of Parallel Economy.

• Formulation of faulty economic policies.- The Unobserved Income Hypothesis

(UIH).

• Wrong macroeconomic data.

• Affects government finances.

• Erosion of public confidence in the government.

Impact of Parallel Economy.

• Hurts capital allocation.

• Hurts investments.

• Distorts systematic resource allocation.

• Widens rich-poor divide.

• Misuse as a political weapon.

STRATEGIES TO COMBAT PARALLEL ECONOMY

Smugglin

g

Black money White money

COMMON STRATEGIES

• Law enforcement

structuring of tax laws

form separate department

• Incorporate heavy fines and legal actions

• Co-operation among countries

• Encourage bank transactions

STRATEGIES FOR BLACK MONEY

• VDIS Scheme• Issue of Zero coupon bond• Reprinting / Changing currency• Taxing Agriculture• Authorizing opening of Swiss type bank

a/c’s• Vigorous searches and seizures• Getting rid of Direct taxes

STRATEGIES FOR BLACK MONEY

Recent measures undertaken by govt.

• Revision of Double Taxation Avoidance agreement with 25 countries.

• Agreement with Swiss bank to disclose account details for tax purposes.(2011-12)

• Using technology to identify groups. From defective control system to

preventive control system

STRATEGIES AGAINST SMUGGLING

Combating smuggling

• Law enforcement • Public Awareness guarding the border is difficult public will not be eager to oppose

smuggling because of low pricesBribes by revenue officersRevenue officers don’t take risk in

attacking band of smugglers

STRATEGIES AGAINST CORRUPTION AND FRAUD

Strategies against corruption and fraud

• PREVENTION OF CORRUPTION Act 1947

• Role of Media

• Agencies( SC, EC, CVC, CBDT, Customs, Excise)

THANK YOU