Finally the Finance Minister of India moved and announced a substantial tax reform. She announced a reduction in corporate taxes to an effective rate of 25% and a mouth watering 15% for new manufacturing units setup after 1st Oct.
Ex-Finance minister Arun Jaitley in his Budget for the year 2015-16 had promised a phased reduction in corporate tax rates to a 25% over four years. However - it did not appear to be panning out as he had envisaged or we had imagined.. With his eye also on fiscal deficit targets already committed to, it did not look possible and as expected - N. Sitharaman in her debut budget did not announce this reduction. However, just before the deadline the announcement came.
Acknowledgement of Slowdown
The first Good thing about this announcement is that, although a tad late, the Government has finally acknowledged that the economy has slowed down substantially. The fact that the Finance Minister announced this just four months after a budget in which she levied all kind of possible taxes, charges and cess, making it sound that we are now moving to a high tax regime, tells how badly rattled government was because of the slowdown talks and by the fact that her almost weekly announcement of measures were not helping. That the Government waited for sentiments to go overly negative, proves yet again that in India structural reforms will generally happen under pressure of an eminent crisis. Also it is proved yet again that this dispensation in particular will move a step only if it feels that its electoral fortunes are dwindling bu not moving. That the announcement will be applicable for the current financial year is a U turn from a dud budget that was presented by the FM.
Cannot stop myself from taking a dig at all those B..... oops supporters who were forwarding me whatsapp posts digging out figures to suggest that there is no slowdown.
Structural Reform
Bringing down taxation level is a good reform. Most analyst had given up hope of Government meeting Jaitleyji's promise of bringing down So, its a welcome step. This announcement now brings India at par with most developed economies in the world in terms of Corporate Taxation levels.
At a macro level, low taxation is a signal that Government wishes to move most activities in the private hand and leave less for itself - that's why government should require less revenues. This, if it is the intention, is very good idea. Of course it is too early to say that this is the logic, because till now Modi government has looked for ways to increase government revenues all the time and this step has been taken under a crisis like situation.
Revival of "Make in India"
Even the most ardent supporters of modiji will grudgingly agree that the "Make in India" initiative that was unveiled with a lot of pomp and show did not travel much distance before tapering off. In fact we lost to economies like Taiwan, Thailand and Bangladesh to become the choice for companies shifting production bases out of china.
The FM has announced a 15% tax rate for new manufacturing units set up after 1st October. This is probably a acknowledgement of the miss and an effort to convert opportunities of the second and third waves of industries that shall shift out of China due to the impact of US-China trade war.
It is indeed a good move and should help increase contribution of manufacturing in the GDP as well as in employment generation. However, its impact will not be immediate and so needs to be relooked in the medium term. Also while this is a good move it has the potential to fritter away again if we do not improve on the ground ease of doing business - which basically means continuous assault on the regulating agencies overreach as well as removing harassment of businessmen at the hands of babudom coupled with improved industrial infrastructure - roads, power, water, sanitation, logistics and ports.
Will this revive the sagging Economy?
So we come to the most important question. In my view, reviving a slowing down economy has two parts - one, revival of sentiments (because economic slowdown/recession is a self serving spiral of pessimism) and second, attacking the root cause of slowdown.
Revival of sentiments
The step is a big one and hence it surely helps revive sentiments. She has also made a few more announcement like reduction of MAT, waiver of bubyback tax on buybacks announced before July, and concessions on enhanced surcharge. Already these announcements have got the stock markets in an overdrive - which is a precursor to sentiment revival. This step makes people believe that Government may be working to address the slowdown. It may be sustained by the pre-festival season optimism.
So in short it is a positive boost to sentiment. And it needs to be built upon.
Economic Revival isn't around the corner though
However, here is the catch The slowdown in the economy is primarily because of lack of demand, stagnant exports and credit crunch. The fact is the announcements made on Friday does little to address these issues. What these announcements do is improve profitability of companies by reducing taxes but it does little or nothing to revive demand. Please read a detailed piece I wrote on Sitharaman's budget here read it to understand what ails our economy at this moment. None of those issues were addressed in Friday's announcement.
It will be naive to think that the reduced tax would lead to increased salaries or lower prices - both of which can spur demand. Half the Nifty companies are not really paying a corporate tax of 30 plus percent and hence the benefit to them is very small in any case. And for this benefit to reach the employees and end consumers, if at all, will take long and winding route. To expect this to spur demand in a meaningful way is too optiistic.
There is nothing - not even a thought on policy measures to revive exports.
And while finally recapitalisation of banks has started happening after dragging their feet for long, the NBFC crisis seems to be mothballing on the one hand. What exactly is the approach here - first she has announced stopping loan account of MSMEs as NPA till March 2020 and work on recasting their debt. This is age old trick from the Congress book which this Government has been rightly criticising as evergreening of loans.
And then she announced to my horror, Loan Melas, a horrible socialist idea from the books of congress mismanagement which has historically resulted in loan waivers later. Such loan melas often become a tool to provide money to party supporters and does nothing really to build long term employment generation.
In short then - my expectation is that the slowdown is not adequately addressed by these announcement. It has helped revive the stock market temporarily and has boosted sagging spirits. However, more needs to be done to revive the economy.
What more is needed
The basic principle is to revive demand or spur public expenditure. One part of this is to create a safe secure and confident economic environment by reducing law and order problems, and generating employment opportunities. This government should work on it gradually. It needs to tone down the increasingly virulent divisive debates and actions in administration, party and country in general
Second, is to leave more disposable income in the hands of the people. This Government can and should do. With corporate tax down to global standards it makes sense for government to bring down Income tax rates as well as simplification of tax process. As an example doing away with all exemptions and bring down income tax rates to a maximum of 25% and a minimum of 5-10% could support the positive optimism built and also it can spur demand because of improved levels of disposable incomes in the hands of people. The underlying assumption is that tax evasion will also go down as people would be more willing to pay taxes at a reasonable rate and stop worrying about taxmen knocking at their doors.
Easier said than done
I understand that even my proposals are really tough to bite on - because already the current announcement has dug a 1.45 lakh crores hole in the Government revenues annually. That in a scenario where the government may miss on both the GST collection and Income Tax collection targets set in the budget. This on top of the fact that last year also government missed the tax collection target by close to a trillion rupees. Add to this the fact that fiscal deficit in all probability is much higher than those visible on the government books because of funding some of the government largesse through off balance sheet borrowing.
What all these means is that the Government's fiscal arithmetic is most probably go for a toss. The painstakingly built fiscal prudence targets have already been relaxed by the current announcements and the deficit will go further up with bold moves like these.
However, I think it is time for government to go boldly forward. The crisis of fiscal deficit can help government actually disinvest some of its white elephants like BSNL, Air India etc generating for it badly needed funds as well as plugging some bottomless pits that needs funds from the Government just for remaining alive. A government so popular with people with brutal majority everywhere and hardly any opposition can and should bring about such changes.
In summary
Friday's announcements are a positive step forward but will come a cropper if the Government does not back it up with bold continuous and structural reforms in the economy. Let's hope its coming in the next budget.
Ex-Finance minister Arun Jaitley in his Budget for the year 2015-16 had promised a phased reduction in corporate tax rates to a 25% over four years. However - it did not appear to be panning out as he had envisaged or we had imagined.. With his eye also on fiscal deficit targets already committed to, it did not look possible and as expected - N. Sitharaman in her debut budget did not announce this reduction. However, just before the deadline the announcement came.
Acknowledgement of Slowdown
The first Good thing about this announcement is that, although a tad late, the Government has finally acknowledged that the economy has slowed down substantially. The fact that the Finance Minister announced this just four months after a budget in which she levied all kind of possible taxes, charges and cess, making it sound that we are now moving to a high tax regime, tells how badly rattled government was because of the slowdown talks and by the fact that her almost weekly announcement of measures were not helping. That the Government waited for sentiments to go overly negative, proves yet again that in India structural reforms will generally happen under pressure of an eminent crisis. Also it is proved yet again that this dispensation in particular will move a step only if it feels that its electoral fortunes are dwindling bu not moving. That the announcement will be applicable for the current financial year is a U turn from a dud budget that was presented by the FM.
Cannot stop myself from taking a dig at all those B..... oops supporters who were forwarding me whatsapp posts digging out figures to suggest that there is no slowdown.
Structural Reform
Bringing down taxation level is a good reform. Most analyst had given up hope of Government meeting Jaitleyji's promise of bringing down So, its a welcome step. This announcement now brings India at par with most developed economies in the world in terms of Corporate Taxation levels.
At a macro level, low taxation is a signal that Government wishes to move most activities in the private hand and leave less for itself - that's why government should require less revenues. This, if it is the intention, is very good idea. Of course it is too early to say that this is the logic, because till now Modi government has looked for ways to increase government revenues all the time and this step has been taken under a crisis like situation.
Revival of "Make in India"
Even the most ardent supporters of modiji will grudgingly agree that the "Make in India" initiative that was unveiled with a lot of pomp and show did not travel much distance before tapering off. In fact we lost to economies like Taiwan, Thailand and Bangladesh to become the choice for companies shifting production bases out of china.
The FM has announced a 15% tax rate for new manufacturing units set up after 1st October. This is probably a acknowledgement of the miss and an effort to convert opportunities of the second and third waves of industries that shall shift out of China due to the impact of US-China trade war.
It is indeed a good move and should help increase contribution of manufacturing in the GDP as well as in employment generation. However, its impact will not be immediate and so needs to be relooked in the medium term. Also while this is a good move it has the potential to fritter away again if we do not improve on the ground ease of doing business - which basically means continuous assault on the regulating agencies overreach as well as removing harassment of businessmen at the hands of babudom coupled with improved industrial infrastructure - roads, power, water, sanitation, logistics and ports.
Will this revive the sagging Economy?
So we come to the most important question. In my view, reviving a slowing down economy has two parts - one, revival of sentiments (because economic slowdown/recession is a self serving spiral of pessimism) and second, attacking the root cause of slowdown.
Revival of sentiments
So in short it is a positive boost to sentiment. And it needs to be built upon.
Economic Revival isn't around the corner though
However, here is the catch The slowdown in the economy is primarily because of lack of demand, stagnant exports and credit crunch. The fact is the announcements made on Friday does little to address these issues. What these announcements do is improve profitability of companies by reducing taxes but it does little or nothing to revive demand. Please read a detailed piece I wrote on Sitharaman's budget here read it to understand what ails our economy at this moment. None of those issues were addressed in Friday's announcement.
There is nothing - not even a thought on policy measures to revive exports.
And while finally recapitalisation of banks has started happening after dragging their feet for long, the NBFC crisis seems to be mothballing on the one hand. What exactly is the approach here - first she has announced stopping loan account of MSMEs as NPA till March 2020 and work on recasting their debt. This is age old trick from the Congress book which this Government has been rightly criticising as evergreening of loans.
And then she announced to my horror, Loan Melas, a horrible socialist idea from the books of congress mismanagement which has historically resulted in loan waivers later. Such loan melas often become a tool to provide money to party supporters and does nothing really to build long term employment generation.
In short then - my expectation is that the slowdown is not adequately addressed by these announcement. It has helped revive the stock market temporarily and has boosted sagging spirits. However, more needs to be done to revive the economy.
What more is needed
The basic principle is to revive demand or spur public expenditure. One part of this is to create a safe secure and confident economic environment by reducing law and order problems, and generating employment opportunities. This government should work on it gradually. It needs to tone down the increasingly virulent divisive debates and actions in administration, party and country in general
Second, is to leave more disposable income in the hands of the people. This Government can and should do. With corporate tax down to global standards it makes sense for government to bring down Income tax rates as well as simplification of tax process. As an example doing away with all exemptions and bring down income tax rates to a maximum of 25% and a minimum of 5-10% could support the positive optimism built and also it can spur demand because of improved levels of disposable incomes in the hands of people. The underlying assumption is that tax evasion will also go down as people would be more willing to pay taxes at a reasonable rate and stop worrying about taxmen knocking at their doors.
Easier said than done
I understand that even my proposals are really tough to bite on - because already the current announcement has dug a 1.45 lakh crores hole in the Government revenues annually. That in a scenario where the government may miss on both the GST collection and Income Tax collection targets set in the budget. This on top of the fact that last year also government missed the tax collection target by close to a trillion rupees. Add to this the fact that fiscal deficit in all probability is much higher than those visible on the government books because of funding some of the government largesse through off balance sheet borrowing.
What all these means is that the Government's fiscal arithmetic is most probably go for a toss. The painstakingly built fiscal prudence targets have already been relaxed by the current announcements and the deficit will go further up with bold moves like these.
However, I think it is time for government to go boldly forward. The crisis of fiscal deficit can help government actually disinvest some of its white elephants like BSNL, Air India etc generating for it badly needed funds as well as plugging some bottomless pits that needs funds from the Government just for remaining alive. A government so popular with people with brutal majority everywhere and hardly any opposition can and should bring about such changes.
In summary
Friday's announcements are a positive step forward but will come a cropper if the Government does not back it up with bold continuous and structural reforms in the economy. Let's hope its coming in the next budget.
