By Sourajit Aiyer
No other country spends as many bytes on its annual federal budget as India does. But, there is a reason. After all, no other nation balances economic growth for 1.2 billion people whilst being a politically-competitive democracy. In that vein, Indias budget for 2017-18, announced a few days ago, seems to make all the politically-correct noises, but, is not populist.
Stability first, growth second
[su_pullquote align=”right”]In reality, fiscal stability helps keep credit ratings in control, which is key to maintaining attractiveness to foreign investors.[/su_pullquote]
The budget clearly places fiscal stability ahead of growth. Total expenditure increased a mere 6.5% over the previous year, showing the governments tight fist. This is opposed to what many imagine, namely, that driving growth is the foremost concern in emerging markets. In reality, fiscal stability helps keep credit ratings in control, which is key to maintaining attractiveness to foreign investors. Thus, increasing government debt to fuel growth is not as sustainable now as it may have been 10-20 years ago.
A stable macroeconomic situation also strengthens the case for lowering interest rates, which can ‘partly’ help in reviving private sector investment one hurdle in driving job growth. With the budget not adequately addressing banks bad asset issue, there is a concern that bankers may go slow on corporate credit approvals lest they get caught in another Kingfisher-case. Such an approval-paralysis can further stem banking credit growth, and thus, push businesses to the capital markets in order to raise capital. Both these factors may eventually create a virtuous cycle wherein people move away from fixed income and towards equities as a savings asset class. Thats a plus for equity capital markets.
Additionally, categorising Non Banking Financial Companies (NBFCs) above a net worth level as Qualified Institutional Buyers will widen market participation. Further, the budget removed a bureaucratic layer in the foreign investment approval process, by shutting the FIPB. All in all, the budget avoided spending on universal basic income, excessive public spending or big-ticket subsidies. Thus, placing fiscal prudence and stability ahead of populist measures.
Tax positive, but how much?
The budget reduced the personal income-tax rate from 10% to 5%, on incomes in the Rs 2.5-5 lakh slab. This is a politically good move since a majority of salaried tax-payers fall in this slab. Many of them were feeling cheated for years as the large tax-payers evaded taxes and the burden of tax compliance fell on them. This move now increases the disposable income by Rs 12,500 in the hands of all whose income is Rs 2.5 lakh and above.
A mere increment in disposable income will probably lead to Indians spending on FMCG goods or statement making mobile phones. | Source: News Hour 18But, for those whose income is Rs 5 lakh, the effective impact will be Rs 10,000, not Rs 12,500. They got a Rs 5,000 rebate earlier, which has now been reduced to Rs 2,500. The budget also simplifies tax-forms and reduces scrutiny for this segment. Nevertheless, the bigger question is what does additional Rs 10,000-12,500 a year get you?
While this amount will boost consumption, it only applies to FMCG products, or low-priced consumer durables like microwaves, mobiles or smaller TVs.
In fact, one might see more aspirational smartphones in hands of Indians now, especially those manufactured by the Chinese companies as they fall in this price-point. Perhaps such an increased demand may thaw Sino-Indian bilateral relations!
The budget also puts a 10% surcharge tax on those with incomes between Rs 50 lakh-1 crore. This is a segment neither big enough to use investment vehicles to route money offshore, and yet, cannot reduce their tax liability beyond a point using exemptions. This is another politically-correct move to get mileage from small-taxpayers, who form bulk of the voting-base.
A (small) victory for small businesses
[su_pullquote align=”right”]But the commentary of leading experts in dailies that reduction in the corporate tax rate will help generate more employment seems premature.[/su_pullquote]
The budget reduces corporate taxes from 30% to 25% on micro & small enterprises (MSME). They employ about 80-100 million Indians, though they contribute only 1/3rd of the GDP. The sheer labour force hired shows why this is another politically-correct move. Further, since MSME contributed a small proportion of the corporate tax earnings, the loss is small. But the commentary of leading experts in dailies that reduction in the corporate tax rate will help generate more employment seems premature. This is because an accretion to net profit after tax positively impacts the promoters who can dividend it out, and it need not be ploughed back as retained earnings to grow the business (and hire more workers).
The tax that MSMEs save might not actually translate into higher wages or employment. | Source: Foundation for MSME ClustersEven if incremental profit is ploughed back as retained earnings, it does not mean promoters will automatically hire more or raise wages. Also, many MSMEs remain uncompetitive against larger rivals, and a cut in taxes may not be sufficient to improve competitiveness in this age of technology, automation and innovation.
An enabler of jobs
While labour-intensive sectors like tourism and leather can get a boost, other sectors will take time. As it is, many are underplaying the hit to informal employment post demonetisation. According to the International Labour Organisation (ILO), informal employment formed 85% of Indias labour force in 2016, up from 82% in 2015. Even within the formal sector, the share of casual labour has risen.
In this context, job creation remains a worry for social stability. Pushing up the domestic economy to achieve growth is an imperative, especially in the current global scenario. The budget increased allocations to the rural economy through roads, housing, irrigation and employment programmes like MNREGA. This should help push incomes and consumption of the rural population, though it may hardly be meaningful from income tax perspective since many fall below the slabs.
[su_pullquote]Nevertheless, the governments message stands clear it is enabling a conducive environment to do business by creating critical infrastructure.[/su_pullquote]
But the tax-man may find it worthwhile to track local-owned businesses that gain through this rural push, like the dealerships of tractors or two-wheelers, or even local contractors. Such businessmen stand to gain monetarily, and should be on their radar. Nevertheless, the governments message stands clear it is enabling a conducive environment to do business by creating critical infrastructure. It will now depend on private businesses to support these initiatives of the Modi government.
Private businesses have to act now
During the campaign for the 2014 elections, PM Modi had promised maximum governance, minimum government. He is now walking the talk, by ensuring that his government creates an enabling, conducive climate in which private businesses can thrive! The government seems to have walked the tightrope nicely, in terms of keeping Indias financial health in order. The much-awaited growth, however, is yet to come.