Decoding the cut : The Tribune India

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Decoding the cut

The gloom and despondency that had hit the Indian economic scene when the latest growth rate figure fell to 5 per cent lifted dramatically when late last week the government announced a sharp 10 percentage point cut in the corporation tax rate, from 35 per cent to 25 per cent.

Decoding the cut

More To Do: The stock market has cheered, finally, but the way to revive growth that matters is to boost farm incomes.



Subir Roy
Senior Economic Analyst

The gloom and despondency that had hit the Indian economic scene when the latest growth rate figure fell to 5 per cent lifted dramatically when late last week the government announced a sharp 10 percentage point cut in the corporation tax rate, from 35 per cent to 25 per cent.

The ‘animal spirits’ appeared to be back, with the stock market bounding up, the Sensex adding as much as 3,000 points in as many days’ trading. It would now be reasonable to expect that business would be incentivised to invest, enabling a return to high growth which would deliver the $5 trillion GDP target by 2025.

But let’s look a little closer. First, a 5 per cent growth rate is pedestrian but not calamitous. It looked terrible only because of the hype created by the $5 trillion target and people talking about reaching an 8 per cent plus growth rate and taking pride in India being the fastest growing major economy in the world.

What has happened foremost is the government astutely choosing a very high profile instrument to fight the slowdown and thus restoring the hype which had gone missing. This is in keeping with the perception that none can equal the leadership of this government in showmanship and emotional mobilisation.

It is quite true that the nominal tax rate for companies has been cut massively be 10 percentage points — and it is the corporate publicity machines that make the most noise about the investment climate — but there is a caveat. Companies which opt for the new rate will have to forego all the exemptions and incentives (for example, export promotion sops) that they were enjoying till then. If you take those into account, as AK Bhattacharya explains in Business Standard, the effective rate was not 35 per cent but 29 per cent. Thus what Finance Minister Sitharaman was giving away was not 10 but 4 percentage points.

Those earlier giveaways amounted to a massive Rs 1.08 lakh crore revenue foregone last year (2018-19). So if all companies opted for the new rates, the government’s revenue loss would not be Rs 1.45 lakh crore, as the minister had indicated, but a far more modest Rs 37,000 crore (Rs 1.45 lakh crore minus Rs 1.08 lakh crore). Hence, the fiscal deficit would not shoot up by 0.7 per cent from 3.3 per cent to 4 per cent but by only 0.2 per cent to 3.5 per cent.

It is therefore not surprising that the minister has been simultaneously claiming that she will not cut expenditure and still not throw the fisc completely out of gear. Of course, not all may opt for the new lower rate that comes with zero exemptions and sops, but then, the negative revenue impact of the lower rate will be less severe.

A parallel of what has happened over corporate tax rate cut is there in the sops announced earlier to revive exports which had been stagnating for half a decade. The minister grandly announced Rs 50,000 crore export sops through a fresh export incentive scheme that would subsume all existing schemes.

It had become necessary to discard the present schemes which the World Trade Organisation (WTO) was soon likely to declare non-compatible with its extant norms. The old schemes being discarded delivered substantial incentives of 6-7 per cent and the net gain for exporters from the replacement of the old schemes with the new one would be only Rs 5,000-10,000 crore! That is not all. According to some trade experts, there would be no net gain at all! The primary motivation for this redesigning of schemes was a rearguard action to take care of an impending adverse WTO ruling.

Let us now recall the absolute basic about getting an economy out of a slowdown. Aggregate demand has to be boosted; people, companies and government have to spend more. The slowdown had happened because people were not consuming enough (FMCG companies were crying) and companies were not investing. By changing the corporate sentiment, we can assume companies will now start investing big time. But people cannot, or will not, consume more unless they have more cash. And if personal income tax rates are not reduced, and corporate investment expenditure takes time to result in fresh hirings and a higher national wage payout, the boost to demand will take time to happen.

If the sops are nowhere near to what they are being touted to be, eventually they will fail to deliver. How will growth then be made to revive? If policy seeks to make a difference it must go back to the countryside where half of the country’s workers live and where real (inflation adjusted) rural wages have been stagnant and demand for even the cheapest biscuits has come down.

The way to revive growth that matters is to revive farm incomes. This is hugely challenging as India is also facing drought and farmers are being asked to give up growing rice, wheat and sugarcane, and shift to crops like maize. Getting farmers to unlearn what they had learned so well and delivered the Green Revolution will be a major task which cannot be done through cleverly designed hypes.

While high growth will take time to deliver, policy can more quickly impact farm produce marketing, so that farmers earn more out of what consumers spend, and yet another onion price fiasco does not go on. Today, the consumer is paying Rs 70-80 for a kg of onions. When the last crop came in, the farmer got Rs 10 at the mandi!

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