Two Moral Dilemmas

My piece on the two glaring moral dilemmas in the Indian economy was carried on its Op-Ed page by The Economic Times. The first dilemma is about projects with long gestation period being denied long term funds, even though they exist in the economy and are actually being used to fund the government's fiscal deficit. The second one is about long terms sources of savings are being not deployed in long term investments, in the name of safety, and thus yielding negligible returns.

Read the piece here: http://bit.ly/Sje6oL

India At The Bottom Of Fitch Heap

India is now the worst country, in terms of credit ratings, among all the countries that make up "Emerging Asia", according to rating agency Fitch.

In simple terms, this means that if you are a global lender, wanting to lend some money to countries, then Fitch feels Mongolia or even Sri Lanka stand a better chance of repaying your principal and interest than India! And the developed Asian countries -- Australia, Japan, Singapore, Hong Kong and New Zeakland -- are, of course, in a completely different league altogether.

Here is where India stands:

Source: Fitch Ratings (Asia-Pacific Sovereign Credit Overview, dated September 6, 2012)






India, as you will notice, is at the bottom of the heap with a "BBB-" rating. The only other country with a similar rating is Indonesia, but it's outlook is "Stable" and hence better than India's "Negative". So, overall, that puts India behind Indonesia and at the bottom of the league tables.

There's now a suggestion among some of the global economistas and commentators that Indonesia should replace India as the "I" in BRICS.

 

Okay, granted that credit rating agencies are not exactly paragons of virtue or prescient in predicting value destruction. Examples abound: the sub-prime loan crisis is the best example. So, are the ratings given to Greece, Spain or  Italy just before they went bust! While you may or may not agree with this rating, it is a subject for another debate. But, that still doesn't take away from the central point that we're up shit creek without a paddle? Fitch just added another hole to this wobbly boat!

Revenue Foregone Argument Is Woebegone

Finance minister P Chidambaram has the unenviable task of reviving an economy after it was ruined systematically for over 36 months. One of the items high on his to-do list is to reduce the deficit, either by cutting expenditure or by increasing revenue collection. Forget the expenditure cut bit, primarily because it's political hara-kiri. In a chat with journalists on Monday, he expressed a view that companies paying an effective tax rate of 24-26% -- against the applicable rate of 30% plus surcharge -- might deserve a second look.



Courtesy: Wikipedia



While reporting on the FM's thoughts, newspaper Business Standard pitched in with a line on "tax foregone" because of deductions granted to the corporate sector (read here). It seems the reporter has added that one line, because no other paper has carried a similar sentence or attributed any such comment to the FM.

Revenue foregone is being equated with revenue squandered, especially in Delhi television studios and punditry columns. The rumblings are familiar: the bill for “revenue foregone” is huge, spend some of that money instead on the poor. The argument is inevitably drawn around the traditional rhetorical lines – tax foregone benefits only the rich (such as industry) while subsidies only benefit the poor. Therefore, the argument goes: abolish all exemptions, tax industry at a higher rate and use the incremental revenue to increase the subsidy budget. This is not only a specious argument but is dubious economics as well. Swaminathan S.A.Aiyar rightly calls it "claptrap" (read here).

It might be instructive to see why the rhetorical argument about revenue foregone can be misleading. For one, the numbers in the revenue foregone statement are based on a clutch of assumptions (for example, projections for 2011-12 are based on revenue foregone during 2010-11) and notional calculations. Therefore, to assume that it is indeed money “diverted” from necessary developmental expenditure is a bit of a stretch. Second, it assumes that all the revenue foregone is actually in the nature of funds granted to favoured entities, which could have rightfully been used for development purposes. That’s also somewhat fallacious. What cannot be denied is the fact that if no exemptions were granted, the government’s revenue collection would have been substantially larger. But, economic policy is all about balancing between different priorities.

The finance ministry tables a separate statement on “Revenue Foregone under the Central Tax System” along with the budget papers every year. This document reveals some of the government’s policy preferences through the lens of taxation. The document states: “Tax preferences may be viewed as subsidy payments to preferred taxpayer. Such implicit payments are referred to as “tax expenditures” and it is often argued that they should appear as expenditure items in the Budget. In this context, the basic issue is not one of tax policy but one of efficiency and transparency – programme planning requires that the policy objectives be addressed explicitly; and programme budgeting calls for the inclusion of such outlays under their respective programme headings. Tax expenditures are spending programmes embedded in the tax statute.”

Taken as such, the argument then boils down to choosing between one subsidy and another. Let’s look at what tax breaks to industry achieve, especially various direct tax exemptions. The debate on revenue foregone usually trains the spotlights on corporates. In the table on “major tax expenditure on corporate tax payers” projected for 2011-12, the largest chunk – Rs 36,468 crore (Rs 33,243 crore actually foregone in 2010-11) -- is taken up by the item “accelerated depreciation”.

Now, this is a tax break provided to companies which are investing in acquiring fresh assets. In a sense, accelerated depreciation basically provides a trade-off: it reduces taxable income in the current period in exchange for increased taxable income in the future, with the pointed objective of encouraging asset creation in the present to generate employment and income. This is a legitimate tax incentive used worldwide for motivating businesses to purchase new assets. This not only results in higher productive capacity for the economy but also increases employment opportunities. Had this money gone as a social sector subsidy, it would have been used up for consumption.

The next big chunk is claimed by “deduction of profits of undertakings engaged in generation, transmission and distribution of power (section 80-IA)” – Rs 8316 crore estimated in 2011-12 against Rs 7581 crore in 2010-11. This should be self-explanatory, given the huge power deficit in the country.

What is unmistakeable is the fact that many tax exemptions are targeted towards creating industrial assets, which will generate value, provide employment and become instruments of economic growth. This was followed even at the state level during the long Left Front rule in West Bengal. Most subsidies, on the other hand, induce consumption and do not encourage asset creation.

The data released throws up another big revelation: the effective tax rate (the actual tax paid as a proportion of the total taxable income) during 2010-11 for 2113 public sector companies is lower than the tax rate for the 457,157 private sector companies in the sample: 22.28% versus 24.61%, respectively. Incidentally, the report also states that the effective tax rate for the corporate sector as a whole has been steadily rising – from 20.55% for 2006-07 to 24.1% for 2010-11 – seeming to indicate that a large number of exemptions are being gradually phased out.

Therefore, the conclusion that all tax exemptions are largesse handed out to the wealthy may seem a bit hasty. There is no denying the fact that governments over time – and cutting across party lines -- have used the instrument of tax policy to reward their most-favoured industrial groups. But, then that doesn’t turn all tax exemptions into villains. Just like leakages in some of the current entitlement programmes do not diminish the merit of all targeted development plans.

What, however, should be debated is whether the implementation of the policy framework in achieving the stated objectives is actually as rigorous as the original intention. Or, there should be focused debate on whether some exemptions have been created to benefit some favourite industrial groups, instead of demanding that all exemptions be abolished.

Tweet Nothings!

The government today confirmed that is has blocked some twitter handles (read here).

It is exceedingly strange that political parties and regimes wedded to the notion of individual liberty and freedom of speech across the free world are indulging in censorship and gagging dissent.

Three examples stand out. The Indian government --under the guise of maintaining law and order -- has banned some twitter accounts. The ostensible reason is to avoid social media being used to fan communal hatred, especially in the wake of the recent violence in Assam. However, among the twitter handles being banned are also included some which belong to spoof  artists -- those who try to impersonate the prime minister's official twitter feed. This was highly unavoidable as it shows the government bloated up with a sense of self-importance. Finally, and this is dangerous, the list also includes some commentators and right-wing sympathisers.

I feel we are treading treacherous territory here even if this blogger isn't a right-wing supporter. If the right wing nutcase is using his/her social media account to spread hatred and advocate communal violence, then there might even be some justification for the government's actions. But, the notion of a democratically elected government muffling free speech is downright noxious. The reason is today it might be right-wing loonies, but tomorrow it could be anybody. What is to stop the government or its factotums, in a fit of righteous conceit, to start viewing any protest or dissent as a threat to law and order? Once you start going down that path, it's actually a very slippery slope.

The news agencies, a few days ago,  filed an interesting story on what the government is doing to keep its babus away from social media. The story (headlined "Govt cracks whip, orders babus not to post 'unverified' facts on Facebook, Twitter" in Indian Express) can be read here. The attempt again is to ensure that bureaucrats and officers do not use social media to air their views, which could well turn out to be anti-thetical to the government's standpoint. Will they then stop the officer's spouse or even daughter/son from airing their opinion? Where does it stop?

Finally, US president Barack Obama's office recently urged the Indian government not to curb internet freedom, especially in the social media space (read here). This issue came up at a routine briefing conducted by the US State Department. However, the US State Department's concern and comments drew some acerbic comments from journalists and observers. The US has been incredibly thin-skinned while dealing with the transparency of the internet, case in point being the persecution of Julian Assange and Wikileaks.

Meanwhile, an image of a poster is being shared around on Facebook, which reads as follows: "If Govt limits the SMS because it's being misused for spreading rumours, can we stop paying taxes as our money is being misused for corruption?" Now, how will that be treated? Seditious? Disruptive? Communal?