Budget 2018 is politically smart, fiscally expensive
Has the welfare state for Indian stock market investors ended? The announcement of the finance minister that long-term capital gains tax, or LTCG tax, on stock market investments would be reintroduced at 10% for gains above Rs1 lakh suggests that this is the case. That is a job well done. Simultaneously, the minister should have announced that “long-term” would kick in after 36 months and he could have provided an offset for the short-term transaction tax paid. Further, there are multiple definitions of “short-term” and “long-term” depending on the asset—real estate, debt, private equity, etc.—and different rates. There was a case for making things simple.
The government has sought to cushion the blow on sentiment by extending a 25% corporate tax rate for companies but with revenue under Rs250 crore. That is a disappointment. It should have been extended to all companies regardless of revenue. This was a promise made three years ago and should have been kept. There is a feeling that India’s direct tax share is low and that it rules out further enhancements to tax exemption limits. The argument does not stand up to scrutiny.
The Economic Survey of 2015-16 showed that adjusted for the state of economic development and democracy, India was not an outlier with low tax-to-gross domestic product (GDP) ratios. It did argue that India should have 23% of citizens paying income tax as opposed to only 4%, which is a big gap. But the Survey admitted that even after controlling for development and democracy, India was not an outlier with respect to direct tax and individual income tax collections. Second, there was no specific reference to corporate taxpayers being too few. Third, the Survey did not adjust for the inflation and corruption that Indian taxpayers bear. If adjustments were made for these along with development and democracy, India might not be an outlier at all. So, the top corporate tax rate could have been lowered for all companies irrespective of revenue. The government is not betting enough on economic activity perhaps because the budget has not done enough for it.
Of course, given the slippage in the fiscal deficit ratio for this year and next (3.5% of GDP vs 3.2% earlier for 2017-18 and 3.3% vs 3% for 2018-19), the government will contend that it had little scope to exempt more income from taxation. The bond market has reacted negatively (the 10-year government security yield is up 17 basis points as I write this), but not just to this announcement. More disappointing must have been the slippages in revenue and effective revenue deficits. On-budget capital expenditure has been lower and revenue expenditure higher. The budgeted increase in revenue expenditure (10%) is higher than the increase in capital expenditure (3.7%) for next year. Capital expenditure by government enterprises is not making up for it. So, in the eyes of the market, that ticks the box for a slight deterioration in the quality of expenditure next year, on top of what was witnessed this year.
Second, notwithstanding the huge amount of securities issued against small savings schemes, the market borrowing had been higher by about 30% in 2017-18. Of course, the government will dismiss it as liquidity management towards the end of the year by borrowing through short-term treasury bills, which is much larger than the budget estimate. This is in spite of the fact that indirect tax collection for 2017-18 is expected to be higher by Rs10,000 crore than budget estimates and the overall tax collection better by over Rs42,000 crore.
By the time the year is over, the government expects to have received Rs1 trillion from divestment. Next year’s target is Rs80,000 crore. Journalist Shankkar Aiyar, in BloombergQuint, has given a comprehensive tour of the history of hyperactivity, of shifting money from one pocket of the government to another over the last 25 years in the name of divestment. Public sector enterprises have paid less dividend than budgeted and the budget for next year is even lower. Of course, capital expenditure incurred through public enterprises has been higher and that might explain the lower dividend this year. But capital expenditure of public sector enterprises is not rising next year, yet the expected dividend is lower by 4%. All told, the case for real divestment of ownership and control has only become more urgent and the budget numbers appear to have damaged the fiscal credibility of the government.
Ultimately, the slippage on deficits would not be a matter of concern if the growth revival continued as predicted. While there are some signs that the domestic economy may be stabilizing after the hectic structural changes since November 2016, the impact of a crash in global asset markets on economic activity globally and in India might not be trivial. The budget relies on economic growth to realize its forecast of a 14.4% jump in corporate and personal income taxes and a 19.1% increase in indirect taxes. By the way, what explains the expected fourfold jump in surcharge on income tax?
The question is whether the budget does enough to boost economic growth even as it relies on better economic growth to achieve its diluted fiscal prudence targets and offer some judicious relief to various segments of the population. The answer—not much at all. The budget is a politically smart document, but it was expected to come without a high fiscal cost. Has that been achieved? Bond investors will provide the answer.
V. Anantha Nageswaran is an independent consultant based in Singapore. He blogs regularly at thegoldstandardsite.wordpress.com. Read Anantha’s Mint columns at www.livemint.com/baretalk
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