One of the most visible changes many have noted after the 2008 financial crisis is the “superabundant" availability of capital for investment. The term “superabundant" is borrowed from an article in the Harvard Business Review by three Bain & Co. partners and executives who wrote that capital is now so abundant and cheap that business strategy needs to factor this in. They advocate higher and simultaneous use of capital in multiple projects, with managers quickly expanding investments in their winners and cutting out losers. Bain calculates that financial assets are now already 10 times the global gross domestic product, and the period of superabundant capital could continue till 2030 at least.
What this implies is that capital is increasingly going to substitute other factors of production, including labour, and business models will evolve in this direction, possibly impacting job creation. The GAFA foursome— Google, Amazon, Facebook and Apple—generate billions of dollars in free cash that gives them the ability to invest for the very long term and build platform monopolies. Superabundant capital is what enables an Uber, Ola, Flipkart or Paytm to make humongous losses and still receive more funding.
We did not need to learn this lesson from GAFA or anyone else, for our own Reliance Industries Ltd (RIL) discovered this idea decades back when capital was actually scarce. Go back to the era of Dhirubhai Ambani, and a key element of his strategy was to build huge scale using enormous amounts of capital. This money was essentially borrowed through interest-paying debentures, and then converted into equity at huge premiums based on the buoyant share price of RIL, thus lowering the effective cost of capital. Mukesh Ambani’s continuing success with new businesses in retail and telecom follows the same pattern: he has completely out-invested his rivals in both spaces by pumping in huge amounts of capital.
In the emerging business model of the 21st century, the focus is not on creating a customer who will pay for goods or services, but on “buying" the loyalty of millions of non-paying customers before figuring out how to make money from the franchise. The formula is to first create a consumer monopoly on a platform and then milk people painlessly. Or get someone else to pay.
The important thing to observe here is the huge inequities being created in the age of superabundant capital. Companies that have access to endless and cheap capital can drive competitors out of the market and thus create near-monopolies. The second fallout of this kind of business strategy is that these firms may actually contribute very little by way of taxes to the exchequer, since they will be making losses for years on end.
This poses challenges to both the state and society. It is one reason that Christine Lagarde of the International Monetary Fund (IMF) suggested two new tax ideas in a Financial Times article recently. One is to make companies, especially multinationals, pay a minimum amount of tax to their host countries even if their profit and loss account shows a loss. The other is to levy a withholding tax on cross-border payments. Columnist Swaminathan Aiyar followed this up by writing in The Economic Times that such companies can be asked to pay 2-3% as taxes on gross revenues rather than on net profits—which may happen years later.
Both ideas have actually been tested in India. For a long time now, we have had the minimum alternate tax (MAT), which ensures that companies do not use tax concessions and loopholes to pay no tax at all. Then, in several sectors, we also have taxation based on gross revenues—in addition to taxes on net profits. Operators of private airports (GMR, GVK) pay a certain percentage of their gross revenues to the Airports Authority of India (AAI), and telecom companies pay spectrum or licence fees on adjusted gross revenues.
Clearly, India pre-empted the world with many such ideas, though for the wrong reasons. We probably did so purely to prevent our internal left critics from making a big fuss over multi-crore tax concessions to big business. But in the age of excess and cheap capital, and also in order to prevent excess substitution of labour with capital, we need a fairer capital taxation system.
In India’s 2018-19 budget, long-term capital gains tax was reintroduced on shares, but more needs to be done. For example, dividend tax should shift back from corporations to individuals, so that each person pays tax at the rate applicable in his or her bracket. At some point, taxes on incomes earned from labour and capital need to be equalized.
Lastly, while income taxes themselves need to be moderate, inheritance taxes, abolished in the 1980s, should make a comeback. There is no inequity greater than what’s caused by circumstances of birth and inherited (and unearned) wealth. Governments can offer generous exemptions to inheritors (say, ₹10 crore per sibling), but the rest of the wealth inherited must be taxed.
The current tax structure is tilted in favour of capital and against labour. If we do not correct this skew, we will face a social blowback of unprecedented proportions as businesses accelerate the substitution of labour with capital.
R. Jagannathan is editorial director, ‘Swarajya’ magazine.