On September 20th 2019, domestic stock markets in India skyrocketed with the Sensex index soaring over 2200 points, the steepest intraday rise in more than a decade. The boom came in response to the cuts in corporate income taxes introduced by the Finance Minister in an attempt to steer the Indian economy out of the current slowdown and spur growth.
Under the recent announcements, corporate tax rates for domestic companies have been driven down to 22% from the earlier 30% while for new manufacturing companies, set up after October 1st 2019, the slashed tax rate stands at 15%. The measures form a part of the 1.45 lakh crore fiscal stimulus package introduced by the government to arrest the tumbling GDP and a 45 year high unemployment rate plaguing the economy.
Interestingly, the stunning reduction in corporate taxes has garnered conflicting views with the real impacts of the move being extensively debated. While the proponents of the move believe it to be a masterstroke, which will provide the much needed impetus to the ailing economy by reviving private investments, critics argue that the move fails to address the fundamental reason for the sagging economic growth i.e. weak consumption demand. Before delving deeper into the existing divide of opinions regarding the efficacy of slashing corporate taxes, it’s imperative to understand the backdrop against which the recent announcements were made.
The WHY behind the move
Numerous reports have stated that India witnessed its slowest economic growth in the last 6 years in the quarter ended June 2019-20, with the GDP plummeting to 5%. Global uncertainties led primarily by the escalating Sino-US trade tensions have contributed their fair share to the current slump. Besides, struck by a combination of cyclical and structural issues, the current slowdown is visible in many sectors of the Indian economy ranging from manufacturing and financial sector to the real estate sector.
India’s automobile sector, which contributes to 7.1% of the GDP and around half of the nation’s manufacturing output has also been battling with declining sales, mounting inventories due to sluggish consumer demand and production shutdowns, which have all culminated in increased layoffs of temporary workers. While a McKinsey report forecasted India to become the world’s third largest car market by 2021, the present state of the auto industry, which has witnessed a 31% decline in sales, tells a different story. It won’t be far-fetched to say that a multitude of rushed and misdirected government policies, especially the skewed EV roadmap along with a burgeoning GST on the automotive parts has pushed this industry into a crisis.
Moreover, SBI’s latest study, “Root Cause of the Current Demand Slowdown” holds a substantial decline in both urban and rural wages as the main culprit for the existing downturn. It reflects how the agricultural growth slipped in the current fiscal and both rural & urban wages which grew in double digits until a few years back shrunk to single digits as companies adopted extensive deleveraging and cost cutting measures. Declining wage growth propelling the rural financial stress, weak corporate sentiment owing to placid consumption demand and a dismal flow of credit in the midst of the much talked about NBFC crisis are the principal challenges facing the current regime, which set the stage ready for a slew of measures introduced by the government, one of which happens to be the reduction in corporate taxes.
The Conflicting Opinions
In my opinion, the debate surrounding the corporate tax reduction has been wrongly centered around the propriety and farsightedness of the move, instead of questioning the adequacy of the policy. The policy marks the beginning of the much need reforms for India’s economic revival and qualifies as a step in the right direction. However, it can transpire into long term growth only when supported by a bundle of immediate measures to address the core issue fueling the economic downturn i.e. dwindling consumer demand.
1. One cannot completely condemn the move of the current government as an incompetent temporary prop. It’s undeniable that the announced tax cuts will play an instrumental role in bringing India at par with other Asian economies and can aid the country in leveraging on the deteriorating US-China relations, which is driving many companies to relocate from China. The tax cuts will address the concerns of numerous investors who have been accusing India of tax terrorism and provide a stimulus to foreign investments in the country.
2. Reduced taxation in the manufacturing sector is expected to expand the fiscal room for companies to engage in price cutting and discounting strategies, which can fuel consumer demand.
3. The tax cuts for new manufacturing units will provide a favourable environment for the manufacturing sector and will provide a fillip to the Make in India program of the government.
