India must cut corporate tax rates and sort out trade disputes with the USA. This will signal to the world that the country is open for business
Recently, the People’s Bank of China reduced the amount of reserves with commercial banks by half a percentage point. This frees up $126 billion for lending with the hope that it will anchor the slowing economy at a time when global growth is weak. So far we’ve witnessed interest rate cuts from all major central banks of the world and Fed (United States of America’s central bank) indicated another rate cut at its meeting this month, which will result in further rate cuts from other central banks. All of this signals a formal recognition by central bankers that a slowdown is pretty much here.
The fact that the global economy is weak is no secret as we’ve seen a contraction in Germany’s economy. Besides, consumption remained weak across Asia. Many argue that increased uncertainty due to the ongoing trade war is a major reason behind the current slowdown as investments and consumption both remain muted since the start of this year. The US was an exception to the slowdown as it experienced record low levels of unemployment without any inflationary pressures. The August job report for the US shows further expansion in economic growth but at a slower pace and this is likely to be a reason for the rate cut by the Fed if it were to happen this month.
Indeed, there’s uncertainty due to the current trade war. This, when combined with slow global growth and domestic economic slowdown further complicates the situation, requiring greater policy intervention. While there’s a lot of pessimism on the economic front, most of it is unwarranted as India at present has a rare opportunity to make itself an integral part of the global value chain.
A major reason for the reorientation of the global value chains from China is greater uncertainty regarding tariffs due to the current trade war between the US and China. However, recent increase in wage costs and the lack of availability of factory workers had resulted in reluctance of firms to set up new plants in China over the last five years. Therefore, the China story was largely over even before the current trade war but the conflict has only accelerated the process of firms moving away from China to other South Asian countries.
A likely choice was Vietnam. However, that country has limited capacity to absorb more companies moving their supply there. Other countries are Indonesia, Thailand, Bangladesh while some of these firms have also come to India. While the Indian Government has started making attempts at aggressively pursuing some of these enterprises that have exited China, Indonesia has been undertaking successive reforms while making changes in its tax structure to appear as an attractive destination.
India’s massive population, with a sizeable and booming middle class, acts as an additional incentive for firms to shift their supply chains here. The strong domestic demand acts as a compensation from any uncertainty with respect to global growth or tariffs. Therefore, India would have been the obvious choice for most of these organisations if it wasn’t for our uncompetitive taxation norms, especially corporate taxes.
Hopefully, the new Direct Tax Code (DTC) will address some of these issues but given that the relocation is happening as we speak, some tax cuts should be announced right away to grab the attention of global firms. The Government should simultaneously consider releasing the DTC report and initiating a consultative process so that it can be implemented from the next financial year.
Further, we should appreciate the strong common strategic and economic interests between India and the US. Addressing all trade issues should be a priority to ensure that there’s predictability of trade policy. This will go a long way in addressing the concerns that many multi-national corporations are facing, and consequently they’ve been avoiding shifting their production line to India. In fact, India should proactively push for predictable trade policy with all its major trading partners to remove uncertainties. We already know that British Prime Minister Boris Johnson is looking for a trade deal with India and, therefore, proactiveness on this front will go a long way in sending a strong signal to global investors and corporations. There are many other interventions that are required by the Government to make India a competitive and attractive destination for the manufacturing sector. Reforms in factor markets, such as land and labour, combined with reducing the cost of capital are some such interventions.
While reforms in factor markets are important, they will require a lot of discussion, deliberations and negotiations. The least that we can do in the meantime is reduce our corporate tax rates and sort our trade disputes with the US. This will act as the best signal to the world that India is open for business!
(The writer is a New Delhi-based policy researcher)