India slashes corporate taxes to give a boost to economy
India unveiled a $20bn package of corporate tax cuts on Friday sparking the biggest one-day jump in Bombay’s stock market in a decade, as the government of Narendra Modi looks to revive economic growth that has tumbled to a six-year low.
In a surprise fiscal loosening, Nirmala Sitharaman, finance minister, slashed corporate tax rates to the lowest levels in India’s post-independence history in a bid to lift the gloom that has enveloped the business community and boost India’s appeal to foreign investors.
New Delhi cut its basic corporate tax rate from 30 per cent to 22 per cent, meaning the effective corporate tax rate — including surcharges and cesses — will drop from 34.94 per cent at present to 25.17 per cent.
New manufacturing companies will be treated even more favourably. Their basic tax rate will be cut from 25 per cent to 15 per cent if they incorporate after October 1 and commence production by March 31 2023. The effective tax rate for companies fulfilling these criteria will be 17 per cent.
The BSE Sensex leapt on the news, closing up 5.3 per cent. Amid the equity market’s jubilation, Mr Modi called the tax cuts a “historic” move and a “win-win” that would create more jobs for India’s 1.3bn people.
The cuts, he tweeted, “clearly demonstrate that our government is leaving no stone unturned to make India a better place to do business, improve opportunities for all sections of society and increase prosperity”.
While Ms Sitharaman said the government would forgo an estimated $20bn in revenues each year as a result of the cuts, New Delhi is betting that reduced tax rates will boost businesses sentiment and spur a revival in muted private investment.
Indian entrepreneurs hailed the cuts as a transformative step to revive flagging confidence and animal spirits. “This is the best move ever,” Kiran Mazumdar-Shaw, chief executive and founder of Bangalore-based Biocon, a pharmaceutical company, told an Indian television channel. “This will kick-start the economy.”
Uday Kotak, chief executive of Kotak Mahindra Bank, called the cuts a “big bang reform” and a “a bold progressive step forward”.
He tweeted that the lower tax rate allowed “Indian companies to compete with lower tax jurisdictions like the US. It signals that our government is committed to economic growth and supports legitimate tax abiding companies”.
But even as equity markets rallied, investors sold off Indian bonds amid concerns about the hit to public finances, causing yields to rise to 6.8 per cent. Analysts were already sceptical that New Delhi could meet this year’s ambitious fiscal deficit target of 3.3 per cent of gross domestic product, given the ongoing sharp slowdown, and the cuts will reinforce those doubts.
A Standard Chartered research note said the cuts would have a “significant fiscal impact”, equivalent to 0.7 per cent of GDP, unless accompanied by big spending cuts.
The note said the moves were “positive for sentiment, and thus growth”, but that a pick-up in investment was unlikely to come immediately, given the excess capacity already in the economy.
Shilan Shah, senior India economist at Capital Economics, wrote that the fiscal loosening “is likely to provide a small boost to economic growth over coming quarters” and “significantly increase the chances”of New Delhi overshooting its deficit target.
“While bond yields are likely to remain under pressure, we think the rally in equities since the announcement will prove shortlived,” he wrote.
Indian businesses have long complained that the country’s onerous tax burden makes it tough for them to compete with companies based in other emerging markets.
Ms Sitharaman said that India’s corporate tax regime would now be “almost at par with many of the Asian and south-east Asian countries”.
Nilesh Shah, managing director of Kotak Mahindra Mutual Fund, said the cut for new manufacturing investment was a “master stroke” that would help India woo companies looking for an alternative to China amid rising trade tensions between Beijing and Washington.
India’s economic growth has slowed for five consecutive quarters, tumbling to 5 per cent year on year in the April to June quarter, its lowest level in six years. Consumer spending growth has also slowed sharply as incomes have failed to rise, and private investment has been muted for years.
Despite Mr Modi’s landslide re-election victory in May, the business community had expressed gloom and disappointment with his administration’s record on economic management.