Tax cuts reset the market

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The uncanny ability of the market to prove everyone, including savvy market players, wrong has once again been proved by the sharp and swift rebound in the market. A series of incremental stimulus announced by the finance minister for sectors like automobiles, real estate and banking didn’t do much to inspire confidence in the markets. But the bold move to cut corporate taxes took the market unawares and trapped the bears including FPIs. The consequent short covering led to a ferocious bull-run that took the Sensex up by around 3000 points in 2 days.

Challenging environment calls for bold reforms. This was precisely what the Finance Minister Nirmala Sitaraman delivered on 20th September. The cut in corporate tax rates and MAT and the new manufacturing tax are bold moves and from the market perspective, game-changing.

The major factor that pushed India’s GDP growth rate to a 6-year low was the decline in private investment, which has been declining steadily during the last 6 years. The corporate tax cuts announced, along with the monetary stimulus already provided by the RBI, have the potential to trigger the animal spirits and revive investment and economic growth. The 22 percent corporate tax rate (25.17 percent effective rate including cess and surcharge) makes our tax rates competitive and in tune with most emerging markets and our Asian peers. The new tax rate of 15 percent for new manufacturers can attract fresh investment and give a big boost to ‘Make in India’. The reduction in MAT is welcome. These tax cuts will leave more money with the corporates for investment and remove the negative image of India as the nation with the highest corporate tax rate. The psychological boost from these bold reforms will be significant.

The corporate tax cut, which is a permanent benefit to India Inc, is a move big enough to reset the market. The tax cut is likely to push up market earnings by 8-10 percent this year. The market rally is in tune with this expected surge in earnings. Since the tax cut is permanent, the market has been reset.

From the capital market perspective, the announcement that the enhanced surcharge will not apply to capital gains on sale of equity, derivatives or equity oriented funds and the removal of tax on buy backs for those companies who made the announcement before July 5 this year are clear positives.

The market has given a big thumps up to the reforms, which can be described as the most path breaking and reformative after Manmohan Singh’s path breaking budget of 1991 and P Chidambaram’s ‘dream budget’ of 1997.

The stimulus size is quite big since the revenue foregone is expected to be Rs 1.45 lakh crores. Of course, there will be a revenue shortfall and the consequent strain on the fisc. But the expected expansion of economic activity can partly compensate for the revenue shortfall.

These bold reforms, along with the monetary stimulus provided by the RBI, the relief package to the automobile and real estate sectors and the rural uplift expected from the good monsoon have the potential to kick start the economy and push it to higher growth.

Of course, the external environment needs to be keenly watched. The fact that 20 central banks have cut rates this year is an indication of the weakening global economic environment. Escalation of the geo-political tension in West Asia is another area of concern.

Posted on 24 September 2019

4 COMMENTS

  1. FM not been attending the true concern of people / sns who have money , wants to keep in Banks in safe and secure manner .But a Fear already inducted to those kind of people by way of 1, ITR filing 2 TDS on interest such that they tempt to Spend the way with out productive Means diluting like in ocean . Good to allow them and reward them to keep money in the Bank through which can use to Productive way , just image 6% interest on that 11% TDS on interest There is NO Growth thus Leading to spend unproductive way . Further Base amount of for IT filing is extremely Poor considering the Purchasing power , Inflation . Earning level in figure .A simple cobbler can make 15 to 29 lakhs in a year asking to file ITR ???.Time to set minimum income in a year 20 lakhs for filing IT Means Good % away from IT filing . Also set a system such that an ordinary person can file ITR with out going to a CA . Addressing These kind of matters will contribute a LOT in Ecconomy

  2. Dear Dr. Vijaykumar,
    On the face of it, reduction in corporate tax rate appears like a windfall but I dont agree with all the points you make in this article.

    You stated “The major factor that pushed India’s GDP growth rate to a 6-year low was the decline in private investment, which has been declining steadily during the last 6 years.” But what is the reason for decline in private investment? Corporate tax rate doesnt appear to the reason for lack of private investment but consumer demand.

    How is consumer demand going to be raised by any such measure? I do not see any reduction in personal income tax or GST rates for the common man. Are companies going to pass on some of the tax reduction benefits as price reduction to consumer, salary increments to employees/human resources? Also, I read that planned investments are now going to be routed through new companies to take benefit of the 15% tax!! If nothing new comes in the form of investments but old wine in new glass, how is it going to make a difference??

    • Thank for your response. My views are:

      • Decline in investment started 6 years ago due to a variety of factors. An important factor is the excess capacity created during the lending binge during 2009-13 following the global crisis.
      • Decline in consumption, particularly in autos, started in Sept 2018 following the NBFC crisis.
      • Reduction in corporate tax is a huge sentimental positive. It removes India’s poor image as the country with highest corporate tax among EMs.
      • Agree with you that reduction in personal income tax and GST will leave more money in the hands of the people. Certainly desirable. But the stark reality is that presently there is no fiscal space for that.
      • Yes, IT return has to be simplified more.

  3. Now it is all the more important that at the time of renewal/enhancement of the credit facilities, the financing banks carefully analyse the balance sheets of the companies so that the surplus fund is not diverted but is ploughed back, used for research/expansion/remove bottlenecks and increase their capacity utilisation or reduce their overdues to the Banks. The cash rich companies should share some portion of the surplus with the investors by way of bonus shares or higher dividend.

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