Saturday, July 01, 2017

The GST Genie - Out of the bottle

Last night as the clock chimed twelve, India entered the all new GST regime. For close to fifteen years since it was suggested, it has been discussed, opposed and supported. It is now a reality. 

A few of my friends wanted me to write my views on the GST. So I kind of compiled some connected and unconnected musings of my own

Culmination of Long, deliberate and steady Tax Reforms
In 1991 when Dr. Manmohan Singh ushered in Liberalisation and Economic reforms marking the movement of India from a socialist economy towards embracing a capitalistic one. One of the first areas to come under the reform hammer was the taxation regime. From a direct tax regime (Income tax) that used to tax at ridiculous effective rates of close to 70+% we have a far more rational Income tax regime now. 

Similarly, the Indirect regime was first rationalised - meaning the rates were made more practical (one still remembers that Ravi Shastri who won an Audi as the Champion of Champions reward at the Benson and Hedges cup tournament in Australia was unable to bring it back to India because he was expected to pay more than the price of the Audi itself as the import duty for the gift that he got free) - in phases. 

Then, the cascading effect of taxation at each stage of value chain was gradually addressed by bringing in the Value Added principle(VAT), which also happened in stages. We heard and used the terms CENVAT, MODVAT and VAT.

Meanwhile Service Tax was also introduced as Services took increasing share in the GDP. And since its almost unheard and untalked of entry way back in 1994, it is now a source of Lion's share of Government's tax kitty.

As the GDP of India multiplied 40 times from a meagre Rs. 5.86 Lac crores (nominal GDP) in 1991 to a an impressive Rs. 135 Lacs crores by 2016 - the tax regime had its own problem of administering the sheer size despite it growing more rational and simpler.

GST was suggested as the culmination of this process - expected to result into (a) Value Added Taxation in the true sense of the word
(b) One form of Indirect Tax getting rid of so many offshoots at both central and state level 
(c) increased size of the formal economy.

After more than 15 years of consultation and debates it is now a reality. In many ways then it is a historic success of consistent movement across governments and generations towards improving the taxation regime of the country. That the, telecom, data and Internet revolution happened in the mean time is a fact. It ensured that the GST finally happens in a shape that not even its originators would have imagined way back, is an added advantage. The GST will probably first such reform in India that will be executed on a fully IT enabled backbone.

So, is it good for the Economy/Country?
There are many, many goods to the idea. 

One Tax
That there should be one integrated indirect tax in a country is an obvious good about the idea. It should/must simplify tax practices for the business in general as it currently deal with a web of indirect taxes at different levels coming across multiple and overlapping authorities. It should also increase business productivity as one expects to reduce delays and red tape in the tax administration system. It also should address the problem of tax cascading effect due to non-integration of Goods and Services and also due to differentiation of sales, Excise, various duties etc. However, there is probably more to it than just getting rid of the entry barriers at each state border and maybe even at the entry points of a few cities.

As always the devil may be in the detail. As the GST went through its trials and tribulations - the form in which it is finally getting implemented may be a fairly complex one. Almost seven plus slabs of taxes with three types GSTs makes it a little difficult to understand. This may be the first barrier for small businesses to embrace the tax system and people may try to find a way out of the system if its compliance is tedious and costly (both of which it appears to be in the first look). More on this later. :-) 

Less Tax Evasion
Our country is notorious for bypassing the tax system and it is believed that there is a parallel informal economy outside the indirect tax net, probably as large as, if not larger than, the formal economy.

GST has an inbuilt incentive to comply with the tax system as it implements the VAT principle of letting the businessmen pay tax only on the Value Added (which in simple terms is difference between the sales and cost of the good) across goods and services (integrated). One expects then that the businessmen will be more amenable to sell all goods/services billed and so it should dent the parallel informal economy.

The jury remains out on this. One needs to appreciate that tax evasion galloped due to two reasons - one was irrational and ridiculously high levels of taxes, so much so that tax evasion was the only way businesses could have remained profitable at one point of time. The other was a corrupt and decayed tax administration system where the officials were more interested in harassing the tax payers and generating instances for them to get bribes. The increased cost of doing business due to this was an incentive for business to bypass the tax system.

While over the decades the tax structure has become increasingly more rational (and it continues to move in that direction) little or nothing seems to have been done to fix the babus for whom corruption has settled in as a culture. And this remains the biggest question mark on how successful will GST be in preventing tax evasion. 

The nut and shell of it is - GST may not be able to address tax evasion much if the cost of evasion remains less than that of complying with it and till evasion is simpler than compliance. The tax rates seem to be pretty high and add to it the increased cost of compliance due to increased paperwork and one is looking at a possibility that the intent may not be so easily realised.

Better Tax Administration
Many readers will jump on me when they read the above criticism about tax evasion. The counter is that the GST is being implemented on a digital backbone of Internet based reporting and reconciliation system which will make tax compliance almost a compulsion and will also help track tax evaders better. 

It is pointed out that "Invoice Matching" using the IT backbone will ensure that there is very little space for tax evaders to escape the taxman's eye. It is expected that the tax to GDP ratio will grow because of this development.

One is entitled to a fair question here. What do we mean by better tax administration. Does it mean easing ways for the honest tax payer and making it hell for the dishonest one? I would think yes - this is what it should mean. Should it mean - making it convenient for the taxman to do his job? I would think not necessarily.

If so, there remains question mark on whether the current form of the GST meets/will eventually meet the aim. The structure of the GST seems to have put the onus of grouping the goods and services into various categories and finding and applying tax rates on them, reporting it clearly in defined formats, even working out the central and state share in that tax, to connecting the invoice of input costs for which credit is asked for, on the business and businessmen. Over the years the approach to Governance has tended to shift the clerical work of the Government to the tax payer.

In such an environment, the job of the taxman may get focussed on the mismatch or default in reporting and then regulating/punishing the businessmen to  ensure better compliance. Read in the above line the greatest risk the GST faces today - a possible return to the Baburaj that was reduced over the two decades of Liberalisation. Businessmen harassment by the Babu may be back on the table. A simple example is that a Babu may come knocking at your door for you may have defaulted/delayed in one or more of filing of the 37 returns annually mandated for you.

In short, the government must focus on ensuring that the Babudom does not abuse the new found authority they have otherwise there is great risk of the intent going haywire. In my humble opinion the bureaucracy remain the biggest risk to the success of the GST. 

Disruptive Change
One of the goods of the GST is that it brings about fundamental changes in the way both businesses and government deals with indirect taxes. It is like we are recreating the taxation regime into something all new. 

One of the universal positives of disruptive change is that it gets rid of old mindsets and old practices - trashing in its vain the old corrupt or bad practices. Such disruptive change gives the honest and upright elements in the Governmental system to assert themselves and help the system take a more positive, cleaner shape. GST is one such opportunity for the entire system.

The biggest challenge to disruptive change is people. Old mindsets remain in the heads of the people and not in files, papers or systems. The fact is that people in charge of executing the change to the GST remain the Babu who has lived in legacy system for decades. There first instinct is to safeguard themselves from taking clear and firm decisions and the second is to find ways to make that extra buck. To them, changes like GST with its detailed systems of reporting and reconciliation is a God sent opportunity.

Lets hope that the Government has taken steps to ensure that it will not let the babudom derail the reform by wrapping it up in red tape, harassment and legal technicalities. It is however going to be a tough task.

The Political AngleIt is easy to suggest that Modiji and his Govt. burnt the midnight oil, worked out compromises and ensured that the GST meets its deadline. It managed the toughest part - that proverbial "last mile". To some extent this is true as well. Modiji/Jaitley's resolve has played an important role in ensuring that the reform does take place.

However, it will help the cause of balance to recall that everything that made this possible (Aadhar, digitisation, GST itself) was blocked and delayed by those very people who are now the torch bearers of the initiative and who now claim to have transformed the country. Revenue neutrality to the state was always on offer, but BJP ruled state under the UPA regime steadfastly refused to buzz. They did so to protect the small business lobby - those very loyal voters of the BJP whose support - the party has taken the gamble to risk by implementing the GST. Who is opposing the Govt. most on this step? Their most loyal vote bank of the traditional small businessmen. 

The BJP and its "chankya" is counting heavily on the support of the young and 
impatient population of the country who are voting for it. The BJP has been successful in doing that till now as most elections have shown till now. So as long this particular segment of the voters are solidly behind the BJP they have little to worry about winning elections. The midnight launch of the GST is just one more of the series of events that gets unveiled to keep this section of society engaged and hopeful. Remember the Lion of "Make in India" unfurled and maintained for more than a year in these young minds. It has been gradually shifted to new symbols and new slogans because that works best with is segment. They forget and move on easily - the Fast Track generation.

Quite characteristically, the Modi government has been able to build a hype around the GST too. Many followers believe it to be a cure all for corruption, black money and decayed tax system all packaged in one. They may be in for another surprise as they will see the next two years of teething troubles and constant tweaking of the system bringing in confusions and disappointments, before it settles down to a more practical system which may or may not achieve these high sounding goals. 

Now, to the above, may I add, that I have always expected that people will be surprised by how little the hyper promises of the Government will actually end up achieving. But the supporters have always amazed me by being super loyal to Modiji, despite in the face evidence of sure shot hype and then taking U-turns on many issues. In fact many believe this to be the natural and necessary way of getting things done. What Modiji has been able to successfully do to them is open up new bottle, turning out a new genie everytime. It helped supporters focus on the new genie and to move over from the earlier one. GST is yet another which will make them forget Make in India, skills India, Demonetisation, Pakistan etc. for some time at the least. To that extent, the constant zest of Modiji to keep doing something or the other is to be admired. Modiji has been a successful charmer till now who has been administering a bitter pill and still make people feel that they have been given a chocolate that will eventually be sweet. In the long run........

The opposition on the other hand remain a sad and hopeless story of its own. Whoever, in the congress thought of boycotting the session on launch of the GST remain blind to the fact that the Congress has failed to register its body of work  that the Modi government is deftly using to build on. The boycott may only help people forget them faster. As I have been saying this consistently - sonia/rahul must now resign and pass on the reins of the party to whoever has the capability of winning the imagination of the party workers - and that person does not seem to be Rahul Gandhi for quite some time now. If at all they have any chance to regain some political space it is to milk the resulting disruption that will take place in the coming one to two years as the GST is rolled out on the ground.

Final Thoughts

It's good that GST is now a reality. It is a step in the right direction. It is also a baby step in a series of such steps that the country took over the last two and a half decade. It is an opportunity for the country and the Government to speed up economic growth.

As a supporter of the idea of the GST - I am little pained by the complexity it has achieved in its launch avataar and the kind of uncertainties it has resulted into - at least in the short term. There remains bigger challenges - bringing petroleum, Alcohol, Education, Healthcare in the GST ambit. Increasingly government will come under pressure to act either ways. 

At the same time we must understand that anything so fundamentally different will come as a compromise package - the trick is to gradually take the initiative towards its intent. Do recall that Dr. Manmohan singh ushered in the era of Foreign Investment packaged with back to back agreements committing equal amount of exports from the country. The nation seems to have forgotten all about that - but FDI is now a reality and higher FDIs are touted as achievement by the Government of the day. 

The problem will be that government will find it tougher and tougher to maneuver as they face citizen ire over teething troubles. Then there is that proverbial sword of inflation hanging - one does not know clearly whether this will lead to increase or reduction in inflation. To my mind, if GST will actually bring more of informal economy into the formal one then it should surely lead to increase in on the ground inflation even if it is not reflected in official numbers because may be it was never a part of that data.

In summary, GST will most probably succeed like Aadhar is now succeeding. How effectively it is implemented will decide how long it will take before it settles down in the veins of the country. The challenge for the Government is to ensure that it does not settle down into another web of notifications and clarifications making things further complicated. Instead steady and resolute movement towards further simplicity and fairness will make it really a game changer. Will the Government be able to achieve that - only time will tell. Tighten your seatbelts - enjoy the ride and pray that the drama that unfolds actually touches your lives positively.

Tuesday, November 15, 2016

Deciphering the Demonetisation Demon - Part II

This post is a sequel to another post  that I started to write on the demonetisation of 500 and 1000 re notes initiated by the modi Government on 9th Nov 2016.

In the earlier post I presented my view on the positives of the step. This post looks at the other side of the issue (not necessarily negatives but the challenges that lie ahead of us) - what could go wrong with the initiative. What should be expect or not expect in the future

Black economy isn't going anywhere - not yet.
There have been varying estimates to the size of the black economy but all of us agree that the size is huge. The question is how much of it is in cash and how much of that cash will demonetisation be able to kill. 

There is hardly any reliable estimates but most experts quote a figure varying from 6% to 15% of the black money to be in cash. It is well known fact that lion's share of black money is stored in the form of precious metals/diamonds, real estate or as foreign currency often in another country. 

Between the time that the PM made the announcement and 12 PM barely a time of four hours - the entire stock of gold/silver jewelry was sold out (close to 100 crores) in Indore alone. 

It is also a fact that India sent a record $4.6 billion as outward overseas remittances a spectacular jump of close to three times the figure sent last year.

People ofcourse are trying various means to convert notes including depositing notes in the accounts of their maids and other employees. It is expected that these amounts will be converted into cash in new denominations within anywhere between one to twelve months.

According to the Finance minister Rs. 2 Lac crores was deposited in the banks in just two days of announcement of demonetisation. It would be interesting to study how much of it was deposited in the newly opened Jhan Dhan accounts. Even when these accounts were opened at a crazy pace - it was pointed out by experts that these accounts may not be controlled or operated by the actual account holder but may be used for parking black money. Now it is a real possibility looking at the flood of money deposited in the banks. 

The point is - demonetisation may have done very little to destroy the black economy. As the new notes increase in circulation the black economy may start thriving again unless the Government further cracks down on the three larger ticket items - Gold, Real Estate and Foreign accounts with black money. The PM on his Japan visit hinted that the next attack on black money may happen on "benami" properties. However, in this very post, I try to make a case for why the Government may find it very difficult to crack down on them.

Demonetisation by itself may end up reducing the size of the black economy by 5% at the worst and 10% at the best (assuming at least 1/3rd of the cash will still be rescued by several means).

Given that we have launched a higher denomination note of Rs. 2000 it is difficult to see how demonetisation is a major effort in addressing the black money problem.

There is a huge cash economy that is Legal
By 13th November the deposits in the bank accounts touched around three lac crores. Supporters of the Government feel vindicated and happy. However they are missing a very important point. Assuming that all these money is black may be a huge mistake. 

Our legal cash economy might actually be far bigger than this figure. And people who are unable to pay because of demonetisation may have been depositing the money in desperation. On a gut people with black money have no hurry to deposit their cash in the bank so soon, except when they get accounts of trusted people to deposit amounts upto 2.5 lacs each. They must be currently looking for ways to convert in the grey market and once they fail in achieving this objective they might deposit the money in last ditch attempt. If this conjecture is true largely we may see a surge of deposit at the fag end of December.

The other assumption that is wrong is that Rs. 500 note is a high denomination
note (it forms almost 50% of the currency available in the system) and that most poor do not have money in these denominations. What appears to be more true is that the poor saved whatever small amount in these denominations, while their routine transactions may have been in smaller notes. Retired old people may have their small savings in these notes too.

If so, the demonetisation has probably created a huge inconvenience to millions of people out there who need daily cash. 

No, I am not cribbing about the inconvenience of standing in a queue of ATMs or for notes conversion. Any exercise of such a magnitude is expected to create these scenes and I think there is no panic currently. I expect the crowds to fizzle out as larger denomination notes (specially the 500 Re value note) circulate more and more.

The inconvenience I am talking about is that we have clubbed a genuine citizen in the white economy with those in the black economy vulnerable to interpretations of and harassment by officers. This is expected to be played out in the coming months.

Black Economy is also an Economy
This might sound controversial but think about it calmly. Black economy is undesirable, it is illegal but it is an economy in itself - where real people produce and consume. Not all people who are a part of this economy are criminals and frauds. These are simple people who were born and brought up in a system driven by cash and they understand nothing else. Visit a rung-C city or villages and you will know what I mean.

It is an economy that produces and consumes. So it achieve the basic aim of distributing wealth (admittedly it is nowhere near equitable distribution - so also legal economy isn't). Meting out sudden death to this economy may create huge problems to these sections of the society. It may lead to stagnation in some parts of the economy - with consequences that I cannot probably fathom in this post.

What was possibly a better idea was to gradually merge this economy into legal one as has been happening over the last two decades and has only accelerated due to digital economy happening and growing fast.

To understand this point better be reminded of a basic lesson in Economics. Money is just a medium of transactions. To treat the disease of black money - squeezing out money from the system can kill transactions and hence impede distribution of wealth. One has to appreciate that the reason for black economy is not currency - the reasons are somewhere else - read the post further to understand those reasons as well.

Expect a Major slowdown in the Economy before it kicks up
The immediate effect of demonetisation will be a currency crunch - which means there would not be enough currency to support the transactions in the real
economy. The real estate sector which runs on black money to a minimum extent of 40% in each deal is going to go through a big adjustment cycle which may bring prices down and bubble burst effect may happen. We may expect that people will try to protect liquidity and hence discretionary expenses may be initially deferred. I wrote in the earlier post that inflation will cool down - the real fear is that it may cool down too much - leading to a temporary deflation. One can not predict the intensity but in all probability a short term slow down in the economy may happen. People who are preaching taking pain for the larger good of the economy may not have yet gauged that the real pain of this decision is yet to play out. That pain is NOT the queues that the common man is standing in currently. That pain would come from a decline in his business for no obvious reason of his own.

Add to this uncertainty inherent in the implementation of the GST from 1st April 2017 which is expected to increase indirect tax levels and would go through its own teething troubles that any new system goes through. This may cause more severe short term pain. Together, you have a sure recipe for a slow, dull and chaotic year ahead of all small businesses. 

One hopes that in the middle term it will be positive to the economy - that of course is based on the assumption that the govt. will stick to its firm stance on black money and that it will not chicken out after the UP Elections.

The journey to finish the black economy may not be played out till the very end
I already mentioned that the black economy isn't going anywhere due to demonetisation alone. Because demonetisation puts temporary brakes to a well oiled black economy which can start moving again quite quickly if we do not attack root causes. In fact, there were many effective ways to curb the black economy without causing so much pain due to demonetisation. So here is what HAS TO BE DONE if this attack on black economy has to be lethal and of long deep impact.

1. An attack on Benami Properties as already promised by the PM in an address

2. A surgical strike on the unaccounted gold kept idle as black wealth

3. A ban on Paticipatory notes. It is well known that a lot of black money is routed through PNs in the stock markets. This was once done away with under Dr. Manmohan Singh but ban was later revoked because it resulted in a sharp fall (bear market) in capital markets.

4. An immediate ban on all political parties to accept cash donations. All donations should be either done through cheques or online transactions. If the Government is sincere about killing black money and about creating a cashless economy - this should have been the first step - Leadership by setting examples. BJP spokesperson on the TV when asked flatly about this gave a lame "I am not the right person to answer this question".

5. Tax agricultural income beyond a certain limit (maybe higher than current exemption limits). It is well known that many top politicians and very rich people in India have status of farmer on books. Because agricultural income is not taxed in India. Both Modiji and FM are on record in saying no tax on agricultural income.

6. Implement the Direct Tax Code which was proposed by the UPA-II government which offered Income tax exemption for people with income upto Rs. 10 Lacs. This would bring better tax compliance.

As you were reading through these steps you may have realised that curbing the black economy is a very long haul and a politically very risky one too. On this path any Government will end up making almost everybody its enemy (or at least will upset everybody). 

If the PM did not walk this talk for whatever reason then we will have to accept that this demonetisation was a staged event to achieve some short term political gains only and not a long term economic vision.

Bureaucracy may play spoilsport
The corrupt bureaucrat, more than anyone may lose more substantial part of
their ill gotten wealth because they cannot obviously deposit it in the bank even on a penalty. So, one can expect a major part of the babudom feeling upset. The Government may come across (and this is purely conspiracy theory) bigger hurdles in implementation at the bureaucratic levels. The currency conversions was largely handled by banks who are salaried employees with little or no black money. They happily served the cause - that may not happen with the bureaucracy.

Another possibility is a spike in the harassment and bribing by the babus, due to losses they might end up booking, many of whom have paid a fortune upwards to receive the posting they are in.

Whether it be demonetisation, or GST implementation or crack down on the property market - a lot depends on the bureaucracy and to me it remains a black box ready to spring surprises.

Political Gambit - Is it Elections 2019?

The most curious bit in this demonetisation move is the political fallout. What I understand is that the small business/trading community are someone who have been traditionally solid supporters of the BJP and the PM Modiji. And what I reckon is that demonetisation will adversely affect this community the most. I personally know of people (some of them related to me) living in sub-urban rural areas of the country whose entire business is cash (both legal and unaccounted). Their business has come to complete stand still. Even when it takes off again none of them are sure whether it will recover the earlier glory and how will they keep it profitable. They might show their anger at the ballot box.

On the other hand there is another solid support base of the PM Modi - the young educated lot who are vocal on social media and are largely start up entrepreneurs and/or salaried classes. Add to them the existing middle aged middle class salaried people - who are actually happy about the demonetisation. This group is, I believe, expected to consolidate behind the PM/BJP. In fact many fence sitters in this group may finally move over to the BJP.

There is another group that was traditionally not a BJP supporter but were gradually moving closed to the party - The Indian housewives (Remember that they were the reasons for BJP's resounding defeat in the Bihar elections). In one stroke Modiji upset them because the notes that they accumulated over the years from often legitimate income of their husbands became worthless (to them) and was allowed to the extent of only Rs. 2.5 Lacs. I can vouch for the fact that over something like two decades a typical indian housewife ends up accumulating far more. This group can feel strongly anti-bjp just for emotional reasons.

However, in then medium term the positives of all this disruption may also start
kicking in and people may start feeling that the Government actually did something positive to the economy. Assuming that the BJP will keep promoting its whatever achievements, with the same deftness as it has done till now - this can be a big positive for reelection of modiji - the PM in 2019 (or maybe not if the medium term does not play itself out in two years). It may however affect the Punjab/UP elections adversely for the BJP.

The counter theory of course is that demonetisation actually conducted a surgical strike on parties like BSP, SP & Congress in the UP elections running them dry of cash to run an effective election campaign and that may actually benefit the BJP. The jury is still out.

Whatever be the truth - it is a fact that politically modiji/BJP has taken a huge gamble. To that extent Modiji has to be applauded for being the risk taker that he is generally known to be. I said on the 8th Evening after the demonetisation 
that this could either cost modiji his PM post or maybe he will establish himself as the natural PM for the next decade at least. I still feel so. It was brave of Modiji to have taken this bold decision (even if with lesser than expected prepration)

We may be pretty far from cashless economy

Disruption is a sexy word in recent times. Any one out there who is intent to bring about change in a "Amitabh Bacchan" style gets lots of claps and modiji has been able to translate those claps into votes as well. However there have been examples of disruptions that were played out without infrastructural support that fell flat and created even medium term pains. The best example that comes to mind was the dotcom bubble that played out in the first decade of the 21st century. People talked about the click economy taking over - but then what finally had to be built brick by brick is a "click & brick" economy to borrow a phrase from Mr. S M Dutta.

The same applies to cashless economy as a concept. Cashless economy will not get created by simply squeezing cash out of the system. It will have to be replaced by mechanisms to pay electronically or by plastic money. An estimated 80% transactions in India happens on cash. A very large number of them are small transactions 200 to 1000 rs range. Millions of Indians do not have bank accounts. Many who have newly opened jan dhan account currently do not know how to use them. They are scared entering a bank and are treated badly at the branches. Point of purchase do not have enough swiping machines ready. Those which are available are hardly fail safe. and I am not even talking about unprepared police and judicial system who will face a flurry of online and card frauds.

I just bought one thing in the last five days (today is 15th Nov.) a pair of lenses for my son's spectacles. The bill turned out to be Rs. 1450. I offered my card to the shop owner - he swiped it and the transaction did not go through. I checked my wallet - it had many 500 Re notes - but just 850 in small cash. He tried multiple times and failed. I offered my wife's card - did not work. I offered my credit card - failed again. He tried his own card (probably to save me the embarrassment that my card might have been deactivated ;-) )and failed. we looked at each other awkwardly. Finally, I offered him four 500 Re. notes to be kept as deposit till the time I can bring him small cash and take those notes back for depositing in my account. He was immediately shaken and simply took three notes and returned me a 50 re. note mentioning that I was too reputed a person for him to get into such an arrangement. Now think, how will cashless economy work without a fast, efficient and fail safe plastic and electronic mechanism in place in every nook and corner. Are we ready for it - my gut says no. 

Another problem with the plastic money. Transactions through them are chargeable in most cases to the extent of 2.5% of each transaction. My card carries an annual maintenance fee. This are issues to be debated and resolved before a cashless society gets into top gears. Otherwise we will be saddled with a bumpy and costly cashless economy. The black economy is actually encouraged by such low levels of preparedness. 

All in all prepare for a bumpy ride to a cashless economy, if at all.

Hyped up Expectations
Modiji likes to launch things in style. He creates a spectacle out of every step. It has worked for him - he remains a popular PM despite any number of U-turns and regular heart breaks on earlier promises. He won spectacularly from the hype of "acche din" and then kept winning elections for his party for more than a year on his larger than life imaging - well managed and superbly crafted. 

So his image managers have been able to create another image from this event. Supporters seem to be believing that this is the start of the end of black economy. Or that it is a big slap in the face of terrorism or that it is the dawn of the cashless society in India. Once again a Utopian image has been built up in the media to present this step as a huge step solving all the country's problems. 

I went to bank for converting a 4000 cash only once till 15th No. 2016 and there I could break conversation with 5-10 people from different walks of life - my sense is that common people out there are confused, a little anxious, a bit irritated but still largely with the PM. They have this feeling that something good is happening. They somehow put a lot of faith in the PM. It would be interesting to see how this faith strengthens/weakens as the impact of these moves plays out in the real economy.

In fact some obviously manageable glitches in the initial implementation itself did not generate enough confidence. It is inexplicable that no one in the entire system anticipated that the new 2000 note is much lighter and hence will create problems in dispensing from the ATMs. How can one forgive that not enough 500 Re notes were not available with the banks for distribution five days after announcing the demonetisation. This caused increased pain and avoidable delay in stabilising the situation on the ground. Does it need rocket science to understand that public will feel irritated? could there have been party workers from the PM's party out in the open managing and calming down queues - offering them water and empathy? These are basic management issues - easily anticipated and easier to implement. 

Modiji boldly commit to images when I am sure he understands that there is short term pain involved in this surgery. A large number of unsuspecting public is expected to give in to the nationalist fervour and calls being given to sacrifice in the short term for long term good of the country. They may feel hugely
disappointed when in a 5-10 years they see the black economy thriving back or terrorism again raising its ugly head. In fact the short term pain in the economy itself may lead to many a heart breaks. If and when that happens - it would be interesting to see how Modiji protects his legacy for the posterior. What is possible is that future leaders may become heroes on his tough decisions. (quite like Laloo Yadav was considered the best ever railway minister on the back of huge infrastructure improvements that happened under his predecessors).

Closing Comments

The bullet has been fired. It is yet to be seen whether its a volley of bullets targeted at the villains or is it just a hollow fire to scare away accumulated birds creating noise and trash.

If you reached this line - you deserve a heart felt thank you. Because it means you read with an intent to understand. And thats what an author always expects from a reader. So thank you very much.

Do read both the pieces (part-I) and the Part-II again. I Look forward to your comments, suggestions, critique - all. Lets hope for a better world in the future. Lets pray for less pain to those at the bottom of pyramid and lets demand a more sensitive government when dealing with such fundamental change.

Monday, November 14, 2016

Deciphering the Demonetisation Demon - I

On 8th of November 2016 PM Modiji in a televised address to the nation announced the policy equivalent of the Indian 9/11. From 9th November Rs. 500/1000 notes ceased to be legal tender - which in simple terms means - they can not henceforth be used for any financial transaction. The Modi government took up the massive task of replacing all those 500/1000 notes - yes all - equivalent in value to 86% of total available cash in the Indian Economy, to new 500 notes and the first time introduced 2000 Re notes.

Any which way we gauge, it is big step (even a huge reform) with wide impact - I try to provide a 360 degree big picture in two parts. Sit back and read calmly

Why did Government demonetise?
According to Modiji (taken from his speech on the 8th) the reason to take such a big step are
1. To tackle the menace of fake currency notes (that allegedly helps fund the terrorist).
2. To control the Black money problem with in the country which is wide and deep.
3. To address corruption that is so deep rooted in the system
4. In later discourse Mr. Arun Jaitley the FM added another dimension : To change the habits/behaviours/mindsets of Indians to help move towards a largely cashless society of honest tax payers.

Obviously the step has implications for everyone in the economy and has many threads to understand its possible impact. Lets try to decipher at least some major ones.

What are going to be the most positive impact of this step

Elimination of Fake currency
Demonetisation has probably eliminated large amount fake currency in the system. This would mean more purchasing power in the hands of those who has true (and also legal) currency. 

I say most, because the fake currency is widely distributed in the system and so it may be in the hands of genuine people too. And much of this currency may finally end up getting converted into new notes too. However, it has surely put temporary brakes on inserting of more fake currency in the system. This is obviously a positive for economic development.

Terrorism Control

The connection of fake currency to popular support in places like kashmir is also long debated. It is believed that terrorists buy support in kashmir for their activities using fake currency. This must be true at least in parts - so that should curb militancy/terrorism for some time. We may be naive to think that fake currencies are the only way terrorism was financed, so this does not mean terrorism is finished by this one act. Yet it shall have the effect of weakening the roots of terrorism. It needs to be followed up by an integrated approach of rapprochement with kashmiris and dealing with militancy with firm and fair way.

Honest Tax Payers Rewarded
Demonetisation is one of the rare steps that rewarded the honest tax payer of the country. For this one fact itself this step should be welcomed and be praised.

In the year 2014-15 1.5% of Indian Population paid some income tax, about 2.8% filed income tax returns. Just 0.15% of the Indian population paid more

than 70% of the income tax collected. what this figures help us understand is that a very-very-very large part of Indian population do not pay taxes and these minuscule proportion of the countrymen (largely formal sector salaried classes) foot the bill for public expenses or Government largesse. This is also the reason for indirect taxation being high in our country, historically. The Government generates a lion's share of its revenues by taxing consumption. This of-course is a double whammy for honest tax payers as they get taxed on their income as well as consumption.These honest tax payers have reasons to be happy because demonetization should in the medium term increase the value of their savings done in cash. 

Could have moderating effect on inflation
Conventional economics suggest that due to demonetization less money will chase available goods. This should bring down prices and hence inflation could come down. (another theory is that lot of money will find its way in the legal channels and hence will fuel inflation. But I disagree - the black money too is available to buy all goods today. demonetization will lead to destruction of at least a part of it)

Should widen the tax net
Earlier, most steps to control black money (like Income disclosure schemes)
rewarded tax evaders and hence disincentvised honest tax payer. This step should increase the number of people paying taxes. In that sense this step is as good a reform, may be more, than the one instituted by P. Chidambaram's five point criteria for mandatory filing of tax returns, that led to widening of the tax net.

Banking System to get more Money
One of the sore issues in our economy today is high levels of NPAs that has kind of crippled the banking system choking credit and hence private investment. One expects huge inflow of black money into the banking system thus supplying it with the needed oxygen. One expects this to be complimented with further cuts in rates by the RBI thus easing out loans and hence may act as long due trigger to the economy.

Government to have an improved balance sheet
The biggest beneficiary of the step would probably be the Government. Even if in desperation, cash hoarders would deposit the money in their accounts paying tax/penalty on the deposits. 

After two years of trying out the Government was coming to terms with the
enormity of task at hand - that of balancing inflation expectation, against need to invest more in the economy, to generate resources for investment specially because private investment was simply not ready to take off, to keeping to the promise of meeting the target of fiscal deficit (there were already murmurs of letting this one go).

In recent times the Government also faced a few jolts to its efforts of triggering the economy because of not very favourable outlook of International rating agencies, or because of its less than flattering performance in the rankings of ease of doing business or because falling exports and Rupee primarily because of its failure to bring about some big ticket reforms otherwise promised in their election speeches. The Governments approach to trigger the economy was based on Infrastructure spending which it did - but economy has not yet started to feel its wheels churning on the ground due to this. Government on the other hand was constrained by limits to how much can it finance.

This step has the potential to fill most of these gaps. The fiscal situation may seem comfortable suddenly, International investors will see it as a major reform signalling that the Government is serious about walking its talk. The Government may also be able to find funds to finance and hence accelerate the infrastructure sectors. It may soon see the banking/finance system also having more liquidity. 

All in all it could lead to improved maneuverability for the Finance Minister and the RBI governor to be more proactive in spending and cutting rates respectively. This then can be considered a big positive to the Economy.

May change Indian habits Marginally
Should we expect that Indians will suddenly wake up to the new digital economy and will start transacting in plastic/electronic money. The answer is obviously a strong no. It will require a strong and sustained campaign to change that mindset (something similar to Swacch Bharat but deeper, wider and more prepared). What the demonetisation does is jolt people to be ready for digital transactions as well. To that extent it works in that direction. But its a long haul to that change in mindset - more on that later. :-)

Modiji Marks his name in the History
I wrote a post on performance of the Modi Government in two years in which I mentioned that Modiji is a man on a mission - he wants to leave a legacy of his own on the posterity. This is one such step. It may have different impact on
different sections of the society and yet he cannot be forgotten for this one step. It is like nehru being remembered for PSUs, Kashmir (and many more), Indiraji for Nuclear test, operation blue star, creation of bangladesh, Rajiv Gandhi for the Telecom revolution, Bofors; Narsimha rao for Liberalisation, Atalji for Golden quadrangle and Second nuclear test, Dr. Manmohan singh for Liberalisation, Aadhar, delicnsing, Nuclear deal and the RTI. I am sure there is more in store from Modiji looking forward.

So is all hunky dory with demonetisation? 

Too long a post and probably bhakts are already wondering whether I have changed sides (because to them I am a modi hater). I seem to be praising the demonetisation as a great step in the interest of the country. Probably it is so but then there, as always is the other side. 

Tune in to the sequel of this post here for the other side of the coin. Judge my inclinations (quite uselessly though) after that. 
would surely like to know of your views, suggestions, criticism et al. 

Wednesday, June 15, 2016

Modi Government @2 Activity or Progress? Part-I

Yes !! Its late for reviewing the Modi Government's two years - but then "sabe tej" was never my motto. Jokes apart - I think there is little value writing a review under the carpet bombing of two year celebrations of "Desh Badal Raha Hai." So the best time to publish this is when the noises subside and one hopefully reads/writes with some objectivity.

What has the new Government been able to achieve in the last two years? In short lot of activity, not necessarily all action and yet it never stopped for a breath. Probably, this was badly needed too, after a rather dull, inactive last two years of the UPA-II. Hardly anyone will disagree that this government is in a mission mode. The discussion may be on what exactly is the mission. So lets look at the big picture in the typical MBA analysis mode - trying to categorise in "The Good, The Bad and The Ugly"

The Good
The simplest way to look at the work of this Government is to look at what its key ministers are up to. So who are the best ministers in this Government? Purely based on efforts and their directions My take  would be - Mr. Nitin Gadkari, Mrs. Sushma Swaraj, Mr. Piyush Goyal and PM Modiji himself. And a little reluctantly I might as well add Mr. Suresh Prabhu to the list.

All three Prabhu, Gadkari and Goyal have been focused and missionary in their approach to getting things done. Good news is that they head ministries that will eventually improve infrastructure and once their work starts percolating down to the last layer - economy will start chugging along hopefully soon enough.

Prabhu started off well by firmly putting the rhetoric of his predecessor about bullet trains etc behind him. In fact, of late he has even dropped his own rhetoric of Airport like Railways stations. Instead he has focused more on mundane task of sprucing up the current system of railways. However, in two years time he hasn't been able to do much except try small ideas like premium tatkal, cleanliness drives, food ordering apps etc. He still has to show action on big ticket items like private participation and generating finances for big infrastructural pushes (monetisation of assets). Whispers of his big time spending on upgrading railway infrastructure etc. are doing the round - one hopes by the end of this year they will appear as green shoots in the floundering economy. This is the reason he is at the bottom of the Good minister's list. well intentioned, trying but not achieved anything substantial.

Nitin Gadkari and Piyush goyal on the other hand are two ministers who are firing all cylinders at full blast. Despite there rhetoric of understating work done under UPA and of hyping up work done under them - the fact is that Highways construction has gathered pace again and rural electrification is also moving fast - though it will most probably miss its target of universal electrification in 1000 days which itself
admittedly was very ambitious target. He has also brought in more transparency in coal allocation and has successfully reignited power generation. This two ministries alone should result in some real on the ground growth in the economy (as against the high GDP growth rate which is a result of reduced commodity rather than increased economic activity as of now).

Mrs. Sushma Swaraj by all means has been consistent and good foreign minister. She is away from hyperbole, is dignified and quietly goes about her job. Yet, she has managed to be connected to the people and is very active on the Social media. She and Modiji himself make a formidable and impressive team on the foreign front. Although the work done by EAM often does not have immediate impact on the ground socially, economically and politically - yet we must give this ministry credit for being consistently energetic and focused on improving relations (with the exception of Nepal and Pakistan), marketing India and Indian business, negotiating and executing agreements and generating overall positive vibes globally for the country.

The top of the order is the PM himself. Modiji has been tireless - in fact hyper energetic (in the positive sense). He is a man who wishes to leave a legacy of his own for the posterity. And that's a good thing. He has gone out of his way to woo the global community both commercially and politically. And there are already green shoots in increasing FDI after a nadir for a few years. His positives has been that he has given his ministers autonomy of functioning, has stuck with them and has brought about a lot of activity in Governance. He has kept up the image of someone who is working all the time.

The problem is he has done precious little on some of his big time promises punishing Corruption, Minimum Government. And he has U-turned on so many of his (party's) earlier stances that his policies appear to be a reprint of UPA policies. More on this later. The biggest grudge I have with him is that he still sounds and acts like a BJP stalwart instead of being the PM of India by selectively choosing to ignore/respond to issues, by being vindictive to the opposition and by being in an almost perpetual election mode.

Purely because he cannot be put in the bad/ugly category I am adding Defence Minister Parrikar to this good list. I do not consider him Good as of now but to his credit he looks focused and his ministry needs more time. The fear is he does not seem to be able to fast track much. In fact the Augusta debate and political compulsions of exploiting it may end up putting breaks to decision making in the defence ministry.

The Bad
Before you start pouncing on me for calling a few well intentioned and able ministers bad - let me remind you that I categorize purely on efforts made.

So who are those ministers who seem to have promise but have not done well on the delivery. The glaring ones will be Finance Minister Arun Jaitley, the Commerce Minister N. Sithraman, The communications Minister Ravi Shankar Prasad, Prakash Javdekar in the Environment Ministry, Urban Development Minister Venkaiah Naidu and the Home Minister Rajnath Singh.

The big disappointment to me is Jaitley, primarily because I had expected him to be someone who shall deliver much more. He was supposed to be a positive

reformer bringing about real "parivartan". To his credit, he has stuck to the goals of fiscal discipline, has left the RBI Governor largely autonomous, has ushered and got the Bankruptcy Code passed, has used the decline in Oil prices well to increase the revenue and reduce the current account deficit. But except the Bankruptcy code most of his positives are tactical baby steps and not fundamental reforms aimed at long term robustness for the economy. 

Lack of clarity on retrospective taxation persists, tinkering with epf,ppf rates or small time subsidies, or application of cesses and taxing epf withdrawls to generate more revenue instead of focusing on widening of tax base, or privatisation/disinvestment to unlock huge value or fundamental reforms to address supply side bottlenecks are missing from his approach. While more than once he has been ranting about high interest rates in the economy - he hasn't been able to do much on the fiscal side to address the problems. Even on the professed increase of ease of doing business the Finance Ministry has done precious little systematically.

India has somehow always had inept Home Ministers in the recent history - except for P. chidambaram in his small stint - neither shivraj patil nor sushil kumar shinde generated any confidence. The lesser said of Rajnath singh the better. As HM he has not been able to generate an atmosphere where the central government creates an image of sincere unbiased torch bearer of managing law and order in the country. More often than not his decisions or lack of them end up creating an image of a biased umpire between states ruled by friendly or opposition regime.
Nirmala Sithraman is an erudite and no-nonsense lady and yet her approaches to trade are traditional and obstructionist. I cannot single out one bold step that her ministry has taken that addresses the exports bottlenecks or need for freer trade. In fact quite contrary to expectations this so called "right wing" government has turned out to be more incrementalist and tactical on the economic reforms. Even the reporting of the routine EXIM policies have been relegated to small columns in the 7th page of economic newspapers.

The smart cities project seems to be completely the PMO's project and one does
not see the urban affairs minister contributing anything energetic or substantial to the goal. The project itself an ambitious and game changing one is facing an expected shortage of investment to be of any substantial impact value.

Two years of the Government and the logjam in the critical telecommunication jungle does not seem to move much. Noone is happier whether it be the data, 4G, voice or landline telephony on either side - the industry or the consumer. If his ministry was contributing something to the "digital india" mission beyond the advertising, then not many know of it.

One does not now whether Ravishankar is minister just because he defends modiji in press conferences forcefully or there is more to it. 

Jairam Ramesh as environment minister under the UPA had become a name to reckon with. He had invited the ire of the big and the powerful in the industry by his principled stance on the environment thereby almost creating an image for himself and his ministry as obstructionist and anti-development. Prakash Jawdekar in the current Government has been inconsistent and has flip flopped between opening the gates for the mining industry to generating controversy over allowing for the culling of the blue bulls by the UP Government. In fact he, I believe, has played the unofficial role of the Government's and Party's spokesperson better than many official one's.

The Ugly
Which brings us to the real nuts in the Government. Some of them are actually embarrassment to the Government but as Shekhar Gupta tweeted once this is a government that does not ask for resignation of even those who embarrass the Government itself. 

No, I am not ranting about ministers who are passive. Every Government has its fair share of those - but I am talking about active ministers whose activities are misdirected (or so we feel, not them). The list will be topped by - Mrs. Smriti Irani - one doesn't get the direction or sense of what she is out there to achieve (except maybe melodrama). She has a style of a tigress - with wide eyes and either a queer smile or a angry twitch with which she would roar "Aap mujhe ek minute sun lijiye - agar aap mujh se sehmat na hui to apna sir kalam kar ke aapke kadmo me rakh doongi")

What she has done in these two years is that she has created a perception of a Government who is interfering with the autonomy of the education system, sidelining those who disagree, encouraging correction of history in the books, appointing sub-standard people to head institutions and allowing the ABVP a free hand on the campuses/universities. After Home Ministry, the HRD portfolio is another one which unfortunately has not seen a good appointment for long. Mr. Murli manohar joshi under Vajpayeeji started the trend of interfering with the autonomy of institutes of excellence like the IITs/IIMs. Arjun singh under the UPA-I or Kapil Sibal under the UPA-II kind of continued the trend. The infamous scheme of distributing low cost tabs to students under sibal achieved hardly anything. The only positive step over the years in improving the education system by sibal was that of bringing all MBA admissions under five major exams and that of centralising admissions to Engineering colleges and increasing the importance of XII class performance in the IIT and other admissions. The later have been either put on the back burner or has effectively been taken back by the current HRD ministry.

And as I was writing this - she has objected to being addressed as "dear" by a fellow politician in a tweet. Often the yale degree works against her, I guess. These are the kind of headlines she has attracted over last two years.

The less said of blabber mouths like Gen V K singh, Rajyavardhan Rathore, Harsimrat Kaur Badal, Mahesh Sharma, Sushri Uma Bharti, Giriraj Singh the better. Because you are already wondering which ministries they manage - forget about the important work they were supposed to do (like cleaning of Ganga for Eg.). However, at least a few of these names would come to your memory for making some really embarrassing comments about sensitive issues like India giving back to Pak in their style, or on Beef eating or on Cow slaughter or Nationalism or simply to incite communal passion probably to win elections. Suffice it to say that more than the opposition these ministers have been more effective in gnawing away at the pro-development image of the Government.

Wait for Part - II

The obvious problem in analysing a Government on the basis of its ministers is that some strategic and macro directions do not even get discussed. So lets take a different look at some of the Government's big initiatives. Wait for Part-II. Stay tuned.