Apr 27, 2007


Sandeep Banerjee

Last week, while announcing the annual supplement to the Foreign Trade Policy, India’s commerce minister, Kamal Nath, declared that Indian exporters would be exempt from paying service tax. This declaration will undoubtedly make Indian goods and services a little more competitive in the global arena. It would also help push the country’s exports a notch closer to the government’s articulated target — 1.5 percent of global merchandise trade by 2009. But the significance of the announcement lay elsewhere; it once again underlined the government’s reliance on tax incentives to promote economic activity in the country.

Tax breaks have been around in India for quite a while. Nowadays, however, politicians and policymakers of all hues are debating the pros and cons of tax incentives given to industry. This, ever since Special Economic Zones (SEZs) became operational in the country. And there’s good reason for such debate: the SEZ Act of 2005 conceives of these industrial enclaves as specifically delineated duty-free zones, deemed to be foreign territories for trade operations as well as duties and tariffs.

So, these enclaves get a slew of direct tax breaks that are staggered over a fifteen-year period. SEZ units pay no tax on export profits for the first five years; fifty percent of their export profits are eligible for tax exemption for another five years and there are no taxes for a further five years on fifty percent of their reinvested profits. There are benefits on the indirect tax front too — SEZ units can procure, duty-free, all their requirements of capital goods, raw materials, consumables, spares, packing materials and office equipment from domestic sources. Of course, these exemptions are applicable only if the manufactured product is exported; all relevant duties — customs and excise — are levied if the product is sold in the domestic tariff area.

The direct tax breaks granted to the SEZs are now being criticised by various non-governmental organisations (NGOs). They say the central government is indulging in doublespeak — invoking the mantra of fiscal prudence to prune the food subsidy bill while simultaneously doling out tax incentives to industry. They also contend that while the government is ready to lose tax revenue for the SEZs, it is not serious about addressing the questions of displacement and loss of livelihood that are almost always necessary corollaries to industrialisation.

In political circles, similar concerns are being raised by India’s Left parties whose support is crucial for the Congress-led United Progressive Alliance (UPA) to hold on to power in New Delhi. In its many missives to the commerce ministry, the Left has repeatedly asked for a paring — if not a complete scrapping — of direct tax incentives given to units in the SEZs. They also object to the government extending tax benefits to developers who build the physical infrastructure in these enclaves. Their contention: instead of foregoing revenue, the government should collect the taxes and spend them on social-sector schemes for rural India. Interestingly, in their quest for an equitable taxation order in India, the Left has the most unlikely of allies — the country’s finance ministry.

India’s finance minister, P Chidambaram — a man who loves to wear his reformist credentials on his sleeve – and the Left rarely see eye to eye. But the SEZ issue is perhaps that exception which proves the rule. Almost echoing the Left’s stand against tax rebates to SEZs, the finance ministry has repeatedly voiced its concern about loss of tax revenue. In fact, the ministry projects revenue loss of Rs1.76 billion in direct and indirect taxes between 2005 and 2010. The Left has often cited these figures to Commerce Minister Kamal Nath and his ministry officials to bolster their argument.

But the commerce ministry has its own counter-logic. It contends that the finance ministry’s revenue loss figures are notional; the exchequer would eventually earn far more from direct and indirect taxes owing to increased economic activity than the estimated tax loss. As regards concession to developers, the commerce ministry argues such incentives already exist for the infrastructure sector. They also maintain that without sops, no developer would come forward to invest amounts in the range of Rs 20 billion to set up SEZs.

Despite the Left’s opposition and the finance ministry’s tentativeness, the commerce ministry’s line has prevailed in the cabinet. The government sees SEZs as a fast-track to industrialisation. They are crucial to India’s strategy of export-led development that seeks to accelerate economic growth and generate jobs. Within this context, tax incentives are central to the success of SEZs in the country.

But there’s more to tax concessions than meets the eye. They can be extremely effective instruments for promoting equity if used judiciously and with ingenuity. As India industrialises further, the government of the day will be required to tap into this aspect of tax sops to evenly spread the dividends of economic reforms.

Currently, India has opted to industrialise in clusters. These clusters are, more often than not, located near large urban agglomerations. While industries situated near urban clusters have certain locational advantages, the government must also encourage corporates to set up factories and SEZs in less developed areas. Since companies are motivated by little else besides making profit, tax breaks could be an effective way of promoting corporate social responsibility as well as spreading the good cheer of industrialisation. This would ensure that no part of the country falls completely out of the development map in the days ahead.

This is the second part of a three-part series published in Daily Times, Lahore on April 27, 2007. The original article can be found here.

Apr 20, 2007


Sandeep Banerjee

Last year as West Bengal prepared for assembly elections, the Communists — led by the reformist Chief Minister Buddhadeb Bhattacharjee — went to the people soliciting political support for their drive to re-industrialise West Bengal. Calcutta’s street corners saw a curious manifestation of this canvassing; the state government put up hoardings that carried a rather uncharacteristic message: Agriculture is our basis, industry our future.

The Communists held on to their bastion, winning the mandate to rule the state for the seventh consecutive term. But amidst the din and euphoria of a landslide victory, they missed the prescience of their own campaign line. By alluding to the agriculture-industry dialectic, the Communists had unwittingly hit upon the critical issue — the question of land — that would overwhelm India’s policymakers a year later.

These days, it’s this land question that is keeping India’s politicians and policy-makers preoccupied. It informs the rather lively agriculture versus industry debate in the country today, especially after Special Economic Zones (SEZs) became operational in India.

SEZs are India’s way of pressing the fast-forward button towards industrialisation. They are industrial enclaves with direct and indirect tax concessions that the government hopes will not just accelerate economic activity but also augment India’s industrial capacity. The main objectives of these SEZs are to attract both domestic and foreign investment, develop infrastructure, boost exports and services as well as create more jobs. So far, this grand plan seems to be working. According to India’s Commerce Ministry, the 150-odd SEZs have so far brought in about US$3.2 billion worth of investments and created 18,500 jobs. By the end of this fiscal, SEZs would have created one million jobs and investments are likely to cross US$13 billion.

But there is a hitch — these enclaves need land to be set up. Since land is a scarce resource in India, the SEZs often end up acquiring (or trying to acquire) land that has been traditionally agricultural. With money and power equations skewed towards industry, rural India views any takeover of farmland by industry — even with more than adequate compensation — with intense suspicion. This feeling is further aggravated when state governments step in to procure land for corporates.

In India today, there is intense competition among the states to industrialise and seek foreign and domestic investments on their soil. The Land Acquisition Act of 1894 allows the states to acquire any land they want by invoking the ‘public purpose’ clause. Further, a 1984 amendment to this Act allows state governments to procure land for companies. As the states pitch for investments, it’s these powers that come handy — land acquisition by the state becomes a lucrative sop to attract the potential investor and outwit rival states.

But this paradigm of industrialisation has now changed considerably because of a violent episode in West Bengal’s Nandigram village.

In January this year, residents of Nandigram blockaded the area after the leak of a government plan to acquire 8900 hectares (22,000 acres) of land for Indonesia-based Salim Group to set up a petrochemical hub there. Last month, when the state police tried to force their way into the village to re-establish the rule of law, they were attacked. In the police firing that followed, 14 villagers died.

It was a situation imbued with a sense of cruel irony — the vexed question of land had come to haunt the purveyors of land reforms in their home turf. Nandigram also propelled the land question into the nation’s consciousness. Indian politicians were reminded that — unlike China — policy decisions forced from above come with a political price-tag.

So when the central ministers met in Delhi to decide on the SEZ approvals, they announced a new set of guidelines. Reposing faith in the SEZ route to industrialisation, the ministers forbade states from procuring land and the developers were asked to buy land directly from the landowners. The centre also made it clear that SEZs could not be more than 5000 hectares (12360 acres). Nandigram also forced the centre to wake up to its welfare role, the government announcing that the Rural Development Ministry would soon draft a comprehensive Rehabilitation and Resettlement Policy for the country.

But despite the hurried attempt at addressing the land question, one can’t help but feel that much of this controversy — as well as the bloodshed and its attendant trauma — could have been avoided if the government had done some effective forward planning. But Indian policymaking happens in its own quirky way, a way that is more often than not, post facto.

Despite making its intentions known, the rehabilitation policy hasn’t been formally unveiled yet. For a government among whose earliest public pronouncements was the pledge to pursue reforms with a human face, the rehabilitation policy is perhaps something that it should have prepared way back in 2005 — along with the SEZ Act itself — especially since displacement is almost always a necessary concomitant to industrialisation.

In India, the state has withdrawn from a number of activities it had undertaken in the past. The government of India does not make bread any more and it shouldn’t either. But the state must not abdicate its responsibility towards the welfare of its citizens. On the issue of land, it is indeed best if states stay out of the actual process of acquiring land but they must remain a party to the transaction, at least in a regulatory role. A farmer in India does not have the wherewithal to negotiate with the industrialist and the state must ensure he is not cheated in any way.

The government also needs to approach the question of rehabilitation more creatively than has been its wont. Traditionally, compensation has been handed out only to the landowners. It is time for the government to factor in the sharecroppers and daily wagers — who often do not own the land they work on — into their calculations. For these groups, the loss of land is not just one of livelihood but the fading away of a way of life. Promising them jobs in the new industrial venture has little meaning — you cannot expect a paddy cultivator to become a foreman and in any case, factories don’t exactly come up overnight. Again, it is imperative for the state to find durable answers to the loss of sustainable livelihood question.

No one disputes India’s need to industrialise. In fact, factories — Nehru’s temples of modern India — are now needed more than ever to create jobs, generate wealth and drag people out of poverty. With the Indian workforce poised to become one of the youngest anywhere in the world, the need to industrialise and reap this demographic dividend will become even more urgent in the days ahead. But India cannot grow at the cost of its farmers and Indian policymakers must now strive, more than ever before, to come up with the right policy mix that will sustain agriculture while stimulating industrial growth.

India today straddles two worlds, two worldviews — one fading and the other desperately seeking to be born. At this crucial juncture in India’s history, the country’s politicians and policymakers have the enormous task of ensuring a smooth transition from the old order to the new. Much depends on India making this transition successfully.

This is the first part of a three-part series published in Daily Times, Lahore on April 20, 2007. The original article can be found here.