f o r    m a n a g i n g    t o m o r r o w
MARCH 12, 2006
 Cover Story
 BT Special
 Back of the Book

Trade Battle
Hots Up

The never ending fight between European Union and the US has taken another twist. The EU has threatened to impose up to $4-billion-worth of sanctions on the US, after the WTO upheld a ruling that the latter failed to end an illegal tax rebate for exporters. Analysts believe that us now has three months to act to avoid the reimposition of retaliatory measures. A look at the flare up.

e-Credit: What Next?
In most developing countries financial service providers are not yet in a position to use modern credit risk management techniques. Many developing economies still need to establish functional credit information systems in order to improve the quality of financial information. Will they?
More Net Specials
Business Today,  February 26, 2006
How Real Is Our Growth?
The Indian economic growth story may well be a statistical sleight of hand.
The government juggled with key inputs to get the desired results:
» Change in the base year from 1993-94 to 1999-2000
» Greater coverage of production activities for better estimates
» Inclusion of new economic activities, especially those in the unorganised sector
» Changes in the weightage given to various sectors of the economy

Indians, it seems, are chomping on copious quantities of paan, consuming humungous amounts of sea water salt, drinking lots of goat, buffalo and camel milk and toasting every new economic high with the much maligned toddy. And, these, believe it or not, are turning the country into an economic superpower. On February 7, the Central Statistical Organisation (CSO) let the cat out of the bag. In its advance estimates for 2005-06, it projected a gross domestic product (GDP) growth rate of 8.1 per cent, a significant improvement over last year's figure of 7.5 per cent. This growth was fuelled by the manufacturing and services sectors, which are likely to grow 8.1 and 11 per cent, respectively. The farm sector will grow at 2.3 per cent during 2005-06 compared to 0.7 per cent last year.

So far, so good. But it might be prudent to add a few of qualifications to these rah-rah figures. CSO has conjured them up by shifting the base year from 1993-94 to 1999-2000 and by improving its terms of coverage by incorporating the recommendations of the United Nations System of National Accounts, 1993. Production of salt through sea water evaporation, production of betel leaf, toddy, goat, buffalo and camel milk and meat production from unregistered slaughter houses have been included in the data for the first time. A new category of "valuables", which covers expenditure on the acquisition of valuables, has also been included in gross capital formation. Besides, reinvested earnings of foreign companies have been added to the savings of the private corporate sector; this has, naturally, also impacted the external transactions account. There's more statistical jugglery: the weightage of trade, hotels and restaurants has increased from 14 to 14.2 and that of finance, insurance, real estate and business services from 12.5 to 13.

CSO officials take pains to point out that these changes have brought the results in greater sync with Indian economic reality. Has it? "It is a little more reflective of the Indian economy because it covers many new areas," contends Subir Gokarn, Chief Economist at credit rating agency CRISIL, "but the major issue here is of extrapolation of the data and the multiplier effect that each sector has on the economy." Conclusion: the CSO needs to be commended for its efforts at increasing the depth of its coverage, but questions still remain over the integrity of the statistical methods used to analyse the raw data.

A Taxing Proposition
With the Budget just a few days away, here's a look at some anomalies in the tax structure.

Chidambaram: Reality bites

Who would have thought that a dream team could also cause nightmares for an entire nation? But that's precisely what Prime Minister Manmohan Singh and Finance Minister P. Chidambaram have done. How? This reformist duo introduced three very bad taxes in the last Budget-the Securities Transaction Tax (STT), the Fringe Benefit Tax (FBT) and the Banking Cash Transaction Tax (BCTT)-which have further complicated an already complex system. The stated goals of simplifying the tax structure and streamlining its administration were obviously not on their minds when they authored these.

A lot has been written about these. The FBT increases compliance costs for employers and has been challenged in court. And the BCTT has achieved precisely the opposite of what it set out to. All it has done is drive a large part of the parallel economy out of the banking system, and, in effect, outside the pale of the law. These are just two high-profile tax-related boo-boos. But there are other, less discussed, anomalies that need urgent correction. Says Gaurav Taneja, National Director, Ernst & Young's India Tax Practice: "The existing service tax regime is completely out of tune with the new realities of the economy and needs to be reworked." Mandap owners, for instance, have to pay both service tax (on services rendered) as well as the value added tax or vat (on the sale of goods). This is obviously neither justifiable nor equitable. "The number of withholding taxes should also be brought down from 27 at present to three or four at the most," says Taneja.

"We need greater clarity on a host of issues such as e-commerce, cross-border transactions, and taxation of satellite companies. And why should expatriates working in India for limited periods have to pay taxes on incomes they earn abroad?" asks Ketan Dalal, Senior Partner at RSM & Co.

Then, there is the inverted customs duty structure, which discourages value addition in the country; and octroi, entry tax and mandi tax which prevent the creation of a single pan-Indian common market and merely increases the incidence of indirect tax liability on companies.

All these taxes need a fresh, and critical, look. Mr Chidambaram, are you listening?

Too Much Of A Good Thing
The government's FTA signing spree is giving nightmares to the customs department.

Kamal Nath: FTAs and after

It's raining trade pacts. The government has inked a Comprehensive Economic Cooperation Agreement with Singapore, free trade agreements (FTAs) with Thailand and Sri Lanka, and a South Asian Free Trade Agreement with its neighbours. On the anvil are FTAs with the Association of South East Asian Nations (ASEAN), Egypt and Chile and the Gulf Cooperation Council. That's great news (well, mostly) for Indian industry, but spare a thought for officials in the customs department. Their job has become mindblowingly complicated, and this, worryingly, has major fiscal implications. How?

Multiple free trade pacts lead to the following problems:
» Increases the chances of arbitrariness
» Defining and policing of rules of origin becomes difficult
» Keeping track of multiple negative lists is difficult
» Documentation and enforcement of rules and origin increases transaction costs

Customs officials have to be clear about rules of origin definitions. They have to ensure that tariff preferences are accorded only to goods "actually produced" in the partner countries and not to goods from the rest of the world seeking to transit into the FTA through these countries. Singapore, for example, is a trade-dependent economy with zero tariffs on almost all products. It is very easy for third countries like South Korea and Japan, with which Singapore has free trade agreements, to route their products through Singapore into India. India's losses will be two-fold: it will lose customs revenues and the imported goods will, in all, likelihood eat into the market share of some domestic company, resulting in lower realisations for it and, consequently, lower excise and other taxes for the government. Again, since India has a "negative list" with most of its FTA partners, it will become very difficult for customs officials to check the negative lists of individual trade partners and ensure that such items do not come in through a lower tariff route. This point is accepted even by the Commerce Ministry. But its officials believe that this problem will be sorted out once import duties are brought down to ASEAN levels.

No wonder eminent economist Jagdish Bhagwati says the proliferation of FTAs will lead to the world trading system looking increasingly like a spaghetti bowl of ever-more complicated trade barriers, each depending on the supposed "nationality of products".

The easy way out: cut import duties to ASEAN levels ASAP.




Partners: BT-Mercer-TNS—The Best Companies To Work For In India