Despite progress, much remains to be done on tax reforms, says NITI Aayog’s Virmani

Dr. Arvind Virmani, Member of NITI Aayog and a seasoned macroeconomist, recently discussed India's economic trajectory with Bizz Buzz. With the nation’s growth rate at 8.2 per cent last fiscal and poised to remain the fastest-growing major economy, challenges persist. Despite increased infrastructure spending, "foreign direct investment (FDI) declined last year," noted Dr. Virmani. He attributes this to "higher US interest rates" and uncertainty in global manufacturing. On tax reforms, he emphasises that while progress has been made, "much remains to be done," advocating for comprehensive changes to ensure stability.

Dr. Virmani also addressed the importance of governance at state and local levels in attracting FDI, stating, "States which address the issues to the satisfaction of investors will receive more FDI." He further highlighted the need for a skilled workforce, linking job creation to skill development. His insights reflect a blend of optimism and caution as India navigates its economic challenges

The growth rate last fiscal was 8.2 per cent. India is expected to remain the fastest growing major economy for some time. The government has increased infrastructure spending massively. Fiscal consolidation is happening. And yet, foreign direct investment (FDI) declined last year. Private investment is not coming as much as the government would like. How do you explain the dichotomy?

Analysis of investment (GFCF/GDP, GFCF being gross fixed capital formation) shows that the decline in investment was due to a decline in household direct investment (saving) in structures (residential, commercial or industrial). This has recovered over the last two years to its old level. So has total GFCF. In the case of FDI, there are two additional factors. First, the higher US interest rate has raised the threshold rate of return that foreign investors expect, leading to reduced investment. The second is the impulse towards de-risking of manufacturing supply chains, which has been paused by the uncertainty created by excess capacity in China, and the possibility of dumping. As global interest rates decline, FDI will pick up.

There have been corporate tax rate cuts, PLI schemes, etc. What more should the government do to attract investment?

Tax reform is a continuing process. Though a lot of tax reforms have been done, much remains to be done. There is also the choice between incremental reform and comprehensive, integrated reform, with some experts favoring the former and others like me favoring the latter, because it offsets positive and negative impact, and ensures stability thereafter.

The PLI scheme was designed for helping companies to raise the output and sales to the minimum efficient scale. It has worked well in sectors like electronics where scale is an important factor in improving competitiveness. For other sectors, it may need to be modified.

Investors scrutinize not just the economic policy of a country but also governance-related aspects. What needs to be done on that count?

Except for a few important subjects like international trade and tariffs, income tax and finance, most governance issues facing domestic and foreign FDI investors relate to governance at the state and local levels. States which address the issues to the satisfaction of investors will receive more FDI in manufacturing and attract labor intensive domestic investment to obtain faster employment growth.

You favor FDI from China. How to balance economic interests with security concerns?

No, I don't favor FDI from China. I favor FDI from China only in products which we import from China and are likely to remain dependent on it for the next 10 years. These are manufactured parts and components which we cannot import from other countries, import-substitute ourselves, or make with the help of FDI from other countries. This is how I suggest we address the dilemma you have raised.

In her Budget, Finance Minister Nirmala Sitharaman announced several schemes to boost employment. Would they make a difference?

In my view jobs and skills are two sides of the same coin. We cannot have one without the other. So after attaining the minimum reading and writing abilities required, job specific skills are critical for 50-75 per cent of youth for employment in productive jobs. Learning by doing is the best way to learn these job skills, and the Budget takes a major step in facilitating this process.

What more needs to be done to create more jobs?

In my view, that is the wrong question to ask for most of the population. A 2017 survey showed that 53.7 per cent of the children who had supposedly completed primary schooling, didn’t have the minimum reading proficiency expected of a primary school educated child. In the modern economy even the low-skill jobs require basic reading ability. The second issue is to give all these youth a job skill and finally to match jobs with job skills. This requires a private job skill and skill matching industry, complemented by NGOs in mid-level skills and by government in low-level skills.

Despite the government’s claims and efforts to improve the ease of doing business, regulation and compliances remain a big concern. How to improve the situation?

As is well known, Ease of Doing Business applies at the national, state (almost all regulations), and local levels (e.g., urban land use regulations). The Central government can only improve the operation of national regulations such as on FDI, international trade and tariffs, income taxes, and financial sector. A few are jointly administered like GST. Most regulations are the responsibility of States. One way is to take a use case of an investor and systematically improve all regulations relevant to it. Another use case can be that of a micro or small enterprise.

The government was forced to withdraw the three farm laws which had the potential of hugely reforming agriculture. Is it possible to introduce some of the proposed measures by way of executive fiat or administratively?

All the economists and intellectuals who opposed the three farm laws did a great disservice to farmers, to rural residents, and to inclusive growth. Having degraded the environment for a reform many of them had supported for decades, it is the responsibility of all educated and informed citizens to create the right environment in which these could be re-introduced.

Environmental degradation goes on unabated. How can polluters be nudged to move towards green practices?

I have long argued that we need a professional environmental protection agency, staffed by scientific and economic experts, which carries out scientific and economic studies to develop, promulgate, and implement rules based on the cost-benefit analysis, free from interference by the government and the judiciary.