The path to capable Indian firms
Business Standard, 17 April 2023
The essence of a successful India is one where individuals and firms are full participants in the global economy. Individuals in India who build strong and capable firms require full access to constructing entities and moving money across the globe. There are many relics of Indian socialism which interfere with this, such as the concern about round-tripping, and hostility towards entities outside India controlled by Indian persons. Similarly, there is little economic logic in the minimum-float rule of 25 per cent, laid down by the Securities and Exchange Board of India (Sebi). Policymakers in India should take two steps back and ask: How can the Indian state create conditions for Indian persons to succeed in the game of globalisation?
The most successful and the most important firms of the world operate across national boundaries. They inhabit the land of globalisation, where inputs are obtained at the lowest possible price worldwide, where production is broken down into pieces that are placed across the world in the quest for the lowest costs, and where customers are sought across the world. Successful companies regularly buy and sell firms all across the world. A striking fact of the modern world is that over half of international trade now takes place within firms and not across the boundaries of a firm. The highest income and wealth in the world are created by such globalised firms.
Capital is a raw material for a steel company as is iron ore or coal. A successful steel company needs to organise itself for obtaining the lowest-cost capital worldwide. Taxes play an important role in shaping the cost of capital. Hence, successful multinational corporations organise themselves as a set of entities placed in low-tax locations such as Dubai, Ireland, or Singapore. Successful large firms obtain capital from investors who are sensitive to taxation. Hence, the most efficient investment structures are constructed where investor X located in country Y puts debt or equity capital into company Z.
India's emergence as a sophisticated and modern economy is about plugging into this globalised world. This is partly about global firms operating in India: Their embrace of India creates high-quality jobs here and diffuses their knowledge into the Indian economy. But from the mid-2000s onwards, it is also about the best Indian firms that have graduated to globalisation. Roughly speaking, good companies export and the best companies do foreign direct investment (FDI). There are now hundreds of Indian companies that do FDI, which successfully competes in the global economy.
Many aspects of the Indian policy apparatus are inimical to this. The Indian state does not like `round-tripping'. But it is hard to see what is wrong when an Indian legal person chooses to place money abroad (either in a bank account, or an entity, or a fund) and then this comes back to India. It is a basic concept of economic freedom that a person should be free to move money across the globe, to form a structure of multiple legal persons, to create shell companies at multiple locations. The design of legal entities that make up a global production arrangement is as important as the design of the physical machines and engineering that goes into a firm. Rich democracies (which sign all the same treaties as India has) do not have the Indian notions of address proof, KYC, round-tripping, or 120 days for tax residency.
Operating in the complexities of the globalised world is harder for Indian persons and Indian tax authorities. But it is the job of Indian tax authorities to understand this landscape and learn to operate in it, rather than banning complexities. It is always appealing for a government to force persons to live a simple and legible life, to use state power to push people into a panopticon. But a simple and legible life for the people is not consistent with the project of Indian prosperity and success. For India to succeed, the people have to lead complex and illegible lives. The job of the government is to build capabilities that keep up with such complexities.
Some countries have chosen to keep tax rates low, and that is their right. It is efficient for Indian individuals and firms to achieve greater global competitiveness by organising their activities through legal entities in such jurisdictions. This is healthy and useful for India. The personal income of employees living in India will always pay personal income tax, and the consumption of persons living in India will always pay goods and services tax. So, tax revenues in India will always go up in sync with Indian success. It is better for the Indian state to not proscribe Indian persons' global activities which are designed to reduce the tax burden.
More generally, India is not saddled with the welfare state of the rich democracies. It is in our self-interest to break ranks with rich democracies that are worried about their tax base, and play like Dubai, Ireland, and Singapore, with low tax rates, so as to attract more global companies, including non-resident Indians, to locate and operate to a greater extent in India. Tax competition works in India's favour because we have low government expenditure when compared with rich democracies.
Similarly, consider the 25 per cent minimum public float. It is hard to see why the government forces private people to sell at least 25 per cent of their company when an initial public offering (IPO) takes place. This is the legitimate decision of a private person. As an example, when Google did its IPO, it sold less than 25 per cent of the company. Everyone knows that a more liquid share, on the market, will command a higher price. So promoters have ample incentive to achieve a greater float which induces greater liquidity. There is no case for state coercion.
These issues have bubbled back into the public conversation through recent controversies. Alongside the normal process of enforcement of the extant laws, it is important to change the relics of Indian socialism.
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