Why Nirmala Sitharaman Feels Cheated By India Inc 

Finance Minister Nirmala Sitharaman is aghast at the unwillingness of India Inc to invest in India. The NDA government has spread the red carpet for the private sector over the last 8 years, but despite all the nudges and incentives, it’s the Centre’s own capital expenditure that has kept the Indian economy going.   

"Since 2019, when I took charge of the finance ministry, I have been hearing industry doesn't think it's (environment) conducive. Alright, the (corporate) tax rate was brought down. I keep defending the industry even when people provocatively ask me what I would like to tell the private sector," Sitharaman said.   

As per government data, Centre’s capital expenditure has been Rs 2.09 lakh crore in April-July, up 60 per cent compared to the first four months of FY22. For the current financial year, Centre’s capital expenditure has been targeted at Rs 7.5 lakh crore, including a Rs 1 lakh crore interest-free loan to states for 50 years. 

In contrast, the performance of the private sector hasn’t been inspiring. According to CMIE, capex on new projects in April-June almost halved to Rs 4.28 lakh crore from Rs 8.18 lakh crore in January-March. During October-December and July-September quarters of 2021-22, the capex on new projects was Rs 4.01 lakh crore and Rs 3.39 lakh crore, respectively.

Sitharaman wouldn’t mind investing in the economy to keep its growth engine ignited in a low interest rate regime, but with rising borrowing costs- due to RBI’s policy rate hikes- the finance minister is miffed.  In this financial year, the Reserve Bank of India (RBI) has raised interest rates by an aggregate of 140 basis points in three months. With the latest 50-bp hike to 5.4 per cent in August, RBI’s policy rate is now higher than the pre-pandemic level of 5.15 per cent in October 2019. 

Pre-Pandemic Slowdown 

India’s private investment woes are not recent. The story has been the same over the last decade. The Reserve Bank of India (RBI) in a paper published in April this year, observed that liquidity and solvency problems faced by some major non-banking financial companies (NBFCs) and deterioration in asset quality of the banking sector accentuated the slowdown in private sector investment. It points out that a cyclical downturn had set in the Indian economy from 2017-18, culminating in the lowest growth of 3.7 per cent in 2019-20 since the global financial crisis (GFC).   

“Following a consumption-led brief boom during 2014-17, the economy eventually entered a phase of slowdown from 2017-18 onwards, with the GDP growth moderating for eight successive quarters before the onset of the COVID-19 pandemic. The pre-pandemic GDP growth has mainly been consumption-led. However, over the years, the share of consumption, the backbone of India’s economic growth has been declining, with gross fixed capital formation (GFCF) compensating for the decline,” the article says.   

A report from ICRA observes that a majority of the investment-related indicators witnessed an uptick in their YoY growth in the first quarter of FY2023 relative to the fourth quarter of FY2022 on account of the low base related to Covid2.0. However, the performance was mixed when compared to the pre-Covid levels of 2019. 

Tepid Demand

Rohit Azad, who teaches economics at Jawaharlal Nehru University, is of the view that the low private capex is linked to tepid demand in the economy. “(Private) investment is low because the demand is low. Factories are not running to capacity, so why will they build more factories. Instead, they use the cash flow to buy short term financial assets, which is also playing a role in booming stock markets,” says Rohit Azad, professor of economics at Jawaharlal Nehru University. 

Stock markets are booming and that is reflected in the phenomenal gains that India’s stock markets have made, even through the pandemic. Nifty 50 is up 47 per cent from the closing of May 31, 2019 to the closing of September 16, 2022. 

That demand is low can be evidenced in the subdued recovery seen in consumer durables and contraction in consumer non-durables. According to government data, in the month of July, consumer durables recorded a growth of 2.4 per cent compared to 19.4 per cent seen in the same period a year ago, which was a low base year. Consumer non-durables recorded a contraction of 2 per cent in July this year compared to a contraction of 2.3 per cent in the same period a year ago. Primary goods grew 2.5 per cent in July this year compared to 12.4 per cent in the same month a year ago. Capital goods recorded a 5.8 per cent growth in July this year compared to a growth of 30.3 per cent in the same period a year ago.  

While things like consumer durables are yet to see expansion in demand, luxury car market has been recording a robust growth, thus reiterating the assumption that demand in the middle- and lower-income segments have dried up. As per industry estimates, around 17,000 luxury vehicles were sold in the country between January-June 2022, an increase of 55 per cent over 11,000 units sold a year-ago in the same period. In contrast, entry-level cars, which were once the bread-and-butter for Indian carmakers, are slowly losing their place on the Indian roads. Small cars once accounted for one in two cars sold in the country. But the segment’s share in the total number of passenger vehicle sold in India fell to just over one in three in the first four months of this fiscal year, as per industry estimates. The two-wheeler market, one of the markers of rural demand, is also seeing a shift away from entry-level, non-electric models.  

“Luxury segments across sectors have seen robust demand. Whether it is real estate, or fashion, the rich are consuming. Those who can afford luxury, overall, were not impacted by the pandemic. But those in the lower order of income hierarchy have cut down on consumption. That is also why private investment in most sectors has been tepid,” says Devendra Pant, chief economist India Ratings & Research said.   

Profiteering Through Corporate Tax Cut 

Even before the pandemic-induced distress hit, private investments had dried up. To address that, the government in 2019 announced a reduction in corporate tax from a base rate of 30 per cent to 22 per cent for existing firms without exemptions/incentives and from 18 per cent to 15 per cent for new manufacturing units. This was done with an eye to spur investment.   

While profits of private companies soared during the pandemic, there was hardly any ploughing back that happened. According to CMIE data, In FY21, 30,000 companies, including 5,000 listed and 25,000 unlisted ones saw a 138 per cent increase in their net profits from FY20. Net profits of listed companies alone in FY22 grew by 66.2 per cent from FY21. A July 2021 SBI Research paper explains that the corporate tax cut contributed 19 per cent to the top line, extended period of low-interest rate, on an average, contributed 5 per cent to companies’ overall top line, cutting down expenditure contributed as much as 31 per cent to the top lines, and employee costs were reduced by 3 per cent on an average in FY21.

The government had also announced production linked incentive (PLI) scheme in 2020 for 13 crucial sectors to boost manufacturing capabilities and improve exports. The scheme extends an incentive of 4 per cent to 6 per cent on incremental sales for a period of five years after the base year. As per the latest data, the PLI scheme has managed to get investment commitments worth Rs 2.34 lakh crore from across sectors. Apple’s vendors too committed minimum incremental production of mobiles worth Rs 25,000 crore in FY23, a three-time increase from the committed minimum incremental production in FY22. 

But the response to these schemes has been tepid so far. In the IT hardware PLI scheme, only two out of fourteen companies managed to achieve the first year (FY22) incremental sales target. The scheme has not been able to generate results in the sector and the selected firms were unhappy over the present structure of incentives. The story is similar in telecom products and mobile devices as well. The last day to claim incentives for the first year ended on March 31. In mobile devices sector, despite a one-year extension due to the pandemic, eligible candidates would not be able to not meet the targets. In telecom products, Bharti and Dixon Technologies’ joint venture has written to the government for a one-year extension as the company failed to make the necessary investment to set up a plant. Telecom gear maker HFCL also wants an extension. 

“There are two aspects to this (companies failing meet targets). The way the scheme has been structured, generally it is only the larger companies that would qualify. A SME cannot make an investment of Rs 100 crore, say, when they are operating at about Rs 20-30 crore. Therefore, the overall universe that could qualify would be some medium and mostly large companies. The second part is, we are not seeing any kind of revival in demand. Whichever sectors are seeking these extensions, if they do not see revival in demand, there is no reason for them to invest. If one is producing without being able to sell, cost of holding inventories will go up,” Madan Sabnavis, chief economist Bank of Baroda, said.  

While the stock market seems to exhibit confidence in the Indian economy, but its confidence alone may not be a marker of recovery. Tepid demand might be one of the answers to uninspiring private investments. As Sabnavis says, businesses will invest only when they have reasons to invest. However, without ploughing back of profits, India might move more towards wealth concentration.