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Subject: Economics

  • Govt must constitute GST tribunal: SC

    The Supreme Court has warned that the government had no option but to constitute the Goods and Services Tax (GST) Appellate Tribunal.

    What is GST Appellate Tribunal?

    • The GST Appellate Tribunal (GSTAT) is the second appeal forum under GST for any dissatisfactory order passed by the First Appellate Authorities.
    • The National Appellate Tribunal is also the first common forum to resolve disputes between the centre and the states.
    • Being a common forum, it is the duty of the GST Appellate Tribunal to ensure uniformity in the redressal of disputes arising under GST.
    • It holds the same powers as the court and is deemed Civil Court for trying a case.

    Constitution of the GST Appellate Tribunal

    The GSTAT has the following structure:

    1. National Bench: The National Appellate Tribunal is situated in New Delhi, constitutes a National President (Head) along with 2 Technical Members (1 from Centre and State each)
    2. Regional Benches: On the recommendations of the GST Council, the government can constitute (by notification) Regional Benches, as required. As of now, there are 3 Regional Benches (situated in Mumbai, Kolkata and Hyderabad) in India.
    3. State Bench and Area Bench

    Why in news now?

    • The GST tribunal has not been constituted even four years after the central GST law was passed in 2016.
    • Section 109 of the GST Act mandates the constitution of the Tribunal.
    • Citizens aggrieved are constrained to approach respective High Court and the same was overburdening the work of the High Courts.

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    Back2Basics: Goods and Services Tax

    • The GST is a value-added tax levied on most goods and services sold for domestic consumption.
    • It was launched into operation on the midnight of 1st July 2017.
    • It subsumed almost all domestic indirect taxes (petroleum, alcoholic beverages, and stamp duty are the major exceptions) under one head.
    • The GST is paid by consumers, but it is remitted to the government by the businesses selling the goods and services.
    • GST is levied at four rates viz. 5%, 12%, 18% and 28%. The schedule or list of items that would fall under these multiple slabs is worked out by the GST council.

    Types

    • The GST to be levied by the Centre is called Central GST (CGST) and that to be levied by the States is called State GST (SGST).
    • Import of goods or services would be treated as inter-state supplies and would be subject to Integrated Goods & Services Tax (IGST) in addition to the applicable customs duties.

    The GST Council

    • It is a constitutional body (Article 279A) for making recommendations to the Union and State Government on issues related to GST.
    • The GST Council is chaired by the Union Finance Minister and other members are the Union State Minister of Revenue or Finance and Ministers in charge of Finance or Taxation of all the States.
    • It is considered as a federal body where both the centre and the states get due representation.

  • Odisha’s Manda buffalo gets unique, indigenous tag

    The National Bureau of Animal Genetic Resources (NBAGR) has recognized the Manda buffalo, found in the Eastern Ghats and plateau of Koraput region of Odisha, as the 19th unique breed of buffaloes found in India.

    Manda Buffalo

    • The Manda are resistant to parasitic infections, less prone to diseases and can live, produce and reproduce at low or nil input systems.
    • These buffaloes have ash grey and grey coat with copper-coloured hair.
    • The lower part of the legs up to the elbow is light in colour with copper colour hair at the knee. Some animals are silver-white in colour.
    • Four breeds of cattle — Binjharpuri, Motu, Ghumusari and Khariar — and two breeds of buffalo — Chilika and Kalahandi — and one breed of sheep, Kendrapada, have already received NBAGR recognition.

    Their economic significance

    • The small, sturdy buffaloes are used for ploughing in their native habitat of the Koraput, Malkangiri and Nabarangpur districts.
    • There are around 1,00,000 buffaloes of this breed in the native tract mostly contributing to the family nutrition of households and assisting in all the agricultural operations in the undulated hilly terrain for generations.
    • The average milk yield of these buffaloes is 2 to 2.5 litres in single milking with more than 8% fat. However, a few of those yield up to 4 litres.
    • After going through the findings, the NBAGR made an assessment and recognised it as an indigenous and unique buffalo.

    Now pls do not ignore this PYQ:

    Q.What is/are unique about ‘Kharai Camel’, a breed found in India?

    1. It is capable of swimming up to three kilometres in seawater.
    2. It survives by grazing on mangroves.
    3. It lives in the wild and cannot be domesticated.

    Select the correct answer using the code given below:

    (a) 1 and 2 only

    (b) 3 only

    (c) 1 and 3 only

    (d) 1, 2 and 3

     

    [wpdiscuz-feedback id=”7b5fqwlhhm” question=”Please leave a feedback on this” opened=”1″]Post your answers here.[/wpdiscuz-feedback]

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  • National monetisation pipeline has narrow outlook

    Context

    Recently, FM announced the National Monetisation Pipeline (NMP) to lease a slew of “brownfield” (already developed) but underutilised public sector assets to the private sector with the objective of raising Rs 6 lakh crore.

    About the NMP

    • The assets identified for lease include roads, railways, ports, power, mining, aviation, oil and gas pipelines, warehouses, hotels and even two sports stadia.
    • The idea is to create “structured public-private partnerships” to unlock value from public sector assets and to recycle the revenues so raised into new infrastructure.
    • But the move raises several concerns.

    3 concerns with NMP

    1) Government is preferring financial value of assets over public welfare

    • The design of the NMP is out of sync with existential challenges — global warming, pandemics, geopolitical chaos and fundamentalism.
    •  The assets are valued on the basis of conventional financial metrics (enterprise value, book value, net present value, the costs of comparable assets).
    • The model seemingly absolves the government from the responsibility to unlock the intrinsic “social” (to include “smart” and “clean” ) value of these assets.

    2) It will lead to concentration of capital

    • NMP is designed to attract deep-pocketed financial institutions (PE firms) and industrial conglomerates.
    • This is because the valuations are so high that few other entities will have the resources or the risk carrying capacity to respond.
    • The result will be a deepening of the concentration of capital and existing inequalities.
    • There will be economic and social implications.

    3) Addressing the system problem

    • The government should have asked itself a fundamental question before placing a substantial share of public assets on the block:
    • Why have these assets been so poorly managed?
    • Was it because of bad leadership, inadequate talent within the PSEs, and/or systemic and structural shortcomings?
    • If the reason for low productivity was poor leadership or lack of talent, the transfer of these assets to a different, private sector-led organisational and investment structure would make sense.
    • Structural issues: But if the reason had to do with structural impediments, then such a change may not be warranted, at least not in the first instance.
    •  The example, gas pipelines GAIL are hugely underutilized, but this is not because of the “inefficiency” of GAIL, the PSE operator.
    • It is because of structural factors such as the shortage of domestic gas supplies; the regressive taxation system; the relatively uncompetitive price of gas and the perennial tussle between the Centre and state governments over land access.
    • A similar point can be made about most of the other assets identified for monetisation.
    • Their low productivity is because their PSE operators have faced a combination of systemic hurdles related to weak dispute resolution mechanisms; regulatory miasma; lack of transparency in governance; pricing distortions and intrusive bureaucratic intervention.
    • Way forward: So, until and unless these systemic problems are addressed, the private sector will find it difficult to harness the full value of these assets and the transfer of operatorship to them will offer at best a partial palliative.

    Conclusion

    Private-public investment structures make sense, but they must be modeled to also generate social value. In today’s world, there are no shortcuts to sustainable development.

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  • Indian Banks join ‘Account Aggregators Network’

    Eight of India’s major banks — State Bank of India, ICICI Bank, Axis Bank, IDFC First Bank, Kotak Mahindra Bank, HDFC Bank, IndusInd Bank and Federal Bank has joined the Account Aggregator (AA) network that will enable customers to easily access and share their financial data.

    What is an Account Aggregators (AA)?

    • According to the RBI, an AA is a non-banking financial company engaged in the business of providing, under a contract, the service of retrieving or collecting financial information pertaining to its customer.
    • It is also engaged in consolidating, organizing, and presenting such information to the customer or any other financial information user as may be specified by the bank.
    • The AA framework was created through an inter-regulatory decision by RBI and other regulators.
    • These regulators include SEBI, Insurance Regulatory and Development Authority, and Pension Fund Regulatory and Development Authority (PFRDA) through an initiative of the Financial Stability and Development Council (FSDC).
    • The license for AAs is issued by the RBI, and the financial sector will have many AAs.
    • The framework allows customers to avail themselves of various financial services from a host of providers on a single portal based on a consent method, under which the consumers can choose what financial data to share and with which entity.

    What does an AA do?

    • Reduce bank traffic: It reduces the need for individuals to wait in long bank queues, use Internet banking portals, share their passwords, or seek out physical notarization to access and share their financial documents.
    • Data security: An AA is a financial utility for the secure flow of data controlled by the individual.
    • Data flow: AA is an exciting addition to India’s digital infrastructure as it will allow banks to access consented data flows and verified data.
    • Reduced cost: This will help banks reduce transaction costs, which will enable us to offer lower ticket size loans and more tailored products and services to our customers.
    • Transaction security: It will also help us reduce fraud and comply with upcoming privacy laws.

    How does it work?

    • It has a three-tier structure:
    1. Account Aggregator
    2. FIP (Financial Information Provider) and
    3. FIU (Financial Information User)
    • A FIP is the data fiduciary, which holds customers’ data. It can be a bank, NBFC, mutual fund, insurance repository, or pension fund repository.
    • An FIU consumes the data from a FIP to provide various services to the consumer.
    • An FIU is a lending bank that wants access to the borrower’s data to determine if the borrower qualifies for a loan.
    • Banks play a dual role – as a FIP and as an FIU.
    • An AA should not support transactions by customers but should ensure appropriate mechanisms for proper customer identification.
    • An AA should share information only with the customer to whom it relates or any other financial information user as authorized by the customer

    What purpose does it serve?

    • AA creates secure, digital access to personal data at a time when Covid-19 has led to restrictions on physical interaction.
    • It reduces the fraud associated with physical data by introducing secure digital signatures and end-to-end encryption for data sharing.
    • These capabilities in turn open up many possibilities.
    • For instance, whereas physical collateral is usually required for an MSME loan, with secure data sharing via AA, ‘information collateral’ (or data on future MSME income) can be used to access a small formal loan.
    • HDFC Bank and Axis Bank have been using AA for auto loans, Lending Kart for MSME loans, and IndusInd Bank for personal finance management.

    What data can be shared?

    • An Account Aggregator allows a customer to transfer his financial information pertaining to various accounts such as banks deposits, equity, mutual fund, and pension funds to any entity requiring access to such information.
    • There are 19 categories of information that fall under ‘financial information, besides various other categories relating to banking and investments.
    • For sharing of such information, the FIU is required to initiate a request for consent by way of any platform/app run by the AA.
    • Such a request is received by the individual customer through the AA, and the information is shared by the AA, after consent is obtained.
    • The AA framework is an excellent initiative that will compile all the digital footprints of the customer in one place and make it easy for lenders like us to access it.
    • It will enable us to provide very quick turnarounds to our customers.

    Can an AA see or store data?

    • Data transmitted through the AA is encrypted. AAs are not allowed to store, process and sell the customer’s data.
    • No financial information accessed by the AA from a FIP should reside with the AA.
    • It should not use the services of a third-party service provider for undertaking the business of account aggregation.
    • User authentication credentials of customers relating to accounts with various FIPs shall not be accessed by the AA.

  • Why India’s Steady Exports Are At A Record High?

    Context

    First-quarter growth in India’s gross domestic product (GDP) stands at 20.1 %. This however still means that GDP in the first quarter was 9.2 % below its level two years ago.

    Export: Challenges

    • The key driver of growth in the coming quarters will be exports riding on the rapidity of recovery in major markets.
    • There are two serious worries here.
    • 1) Bullwhip element: This could cause an immediate ramp-up in demand for steel and other such upstream elements in global supply chains, with a corresponding damp down in the months to come.
    • In this connection, although the rates under the scheme for remission of duties and taxes on exported products (RODTEP) were finally notified in mid-August.
    • Steel, pharma and chemicals get no rebate at all, although many products using these inputs do.
    • The scheme looks like a subsidy to selected sectors disguised as duty rollback, which can get India into trouble at the World Trade Organization (WTO).
    • These excluded products need the rebate if they are to survive in a fiercely price-competitive global market in the months to come.
    • 2) Container shortage: A crippling shortage of sea-borne containers has afflicted key large-volume products in the Indian export basket (tea, basmati rice, furniture, garments).
    • Sea-freight subsidy: At a time when container rates have shot up, there is surely a case for a sea-freight subsidy (for a limited period).
    • Even more urgently, the estimated 25,000-30,000 containers locked up at different ports owing to customs disputes need to be unloaded into warehouses and these containers freed.

    Can National Monetisation Pipeline (NMP) spur growth?

    • Even if the expected ₹88,000 crore of revenue under NMP is realized during the current year, it is intended to feed only a small part of the infrastructure expenditure budgeted for the year.
    • It is the latter that will have to drive growth. Monetization is merely a funding source.
    • The scheme offers a participation incentive to states with a 33% matching transfer from the Centre for revenues that states realize under the scheme.
    • This matching transfer could well have the perverse consequence of states under-achieving the potential value realizable. 
    • Volume II of the NMP document refers to the Scheme for Special Assistance to States for Capital Expenditure announced in October 2020.
    • It offered states an interest-free loan with bullet repayment after 50 years to complete stalled capital projects, or settle the outstanding bills of contractors.
    • The NMP demands clear and well-thought-through processes, with sufficient transparency and safeguards in the form of regulatory structures.

    Conclusion

    For now, the need of the hour is export facilitation.

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  • Common Prosperity Drive in China

    Chinese President Xi Jinping has called for China to achieve “common prosperity”, seeking to narrow a yawning wealth gap that threatens the country’s economic ascent and the legitimacy of Communist Party rule.

    What is ‘Common Prosperity’?

    • “Common prosperity” was first mentioned in the 1950s by Mao Zedong, founding leader of what was then an impoverished country.
    • The idea was repeated in the 1980s by Deng Xiaoping, who modernized an economy devastated by the Cultural Revolution.
    • Deng said that allowing some people and regions to get rich first would speed up economic growth and help achieve the ultimate goal of common prosperity.
    • Common prosperity is not egalitarianism. It does not mean “killing the rich to help the poor”.

    Components of the drive

    • The push for common prosperity has encompassed a wide range of policies, that includes curbing tax evasion and limits on the hours that tech sector employees can work to bans on for-profit tutoring in core school subjects, and strict limits on the time minors can spend playing video games.

    Why in news now?

    • China became an economic powerhouse under a hybrid policy of “socialism with Chinese characteristics”, but it also deepened inequality, especially between urban and rural areas, a divide that threatens social stability.
    • This year, Xi has signaled a heightened commitment to delivering common prosperity, emphasizing it is not just an economic objective but core to the party’s governing foundation.
    • A pilot program in Zhejiang province, one of China’s wealthiest, is designed to narrow the income gap there by 2025.

    How will it be achieved?

    • Chinese leaders have pledged to use taxation and other income redistribution levers to expand the proportion of middle-income citizens, boost incomes of the poor, “rationally adjust excessive incomes”, and ban illegal incomes.
    • Beijing has explicitly encouraged high-income firms and individuals to contribute more to society via the so-called “third distribution”, which refers to charity and donations.
    • Several tech industry heavyweights have announced major charitable donations and support for disaster relief efforts.
    • Other measures would include improving public services and the social safety net.

    What will be the economic impact?

    • Chinese leaders are likely to tread cautiously so as not to derail a private sector that has been a vital engine of growth and jobs.
    • This goal may speed China’s economic rebalancing towards consumption-driven growth to reduce reliance on exports and investment, but policies could prove damaging to growth driven by the private sector.
    • Increasing incomes and improved public services, especially in rural areas, would be positive for consumption, and a better social safety net would lower precautionary savings.
    • The effort supports Xi’s “dual circulation” strategy for economic development, under which China aims to spur domestic demand, innovation, and self-reliance, propelled by tensions with the United States.

    Try answering this PYQ from CSP 2020:

    Q.One common agreement between Gandhism and Marxism is :

    (a) The final goal of a stateless society

    (b) Class struggle

    (c) Abolition of private property

    (d) Economic determinism

     

    [wpdiscuz-feedback id=”6hsoxr3t9f” question=”Please leave a feedback on this” opened=”1″]Post your answers here.[/wpdiscuz-feedback]

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  • The April-June quarter GDP numbers indicated at 20.1 per cent growth

    Context

    The April-June quarter GDP numbers indicated at 20.1 per cent growth.

    Making sense of the numbers

    • The higher GDP growth was driven by high indirect tax collections, largely GST.
    • The more representative measure of economic activity, gross value added (GVA), grew by 18.8 per cent.
    • GDP is derived by adding indirect tax collections, net of subsidy payouts, to GVA.
    • These numbers are over a base quarter that had contracted sharply due to the lockdowns during the first Covid wave last year.
    • The revival of manufacturing GVA was the most robust, with mining and electricity growth somewhat moderate.
    • The overall and sector-specific activity levels need to be evaluated vis-à-vis the corresponding thresholds of (the pre-pandemic) first quarter of 2019-20.
    • Agriculture grew at 4.5 per cent, with cereals, pulses and oilseeds output at all-time highs.
    • As could be expected, the services sector remained vulnerable, with activity even softer than expected.
    • Steel and cement output growth — proxies for construction activity — were also quite robust in the quarter.
    • Demand and expenditure: Private consumption was up 19.3 per cent while investment was at 55.3 per cent.
    • Government consumption was lower by 4.8 per cent.
    • Export: Net exports are typically in deficit, but the gap was much lower in the first quarter.

    How to sustain recovery: way forward

    • Looking beyond the first quarter, the set of high-frequency economic signals suggest a strong recovery in July and August.
    •  But, how can this recovery over the rest of the year and beyond be sustained, and even accelerated?
    • Sustaining 3 growth drivers: The three distinct potential growth drivers — consumption, investment and exports — will need to be effectively sustained by policy initiatives over the next couple of years.
    • Government spending: Centre’s revenues and expenditures during April-July this year suggest that it has significant room to increase spending.
    • National Monetisation Plan will open up further fiscal space to increase spending, in particular, on capex.
    • Credit support to stressed segment: mid-and small-sized enterprises will take some time to restore their pre-pandemic operational levels.
    • An increase in the flow of credit, from banks, NBFCs and markets, particularly to these stressed segments, is a priority, as a supplement to state spending.
    • Opportunity for exports: Global inventories are low and depending on the progression of the pandemic relaxations across geographies, are likely to provide opportunities for Indian exports to fill some of these gaps.
    • Reforms: Multiple reform initiatives, tax and other incentives are in the process of implementation.
    • These need to be accelerated in coordination with states to enable an environment of steady, high growth in the medium term.

    Challenges

    • Global central banks’ are signalling the imminent normalisation of ultra-loose monetary policy.
    • The resulting increase in financial sector volatility will have spillover effects on emerging markets, including India.
    • To keep the process smooth, it is crucial to raise India’s potential growth so that the economic recovery does not rapidly close the output gap, thereby preventing a surge in inflationary pressures.

    Conclusion

    There is a limited window of opportunity for India to leverage the current ongoing realignment of global supply chains and progressively onboard both manufacturing and services entities.

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  • How to unleash the entrepreneurial power of 1.3 billion Indians

    Context

    Last Independence Day, the PM announced that 15,000 of our current 69,000+ employer compliances and 6000+ filings have been identified for removal.

    Why India is a development economics outlier?

    • Software industry despite being low-income country: Few models predict a $2,500 per-capita income country with five million people writing software and internet data costs per GB at 3 percent of US levels.
    • Digital identity: In India there are1.2 billion people empowered with paperless digital identity verification.
    • Digital economy: India also witnesses 3.5 billion real-time monthly digital payments.
    • Attraction for Investment: $10 billion in private equity raised in July, and a $3 trillion public market capitalization.
    • Harvard’s Ricardo Hausman believes, the only sustained predictor of sustained economic success is economic complexity and suggests that India’s prosperity is less than our economic complexity would predict.

    India’s software industry

    • Our software industry is an oasis of high productivity — 0.8 per cent of India’s workers generate 8 percent of GDP.
    • The mandatory global digital literacy program and digital investment super-cycle sparked by Covid will double our software employment in five years.
    • Our software industry’s talent, alumni, and global engagement — 50,000 tech startups that have raised over $90 billion since 2014 from 500+ institutional investors.
    • India’s software services industry and tech startups are each estimated to be worth about $400 billion today which is expected to grow to $1 trillion by 2025.

    Why did India’s manufacturing sector fail to perform while its software industry flourished?

    • One of the reasons is the different regulatory thought worlds of the Software Technology Parks India rules of 1991 (STPI) and the Special Economic Zones Act of 2005 (SEZ).
    • STPI’s genius was simplicity. It allowed rebadging existing assets, embraced trust over suspicion, and adopted self-reporting that was largely paperless, presence less, and cashless.
    • SEZs largely replicated the regulatory cholesterol and distrust that has made India unfavorable for employment-intensive industries.

    Way forward

    • Productivity: Raising per-capita needs high productivity manufacturing and domestic services firms that disrupt our low-level equilibrium of labor handicapped without capital and capital handicapped without labor.
    • Opportunities for India: Until recently, China’s tech industry seemed unstoppable — half of their 160 unicorns operate in AI, big data, and robotics. But this is changing.
    • Over 50 recent regulatory actions against China’s tech industry have already cost investors over $1 trillion.
    • This offers an opportunity for India due to its attractiveness to factories, multinationals, startups, venture capital, and pension funds.
    • Replicate regulatory trust and simplicity offered to the technology industry to other sectors: India’s global soft power by reaching revenue and valuation possibilities that felt unimaginable — have come before physical infrastructure, farm employment reduction, and higher women’s labor force participation.
    • Massifying our prosperity needs massive formal, non-farm job creation.
    • Creating the productive firms that will offer these jobs to our young needs replicating the regulatory trust and simplicity that our technology industry enjoys in the rest of our economy.

    Conclusion

    Imagine India@100 if we cut regulatory cholesterol today and spent the next 25 years unleashing the entrepreneurial energies of 1.3 billion Indians — 65 percent of whom are below 35 years old.

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  • Taxing interest on Provident Fund

    Following its Budget announcement in February, the Finance Ministry has now notified the rules for taxing interest income on contributions made to the Employees’ Provident Fund (EPF) beyond Rs 2.5 lakh (for private-sector employees) and Rs 5 lakh (for government sector employees).

    What is Provident Fund?

    • Provident Fund is a government-managed retirement savings scheme for employees, who can contribute a part of their savings towards their pension fund, every month.
    • These monthly savings get accumulated every month and can be accessed as a lump sum amount at the time of retirement, or end of employment.
    • Since the provident fund money consists of a large chunk of savings, it can be used to grow your retirement corpus easily.

    Types of provident funds

    There are mainly three different types of PFs, which are as follows:

    1. General provident fund: It is a type of PF which is maintained by governmental bodies, including local authorities, the Railways, and other such bodies. Thus, these types of PFs are mainly defined by government bodies.
    2. Recognized provident fund: It is the one that applies to all privately-owned organizations that contain more than 20 employees. Moreover, holding a rightful claim to the PF associated with your organization, you will be given a UAN or Universal Account Number. This enables you to transfer your PF funds from one employer to another whenever you move from one occupation to another.
    3. Public provident fund: It is defined by the voluntary nature of investment on the part of the employee. The PPF is also associated with a minimum deposit of Rs. 50 and a maximum amount of Rs. 1.5 lakhs. The PPF has a lock-in period of 15 years.

    What is the tax on EPF contributions?

    • In February, the Budget proposed that tax exemption will not be available on interest income on PF contributions exceeding Rs 2.5 lakh in a year.
    • Although this has been a concern for salaried individuals contributing to EPF, it will impact only those who contribute more than Rs 2.5 lakh in a year.
    • It will not affect their existing corpus or the aggregate annual interest on that.
    • In March, the government proposed to double the cap on contribution from Rs 2.5 lakh to Rs 5 lakh for tax-exempt interest income where there is no contribution by the employer.
    • With this, the government provided relief for contributions made to the General Provident Fund that is available only to government employees and there is no contribution by the employer.

    Why tax the PF?

    • There have been instances where some employees are contributing huge amounts to these funds and are getting the benefit of tax exemption at all stages — contribution, interest accumulation, and withdrawal.
    • With an aim to exclude high net-worth individuals (HNIs) from the benefit of high tax-free interest income on their large contributions, the government has proposed to impose a threshold limit for tax exemption.
    • This will be applicable for all contributions beginning April 1, 2021.

    How will it get taxed?

    • For an individual in the higher tax bracket of 30%, the interest income on contribution above Rs 2.5 lakh would get taxed at the same marginal tax rate.
    • What this means is that if an individual contributes Rs 3 lakh every year to the provident fund (including the voluntary PF contribution) then the interest on his contribution above Rs 2.5 lakh —that is, Rs 50,000 — will be taxed.
    • So, the interest income of Rs 4,250 (8.5% on Rs 50,000) will be taxed at the marginal rate. If the individual falls in the 30% tax bracket, he/ she will have to pay a tax of Rs 1,325.
    • For an individual contributing Rs 12 lakh in a year, the tax will be applicable on interest income on Rs 9.5 lakh (Rs 12 lakh minus Rs 2.5 lakh). In this case, the tax liability would amount to Rs 25,200.

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  • Our banks are mispricing capital

    Context

    We have a situation in India today where the policy repo rate has been kept low. Banks are just about managing their non-performing assets (NPAs) and there is uncertainty in the air.

    Mispricing of capital by banks

    • There are different components of the cost of funds for banks, which are captured by the MCLR or marginal cost of funds-based lending rate.
    • For every ₹100 deposits that enter the banking system, there are different accompanying costs for the system.
    • These are deposit costs, provisioning for NPAs, return on assets (ROA or minimum profit), and the regulatory cost of cash reserve and statutory liquidity ratio balances (CRR and SLR) that perforce have to be held.
    • Adding these components, the basic cost works out to be 8.9%, which should be the rate at which incremental lending should take place.
    • By offering loans at a much lower rate of 7.23%, the system is actually mispricing capital.
    • It may be noted that deposit rates have been compressed to a very large degree and so this cost of 4% is very low.
    • Banks do have the advantage of getting free demand deposits and the right to offer differential rates on saving accounts.
    • Clearly, deposit-holders are subsidizing borrowers quite significantly.

    Issue of NPA provisioning in India

    • In the past couple of years, provisions as a proportion of NPAs have averaged 30-40%.
    • As NPAs increase, ideally, banks should load this cost onto their borrowers.
    • But that rarely happens in India. Instead, it is taken on banks’ books and gets reflected in their balance sheets.
    • If NPAs were kept in the region of, say, 4-5% of assets, it would have been possible to bring the cost down to 1.5% (from 3%), which would then have justified the present MCLR.

    Low return on assets (ROA)

    • The ideal return norm is 1%, which should be derived from all assets.
    • This does not happen for banks’ investment portfolios, and the value imputed here is only for loans.
    • The ROA for banks is abysmally low, as this aspect does not go into the pricing of products on the asset side.
    • Deposit costs have been driven down as savers don’t have a choice.
    • But a commensurate return does not materialize in the loan books of banks.

    Cost of regulations

    • The CRR component gets no compensation, while the SLR part earns around 6%, which is the average cost of fresh borrowing for the Union government.
    • While these numbers vary across banks, the minimum rate of 8.9% would hold for the system, which will vary by the level of NPAs.
    • The concept of linking benchmarks to certain loans further misprices fresh lending, as those loans are not ideal anchors to use, for they are being manually driven downwards by a deluge of liquidity in the system after the pandemic.
    • Excess liquidity of ₹4-7 trillion a day since April 2020 has meant banks have been placing funds costing them 8.9% with the central bank which gives them just 3.35%.
    • This is eventually borne by bank shareholders.

    Implications

    • With rather rigid policies on corporate lending to avert possible NPAs, banks have preferred lending to the retail segment, which is less risky, and small businesses, backed by the Centre’s credit guarantee.
    • The central bank’s government-bond buying programme to provide liquidity has been successful.
    • But in the absence of fructification of lending and a continuous rollover of funds at the reverse-repo window, Indian banks are bearing a negative carry trade, with a 6% return traded for just 3.35%.

    Conclusion

    Banks must price capital appropriately and not get overly influenced by arguments in favor of cheap credit or the fact that loans are cheaper in the West. We need to get practical on this issue.

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    Back2Basics: CRR and SLR

    • Cash Reserve Ratio, or popularly known as CRR is a compulsory reserve that must be maintained with the Reserve Bank of India.
    • Every bank is required to maintain a specific percentage of their net demand and time liabilities as cash balance with the RBI.
    •  The banks are not allowed to use that money, kept with RBI, for economic and commercial purposes.
    • It is a tool used by the apex bank to regulate the liquidity in the economy and control the flow of money in the country.
    • Statutory Liquidity Ratio, shortly called as SLR also an obligatory reserve to be kept by the banks, as prescribed securities, based on a certain percentage of net demand and time liabilities.
    •  It is used to maintain the stability of banks by limiting the credit facility offered to its customers.
    • CRR is maintained in the form of cash while the SLR is to be maintained in the form of gold, cash, and government-approved securities.