Last week, Prime Minister Narendra Modi launched India’s biggest tax reform in its 70 year history, as businesses and citizens across the country steeled themselves for the economic turmoil that’s expected to follow. The new goods and services tax (GST) was formally ushered in at a late night session of parliament, throwing the country into chaos the next morning. With the introduction of the new goods and services tax, the government is hoping not just to streamline the myriad levies on businesses but expect that moving to a single tax system would add to India’s growth rate.
But as in most things in India, plenty of hiccups followed soon after the announcement. Instead of the proposed single tax system, last minute changes created a complicated structure which includes five tax brackets ranging from 0 percent to 28 percent and numerous exemptions. State level tax authorities will have jurisdiction alongside national ones. Companies will have to file three tax returns a month and in all states in which they do business. And in a country legendary for tax avoidance, it is unclear if the new system will change anything at all.
Less than a year ago, Mr. Modi carried out a similarly bold economic move, unexpectedly scrapping 86 per cent of the country’s cash. That plan, which now appears to have slowed growth in India to 6.1 percent in the first quarter of this year, down from 7.9 percent a year earlier, was also announced overnight with little consultation. Some worry that the GST could also become victim to Mr. Modi’s impatience.
Future Wealth’s View
Among the more than 160 countries that use a value added tax, India’s is among the most complex. It is puzzling why an attempt to simplify the tax code ends up being equally complex as the one before. Across India, fewer than 1 percent of people pay income tax and nearly 90 percent of workers are employed in the mostly non-taxed informal economy. Many will be paying tax for the first time and GST can only be filed online. Mom and Pop outfits across the country are expected to spend hard earned money on computer hardware they’re not certain about, while struggling to learn how to use tax software for the first time. The massive computing backbone needed by the governments for the task appears to, not even being close to ready, bringing back memories of the glitchy rollout of healthcare.gov in the U.S. The consequences of this system collapsing as soon as it is implemented could be far reaching. This could create higher inflation, drop in consumer confidence and slow down growth for years to come. Nobody has more riding on this than Mr. Modi.
The risks of investing in India typifies the inherent risks of emerging markets. Across emerging market countries – Brazil, Venezuela, Russia, China, Turkey, Argentina among others, structural problems pop up every one and then, completely throwing investors off kilter. As such, stock and bond market gains in emerging markets can be fleeting, vulnerable to political turmoil, government policies, currency fluctuations, change in leadership etc.
At Future Wealth, our clients have very modest exposure to emerging markets. But since these economies are such a large part of the global economy, we see emerging market exposure as an integral part of our clients’ long term portfolio.