Is there a problem for MSME in Tamil Nadu?

Andy Mukherjee has a useful ‘warning’ piece on the potential for India’s sub-prime. We have seen this movie elsewhere in the world and hence, early warnings are fair game. But, disappointing that he engages in a bit of hyperbole, with respect to GST and its impact in TN.

He cites a statistic that TN’s registered Micro, Small and Medium Enterprises (MSME) are down by some 20%. It is true. The information is available here.

Now, this note has no information on why registered MSME’s in Tamil Nadu have declined. We do not have a breakdown of which category of MSME have declined and which of them are GST paying and which have found it difficult to handle GST and hence, closed down.

If their only financial viability case was tax evasion, then I am not even sure if one needs to blame GST introduction for it – messy or orderly implementation of GST is immaterial.

As to the causes behind the reduction in the number of MSME units, there is a news-article in http://www.thenewsminute.com which cites a former President of the Tamil Nadu Small and Tiny Industries Association making some comments about the causes of this decline. To be fair to him, he cites delayed payments by big corporations for goods supplied by MSME as a major issue and not GST.

We know that it is an endemic issue and that is why the answer lies in Factoring and Receivables Exchange being made compulsory for big buyers. Receivables Exchange has to become active and MSMEs have to get working capital released as soon as possible. They do not have money, time and energy to keep chasing dues from big buyers. What big corporate buyers are doing is unconscionable.

Also, if we cast a glance at the MSME statistics, there is an unusual jump in the number of registered MSMEs from 2015-16 to 2016-17. It almost doubled in one year. Something that has not happened before in the data for ten years that the table in pages 3-4 presents. So, may be, there was some problem with the data and the data for 2017-18 is more accurate than the one for 2016-17 and that some cleaning up of the data has happened. In other words, there are myriad possibilities.

In fact, a ‘Times of India’ report on the same matter hints at data issue, citing a Tamil Nadu Government official:

A state government official, however, sought to brush it aside as a case of misinterpretation of data. “If you look at the number of units registered under the Udyog Aadhaar Memorandum (UAM), which is a kind of re-registration of existing units under the new system, it has shot up. This fact was not properly highlighted in the policy note. Further, these are dynamic numbers that keep changing,” a source in the state government told TOI.

Tamil Nadu started the UAM implementation from January 21, 2016. The number of MSMEs in the state has shot up, with nearly 5.27 lakh UAMs filed in Tamil Nadu as on March 31, 2018. As against 1.42 lakh registered MSMEs in the state as on January 21, 2016, it shot up to 2.67 lakh units for 2016-17 and stood at 2.18 lakh units at the end of 2017-18, indicating a drop of nearly 50,000 units. [Link]

The article in ToI cites one more businessman who cites high wages in Tamil Nadu as an additional challenge for MSME in Tamil Nadu.

Causality is important but it is also hard to establish. One has to tread carefully and with rigour. Else, we may expend precious energy finding solutions for non-problems while ignoring the real problems.

So, attributing the decline in Tamil Nadu registered MSMEs to the ‘tardy’ implementation of GST may be a leap (of logic) too many.

But, let me be clear. Warning of real estate loans to ‘sub-prime’ borrowers and their securitisation, even if it appears somewhat premature now, is the right thing to do and Andy has done well to do that. Credit cannot be a substitute for employment and income. The United States and other countries have done that before and the results have not been pleasant. So, Andy’s warning matters regardless of the interpretation of the data with respect to Tamil Nadu.

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Questions for the weekend

(1) In Universities, how can Economics Departments premising their theories on human rationality co-exist with Consumer Marketing theories, textbooks and courses?

(2) How do the ‘Universalists’ and ‘Citizens of the world’ explain their own and others’ tribal loyalties to football clubs (around the world) and cricket clubs (think IPL in India)?

I have my own answers but I would lik to hear yours.

Market Concentration, markups and profits

Srinivas Thiruvadanthai had queried in his Twitter handle if one could have good data on the distribution of US corporate profits between companies. I would be interested in that question too. So, I went looking. This is what I found:

slightly more than 100 firms earned about half of the total profit made by US public firms in 1975. By 2015, just 30 did. Zoom out a little and the trend is even more astonishing. The top 200 companies by earnings raked in more than all listed firms, combined. Indeed, the aggregate earnings of the 3,500 or so other listed companies is negative. [Link]

The article above has some nice charts and links to this paper too about the decline of the number of listed firms in the US.

Chicago Booth School’s promarket.org blog has a post on the 70-year history of corporate profits. It is a summary of a long paper:

Two notable policy changes point to the early 1980s as a possible break in the trends in competition. First, there was an increase in antitrust enforcement from the mid-1940s to the early 1980s, followed by a decline from the early 1980s to the present.3) Second, the Department of Justice adopted a more lenient merger guideline in 1982. As Peltzman (2014) shows, industry concentration began rising after this change to the merger guideline. [Link]

The promarket.org blog post links to some very interesting NBER papers:

(i) Labor Market Concentration [Link]

(ii) Declining Competition and Investment in the U.S. [Link]

(iii) Strong Employers and Weak Employees: How Does Employer Concentration Affect Wages? [Link]

(iv) Accounting for Rising Corporate Profits: Intangibles or Regulatory Rents? [Link]

(v) Are U.S. Industries Becoming More Concentrated? [Link] – this one is from 2015 and above others are more recent

Consistent with rising product and labour market concentration, the IMF Blog has an interesting chart on rising markups in advanced economies (not just in the USA) and its conclusion too is very instructive:

The paper also finds a negative association in firms between labor shares and markups, implying that the labor share of income declines in industries where market power rises. In other words, with higher market power, the share of firms’ revenue going to workers decreases, while the share of revenue going to profits increases. [Link]

The blog post is based on a working paper that is yet to be released.

The blog post has a link to the session on ‘Digitisation and the new gilded age’ held as part of the Spring IMF-World Bank meetings in April. Should be interesting.

What these posts and news make clear is that it is not just competition from Chinese imports, globalisation of work (outsourcing and offshoring of services)  and higher immigration that had reduced labour share of income in advanced economies but also higher market concentration that has increased profit share of income. Clearly, these are inter-dependent and inter-connected phenomenon. For example, to ward off external competition, firms merge and smaller firms disappear, leading to increased concentration. That leads to other consequences.

But, policymakers, commentators and journalists have been asleep at the wheel even though some of these papers had begun to appear from 2010 onwards. Now, they look askance at public rage and spout venom at populists who have tapped into this rage.

Foreign donations to Indian political parties

An email group that I am part of had an animated discussion on how the NDA government in India had opened the floodgates for all and sundry foreign donors to political parties merely because the BJP wanted to regularise a donation that it might have received from a foreign source. Not only that, the BJP went back and amended the relevant section or clause all the way back to 1976.

Well, the truth is somewhat anti-climatic. It had only amended a clause that deemed Indian companies majority-owned by foreigners as a ‘foreign source’. Everything else about foreign sourced donations remains unchanged.

Take these lines for example from an article that does not seem very well disposed towards the BJP government:

Tellingly, they recently collaborated to insert an unobtrusive clause in the latest annual budget that has the effect of absolving both from any prior violations of rules restricting foreign political donations. [Link]

These lines appear in the article that reviews two books on India. The lines are a perfect illustration of the sloppiness that has  characterised the discussion on what the BJP-led NDA government had done with respect to political donations from ‘foreign sources’.

Look at the header in a story that appeared in ‘BusinessLine’:

BL Headline

That is both over the top and wrong or grossly misleading. But, in reality this is what had happened:

(1) A Delhi High Court Ruling in March 2014 found the two major political parties – BJP and Congress – guility of violating the provisions of FCRA, when they accepted donations from Vedanta. The petition was moved by the Association for Democratic Reforms and they were represented by Prashant Bhushan, in this particular case. [Link]

(2) Then, in order to nullify the court ruling, the BJP government, along with the budget for 2016-17, had sought to retrospectively amend the applicability of FCRA for political donations from foreign sources up to 2010.

Source: same as above.

(3) The ‘BusinessLine’ article with the header featured above gives the exact wording as per the Finance Bill:

Entry number 217 in Part XIX of the amendments in the 2018 finance Bill (Amendment to the Finance Act, 2016), which reads : “In the Finance Act, 2016, in section 236, in the opening paragraph, for the words, figures and letters ‘the 26th​ ​
September, 2010, the words, figures and letters ‘the 5th August, 1976’ shall be substituted,” said the amendment. [Link]

However, it is interesing that when I saw the Finance Bill tabled in the Parliament along with the Budget, these are the wordings I found:

It is proposed to bring the said amendment with effect from the 5th August, 1976 the date of commencement of the Foreign Contribution (Regulation) Act, 1976, which was repealed and re-enacted as the Foreign Contribution (Regulation) Act, 2010. [Link – p. 99/102 – right column, penultimate paragraph]

May be, BusinessLine saw the Finance Act text because once the Bill is passed by tthe Parliament, it becomes an Act.

(4) Prospectively too, the FCRA provision will not be applicable to foreign sourced donations for politcal parties. That was ensured by the amendment to FCRA moved with the Finance Bill 2016:

Under the proposed amendment—part of the budget proposals presented on 29 February—a donation by a company which has majority foreign ownership will no longer be treated as “foreign source” as long as it conforms to the sectoral foreign investment cap and conditionality. [Link]

(5) This is from the Finance Bill 2016

Clause 233 of the Bill seek to amend the Foreign Contribution (Regulation) Act, 2010 so as to insert a proviso in sub-clause (vi) of clause (j) of sub-section (1) of section 2 of the said Act providing therein that notwithstanding the nominal value of share capital of a company exceeding one-half per cent at the time of making contributions such company shall not be deemed to be a foreign source, if the foreign investment is within the limit specified under the Foreign Exchange Management Act, 1999 or the rules or regulations made thereunder. [Link]

(6) The ‘clarification​’ made by the Finance Bill 2016​  allows for funding made by Indian subsidiaries (of foreign companies) ​ to be treated as ‘non-foreign sourced’ even if the majority ownership (above 50%) is with the foreign parent company, as long as the investment is wthin sectoral caps for foreign investments for that sector.

(7) If we go to the FCRA 2010  (2) (1) (j) (vi) – which is what was amended by the Finance Bill 2016 and again by the Finance Bill 2018, it is clear that a company under the Companies Act 1956 was deemed a ‘foreign source’ if it was majority held by a ‘foreigner’ with foreigner being defined elsewhere in the section. See here.

Now, this has been amended such that an Indian company incorporated under the Companies Act will not be deemed ‘foreign source’ even if more than 50% is held by ‘foreigner’ as long as the investment by that company is within sectoral caps, etc. This amendment has been made effective retrospectively from 1976.

(8) But, this amendment does not facilitate Indian politcal parties collecting donations from totally foreign sources. The amendment is only with respect to Indian companies that were deemed ‘foreign source’ earlier. To be very clear, the amendment and its retrospective effect are specifically ONLY with reference to Section 2(1)(j)(vi) – definition of ‘foreign source’​ with respect to a company​ – of the Foreign Contribution Regulation Act, 2010.

(9) ​The Government of India press release provided a clarification as well to reiterate this aspect but it is clear that this was done specifically to regularise past donations by Indian subsidiaries of foreign companies with majority held by foreigners and to facilitate such donations in future too.

(10) Now, let us evaluate the decision by the government:

Together with bearer politcal donation bonds that was part of last year’s budget proposals (2017-18), donations to political parties have become a lot more opaque and non-transparent and now with donations by an Indian​ ​ company which has majority foreign ownership will no longer be treated as a ‘foreign source’, the wellspring of corruption from ‘political funding’ has become incrementally more rejuvenated, with this retrospective and prospective amendment. To be clear, the wellspring has always been existed. That is why the Congress Party did not criticise the BJP for this amendment. At the margin, BJP has rejuvenated and not depleted that wellspring. That is a disappointment for many.

(11) I​t is not a blow in favour of probity and integrity in political funding for sure. But, it is not as ‘open-ended’ invitation for foreign influence as many have alleged.​

It is possible that this distinction was a bit blured in people’s minds while discussing this matter.

However, making it easier for Indian companies majority-owned by foreigners does not necessarily advance the cause of sound public policy. Further, bearer political donation bonds being made through banking channels does not help either. In general, the idea behind making political funding transparent is for the public to know who is donating to whom so that public policy decisions can be understood and evaluated better.

In sum, the BJP has lost an opportunity here to really burnish its reputation for anti-corruption and to stop foreign influence-peddling into Indian domestic affairs.

On crypto currencies and the financial trilemma

(1) Robert Skidelsky has a good piece (ht: Rohit Rajendran) on why the crypto currencies will die a short death. He says that central bankers have done a better job with preserving the ‘store of value’ function of currencies and that past such experiments have failed. The article is inadequately critical of the job that central banks in advanced nations have done that has led to the emergence of crypto currencies.

(2) In the Asian Bureau of Financial and Economic Research (ABFER) conference in Singapore last week, I heard ‘financial trilemma’ mentioned more than once. I think it is flawed. It is a variant of the ‘Impossible Trinity’ that is associated with Fixed Exchange Rates. But, financial trilemma falls well short.

What is the ‘Financial Trilemma’?

The financial trilemma states that financial stability, financial integration and national financial policies are incompatible. Any two of the three objectives can be combined but not all three; one has to give. [Link]

It is flawed. There is no trilemma when there is global financial integration. In the presence of financial integration with the rest of the world, it is not possible to obtain both financial stability and national policies or even one of them. If there is a high degree of international financial integration, there is frequent financial instability and national polices are pegged to the anchor country.

One can have financial stability, national policy autonomy with financial fragmentation. With financial integration, both are impossible.

Out of logic; out of control

Let us see:

E-Commerce Marketing companies’ marketing expenditure and discounts should be capitalised and not deducted from business income. Mercifully, rejected by the Appellate Tribunal. [Link]

But, the Revenue department was willing to treat loan waivers as business income and tax them. Supreme Court has ruled against it. [Link]

The Income Tax Department asks banks to pay service tax (now GST) on free services, retrospectively since 2012. Some bankers have called it ‘frivolous’ demand. Quite. But, a lot worse than that. This boggles the mind for several reasons. This reveals a perverse and cynical logic, at one level. At another level, it is complete lack of coordination and harmony between different departments of the same Ministry. Very worrying in more ways than one. [Link]

No wonder, India’s Business Optimism Index is at its lowest since 2014 and that India’s ranking has slipped to the sixth place. How will there be a capex cycle? [Link]