How India’s economic growth is hampered by deteriorating relationship between the government and private sector

Dealing with complex rules and opaque bureaucracy has always been a challenge for India’s private sector. The country’s administrative machinery is used to looking at businesses with suspicious eye for long.

Thus, there’s nothing new about it. What is new though, is the increasing government’s distrust of business. As a result, the government is introducing new measures that add to the complexities in regulations which are increasing becoming difficult to deal with, especially for smaller businesses. That will have serious implications for India’s growth prospects at a time investment sentiment is an all-time low.

Businesses and the government machinery need to come together for increasing mutual trust and fixing the country’s non-functional regulatory regime to bring down the cost of doing business. Only that will restore investors’ confidence and kick-start capex spending in the private sector. Otherwise, Indian economy is headed for more trouble with slowing growth and increasing short falls in tax collections that will cap government’s ability to spend and support growth. 

The increasing distrust of business is not without reasons. The wilful defaults of bank debts, loan and tax frauds by business tycoons have become quite common inducing regulatory high-handedness with adverse implications for doing business. No wonder, banks have become reluctant to lend that is affecting both credit-financed consumption and private investment. Similarly, to check over-claim of input-tax credit under GST through fraudulent means, GST Council has taken a series of measures that is making it difficult to claim tax credit even in the case of genuine financial transactions. This is in addition to distortions created by multiple rates and non-inclusion of many items such as fuel under India’s new indirect tax regime. Moreover, it is causing compliance nightmare for SMEs that were also the hardest hit by an ill-advised note ban and badly designed GST.

With increased draconian powers of officials that permit them to search, seize and arrest assessees, tax related harassments have become a regular worry for business men and women. And that troubles investors especially the new entrepreneurs and start up companies.

To make matters worse, both the federal and state governments are adding to regulatory uncertainties that deter existing and potential investors. It seems the Indian government doesn't trust in market forces. Hence, it often resorts to imposing controls on import, export and prices that create complications for businesses. For instance, raising import duties on basic industrial raw materials such as steel raises the production cost of much more dynamic downstream industries such as capital goods and turn them uncompetitive in both domestic and overseas markets. Expensive steel also raises the cost for construction and infrastructure projects. The extension of well-intentioned but flawed price caps on medicines have adversely affected the top and bottom line of pharmaceutical companies and in turn investment in the sector. These are some of the major reasons why Make-in-India hasn’t taken off despite being the flagship initiative of the Modi government.

State governments are adding to the sub-national policy risks to doing business by resorting to populist sons of the soil legislations. Thus, the Indian states of Andhra Pradesh and Maharashtra have proposed to reserve more than three-fourth of jobs in the private sector for local boys. There is increasing demand for job reservations amid record high levels of youth unemployment and hence such actions please local political constituencies. However, that is likely to create artificial shortage of workers in these states and raise wage bills for employers - not a smart way to encourage private investment and jobs. Populist cross-subsidisation in electricity has ruined the financials of power producing companies leading to increase in defaults on bank loans. Yet, state governments are reluctant to reduce or end cross subsidisation in the power sector. 

Unilateral cancellation of bilateral investment protection treaties by New Delhi increases regulatory risks for foreign investors. Predatory pricing by an indigenous telecom company along with exploitative revenue-driven government approach has brought Vodafone which has invested $30 billion in the country on the verge of bankruptcy. India’s federal government has moved the country’s Supreme Court to nullify the acquisition of Tata group’s mobile business by Bharati Airtel. Similarly government is sitting on to the merger approval of Bharti Infratel with Indus Towers which makes clear commercial sense and can help the troubled telecom companies to improve their financials. It’s the previous UPA government which introduced the draconian retrospective taxation but the current government led by PM Modi has not repealed it despite promising to do so during its election campaign. Rather it has seized assets of Cairn Energy forcing the company to go for international arbitration. Analysts say that even if Cairn wins the case, it may not get the award money unless the government wants to oblige it.

 Indian government is also troubling the private sector in many other ways, for instance, by delaying payments to vendors who supply goods and services to government offices. Similarly, state governments such as that of Andhra Pradesh has been attempting to renege on contractual obligations especially in the power sector. That will discourage private investment in much-needed electricity generation.

The way forward

With dedicated government affairs teams, big businesses can still manage to run operations but SMEs have been suffering from increasing compliance burden that needs urgent attention. While it’d help if private sector resists the temptation to cheat on tax obligations or over-claim tax refunds, and pays bank loans honestly and in time on its own. However, regulatory high-handedness needs to be reined in to restore investor’s confidence as government’s investment spending can’t really substitute private investment. Besides, Indian government must act on priority to reduce filings and reporting requirements especially for SMEs. 

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A version of this op-ed piece was first published by BrinkNews here

Image credit: India Today