"India may be counted among the emerging superpowers of this century; however, unless there are paradigm shifts on the policy front, all the growth and expansion may come to naught"In recent years, the Indian economy has witnessed strong growth and expansion. However, the growth in the economy has not been complemented by corresponding changes in the country’s policy, regulatory and...
"India may be counted among the emerging superpowers of this century; however, unless there are paradigm shifts on the policy front, all the growth and expansion may come to naught"
In recent years, the Indian economy has witnessed strong growth and expansion. However, the growth in the economy has not been complemented by corresponding changes in the country’s policy, regulatory and legal framework, which still tends to be archaic and in need of an overhaul.
Policy and Regulatory Reforms
To bring India on par with the developed world, there is a need to rethink long-term macro-economic policies. The key questions to be asked are: (i) can India sustain its subsidy policies; and, (ii) is India, an exporter or importer of capital. Clearly, India can’t sustain its current subsidy agenda, and although Indian companies are investing overseas in a big way, we still need a lot of foreign capital to help build our infrastructure. Therefore, a significant number of regulatory reforms need to be undertaken, and there has to be a major shift in thinking by bodies such as the Reserve Bank of India, the Securities and Exchange Board of India, the Insurance and Regulatory Development Authority of India, etc. Further, laws such as the Banking Regulation Act, 1949, the Securities Contract Regulation Act, 1956, the Insurance Act, 1938, as well as the Companies Act, 1956, need to be revisited holistically and revamped cohesively (and not in a piecemeal manner) to address the changing commercial needs.
Corruption and Scams
Recent instances of corruption at the highest levels of government and the bureaucracy as well as in companies, have underlined the need for a strong anti-corruption system in the country. Currently, foreign investors are skeptical about the certainty of the applicable regime in India, and also the safety of their investments.
Various countries have enacted strong anti-corruption laws to counter corruption. The US’ Foreign Corrupt Practices Act, 1977, and the United Kingdom’s Bribery Act, 2010, impose strict liability on companies that indulge in corrupt practices anywhere in the world, and acts of bribery in India can lead to prosecution of a company in the USA or UK. The Prevention of Corruption Act, 1988, which is the primary legislation dealing with corruption in India, only covers instances of corruption involving government officials. Moreover, it is rendered ineffective due to lack of adequate enforcement.
However, the proposed Lokpal Act and the new draft bill, The Prevention of Bribery of Foreign Public Officials and Officials of Public International Organisations Bill, 2011, introduced in March 2012, are expected to give more teeth to Indian law enforcement agencies to tackle corruption. It is incumbent that these laws get passed quickly, and implemented efficiently and uniformly.
Tax Laws
Radical changes in India’s taxation regime in the last one year have given rise to much debate and controversy. The introduction of General Anti-Avoidance Rules (“GAAR”) and the retrospective taxation of offshore transfers to negate the Vodafone ruling have caused significant angst to foreign investors in India, across the board.
It is widely believed that the implementation of broad spectrum GAAR may not be beneficial to the tax system, and consequently, introducing a moderate regime, which does not target responsible tax planning but only abusive tax evasion, seems to be the wiser approach. Further, it is believed that it may be more effective to have specific anti-avoidance rules as an alternative to GAAR.
The recent changes in tax law to retrospectively impose tax on indirect transfers of capital assets in India has created tremendous difficulties for foreign investors and is likely to act as a deterrent for future foreign investments. The amendment potentially covers sale or pledge of shares of foreign listed companies, and India-focused funds and pooling vehicles, as well as international group restructurings involving underlying Indian assets. Investors can be exposed to double taxation as they may be taxed in their home country without any credit for taxes paid in India. The resultant ambiguities are expected to give rise to uncertainty and imminent litigation. Additionally, ambiguously-worded retroactive and extraterritorial legislation will give unbridled discretionary powers to the revenue department to go after foreign investors.
Foreign Direct Investment
Not many significant changes were made by the Department of Industrial Policy and Promotion in the Foreign Direct Investment Policy, 2012 (the “FDI Policy”), despite the fact that much was anticipated. The raise in the Foreign Direct Investment (the “FDI”) cap in single brand product retail trading is a welcome change for the industry and the Indian economy as a whole. However, the imposition of highly onerous 30% Indian sourcing requirement is a significant dampener to the relaxation. The Indian government needs to review the sourcing requirement rule and do away with it so as to encourage foreign participation in the Indian retail sector. From a practical standpoint, some foreign retailers may already be importing raw material or services from India that may be going into the final end products. Further, alternate ways of funding the small scale industries sector should be devised. Foreign investors can be encouraged to plough some of their profits out of the Indian business into India’s small scale sector without impinging on their business models.
The FDI Policy also permitted FDI in Limited Liability Partnerships (“LLPs”). However, the proposal has not yet taken effect as the RBI is yet to notify the rules regarding LLPs under the Foreign Exchange Management Act, 1999. Given that LLPs are very popular globally because they offer tax advantages, lower cost of formation and easier exit options, this gap should be bridged to attract greater overseas funds into capital-intensive sectors.
The Way Forward
India’s focus should be on creating a stable legal, economic, political and corruption-free environment that can bring it on par with the developed economies of the USA, UK and Japan. The time is ripe for India to unleash a second phase of liberalisation on all fronts (policy, law and regulations). The fear is that if India does not do so quickly, it runs the risk of being categorised as a banana republic.
Disclaimer–The views expressed in this article are the personal views of the author and are purely informative in nature.