Tax buoyancy is not a good thing to strive for in a recessionary economy

The government seems to have been stung to the quick by media reports that India’s direct tax collections declined in FY20, interrupting the three-year trend of high tax buoyancy. Data from the Controller General of Accounts (CGA) pegs provisional estimates for FY20 tax revenues at ₹13.55 lakh crore, a 3 per cent growth over FY19 and 10 per cent below revised estimates. While corporate tax collections were 16 per cent lower than last year, personal income tax mop-ups were 4 per cent higher. The Finance Ministry has put out a somewhat defensive note on how these numbers are being misinterpreted. It presents calculations to show that while net tax collections are indeed lower this year, gross collections have grown by 8.03 per cent after accounting for higher refunds (₹1.84 lakh crore in FY20 versus ₹1.61 lakh crore in FY19) and revenue foregone (₹1.68 lakh crore) on corporate and personal income tax cuts. If these items are added back, it says, growth in direct tax revenues would exceed nominal GDP growth (7.2 per cent), translating into tax buoyancy of 1.12. But the Centre really needs to stop obsessing so much on this metric.

While tax buoyancy may be a good thing to showcase and aim for in an expansionary economy, it is hardly a metric to strive for in a recessionary one. In a growing economy, tax buoyancy can come from an expanding tax base, as more individuals and businesses are swept within the tax net simply by virtue of rising profits and incomes. In a recessionary economy though, with incomes and profits in contraction mode, buoyant tax collections are more likely to be the result of the taxman breathing down the necks of taxpayers to meet his ambitious revenue targets. A blind chase of unrealistic targets at times like these, can lead to a deleterious impact on already weak economic activity. Consumers who are already loath to loosen their purse strings amid stagnating incomes may be forced to cut back on spending to accommodate tax payouts, leading to a ‘counter-stimulus’ for consumption. Businesses, already in risk-averse mode, may hold back their investment plans and stockpile cash to avoid clashes with the taxman. Reports of tax vigilantism and ad-hoc demands also do little to reassure foreign direct investors that the country offers policy certainty for investors looking to make multi-year commitments to it.

Overall, persisting with this focus on increasing tax mop-ups year after year, without regard to underlying economic conditions, has the potential to undo all the good work done by the NDA regime in recent years, in terms of sharply slashing India’s corporate tax rates to globally competitive levels and substantially liberalising the FDI policy. Rather than set absolute collection targets, the Centre should now look to streamline and reduce personal tax rates, uncomplicate GST and substantially reduce the compliance burden, so that these measures may pay off by way of better collections when the economy rebounds.