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Tax sops an illusory attraction

The letter written by Tamil Nadu Chief Minister Jayalalithaa to Prime Minister Manmohan Singh calling for the withdrawal of Central excise and income-tax concessions to new industries in Himachal Pradesh and Uttaranchal highlights genuine problems that arise from an ill-designed approach to the complex task of ending regional disparities in economic development. There is no disputing the claim that the concessions, introduced by the National Democratic Alliance regime in January 2003, run counter to one of the basic thrusts of economic reforms — a rational tax policy that is neutral, encourages a common market in the country, rewards competitive efficiency, and exploits comparative advantage. Any shift of investments from States with a strong infrastructure and trained manpower to the two "beneficiary" States motivated by tax reliefs alone would undo the decade-long work of rationalisation of tax structures. This is an area where misconceived charity could be twice cursed, harming both "him that gives and him that takes". Location-based, across-the-board tax incentives would not enhance either the comparative advantage of the "beneficiary" States or their potential to develop their human and natural resources. The tax reliefs given to both Uttaranchal and Himachal, that were supposed to be restricted to "specified locations", had the potential practically to cover the entire States.

In a competitive environment among the States, location is to be determined by economic efficiency rather than tax concessions. Good economics demands that concessions should be based on what is known as a SWOT (strengths, weaknesses, opportunities, and threats) analysis of any State that is targeted as a beneficiary. Once such an analysis is done, time-bound sops could be designed to bring out the untapped potential in the State concerned, in such areas as tourism, forestry, inland water transport, herbal drugs, and hydroelectric power. Such an approach alone would enable a backward State to use and develop its own natural and human resources to the maximum extent, establish forward and backward linkages, and realise the objectives of Central incentives. Again, concessions should be in terms of support to infrastructure development, human resource development and workforce social security in the targeted sectors, in preference to tax reliefs, especially in indirect taxes, which would distort the growth of the national economy. A beginning could be made by withdrawing the notified reliefs in cases of relocation of plants from other States and in sectors that are outside the "thrust areas" in the two beneficiary States.

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