Thursday, October 23, 2014

More on Kelkar reports

{This is a comment on the revised reports of Vijay Kelkar on direct and indirect taxes. It was a pity Kelkar got so little time for his reports. This column was published in Business Standard of 18 February 2003.]

A tale of two services

It was clever of Vijay Kelkar to produce revised reports of his task forces on direct and indirect taxes. Everyone who jumped and trampled on the interim reports thought that there could be little new in the final ones. So, just as quickly as the debate had flared up with the publication of the interim reports, it died down with the publication of the final ones. The only person I know who has read both versions is Sukumar Mukhopadhyay, that indefatigable devourer of official verbiage. And I, who do it to chastise my soul.
When I was in the government, I noticed curious differences between the various services. The members of the Indian Administrative Service were focused, selfish, quick, confident, clever and arrogant. They were generally ignorant and proud of it. I recently met a member of the tribe who had left the service. He told me that knowledge management in the government was an oxymoron. If an officer, on leaving his post, tried to convey to others what he had learnt, they thought he was being cocky and showing off. And his successor thought he had innate genius and could learn nothing from his predecessor. I would not have put it so strongly, but coming as it does from the horse’s – or should I say the clever dog’s – mouth, the observation should be given due weight.
Officers of the Central Board of Direct Taxes (CBDT) were generally gentlemen, quiet, sober, amenable to reason. Some may think that this is unduly complimentary. I myself have had unhappy experiences as a taxpayer with income tax officers, and have heard some horrific stories. But by and large, this revenue service consists of middle-class characters who bring a packed lunch and who go back to their wives when they leave office.
Members and officers of the Central Board of Excise and Customs were quiet, very quiet. But some of them were hard, unscrupulous, sometimes extremely dishonest. If you want to know what they are not, you should meet the aforesaid Sukumar Mukhopadhyay: he is painfully honest, and he cannot stop talking. One officer published a book of poetry, put some outrageous price on it – something like Rs 1500 for a hundred-page pamphlet – and got his subordinates to sell thousands of copies to hapless taxpayers. Another had a lawyer wife; the higher he went, the more her practice flourished. A third got an expensive flat in Bombay on retirement as a present from an admirer in industry. A taxpayer once rang me up. He exported expensive garments, made of silk and beautifully tailored, to expensive stores abroad like Harrods. The customs accused him of overinvoicing: how could a shirt be worth Rs 1000? They took the shirt to a salesgirl in Cottage Industries Emporium, and asked her to value it. She gave them the answer they wanted. The officer who allowed explosives to be smuggled in for the Bombay blasts of 1993 exonerated himself by saying he thought it was only gold – and his claim was supported by the fact that the bribe was appropriate to gold.
There is a striking contrast between Kelkar’s two reports. The one on direct taxes does not give much space to tax administration; it is really focused on the tax structure – the rates and the concessions. It more or less assumes that the CBDT works fairly well, and gets quickly down to the job of the taxes. The report on indirect taxes, on the other hand, is mostly about tax administration. To a cynical mind like mine, it gave the impression that plenty was wrong with excise and customs, and much needed to be done to fix them. But the remedies it gave were, to my mind, inadequate and poorly thought out.
It may be that Kelkar was more interested in direct than in indirect taxes; we all income taxpayers are. We have to pay income tax every quarter, whereas we might pay customs duty a couple of times in our lifetime, and we may never have to deal with an excise officer. Or it may be that Kelkar had better or more committed economists on his direct taxes team: he had Urjit Patel and Omkar Goswami (Ashok Lahiri was on both the teams, and cannot be responsible for either). But most likely, excise and customs are a more unfair, arbitrary, oppressive service, and Kelkar got more complaints about them. One learns quite a bit about their quaint practices from the report on indirect taxes.
For instance, firms have to pay in excise every fortnight. If they pay less than their usual amount, they start getting phone calls from excise officers: why have you paid less? In other words, if you are producing something, you are not allowed to do badly in business. And if you do, the excise men will still insist that you pay up as if you are doing well.
Another practice that Kelkar lauds and I find most shady is that they do not tax you on the price you actually get. They make you print a Maximum Retail Price (MRP) on the carton, and charge you excise on it, whether you got it or not. Thus they convert an ad valorem duty into a specific one. If you are doing well, you pay a certain excise duty; if you do badly, you pay the same. Business is risky enough; excise makes it more risky.
I never knew that customs collect import duty in cash. I would have thought that with their revenue of a few thousand crores, they would find cheques more convenient. But cheques can bounce. Cash never bounces; and as it pours in, some sticks. Some years ago the CBI raided Delhi airport customs, and collected a few lakhs from the drawers of the customs officers’ tables – just a few hours’ take.

I have earlier written about the Unjust Enrichment Act, the law that is designed to make customs and excise officers extremely and unjustly rich. If a firm is overcharged tax, goes to court and wins, it cannot get back the duty it has been overcharged with: the collections go to a Consumer Welfare Fund which ministers of consumer affairs can conveniently raid. So all an excise officer has to do is to tell an industrialist, “I am going to overcharge you. You can go to court, but you will never get your money back. Instead of that, why not just give me a million and settle it quietly?” This is only one of the many tricks available to excise and customs officers. To know more, read Kelkar. But there is much he does not tell you.

Gross national contentment

[Jaswant Singh ceased to be finance minister before he could pursue his idea of gross national contentment; but it was worth pursuing; both the British and the German governments have taken interest in their people's happiness. This column was published in Business Standard of  28 January 2003.]

Towards greater juvenile contentment

The Honourable Finance Minister has adopted a new national objective: Gross National Contentment. Cynics will say they know where he is coming from: he has at last recognized the value of chanting Hare Rama, Hare Krishna, loosening one’s belt and stretching out in the afternoon (not necessarily in that order). They will say that he cannot do anything to increase the gross national product, whose enhancement his job is; so he wants to country to undergo suffering and enjoy it.
Might he be right? Do we bitch about too much and take our blessings too much for granted? Again the cynics would say, what do you expect from this government? With every grand gesture it has worsened the state of the economy. It has no clue about how to better it, so it would like to say: lie back and enjoy it. It has excited communal passions, promoted violence, and when the fire spreads, it says, there is too much division, let us unite.
Cynicism is the appropriate attitude towards this government – as it no doubt was towards Indira Gandhi’s – but let us get away for a moment from set attitudes and ask ourselves: can the government make people contented without spending money – or, at any rate, a lot of money? Are there any cheap bargains in the market for happiness?
Obviously a full stomach is the source of much contentment, and a good belch its highest manifestation. Midday meals for children are a good idea – as long as teachers do not take cooking as their only duty. The question is, what meal would, while being tasty and nutritious, create the least mess and need the least infrastructure? Shiv Sena was not so interested in feeding children since they would not vote for it. Instead, it set up stalls all over Bombay to sell Zhunka Bhakar to adults at absurdly low prices. It cluttered up Bombay pavements even further to give them space. Despite free real estate in prime areas and subsidies, few of the stalls survive. Even rabid Shiv Sainiks do not want to eat Zhunka Bhakar; Pao Bhaji and Masala Dosa are more to their taste. Similar political preconceptions have led to the supply of cooked meals, largely made up of surplus foodgrains, to schoolchildren.
I enjoy a well cooked meal eaten at leisure, and I recognize that Indians love lunches cooked by their wives – so much so, that they pay to get them collected from home shortly after they leave for office and delivered at their desks at lunchtime in Bombay. But it is all right if grown-up men decide to waste their earnings on fare cooked by their wives; and if they, as a result, need to take a nap afterwards, that is their employers’ business.
The government, as a model employer, does make it its business. The Government of India supplies every desk employee with a napkin to drape over his backrest, so that he can take a nap without smearing it with his favourite hair oil. But school benches are quite inappropriate for taking naps; if children start dozing off on benches, they would slouch and slump sideways and fall off. If a heavy meal is forced on them and they have to have a nap, it would be best to give each a little mat on which to stretch out. Stretching out mats in between benches will promote closeness at an early age, and train kids to sleep on the floors of crowded economy class cabins of planes when they go to work in the Middle East or wherever they have to go out of jobless India. But if we want to train them for something better than being coolies abroad, then perhaps we should rethink this business of cooked meals.
When I went to school, my daily allowance was 2 paise, for which I could get a reasonable quantity of peanuts; that was my lunch. In my last year of school the allowance was raised to 1 anna; then I could afford the luxury of having both chickpeas and peanuts. That remained my midday meal when I went to work for National Council, but my new-found prosperity enabled me to add a glass of sugarcane juice. It was a tasty, nutritious lunch that could be taken on the run and had no aftereffects requiring the draping of napkins over chairs. Now I am considerably more prosperous; but I still sometimes have variants of this lunch. The chanawallah of yore has himself diversified. Now he sells chana and peas in a number of colours and flavours, all pretty sharp; and he has added on gajak – a sweet made of deoiled sesame cake and white north Indian gur – peanut chiki and such other delectable sweets. Cane juice, unfortunately, has largely disappeared from Delhi streets. Cane has become too cheap, and cane juice can no longer support the shop rents and bribes of Delhi. But it has been replaced by a multiplicity of fruit juices. The juicer is a versatile and undiscriminating machine; it enables the juicewallah to make an undefinable multipurpose juice out of the cheapest materials and to earn the highest margin. But at a price he is prepared to make such delectable juices like pomegranate or chiku-orange.
The government may not be able or prepared to give children such expensive juices every day. But the development of the Indian economy has opened up many snack choices before children than were inconceivable in my childhood; an intelligent government should use those choices rather than force boring roti and dal on the poor kids.
To return to the Finance Minister’s grand theme of gross national contentment, children’s contentment can be increased without additional cost to government if they are allowed the choice of lunch. Rather than turn classrooms into kitchens, buy big vessels, engage fat cooks, make a special LPG allocation for schools and spatter children with haldi stains, it would be better to give them pocket money and let them buy whatever junk food they like best.
That would be good enough in towns where private enterprise ensures that children would have ample choice. But in villages and near schools too small to attract chanawallahs, the government may find it necessary to provide meals. They should, however, be the same kinds of tasty snacks as chanawallahs sell in cities – light, durable and portable.

And that is just an intermediate stage; eventually the government should work towards setting up a cybercafe in the place of every school, where children would get free junk food and pick up knowledge from the internet as a byproduct. Teachers are an endangered species.

Long live Larsen and Toubro

[This column in Business Standard of 28 January 2003 considers whether Kumar Mangalam Birla should take over Larsen and Toubro. L&T managed to stay independent.

Engineers vs businessmen

The fight between the management of Larsen and Toubro and Kumar Mangalam Birla over demerger of L&T’s cement business is heating up. Normally, if someone with such a large shareholding were to oppose a management’s intentions, the management would retrace its steps. In this case, however, the government financial institutions (FIs) are even bigger shareholders. The A V Birla group would have been well advised to take the FIs on board. Probably it tried and failed – as people generally do with FIs. The government has so many layers, and there is so much distrust amongst decision-makers, that it is virtually impossible to get a positive decision from them. But then, the FIs have apparently taken a positive decision – to support the demerger. Why did they? They are obviously taking the view that L&T is better off under the present management than under Kumara Mangalam Birla.
The A V Birla group was amongst India’s best managed in Aditya Birla’s time; since his death, Kumar Mangalam has improved the management structure further – cut out deadwood, brought in more professional managers, and introduced systems of governance. Why is it then that the prospect of his taking over L&T does not enthuse the financial institutions – or for that matter, any significant shareholder? However professional, however competent he may be, Kumar Mangalam is seen as a businessman, whereas A M Naik and his people are seen as engineers.
This is an uncanny throwback to the first days of independence. Then there was much distrust of businessmen, who were seen as heartless profiteers. That image went back to the British, who also looked askance at Indian businessmen. That went back partly to the rivalry between British and Indian business – the British rulers regarded both with disdain, but reserved more of it for Indian businessmen. After World War I, things changed a bit. The rulers saw the wisdom of getting the support of Indian business. The Industrial Commission was set up. On its recommendation, Indian industry was protected; the sugar industry came up under the umbrella of inordinate protection. The courtship, however, was incomplete; although Indian businessmen did not rise in rebellion, many of them – including the Birlas – had strong sympathies with the Congress.
But when the Congress inherited the mantle of the British, it was under the leadership of Jawaharlal Nehru, himself a science graduate and a socialist. He fully shared his predecessors’ discomfort with Indian businessmen. He surrounded himself with scientists and engineers, regarded dams as temples of modern India, and initiated a state-run process of industrialization that kept Indian businessmen off the commanding heights of the economy. The great names of public sector industry like N Krishnamurthy and M L Sondhi were engineers; the heroes were scientists like Homi Bhabha and Vikram Sarabhai.
That experiment of science-led industrialization failed. Enormous resources were wasted in setting up junkyards like Heavy Engineering Corporation (it houses the government of Jharkhand today) and loss-making enterprises. Worse, the government enterprises monopolized entire industries, and it was impossible for anyone from outside to enter and raise efficiency. Those are the mistakes that Arun Shourie is trying to unravel against such heavy odds.
Having lived through that era of frustration and failure, I was instinctively against scientists and engineers and for businessmen. I thought that India was unique amongst Asian nations in having a capable entrepreneurial class, and that the doctrinaire Congress governments had wasted this valuable resource. If, in the 1960s or 1970s, I disparaged India, my friends abroad would say, “But which other developing country has Tatas or Birlas?”
So with that history and background behind me, my sympathies should be with Kumar Mangalam Birla, and not A M Nayak. But I am not quite sure. I do hold L&T shares; if forced into a proxy vote, I would hesitate to vote against the incumbent management.
Why? Primarily because over the past year I have closely observed a hugely successful industry run by engineers – the information technology industry. The association in my mind between scientist-managers and failure has been broken. It was not scientists that made such a mess of the public sector, it was the government – as it does of everything it touches, whether it is the police or hospitals or pensions. And it is not the government as such; where, within the government, able engineers were given their head, they achieved success.
The interesting thing is, that businessmen are very much present in the IT industry. Azim Premji is a businessman. TCS is ultimately responsible to Ratan Tata. I have known IT entrepreneurs who felt stifled by Wipro’s commercial approach and launched off on their own. Those who left TCS have spawned many IT enterprises. But even the firms under business houses are largely run by engineers. The engineers I have interviewed are aware and proud of the fact that they are engineers and not businessmen. They do not think that there is anything in business which cannot be learnt by an engineer; they think there are things that an engineer can see and a businessman cannot. Engineers can assess technological risks and opportunities; and because they can do so, they can bring down the risks. Many years ago I was called by a Rajasthani businessman to advise. He said, “You know, we Marwaris never take a risk. But I feel uncertain about this situation, which is why I have called you.” Uncannily, I recently met an IT entrepreneur who had entered what seemed to me a most risky niche; he said, “If you proceed step by step, and think through each step, there is no risk. Even if I fail, it is an experiment: it teaches me something.”
So I am beginning to see the difference that knowledge makes: it reduces the riskiness of business decisions, it makes them more robust. This is where the engineer scores over the businessman: he knows a technology, and by operating it he learns from it. This is what L&T has: it is a storehouse of technological capability. Just look at how it entered cement. It started building cement plants for others. Then it decided it would build better cement plants if it operated some of its own. That is how it set up its own, and ran them so well that it became a major producer. And it can do this with any industry that requires technological competence.

That is one reason why investors have more confidence in L&T’s management than in Kumar Mangalam Birla. The other is that they think L&T will stick to its knitting, and not  waste its money on businesses it does not know. They worry that Birla will take money out of L&T and prop up one of his other companies. These are the concerns that he should be addressing if he wants to make a successful bid for L&T.

Options before the IT industry

[The IT industry was experiencing a slowdown by the end of 2002. There were fierce debates about what should be done. In this column in Business Standard of 21 January 2003, I discuss the options before the industry.]

Choices before the IT industry

The massacre of weaklings in the IT industry is over. It has not been so spectacular in India as in the Silicon Valley. There anyone one talks to has stories of friends having lost jobs, reneged on mortgages, taken jobs as waiters and so on. Two years ago, restaurants in San Jose used to write on bills, “Come and work for us”; now they no longer do. In India, many IT firms that were flourishing three years ago have died or become skeletons. But one does not hear stories of mass unemployment amongst software professionals.
This is because the slowdown in the industry has been less severe in India. Revenue growth slowed down to 23 per cent in 2001-02 from 49 per cent in 2000-01; the fall was entirely in software services, both at home and abroad. The growth of the volume of work must have been greater; if the billing rates fell by 18 per cent, the growth of volume would have been the same in both years. There was, however, a considerable change in the distribution of work; the biggest firms survived the slump much better than smaller ones. And since productivity in the big firms was higher, employment elasticity of output also fell. But considering all factors, it is unlikely that total employment in the industry fell much. Some of those who left probably found places in IT user firms such as banks and insurance companies; a small number left the industry perhaps. What happened, however, is that fresh recruitment fell heavily – the aspirations of many youngsters who had expected to join the gold rush must have been crushed.
Still, even amongst surviving firms, the level of uncertainty is high. Many of them realize that a structural break has occurred, but few are sure where the future markets lie. Many have strong views about this; but the basis of those views is weak. Let me enumerate the points of controversy.
Home vs overseas market: This question generates much passion, more amongst outside intellectuals than in the industry itself. One often encounters the view amongst the former that the industry has somehow failed India – that it should serve India before exporting, that it should work harder to develop the domestic market. Academic articles – certainly in economic journals – focus disproportionately upon domestic, especially non-profit applications of IT. Technologists have also worked on domestic problems. The industry has not shared this bias; the growth of its domestic sales fell more (from 31 to 11 per cent) than exports (from 38 to 21 per cent) in the past two years. When questioned, industry people say that the domestic market is less profitable and presents more hassles. I personally think that the industry suffers from a serious handicap vis-à-vis its competitors. The latter, whether in Ireland, Israel or China, have developed a domestic market and obtained considerable domain knowledge. Indian firms have generally not done this; even when they needed domain knowledge, they preferred to employ professionals from the user industries. The bigger IT companies sit on big liquid reserves; their most popular investment is offices and subsidiaries abroad. If they invested some of their profits in subsidizing work for Indian clients who might yield rich domain knowledge, that knowledge could be leveraged in work abroad.
Products vs services: This issue also generates much passion. The general belief is that products pay more, and that by specializing in services Indian firms have missed a chance. By now there are a few Indian product firms; they are run by committed enthusiasts. The rest of the firms do not bother. Views in this area have been too influenced by the prominent examples of the great product firms such as Microsoft, Sun and Oracle. They are not good models for the Indian industry. They have close connections with the hardware industry, which is largely absent in India; and they have set up strong entry barriers. Indian firms would find it impossible to enter their markets. I do not think it is realized in India how small Indian firms are. In a BusinessWeek enumeration, Wipro and Infosys were No 25 and 28 amongst the top 30 software firms. The turnover of Wipro was $696 million; at the top, IBM’s was $83.4 billion, Microsoft’s was $27.7 billion and EDS’s was $21.9 billion. Indian firms have some way to go before they can compete with the giants. But the contrast between products and services is posed too starkly. If a service is repeatedly used, it approximates to a product; if a product requires much service, it is only partly a product. The market for products is developing fast – especially for products which automate programme writing and make it more reliable. The quality standards for products are very high, they require marketing, and they need capital while they are being developed. Despite these difficulties, Indian firms are entering the product market, and more will. At the same time, a more continuous process is converting near-services to near-products: services firms are taking on jobs in a certain area and reusing parts of work done earlier in new contracts. This is easier for bigger firms; that is one reason why they have grown faster. In general, Indian firms are aware of the higher profitability of product markets, and are moving towards them.
Fixed-price vs cost-plus contracts: Indian firms commonly work on a cost-plus basis. Since their costs are lower, so are their returns. Firms in industrial countries more often take on an entire job for a fixed price, and consequently make profits. That fixed-price contracts give a higher profit is a correlation: more complex and larger jobs are done on a fixed-price basis, and there are fewer firms doing them, so they earn more. Indian firms broke into a market dominated by fixed-price contracts by offering to work on a cost-plus basis; not having a brand name or track record, this was the best thing they could do. Even if they enter into fixed-price contracts, they will charge less; that is their competitive advantage. In any case, the dominant pricing model is changing. The new norm is contracts that involve sharing of savings. CIOs of US companies are under pressure to cut costs, so they are engaging firms that can promise the greatest cost-saving.

Thus it seems to me that most criticism of the IT industry is not well founded. The industry is aware of the options, the choices it has made are largely rational, and it is moving in the direction of maximum advantage. But despite NASSCOM and despite industry fairs, there is not much open discussion within industry, and not much information sharing; these are the directions in which it needs to move.