A cash-strapped government cannot fund the investment needed for India’s growth story alone, as the 12th Five-Year Plan projections emphasise in their proposal that private sector resources be tapped to fuel roughly 50 per cent of investment. This means attracting a much larger share of household savings into equity and corporate debt, a government objective underlined by the Budget’s tax provisions. The doubling of tax-free infrastructure bond issue limits to Rs 60,000 crore, for example, means more project finance paper on offer. The new Rajiv Gandhi Equity Savings Scheme, which offers individuals with a taxable income limit of Rs 10 lakh a deduction of 50 per cent for direct equity investments of Rs 50,000, appears to be designed to support the disinvestment programme. Securities transaction taxes have also been reduced.
While these are steps in the right direction, they may not cause a tectonic shift in household savings. The tax regime with respect to equity (and equity mutual fund) investments has been liberal for years. There is no tax on dividend received, no capital gains tax (CGT) on listed equities (or equity funds) held for over a year, very moderate short-term CGT and offsets for capital losses. Nevertheless, the contribution of household savings to equity and debentures is minuscule, suggesting the problems lie elsewhere. The bulk of household financial assets is in bank savings and term deposits, provident funds, insurance, etc. The Reserve Bank of India’s 2009-10 data peg household savings (excluding gold) at just under 24 per cent of GDP. This is the largest component of national savings (the private corporate sector contributes eight per cent and the public sector merely two per cent). Roughly half of household savings (11.8 per cent of GDP) are in financial assets. But only three per cent of that (about 0.4 per cent of GDP) is in shares and debentures.
The equity market suffers from skewed risk perceptions and perhaps regulatory or structural imbalances. New initial public offer scams surface on a regular basis. The secondary market is rife with rumours of insider trading and manipulation. It is also chock-a-block with companies, with inadequate standards of disclosure. Meanwhile, the corporate bond market is crowded out by massive government borrowing. The secondary bond market is non-existent and bond issues few and far between. There are significant entry barriers for retail investors. In addition to lack of liquidity, perceptions about the tardy legal system also contribute to risk aversion. Investors believe that even in the case of default on secured instruments, it would take far too long to recover capital. This is a major stumbling block in raising project finance. Banks cannot handle the asset-liability mismatches of funding long-gestation, capital-intensive projects. Financial intermediation should improve a little with the award of infrastructure NBFC, or non-banking finance company, status to specific financial institutions. The hike in the tax-free infrastructure bond limit will improve supply. While liberalising the tax regime is necessary, it may not be sufficient to attract more savings. There is a need to identify and rectify lacunae in regulatory structures and to improve modes of intermediation. Above all, there is a need to rebrand public perceptions about poor and tardy regulation.