Last fortnight, the Finance Ministry announced a series of measures intended to boost the capital markets. Notable amongst these was a reversal of the tax surcharge on foreign investors, an unintended outcome of the super-rich tax announced in the budget. Post a hard stance taken by the ministry, better sense prevailed once the real impact of the measure became clearer. Many may argue that the rollback was an outcome of the large scale erosion of wealth in the market. While there may be an element of truth in that, the government took a concerted decision to be flexible and engage with stakeholders with an open mind, even if belatedly. They reached out to a slew of industry bodies and dug deep to obtain all facts and did not hesitate in rolling back the surcharge on foreign investors, announced only 6 weeks before. While de-facto admitting an oversight, the government sent out a strong signal - A willingness to listen and to be flexible, if the situation demands. We must all take heart from that.
The rollback has had limited impact, which can be alluded in part to the overall negative sentiment globally, in addition to our own slowing domestic economy. That said, if the government is indeed serious about reviving the animal spirits amongst long term foreign allocators, then it has to look at long term measures that create ‘ease of investing’ in the minds of foreign investors.
Even today, India stands out as one among very few nations globally that taxes foreign investors on gains they make on their capital market investments through LTCG. Major western economies with few limitations to the amount of capital they can attract, do not tax foreign investors on their gains. They chose not to, only because they respect the need to keep rules of engagement standardised, unless entirely unavoidable.
An argument is often made that investors wishing to participate in India’s growth must be willing to play within rules that we set out. That approach seldom works. It is akin to a prospective retail mutual fund investor assessing three different mutual funds in India, and being warned that not only do these three vary in investing styles, but their respective structure and taxation might also vary. So figure that out too before you invest! What do you think that investor would do – she would stay away out of course! The reason we seamlessly invest or evaluate different mutual funds as individual investors is because the legal and taxation structures are standardized, enabling us to instead focus on the core aspect that need our evaluation – the investing style, track record and ensuing commercials.
It is no different when a foreign institutional investor is evaluating myriad opportunities available globally, including India. They prefer to focus on the core - the relative investment opportunity, and the cost of doing so. Take the case of a foreign institutional investor armed with a mandate to select a new emerging market to invest into. The sole consideration they would want to focus on will be to evaluate India vs. say China vs. Brazil vs. SE Asia vs. a GEM Basket, and select the opportunity that best meets their investment objective. This is made possible when access and taxation remain by and large universal and simple. Should any one complicate the form of access and present taxation which is markedly different, it will stymie the process and almost always lead to an investor letting it pass, as compelling as the opportunity might be.
India, by continuing with LTCG and an unfriendly form of access for FPIs looking to make an entry, needs to honestly ask itself if it presents the ease and standardisation that foreign investors seek. Foreign investors have limited time and would like to focus on the business end of things. In this case – the underlying opportunity, not our complex regulations.
Large global pension funds, endowments and foundations are accountable to their respective boards on any significant deviations they undertake. Soon after LTCG was re-introduced in Feb 2018, I had an interesting conversation with a North American pension fund board that simply shut down plans that were underway at the time to invest serious capital into India. Their reasoning was simple - their global charter does not permit paying taxes on capital market gains, irrespective of the market. As much as they believed in India at the time (and still do), their board cannot approve an equity investment in India going forward, as it deviated from the charter that applied to them universally. This is but one example of what lack of standardisation creates for a foreign investor.
We must recognise that capital likes to flow to the best relative opportunity, and India is today in a strong position to garner a large share of that capital. But it will arrive on terms that are universal and standardised. In an increasingly transnational world where capital flows quickly from one country to another, it is imperative that our rules of engagement do not vary dramatically from global standards. We must not distract foreign allocators from focussing on our strength - The long term, structural growth opportunity that India presents.
As an emerging nation with aspirations to become a USD 5 Trillion economy by CY 2024, foreign flows will be key facilitators to meeting that goal. India has the potential to garner strong flows she rightly deserves, way above what she currently attracts. The finance ministry’s outreach to the investing fraternity last month and swift action thereafter to allay foreign investor concerns, is a good starting point. But there remains more to be done.
We need to take that dialogue forward and engage together once again, this time thinking through the longer term. Let us ask ourselves - what structural changes will create an ‘ease of investing’ environment and help garner the quantum of foreign flows required to become a USD 5 Trillion economy in 5 years. And then do what it takes.
Karun Marwah is Director, International Business, Motilal Oswal Group