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Guarding against growth fetishism: The case of India

India is justifiably proud of acquiring the mantle of the ‘fastest growing economy in the world’. There is the risk, however, of succumbing to ‘growth fetishism’. ‘Official India’ seems to subscribe to the view that the country can – and must – continue to grow at 7 to 8 percent per annum for decades and even aspire to double-digit growth. This uncritical acceptance of a growth target belies the dissident views of formidable critics who argue the case for a secular growth slow-down as extrapolated from well-known empirical regularities. There are sound reasons to temper the case of endless and rapid growth.

Read more at Griffith Asia Insights….

Foreign investors, not Australians, are likely to benefit from corporate tax cuts

The following insightful piece is authored by Anis Chowdhury, a former Director at one of the UN agencies and currently Adjunct Professor, University of Western Sydney and Australian Defence Force Academy. 

 

The Coalition Government has based its argument on the proposed corporate tax cuts on the recent cuts in America. In my previous Australia Institute blog (January 20, 2018), I have debunked Treasurer Scott Morrison’s scare tactics that if we do not follow the US move, investors will abandon Australia. Drawing from research findings on past US experiences of tax cuts, I have also debunked the argument that tax cuts generate more jobs and higher income.

In a recent paper, the prestigious US research organization, Brookings Institution, has demonstrated that the latest corporate tax cuts of the Trump administration will benefit mostly the foreign investors; not the ordinary Americans or businesses. It cites recent estimates from the Congressional Budget Office (CBO) to support its conclusion. The CBO analysis shows that the Tax Cut and Jobs Act (TCJA) effectively will have no impact on US incomes after 10 years. While foreign investors will end up receiving much of the gains, the net income available to Americans will rise barely, if at all.

According to the Brookings paper, this outcome results from different estimated impacts of corporate tax cuts on Gross Domestic Product (GDP), Gross National Product (GNP) and Net National Product (NNP). GDP is the estimate of output produced within a country (e.g. Australia) regardless of who produces it – domestic or foreign companies/workers. GNP is the estimate of output by domestic workers and domestically-owned capital. It is derived by subtracting incomes (profit, interest, wages, etc.) paid to the foreign nationals/entities and adding income received by nationals/entities from overseas. NNP is GNP minus depreciation of capital goods—the wear and tear of machines and other facilities. NNP comes closest of the three measures to incomes of the people and businesses of a country.

The CBO estimates that TCJA will increase US GDP by 0.5% in 2028. This happens as lower tax rates on capital income—such as the 21% rate on corporate profits—increases the after-tax rate of return which in turn should boost investment and hence the stock of productive capital such as computers or factories. But the CBO finds that most of that additional capital will be financed by foreigners. As a result, net payments of profits, dividends, and interest to foreigners also will also rise. The CBO projects that after subtracting those net payments to foreigners from GDP, the tax cuts will boost GNP by just 0.1% in 2028.

However, since the increase in output results mostly from additional investment in capital goods, the nation’s capital stock will be higher relative to output. That is good as it can raise worker productivity and wages, on average. But to maintain that larger capital stock a larger share of output must be devoted to offsetting depreciation, i.e. for wear and tear of those additional machines and factory buildings.

The CBO estimates that the rise in depreciation will be about 0.1% of output in 2028—enough to erase the already paltry boost to GNP. This means long-run incomes for Americans as measured by NNP will be more or less unchanged by the TCJA.

Thus, one can safely conclude that the Coalition Government’s proposed corporate tax cuts, modeled after the US, is unlikely to create much prosperity and jobs for Australians as is argued. Contrary to the claim, the direct benefits from tax cuts on incomes of Australian workers and businesses will be almost non-existent in the long-run.

Then consider the negative effects of tax cuts at the high end: Worsening income inequality, less revenue to finance government services and benefits, and higher Commonwealth debt, it is hard to make a case for Mr. Morrison’s proposed tax cuts for corporations and high-income earners.

 

Markets vs voters and the 2018 Malaysian elections: The questionable credibility of credit rating agencies

Millions of ordinary voters in Malaysia mustered moral courage and harnessed a yearning for change to oust the incumbent government led by Najib Razak. His regime was thoroughly tainted by corruption scandals and allegations of creeping authoritarianism. In bringing about a peaceful transfer of government through the ballot box, Malaysian voters have created two historically unprecedented outcomes. First, the new government will be represented by a multi-party coalition under the auspices of Pakatan Harapan (PH) rather than the ruling Barisan Nasional (BN) coalition that has held power since Malaysia became an independent nation in 1957. Second, it marks the return to Prime Ministership of Mahathir Mohamad who ruled as Prime Minister for 22 years under the BN banner. At 92, Mahathir will be the oldest elected head of government in the world. He also demonstrated an uncanny ability to abandon his previous party, overcome past political enmities and embrace PH.

Yet, as the world celebrates the collective wisdom of ordinary voters in Malaysia, ‘markets’ representing the nebulous community of bond stockholders, currency traders and credit rating agencies are hesitant to join in the celebrations.  Reuters reports that ‘Malaysian markets are leery over Najib’s defeat, Mahathir’s return’. CNBC proclaims that bond markets are experiencing ‘shockwaves’. Bloomberg writes that ‘investors are bracing for further market jolts’. The Wall Street Journal warns of ‘turbulence’ following the unanticipated election results. These publications uncritically cite the concerns expressed by credit rating and sovereign analysts.

What are these concerns? The new government has pledged to overturn the highly unpopular goods and services tax and replace it with a fairer indirect tax system. It will restore fuel subsidies and increase minimum wages. The aforementioned analysts argue that these populist pledges, if implemented, are likely to have a negative fiscal impact with adverse consequences for Malaysia’s sovereign credit rating and hence borrowing costs. Indeed, even Mahathir felt obliged to assure markets that the new government will not do anything to disrupt investor confidence.

In feeling obliged to respond to the concerns of ‘markets’, Mahathir does his own record of economic management a great disservice and inflates the importance of credit rating agencies.  These bodies have a highly dubious track-record in assessing the creditworthiness of both companies and countries. Furthermore, careful empirical scrutiny suggests that despite a great deal of media hype about fiscal issues, ‘…growth has a more significant impact on sovereign default risks than debts and deficits’ in the formal evaluations of credit agencies. This is consistent with common sense. What is the point, after all, of assigning a high credit rating to a country simply because it has a balanced budget and low public debt while it is afflicted by low growth, high incidence of material deprivation, social and political tensions and poor quality of governance?

Mahathir’s own record of economic management shows that his government was able to defy economic orthodoxy and the dire warnings of credit rating agencies during the Asian financial crisis of 1997. His government spurned advice and assistance from the IMF, instituted selective capital controls and allied measures and nursed the Malaysian economy back to health. The World Bank has paid a glowing tribute to these policies in its latest report on the Malaysian economy.

As the previously cited World Bank study notes, subsequent administrations have built on the critical legacy of the policies crafted during the turmoil of the late 1990s. Today, Malaysia is poised to become a high-income economy between 2020 and 2024. Both its fiscal deficit and public debt are low by international standards and are likely to remain so. The economy is growing in excess of 5 percent which is line with its growth potential; inflation is subdued; extreme poverty is virtually non-existent; unemployment is around 3 percent; the labour force participation is about 68 percent. Malaysia is a substantially diversified economy and a major exporter of electrical and electronic goods.

In sum, the credit rating agencies should stop being fixated by fiscal issues and consider the broader economic and social context of countries on which they pontificate. They should exercise due humility by recognizing their fallibility. They should shed their inhibitions and join others in celebrating the triumph of electoral democracy in Malaysia.