## Friday, November 25, 2011

### Taxing investors to pay NGOs

In India, NGOs are fashionable. It is almost never wrong, in the Indian discourse, to give more money and more functions to NGOs.

Many people have worried about the extent to which NGOs are being used to supplant failing State machinery. This may seem expedient, but no country every became a developed country on the back of NGOs. There is no alternative to fixing the core mechanisms of the State.

In recent days, two pro-NGO policy elements seem to be in the pipeline:
1. A new Companies Bill seems to require that 2% of profit be spent on corporate social responsibility (CSR).
2. SEBI decided to force listed companies, starting with the top 100 firms, to describe measures taken by them along the key principles enunciated in the ‘National voluntary guidelines on social, environmental and economic responsibilities of business,' framed by the Ministry of Corporate Affairs (MCA).
When the government grabs 2% of the profit of a company, and hands it out to any purpose (no matter how good or bad), that is called expropriation. The fact that it satisfies some bleeding hearts does not change the fact that it is expropriation. In a good country, property rights would be fundamental, and the Supreme Court would block such expropriation.

The job of a corporation is to efficiently organise production, and send dividends back to shareholders. It is the individual, the shareholder, who has to then make a call about whether he would like to give money to charitable causes or not. We do wrong by expropriating this money even before it reaches the individual.

For an analogy, it is Bill Gates' birthright to gift away his own money, in his capacity as an individual. And I really admire the intelligence with which the Bill and Melinda Gates Foundation works. But Bill Gates (or the government or anyone else) has no right to expropriate money belonging to shareholders, through charitable initiatives by Microsoft.

We do wrong by placing the burden of charitable works upon the corporation. Corporations should not be organised to be do-gooders. They should be organised to obey laws, have high ethical standards and then power India's way out of poverty by efficiently organising production. Anything that corporations do, other than focusing on efficient production, is a distraction from the main trajectory of India's growth and development.

When a country is run by bleeding hearts, things start going wrong. If such a tax is enacted, it reduces the post-tax return on capital that Indian firms generate. Foreign investors and domestic investors have choices about where to invest. They will demand that firms only invest in a smaller set of high-return projects, which are competitive on the rate of return by global standards, even after being taxed. In other words, many projects will not be undertaken. This can't be good for India.

To make progress in India, we need to be hard headed. We should not let the urge to do good crowd out intelligence and analysis. We are falling into this trap too often.

One key element that I blame is the Indian college education. We fail to teach political science, we have   too many people who have not read The Republic, so we get trouble like Anna Hazare. We fail to teach economics, so we get Sarva Shiksha Abhiyaan and the education cess. Given the absence of a positive strategy for what India should be doing, in the mainstream, we are willing to turn away from the hard work of fixing the State, and feel satisfied by funding some do-gooding NGOs.

Intellectuals are the yeast that make a society rise. India is a big mighty youthful stagnant dough, waiting for a pinch of yeast.

1. This may be a most under-analyzed article you have written. You are just stating your bias, not arguments. You have also not stated the way of "fixing the core mechanisms of the State". I am totally unconvinced.

2. "When a country is run by bleeding hearts"

Quite obviously, the country is not run by bleeding hearts!

"...so we get trouble like Anna Hazare"

Lets bring on more trouble of that kind. I see him as the only one who is taking the problems head on, even though not suggesting the optimal solutions and using arcane methods. He's the only one who's got the Pawar incident right! He's the only one who talks about the govt needing to be for the people. And, he's flexible, willing to change his views and his people. The Lokpal is irrelevant, but he's also talking of electoral reforms. Who else is talking about electoral reforms or who else can talk about electoral reforms in India? For him to be successful, its not that his views need to prevail, but his marginal impact on government and politics should be positive. If nothing, his failure and this detour should be educational.

"We fail to teach economics, so we get Sarva Shiksha Abhiyaan and the education cess."

Don't worry, the govt will propose a Sarva Economics Shiksha Abhiyan and a national economics institute soon (with the appropriate kickbacks to all the cronies - capitalists or socialists). Sarcasm intended.

3. The message is loud and clear. In a State, the Government must act as catalyst to promote the basic role of its organs rather than distorting it. Moreover, forcing one organ to grab other's share cannot be justified.

4. looks like im the only one agreeing with u thus far..

excellent article.. but these are times of fantastic outcomes, so in times like this people do not ask for equality in opportunity, they ask for equality in outcome.. !

5. Sir, don't _want_ to agree with you here, but I know what you're saying makes logical sense. One must be hard-headed in affairs of state and in finance. Cold logic is the only principle behind financing of projects India sorely needs. Agree with that. Corporates need not operate on charity, even for a tiny bit, it's the shareholder's prerogative above all. Too often this simple principle is overlooked in the zeal and enthusiasm to 'help' people. The Gujarat's Govt.'s ill-advised proposal to tax Gujarat-based companies (30% of profits) towards welfare comes to mind. Agree, CSR is good, but not at the expense of the state not doing it.

Two (potentially unrelated) points come to mind:
1. What about the VGF that the Govt. provides to infra companies, ostensibly to ensure positive IRRs to start projects? Why? How are the VGF amounts decided? Aren't our infra companies large enough to undertake such projects without Govt. support? Can this be construed as 'corporate charity'?

2. Why can't CSR activities be profitable? Or rather, why certain activities undertaken by companies be contrued as CSR, given their contribution to the society?

IT companies today run training centers for college-grads they select. A company in the chemicals sector has links with chemical engineering departments of IITs for a research chair, a grant for research projects. Similar activities (IBM's research lab at IIT Delhi comes to mind too) are IMHO as much CSR activities as cleaning up the beach, or teaching primary children.

6. Keynesian economic theories are the source of current economic woes, educational institutions need to teach mises and libertarian theories too. Necessary to reduce omnipresence of the state.

7. I absolutely agree with Ajay's point. However I think, 2% tax for CSR looks injust and bad because, we are only looking at one leg of a very large and complex structure. IF we were to say that none of the corporates get any undue favors from Govt. in the name of dev, investments, job createtion, our obsession with GDP growth rate then this tax is bad. However we know for a fact that corporates in India have access to govt and policy makers, whereas the bleeding hearts have no voice. So in an indirect way this 2% kind of offsets the premium for proximity to the Govt and ability to get things done in your favor.

8. You are a learned professor,but it is not a good way to describe Mr. Anna Hazzare's method. You can disagree with his methodology, you should not call him "trouble".

This regulation will force the company to do something for society, but my guess is that other payments (bribes/commission) for corporate lobbying for favorable conditions/rebate/pricing etc will go through 2% of profit to NGO run by politician or their kin. But I am not sure.

9. I have a slightly different take on CSR. A sizeable number of corporates prefer CSR to higher taxation, which is the only way for a government to fund the social responsibility. The reasons are simple with government the decision as to type of project, its locale and quantum lie with the Government and the differences of State and Centre come to fore. With CSR the Corporate House can oblidge the choosen locale (read constituency) as per its business interest. So in a way CSR in Indian perspective is helping the business houses in promotion of their interests.

10. Another example of rent seeking by government that will ultimately impose a deadweight loss on the shareholders, consumers and employees.

11. “The Vedas speak of both pravrtti, outward orientation, and nivrtti, inward reflection. It is one thing to “look out there” and see where money might be made, but it’s another to “look within myself” and find my inner integrity so that my efforts as seen within not only an economic, but also a social and ecological context.” – Dr. Charles Jacob

12. Hi Ajay, I get your basic point and agree in principle, but I do not agree with your economic analysis - "Foreign investors and domestic investors have choices about where to invest." - true. "They will demand that firms only invest in a smaller set of high-return projects, which are competitive on the rate of return by global standards, even after being taxed." true - how does the 2% expense on CSR change that. "In other words, many projects will not be undertaken." - It is a general outcome for any taxation, not specifically the mandated CSR. May I suggest that what you need to clearly demonstrate is that after taking into account the costs and benefits of the positive/negative externalities derived from such a 2% mandatory CSR, the net benefit will still be negative. Such an exercise would clearly demonstrate your point. Cheers - Amar

1. If the CSR activities of Wipro, Tata and so many others are any indication, the returns from CSR activities may be quite high.

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