Lower taxes key to China’s success: CII-McKinsey report

China today has a flat 17 per cent VAT (about 14 per cent of retail price) whereas India’s indirect taxes range from 25-30 per cent of the retail price for most manufactured products. In the case of labour productivity, it ranges between 10-300 per cent higher for different product categories—10 per cent higher in the assembly of colour televisions, 50 per cent higher in ceiling fans, and over three times higher in footwear.

It is because of lower interest rates that the capital costs are low. From 1997 to 2000, real interest rates for five-year loans in China fell from 7.8 to 4.8 whereas in India there was an increase from 6.4 to 7.8 per cent due to a reduction in inflation rates. This trend continuesd in 2001, with interest rates in both countries falling by about 1 percentage points.

Contrary to perception, the domestic sector accounts for two-thirds of the difference between Indian and Chinese manufacturing GDP. Domestic consumption in China is far higher than in India in various product categories—while in colour televisions, the domestic market is six times higher that India’s (30 million units versus 5 million), an astonishing 41 times in case of beer, it is over 5 times larger in steel and cement and about 20 times in air conditioners. And such large consumption levels cannot be just brushed aside, the study states, on higher per capita income or differences in income distribution alone.

For instance, in the case of colour televisions, China’s larger population and higher income account for a difference of about 9 million units and it is the lower prices that account for the remaining difference of 16 million units.

For the revival of India’s manufacturing sector, the study—taking a piece for the China’s success pie—calls for the need to simplify indirect taxes on manufacturing (following an introduction of VAT to replace sales tax, excise and other indirect taxes such as octroi and entry tax to 15 per cent of the retail price with a single rate across all products and states by 2006).

And to its list of much-needed policy initiatives, it adds reduction in import duties to a single rate of 10 per cent by 2006, lower interest rates (5-6 per cent) and simplification of labour laws.