In the immediate aftermath of the tax reforms, the reduction in personal income tax rates is expected to increase disposable income for the middle class.
Published Feb 02, 2025 | 3:00 PM ⚊ Updated Feb 13, 2025 | 9:42 AM
Union Minister for Finance and Corporate Affairs Nirmala Sitharaman called on President Droupadi Murmu before presenting the budget. (X)
Analysing the short-term and long-term consequences of the recent tax reforms necessitates a nuanced understanding of India’s economic dynamics, particularly in relation to the government’s monetary and financial policies and historical consumer demand patterns.
It is overly simplistic to extrapolate immediate impacts into the long term without considering the complex interplay of these factors. In the immediate aftermath of the tax reforms, the reduction in personal income tax rates is expected to increase disposable income for the middle class.
This boost in purchasing power is likely to stimulate consumer spending, particularly in sectors such as consumer goods, automobiles, and real estate.
The government’s fiscal policy, which includes modestly increasing capital expenditure, aims to offset potential revenue losses from tax cuts and support economic activity.
However, the effectiveness of these measures is contingent upon the central bank’s monetary policy stance. If the Reserve Bank of India maintains a restrictive monetary policy to combat inflation, it could dampen the stimulative effects of the tax cuts by making borrowing more expensive and potentially curbing consumer spending.
Consumption expenditure is a pivotal element of aggregate demand, directly influencing the accumulation of national capital and the strategic decisions of multinational corporations (MNCs).
An increase in consumer spending can stimulate economic growth, leading to higher national income and capital formation. This, in turn, affects MNCs’ investment strategies, as they seek to capitalise on expanding markets and increased demand for goods and services.
However, this dynamic is also susceptible to the inherent contradictions and crises within the capitalist system, which can disrupt the relationship between consumption, capital accumulation, and corporate investment.
Capitalism is inherently prone to crises due to its internal contradictions, such as the tendency for the rate of profit to fall and the overaccumulation of capital.
These crises can lead to economic downturns, affecting consumption patterns, capital accumulation, and the behaviour of MNCs. Understanding this interplay is essential for analysing the broader economic implications of policy reforms aimed at boosting disposable income and consumption, especially in the context of the cyclical nature of capitalist economies.
The expected increase in disposable income for individuals earning below ₹12 lakh, due to tax reforms, is likely to have a significant impact on consumption patterns, credit purchases, and overall economic activity.
With the rise in disposable income, consumers are likely to direct a substantial proportion of their increased earnings towards durable goods, particularly items like home appliances, mobile phones, furniture, and automobiles.
As more people can afford larger, long-term purchases, the trend towards credit-based purchases, especially through EMI options, will likely increase.
This is expected to stimulate demand in the consumer durables sector, benefiting industries related to electronics, home appliances, automobiles, and retail. Capital’s scramble for this extended market will also lead to a boom in the advertisement industry.
This predictable consumer behaviour has serious consequences. The growth of credit purchases will likely boost the personal loan and consumer finance sectors, with banks and non-banking financial companies (NBFCs) experiencing an uptick in disbursals.
This increase in credit will further stimulate consumption, but it also raises the risk of increased household debt in the long term. E-commerce platforms and retail businesses, especially those selling lifestyle goods, are expected to witness a surge in demand.
Likewise, the housing and real estate sectors could experience increased interest in affordable housing, particularly in urban and semi-urban areas, depending on the broader economic environment.
In the short run, the increased disposable income will contribute to a rise in aggregate demand, leading to greater production and potentially more jobs in sectors like retail, manufacturing, and services.
This boost in demand could further encourage job creation and stimulate economic activity. However, this increase in consumption may also create inflationary pressures, especially if demand outpaces supply in key sectors such as consumer goods and housing.
This inflation could erode the benefits of increased disposable income if not balanced by wage growth or improvements in supply chains. Under this regime, the government’s monetary and financial policies have often been characterised as inconsistent and at times, lacking coherence.
This inconsistency has led to periods of economic instability, with policy decisions sometimes appearing reactive rather than proactive. Such an approach has contributed to challenges in achieving sustained economic growth and stability.
For large capitalists, particularly MNCs and established brands, the impact of increased consumption is likely to be positive, as they are better positioned to scale production and meet demand.
However, micro, small and medium enterprises (MSMEs) could also benefit, particularly in regional markets, though their ability to compete with larger players might be limited due to resource constraints.
MSMEs in sectors like e-commerce, consumer goods, and retail can expect to see benefits, but the extent will depend on their ability to leverage local demand.
In the long term, the sustainability of increased consumption resulting from tax reforms hinges on several critical factors, including inflation rates, interest rates, and wage growth.
If inflation accelerates or wage growth fails to keep pace, the initial benefits of the tax reform could be undermined, leading to a potential decline in real purchasing power.
While large corporations are likely to experience the most significant gains from the rise in disposable income, MSMEs may encounter varied outcomes. Their success will depend on their capacity to adapt to changing market conditions and effectively meet the evolving demands of consumers.
The immediate effect of the tax reform is expected to be a positive boost to aggregate demand and economic growth.
However, the long-term sustainability of this growth will be influenced by broader economic dynamics, including the resilience of the Indian economy to global economic downturns.
The ability of the economy to withstand external shocks and maintain stable growth will be crucial in determining whether the benefits of the tax reform are enduring.
While the tax reform has the potential to stimulate consumption and economic growth, its long-term effectiveness will depend on managing inflation, ensuring wage growth aligns with productivity, and maintaining economic stability amidst global economic challenges.
(Views expressed here are personal.)
