Description
Effect of Income Tax Relaxation on Various Sectors
Analyzing the Effect of Income Tax Relaxation on Various Sectors
Group No. : 6 Jagesh Purohit -09P142 Sanjay Pammi -09P153 Rudranil Dutta -09P165 Sushma T. -09P176 Vishal Gupta -09P179 Anup Suresh -09P128 Relaxation in tax structure has given the individual consumer more and more savings and purchase power. The amendments in the tax structure made by the esteemed finance minister have given many consumers a lot more income. Also incentives to buy have been included in the budget 2009-2010. This has created greater demand for many goods by the consumers. Going by the basic rules of microeconomics we can note that by an increase in income of the consumer there will be an increase of the demand of goods that are perceived to be of high societal value or of superior quality. Similarly there will be a decline in demand for stuff that is perceived to be inferior in quality, as consumers backed with superior buying power will demand for higher quality goods and will be willing to pay for it also. We have analyzed the effect of this scenario on five key sectors of our economy. Namely: 1) 2) 3) 4) 5) Retail Airlines Consumer Durables Automobiles Real Estate
The effect of the new structure on these sectors has been explained in various segments and categories of that particular sector.
Retail Sector:
Retail Sector comprises of a lot of items that cater to various needs of a multitude of consumer groups. To encompass all the groups under one common group called retail is very difficult and quite impossible to achieve. Retail shopping consists of a basket of items to shop for: Mostly any changes in the income of an individual do not make much difference in the retail sector as people will try to buy a better product in the retail scenario and would leave buying an inferior quality product. So the entire retail sector as a whole is unaffected by this change and more or less the demand for the retail sector increases slightly or not at all. Dividing the goods into different sectors: FMCG: In the FMCG sector overall the consumption of the consumer will increase as higher purchasing power by the consumer will enable him to spend a lot more on the FMCG such as snacks, body care products, cosmetics etc. This sector thus shows to have an income elasticity of between 0 and 1. The budget relaxations in the income tax then would have the effect that there would be a slight increase in consumer spending on FMCG products.
Luxury Products: Apparel, accessories, branded goods etc. These products usually qualify in the luxury segment and the demand for these products will vary wildly with fluctuations in the income of the consumers.
These products will come into greater demand as the purchasing power of the consumer rises and the consumer is willing to pay more for the status symbol and the quality attached to it.
This also indicates that there is a corresponding decrease in the demand for other inferior quality or non-branded stuff. So overall the demand does balance itself out in the retail sector. Inferior quality goods: In any retail good, there will always be more than one type of good which will be inferior in quality or status quotient than another brand. These goods will primarily face a drop in demand because of the rise in the purchase power of the consumers who will demand for more on the basis of their increased income. The demand for these goods will then be replaced with goods which will be superior in terms of quality and social quotient. Hence you will find that there will be an income elasticity of less than 0.
AIRLINES
The general log-linear demand function for the airlines industry could be defined as :LnQ = A + B LnP1 + CLnP2 + DY Where, Q: Demand, A,B,C,D : coefficients, P1 : Own price, P2 : Competitor’s price, Y : Income. The reduction in direct tax by the Government of India in Budget 09-10 has increased the disposable income of the people. Consumers with higher income are able to purchase more goods and services; therefore, an increase in disposable income will provide an increase in demand for air travel. Because of this direct relationship between demand and income, the coefficient for consumer income is positive. Indian airline industry can be divided into two segments: Luxury and Low Cost Carriers (LCC). Luxury Segment Luxury segment includes usually the business class as well as the people who can afford the high priced airlines. For business class, the ticket is usually purchased by the employers. They tend to pay a higher price to get convenient service at short notice. The income elasticity for the demand in this segment is around 0.8 which is more towards the inelastic side. This is because the change in income for these travellers doesn’t have much effect on their decision of choosing airlines as they belong to higher income group or are supported by their employers so can easily afford the change in prices. Low Cost Carriers These airlines include the passengers who travel by their own convenience or money. These passengers are greatly affected by the change in prices as they tend to shift towards the railways in case of price increase thus affecting the demand for the airlines. The income elasticity for the demand in this segment is around 1.9 which makes it much more elastic as compared to the luxury class.
The combined income elasticity for demand for the airline industry comes out to be 1.5. This means that is passengers’ income increases by 3 percent keeping all other factors (prices of the airline as well as competitors etc.) constant, the increase in the demand for the airline industry will be 4.5 percent. Because of this high-income elasticity, airline industry is cyclical – so much so that it grows and shrinks faster than the economy as whole. So considering the tax relaxation in the budget and considering all other factors constant we can predict that the demand in the airlines industry will increase in general. But for the general trend in the airline industry, various other factors including price of fuel, Govt. regulations, taxes levied on the service (indirect taxes) , Airport surcharge etc should be taken into account too.
References :1. “Industry and firm studies” By Carol Horton Trembley : Book Review 2. “Introduction to air transport economics” By Bijan Vasigh, Tom Tacker, Ken Fleming : Book Review
CONSUMER DURABLES
All the white goods are basically considered in this segment. It includes all the electronic items varying from the low end to high end products. Quoted from previous sources, the first half of 2008-09 saw robust growth in many of the consumer durables including colour televisions, refrigerators, cooking appliances and washing machines, but due to global slowdown suddenly the rise flattened and weakened from the third quarter. Again, fourth quarter brought some relief with some signs of improvement. From sources again, sales of household appliances are expected to show a moderate 4% growth in 2009-2010. Among the top ones, LCD television sets are expected to show a robust 75 % growth. Luxury goods are now being perceived as necessities with higher disposable incomes being spent on lifestyle products. There is a apparent shift in the consumers’ fondness in favor of higher-end, technologically superior branded products, the demand being spurred by increasing consumer awareness and preference for new models. IMPACT OF BUDGET 2009 ON CONSUMER DURABLES Reduction in customs duty on LCD panels to 5% from 10% is likely to have a marginally positive impact on the industry. LCD panels account for around 45-70% of the price of an LCD television, depending on the screen size. If the reduction in customs duty is passed on entirely to the consumer, the price of a 32-inch LCD television may fall by approximately Rs 600. This cut in duty would also boost domestic assembling of LCD sets. Additionally, the rise in personal disposable income by Rs 10,000 per annum due to the increase in personal tax exemption limit is likely to boost the demand for consumer durables. Now the sector could be divided for the rural and urban markets but over that it will be differentiated on the technology advanced capabilities. For example, the black and white television will be no longer a necessity these days with the increase in disposable income of the middle income and lower income groups. So it will act as an inferior good, resulting in decrease in demand of such products and on other hand, the demand for such products could still be high in rural markets where people are dying to get hold of even simple televisions and other electronic items with low technological capabilities. With higher technological advanced products in the white goods category, the demand for it will increase in case of middle income/ higher income groups who go for brand recognition. So there will be a segregation of demand in case of this segment for low end and high end consumer durables.
RURAL MARKETS
As stated above, the demand for white good will increase drastically in this sector even for lower end products with a higher disposable incomes. URBAN MARKETS
As mentioned before, there will be distinction in case of urban markets over the high end and low end products. The low end products will act as inferior goods in this segment and here demand for the goods decreases ie for the same income, the demand for the good decreases in the graph. But in the case of high end products, there will be shift for new customers. As so, the demand will be more in case of same income in the graph ie as demand increases, the demand also increases. For example, the refrigerator segment also has shown a similar trend with frost-free segment having about 54 percent growth with about 15 per cent de-growth indirect cool refrigerators.
Automobiles
The key announcements in Union Budget 2009-10 related to the direct tax structure that are likely to have an impact on demand in the automobile sector are following: (a) Increase of personal income tax exemption limit for all citizens. (b) Increase of the deduction under section 80-DD to Rs.1 lakh from Rs.75,000. (c) Elimination of surcharge of 10% on personal income tax. (d) Wealth Tax exemption raised from Rs 15 Lac to Rs 30 Lac. (e) Corporate Tax was not changed. Automobile Sector can be divided into two market segments i.e. Rural Markets and Urban Markets. Further automobile sector has two product segments to offer from: a) Passenger Vehicles – Two-Wheelers, four-wheelers (cars) etc. b) Commercial Vehicles – Trucks, Buses etc. Impact of Budgetary Announcements on Automobile Sector Demand: Budget 2009-10 provides marginal relaxation in terms of increase in income tax exemption, elimination of surcharge on income tax etc. which are likely to have an impact (albeit very small) on the disposable income of the consumers which is only likely to have an impact on the demand of two wheelers or luxury cars with the elimination of surcharge. For automobiles the income elasticity of demand (EI) is greater than unity therefore the demand for automobiles will increase if the income of consumers increases. The price elasticity of demand (EP) is considered to be elastic in the short run which will affect the demand of automobiles w.r.t. price change and inelastic in the long run. Passenger vehicles are somewhat of a necessity in the long run in a country like India especially in the rural and semi-urban areas since there are very few alternative modes of transport available. Also since commercial vehicles are necessary for economic growth they may be considered a necessity in the long run and hence have negative price elasticity. The income elasticity of demand for automobiles is shown in the figure below:
Cars in Urban Markets Two Wheelers in Urban Markets Two Wheelers in Rural
Income
Markets Cars in Rural Markets
Fig: Income Elasticity Curves for Automobile demand
Amongst the provisions in the budget for income tax or direct tax most of them concern with either reducing the tax burden on consumers or abolishment of some taxes. We will analyze the impact of each of these announcements on the demand for automobiles. Provisions (a) to (d) enable the consumers save on tax expenditure thereby the net disposable income of the consumers increases. Owing to this effect the purchasing power or the real income of the consumers has increased and given that demand for automobiles is income elastic the demand for automobiles has increased due to the tax relaxations. But since the increase will only be marginal the demand for products like cars and commercial vehicles is not likely to witness much change. A broad analysis of the impact of budgetary proposals across on demand across various market segments and product varieties is given in the following table: Product Commercial Vehicles Normal Market Urban Markets Unaffected Small Increase Small Increase Increase Decrease Cars Luxury Two Wheelers Bikes Scooters
Rural Markets
Unaffected
Increase
Unaffected
Increase
Increase
Table: Impact of Income tax relaxations on demand of Automobiles Therefore, we observe that owing to tax relaxations provided in the budget, the change in demand for automobiles is expected to vary across different markets and product segments if we only take into account the change in income into consideration however the demand may or may not increase if other economic variables like GDP growth, taste of customers, other budget provisions like excise duty etc are considered. As the data for automobile sales for month of July 2009 is not available yet we cancan only make predictions about the change in demand w.r.t. change in income but a complete picture about automobile demand will only emerge after all other factors all also taken into consideration.
Real Estate
The real estate sector can be divided into residential, commercial, retail and hospitality sub sectors. Each sub sector has its own growth drivers. We will be concentrating on the residential space in this report. This sub sector can further be segmented into Low Cost/Mid market/Premium housing. The demand in the residential sectors is driven by many factors. Some of the key factors are mentioned below: 1. Urbanisation: The urban population is growing at a rapid pace and this increases the demand. 2. Number of rich households 3. Working age population 4. Income levels 5. Government policies. Analysis based on the income effect: As a result of relaxation in the direct tax structure, the income of individuals will increase. As discussed earlier, Income is one of the factors that affect the demand in the residential retail sector. Let us consider the affect of this factor in the demand for housing in the residential sector. The income groups can also be divided into low/medium/high income groups. We will be discussing few of the combinations below: Low cost housing and medium/high income groups: The income elasticity of this segment is negative and hence is considered as inferior. As their income rises, medium/high income groups reduce their demand for inferior goods and will prefer necessaries or luxury goods. Thus, an increase in income reduces the demand in this segment as shown below:
Mid Segment and medium income groups: The income elasticity of this segment is between 0 and 1 and is considered as a necessity. Hence, the increase in income will increase the demand in this segment as shown:
Premium Housing and medium/high income groups: The income elasticity of this segment is greater than 1 and hence is considered as a luxury. Thus, an increase in income will increase the demand to a great extent as shown:
This demand analysis is not perfect because income is not the major/only factor(s) that affect the demand in the residential sector. This demand is largely driven by incentives provided by the government like reduction of interest rate on housing loans, measures to boost capital funding etc. Also during these recessionary times, even though the interest rates are being reduced, there is no increase in the demand as consumers are trying to rebuild their savings and household financial balance sheets. If we take into consideration all the factors that affect the demand in the residential sector, the immediate impact of Budget 2009-10 will be very less as there were no major incentives directly related to the real estate sector.
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Effect of Income Tax Relaxation on Various Sectors
Analyzing the Effect of Income Tax Relaxation on Various Sectors
Group No. : 6 Jagesh Purohit -09P142 Sanjay Pammi -09P153 Rudranil Dutta -09P165 Sushma T. -09P176 Vishal Gupta -09P179 Anup Suresh -09P128 Relaxation in tax structure has given the individual consumer more and more savings and purchase power. The amendments in the tax structure made by the esteemed finance minister have given many consumers a lot more income. Also incentives to buy have been included in the budget 2009-2010. This has created greater demand for many goods by the consumers. Going by the basic rules of microeconomics we can note that by an increase in income of the consumer there will be an increase of the demand of goods that are perceived to be of high societal value or of superior quality. Similarly there will be a decline in demand for stuff that is perceived to be inferior in quality, as consumers backed with superior buying power will demand for higher quality goods and will be willing to pay for it also. We have analyzed the effect of this scenario on five key sectors of our economy. Namely: 1) 2) 3) 4) 5) Retail Airlines Consumer Durables Automobiles Real Estate
The effect of the new structure on these sectors has been explained in various segments and categories of that particular sector.
Retail Sector:
Retail Sector comprises of a lot of items that cater to various needs of a multitude of consumer groups. To encompass all the groups under one common group called retail is very difficult and quite impossible to achieve. Retail shopping consists of a basket of items to shop for: Mostly any changes in the income of an individual do not make much difference in the retail sector as people will try to buy a better product in the retail scenario and would leave buying an inferior quality product. So the entire retail sector as a whole is unaffected by this change and more or less the demand for the retail sector increases slightly or not at all. Dividing the goods into different sectors: FMCG: In the FMCG sector overall the consumption of the consumer will increase as higher purchasing power by the consumer will enable him to spend a lot more on the FMCG such as snacks, body care products, cosmetics etc. This sector thus shows to have an income elasticity of between 0 and 1. The budget relaxations in the income tax then would have the effect that there would be a slight increase in consumer spending on FMCG products.
Luxury Products: Apparel, accessories, branded goods etc. These products usually qualify in the luxury segment and the demand for these products will vary wildly with fluctuations in the income of the consumers.
These products will come into greater demand as the purchasing power of the consumer rises and the consumer is willing to pay more for the status symbol and the quality attached to it.
This also indicates that there is a corresponding decrease in the demand for other inferior quality or non-branded stuff. So overall the demand does balance itself out in the retail sector. Inferior quality goods: In any retail good, there will always be more than one type of good which will be inferior in quality or status quotient than another brand. These goods will primarily face a drop in demand because of the rise in the purchase power of the consumers who will demand for more on the basis of their increased income. The demand for these goods will then be replaced with goods which will be superior in terms of quality and social quotient. Hence you will find that there will be an income elasticity of less than 0.
AIRLINES
The general log-linear demand function for the airlines industry could be defined as :LnQ = A + B LnP1 + CLnP2 + DY Where, Q: Demand, A,B,C,D : coefficients, P1 : Own price, P2 : Competitor’s price, Y : Income. The reduction in direct tax by the Government of India in Budget 09-10 has increased the disposable income of the people. Consumers with higher income are able to purchase more goods and services; therefore, an increase in disposable income will provide an increase in demand for air travel. Because of this direct relationship between demand and income, the coefficient for consumer income is positive. Indian airline industry can be divided into two segments: Luxury and Low Cost Carriers (LCC). Luxury Segment Luxury segment includes usually the business class as well as the people who can afford the high priced airlines. For business class, the ticket is usually purchased by the employers. They tend to pay a higher price to get convenient service at short notice. The income elasticity for the demand in this segment is around 0.8 which is more towards the inelastic side. This is because the change in income for these travellers doesn’t have much effect on their decision of choosing airlines as they belong to higher income group or are supported by their employers so can easily afford the change in prices. Low Cost Carriers These airlines include the passengers who travel by their own convenience or money. These passengers are greatly affected by the change in prices as they tend to shift towards the railways in case of price increase thus affecting the demand for the airlines. The income elasticity for the demand in this segment is around 1.9 which makes it much more elastic as compared to the luxury class.
The combined income elasticity for demand for the airline industry comes out to be 1.5. This means that is passengers’ income increases by 3 percent keeping all other factors (prices of the airline as well as competitors etc.) constant, the increase in the demand for the airline industry will be 4.5 percent. Because of this high-income elasticity, airline industry is cyclical – so much so that it grows and shrinks faster than the economy as whole. So considering the tax relaxation in the budget and considering all other factors constant we can predict that the demand in the airlines industry will increase in general. But for the general trend in the airline industry, various other factors including price of fuel, Govt. regulations, taxes levied on the service (indirect taxes) , Airport surcharge etc should be taken into account too.
References :1. “Industry and firm studies” By Carol Horton Trembley : Book Review 2. “Introduction to air transport economics” By Bijan Vasigh, Tom Tacker, Ken Fleming : Book Review
CONSUMER DURABLES
All the white goods are basically considered in this segment. It includes all the electronic items varying from the low end to high end products. Quoted from previous sources, the first half of 2008-09 saw robust growth in many of the consumer durables including colour televisions, refrigerators, cooking appliances and washing machines, but due to global slowdown suddenly the rise flattened and weakened from the third quarter. Again, fourth quarter brought some relief with some signs of improvement. From sources again, sales of household appliances are expected to show a moderate 4% growth in 2009-2010. Among the top ones, LCD television sets are expected to show a robust 75 % growth. Luxury goods are now being perceived as necessities with higher disposable incomes being spent on lifestyle products. There is a apparent shift in the consumers’ fondness in favor of higher-end, technologically superior branded products, the demand being spurred by increasing consumer awareness and preference for new models. IMPACT OF BUDGET 2009 ON CONSUMER DURABLES Reduction in customs duty on LCD panels to 5% from 10% is likely to have a marginally positive impact on the industry. LCD panels account for around 45-70% of the price of an LCD television, depending on the screen size. If the reduction in customs duty is passed on entirely to the consumer, the price of a 32-inch LCD television may fall by approximately Rs 600. This cut in duty would also boost domestic assembling of LCD sets. Additionally, the rise in personal disposable income by Rs 10,000 per annum due to the increase in personal tax exemption limit is likely to boost the demand for consumer durables. Now the sector could be divided for the rural and urban markets but over that it will be differentiated on the technology advanced capabilities. For example, the black and white television will be no longer a necessity these days with the increase in disposable income of the middle income and lower income groups. So it will act as an inferior good, resulting in decrease in demand of such products and on other hand, the demand for such products could still be high in rural markets where people are dying to get hold of even simple televisions and other electronic items with low technological capabilities. With higher technological advanced products in the white goods category, the demand for it will increase in case of middle income/ higher income groups who go for brand recognition. So there will be a segregation of demand in case of this segment for low end and high end consumer durables.
RURAL MARKETS
As stated above, the demand for white good will increase drastically in this sector even for lower end products with a higher disposable incomes. URBAN MARKETS
As mentioned before, there will be distinction in case of urban markets over the high end and low end products. The low end products will act as inferior goods in this segment and here demand for the goods decreases ie for the same income, the demand for the good decreases in the graph. But in the case of high end products, there will be shift for new customers. As so, the demand will be more in case of same income in the graph ie as demand increases, the demand also increases. For example, the refrigerator segment also has shown a similar trend with frost-free segment having about 54 percent growth with about 15 per cent de-growth indirect cool refrigerators.
Automobiles
The key announcements in Union Budget 2009-10 related to the direct tax structure that are likely to have an impact on demand in the automobile sector are following: (a) Increase of personal income tax exemption limit for all citizens. (b) Increase of the deduction under section 80-DD to Rs.1 lakh from Rs.75,000. (c) Elimination of surcharge of 10% on personal income tax. (d) Wealth Tax exemption raised from Rs 15 Lac to Rs 30 Lac. (e) Corporate Tax was not changed. Automobile Sector can be divided into two market segments i.e. Rural Markets and Urban Markets. Further automobile sector has two product segments to offer from: a) Passenger Vehicles – Two-Wheelers, four-wheelers (cars) etc. b) Commercial Vehicles – Trucks, Buses etc. Impact of Budgetary Announcements on Automobile Sector Demand: Budget 2009-10 provides marginal relaxation in terms of increase in income tax exemption, elimination of surcharge on income tax etc. which are likely to have an impact (albeit very small) on the disposable income of the consumers which is only likely to have an impact on the demand of two wheelers or luxury cars with the elimination of surcharge. For automobiles the income elasticity of demand (EI) is greater than unity therefore the demand for automobiles will increase if the income of consumers increases. The price elasticity of demand (EP) is considered to be elastic in the short run which will affect the demand of automobiles w.r.t. price change and inelastic in the long run. Passenger vehicles are somewhat of a necessity in the long run in a country like India especially in the rural and semi-urban areas since there are very few alternative modes of transport available. Also since commercial vehicles are necessary for economic growth they may be considered a necessity in the long run and hence have negative price elasticity. The income elasticity of demand for automobiles is shown in the figure below:
Cars in Urban Markets Two Wheelers in Urban Markets Two Wheelers in Rural
Income
Markets Cars in Rural Markets
Fig: Income Elasticity Curves for Automobile demand
Amongst the provisions in the budget for income tax or direct tax most of them concern with either reducing the tax burden on consumers or abolishment of some taxes. We will analyze the impact of each of these announcements on the demand for automobiles. Provisions (a) to (d) enable the consumers save on tax expenditure thereby the net disposable income of the consumers increases. Owing to this effect the purchasing power or the real income of the consumers has increased and given that demand for automobiles is income elastic the demand for automobiles has increased due to the tax relaxations. But since the increase will only be marginal the demand for products like cars and commercial vehicles is not likely to witness much change. A broad analysis of the impact of budgetary proposals across on demand across various market segments and product varieties is given in the following table: Product Commercial Vehicles Normal Market Urban Markets Unaffected Small Increase Small Increase Increase Decrease Cars Luxury Two Wheelers Bikes Scooters
Rural Markets
Unaffected
Increase
Unaffected
Increase
Increase
Table: Impact of Income tax relaxations on demand of Automobiles Therefore, we observe that owing to tax relaxations provided in the budget, the change in demand for automobiles is expected to vary across different markets and product segments if we only take into account the change in income into consideration however the demand may or may not increase if other economic variables like GDP growth, taste of customers, other budget provisions like excise duty etc are considered. As the data for automobile sales for month of July 2009 is not available yet we cancan only make predictions about the change in demand w.r.t. change in income but a complete picture about automobile demand will only emerge after all other factors all also taken into consideration.
Real Estate
The real estate sector can be divided into residential, commercial, retail and hospitality sub sectors. Each sub sector has its own growth drivers. We will be concentrating on the residential space in this report. This sub sector can further be segmented into Low Cost/Mid market/Premium housing. The demand in the residential sectors is driven by many factors. Some of the key factors are mentioned below: 1. Urbanisation: The urban population is growing at a rapid pace and this increases the demand. 2. Number of rich households 3. Working age population 4. Income levels 5. Government policies. Analysis based on the income effect: As a result of relaxation in the direct tax structure, the income of individuals will increase. As discussed earlier, Income is one of the factors that affect the demand in the residential retail sector. Let us consider the affect of this factor in the demand for housing in the residential sector. The income groups can also be divided into low/medium/high income groups. We will be discussing few of the combinations below: Low cost housing and medium/high income groups: The income elasticity of this segment is negative and hence is considered as inferior. As their income rises, medium/high income groups reduce their demand for inferior goods and will prefer necessaries or luxury goods. Thus, an increase in income reduces the demand in this segment as shown below:
Mid Segment and medium income groups: The income elasticity of this segment is between 0 and 1 and is considered as a necessity. Hence, the increase in income will increase the demand in this segment as shown:
Premium Housing and medium/high income groups: The income elasticity of this segment is greater than 1 and hence is considered as a luxury. Thus, an increase in income will increase the demand to a great extent as shown:
This demand analysis is not perfect because income is not the major/only factor(s) that affect the demand in the residential sector. This demand is largely driven by incentives provided by the government like reduction of interest rate on housing loans, measures to boost capital funding etc. Also during these recessionary times, even though the interest rates are being reduced, there is no increase in the demand as consumers are trying to rebuild their savings and household financial balance sheets. If we take into consideration all the factors that affect the demand in the residential sector, the immediate impact of Budget 2009-10 will be very less as there were no major incentives directly related to the real estate sector.
THANK YOU?!
doc_679593732.doc