There will be repercussions, won’t borrow to pay GST compensation, Modi govt tells states

Modi govt says revenues are under strain and expenditure is increasing due to the pandemic and needs of national security to counter states' demand that it should borrow.

Representational image of Union Finance Ministry | ANI

New Delhi: The Narendra Modi government has refused to cede to states’ demand that it resort to borrowing to pay them their GST compensation, citing macro-economic repercussions like higher borrowing costs for all borrowers, including the private sector. 

In a note sent to states Saturday, the Union Finance Ministry said the central revenues are under strain amid an increase in expenditure not only on account of the pandemic but also to meet the needs of national security. 

The central government has, in turn, provided two options to states for them to borrow to meet the shortfall in GST revenues, the details of which were sent to the states Saturday in the note after being verbally discussed at the GST council meeting Thursday.

“The Government of India faces a very large borrowing requirement this year. Additional borrowing by the Centre influences the yields on central government securities (g-secs) and has other macro-economic repercussions,” the union finance ministry said in the note.

“The yield on g-secs acts as a benchmark for State borrowing as well as private sector borrowing. Hence, any rise in central borrowing costs ipso facto drives up borrowing costs for all borrowers, including not only the states but also the entire private sector,” it said.

It also pointed out that the pandemic has adversely impacted direct taxes due to fall in corporate profits as well as customs revenue on account of reduction in imports. 

This is a national problem and not one of the central government alone, it said. 

The government’s statement comes amid demands from states that the central administration pay them the GST compensation due to them.

At the time of GST rollout in July 2017, the central government had assured the states of full compensation from any losses arising due to the transition to GST for a period of five years, assuming a growth rate of 14 per cent in revenues. This means that states have to be compensated until July 2022 for any losses. 

At present, the compensation fund has revenues from cess levied on sin or luxury goods like tobacco, aerated drinks and luxury cars. The cess was initially proposed to be levied for a period of 5 years until July 2022. 

However, the economic slowdown beginning last year and now the Covid-19 pandemic have seen cess collections falling, leaving them at a level where they won’t be to meet the compensation requirements. 

The central government estimates that the GST shortfall to states will be around Rs 3 lakh crore in 2020-21, but only around Rs 65,000 crore will be met through cess collections, leaving an unmet compensation gap of Rs 2.35 lakh crore.

What the central govt is proposing

The central government has given states two options: Borrow Rs 97,000 crore (revenue shortfall arising on account of GST implementation and not taking into account the Covid-19 impact) or borrow the entire Rs 2.35 lakh crore.

To be sure, it has made it more attractive to states to borrow a lower amount.

If states agree to borrow the lower amount, the entire principal and interest repayment of the debt will be met through cess collections in the later years.

The borrowings will be made from a special liquidity window coordinated by the government. The government will try to keep the borrowing cost as low as possible and will even provide a subsidy of up to 0.5 percentage points if the borrowing is higher than the central government borrowing cost.

In addition, states are being given relaxations to borrow an additional 0.5 percentage points under the Fiscal Responsibility and Budget Management Act.

However, if the states opt for the second option and borrow the higher amount, only the principal amount will be repaid from the cess and the states will have to bear the interest burden. These will be market borrowings and any amount in excess of Rs 97,000 crore will be considered as debt of the states.

Many states unlikely to accept proposal

Many states like Punjab, Chhattisgarh, Kerala and West Bengal — and even union territory Puducherry — are unlikely to accept the central government’s plan in its current form.

These states have opposed the Covid-19 “distinction” being created by the central government, with Kerala Finance Minister Thomas Isaac terming the differentiation “unconstitutional”. 

The attempt of Centre to introduce a distinction in revenue shortfall as due to implementation of GST and as that caused by Covid and that latter doesn’t deserve to compensated fully is not constitutionally valid. Constitution makes no such distinction.#GSTCouncilMeet

— Thomas Isaac (@drthomasisaac) August 27, 2020

These states have also said that the central government is better placed to borrow than states as the latter are already struggling to pay salaries and meet other expenditures. 

Punjab Finance Minister Manpreet Singh Badal had termed the central government’s refusal to compensate states from the consolidated fund of India as “sovereign default”.

'जीएसटी की बुनियाद इस बात पर रखी गयी थी कि राज्यों को अगर कोई नुकसान होता है, तो उसकी भरपाई भारत सरकार करेगी' https://t.co/5FEY5CETFl

— Manpreet Singh Badal (@MSBADAL) August 28, 2020