The Modi government has rolled out an ambitious spending programme for building the transport infrastructure and the provision of various goods of value to ordinary citizens. The problem has been arranging the money to pay for it all.
One of the key assumptions was that the introduction of the goods and services tax (GST) would raise the share of indirect taxes in gross domestic product (GDP), and provide the wherewithal. It hasn’t worked out that way. Central revenue from GST may be anything up to 40 per cent short of target this year, and the states are now complaining about non-receipt of their GST share. Pushed to the wall, the government is busy finding ways to pay its bills indirectly, or not pay at all. The Comptroller and Auditor General has reported that the actual central deficit is more than 2 percentage points higher than officially stated.
There were four mistakes made on GST. First, the political leadership did not realise until quite late in the day that GST is essentially a flat tax, with variations. So all the goods consumed by the poor, and broadly enjoying favourable tax treatment, would now attract a higher tax. Equally, the goods consumed by the wealthy would attract a lower tax. So the poor would end up paying more, and the rich correspondingly less, if the GST rate were revenue-neutral. That led to the first mistake: Going political, and introducing extreme progressivity in GST rates (all the way from zero to 28 per cent). This was GST without the logic of GST.
The second mistake was to promise the states a guaranteed 14 per cent increase in GST revenue from one year to the next. This, when a new monetary policy framework was being put in place for the Reserve Bank, with a target inflation rate of 4 per cent (with 2 percentage point variation on either side). What this meant was that an economy growing at 7 per cent would ordinarily be expected to deliver nominal growth (i.e. including inflation) of about 11 per cent — well short of the 14 per cent revenue buoyancy promised to states. The compensation cess was available to help bridge the gap, but only for five years.
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The third mistake was to keep key goods outside the scope of GST (petroleum products, tobacco, liquor). Since these have usually accounted for the bulk of excise revenue, it affected calculations on what a revenue-neutral GST rate might be.
The fourth mistake was the drive by the Modi government to lower the cost of goods in the run-up to the general elections. In the process, the tax rate on many consumption goods was dropped more than the tax rate on their inputs. So we now have companies claiming refunds of taxes on inputs that are more than the GST they pay on their final produce!
Meanwhile, in the implementation phase, we have seen a repeat of what happened in the wake of the demonetisation three years ago: People found all kinds of creative ways to turn black into white. In the case of GST, we seem to have spawned a fake-bill industry that provides convenient bills to producers, even as chunks of the production chain seem to have found a way to escape the GST net. The initial promise, that eventually bills would be matched as a way of preventing such fraud, will be put to the test in April; we will have to see if it is doable or just causes chaos. If it does not work, it will have belied one of the central promises of GST, that it would address tax evasion and raise the tax share of GDP.
Even if invoice-matching proves successful, there are other elements of the system that are broken. Perhaps GST was too complex a system for the Indian economy at its present stage of development. Regardless, the Centre has to break heads in the GST Council and work out new slabs and rates (the fewer the better) and make a fresh start. No economy can afford to persist with a tax experiment that has failed.
By Special Arrangement with Business Standard
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Mistake # 3 can be rectified. Vide # 2, guaranteeing 14% growth to the states was clearly infeasible. Although it will hurt the states, it will have to be scaled back. The famed execution capabilities, the trusted bureaucrats from one nook, have come up short when faced with the complexities of a subcontinent. What one remembers is Parliament House lit up like a new bride, India’s second tryst with destiny moment. The choreography would make Sanjay Leela Bhansali feel jealous.
The problem is not with the rates and a county like ours cannot have one or two rates. The process has to be simplified. Do away with RCM. Supplies to SEZ should be made simpler. Give up matching of invoices for now. Is is a complicated process with no end at all. Let sample scrutiny assessments take care of wrong invoices etc. Simplify e-way bill in line with tbe practical issues. e.g putting a vehicle no. is often difficult when you will hire one from a stand. hy do you need TDS on Govt supplies ? Some aspects of this GST are so illogical and an absolute nonsense . Allow businessmen to do business rather than fiddle with GST compliance all the time.
Ninan has alluded in passing to the fundamental flaw — people finding all sorts if ways to turn black money into white, even in a tax structure where compliance was supposedly built in.
Since our natural genius is to circumvent any law, the implementation and enforcement mechanism is key.
GoI’s dilemma was further made worse by promising assured year on year (14%) increase in share to the states to get their buy in, and how to ensure revenue neutral rates.
CRUX: to repeat again, weak moral fabric of Indians….and desire to manipulate/circumvent/game any system — not only in India but wherever we go. For that reason the enforcement has to be extra vigilant.
Lastly, dear Ninan = any solutions?
SOlution is very simple.
SCRAP INCOME TAX.
SCRAP GST.
SCRAP CESSESS.
Banking Transaction Tax should be the only form of tax.
Make 200 rupees or similar the highest currency.
This is almost like a prepaid plan vs post plan. Prepaid plans make more money to telecom companies than post paid.
It is also similar to selling a product in bulk packets vs selling in Rs. 1 capsules. Those Rs. 1 capsule make more profits to FMCG companies.
Now 30% of the population i.e. salaries class has to fund the taxes of the remaining 70%.
With a Banking Transaction tax – CASH WILL BECOME KING AGAIN. Cash can come out from ATMs – 1% of the amount gets automatically paid.
NO IT DEPARTMENT, NO BUREAUCRACY.
Taxation must be moved to respective states with a percentage of the BTT tax going to the central government.
There is also misuses of funds the most biggest wastage is Hindi imposition, Hindi promotion, second biggest wastage is “Freebie” scheme.
We need to first have politicians who can speak basic English and basic educational qualifications -especially the education and financial sectors.
Education must be removed from the concurrent list – this Corona pandemic examination fiasco represents a bitter failure of the system.
BTT is solution for this.
Excellent article.
Can we have an estimate of the GIQ (General IQ) of this government? Seems to be very low.
5th point: if I remember correctly, Infosys was paid a royal sum of $400 million for this mammoth exercise. This is peanuts.
And if this government can’t get the GST right, what hope is there for the NRC?
Ninan has rightly analysed problems with GST. These were essentially political decisions to get GST going in the first instance and later, usual election time tinkering and beyond that, bureaucratic bungling. Hence, the issue is how do we sort out issues from here, given that GST collections have fallen short of targets and there are substantial leakages and black money generation in the system. We need to a have ideally single or at the most two tier GST for all products and services and have a DBT for the poor who would end up paying higher GST rate. If UK can live with a 15% GST or Singapore with a 7% GST, we should be able to live within that range. Any fiscal shortfall must be managed by other means, including reducing unnecessary government expenses, PPP, sale of PSUs and PSBs and ultimately by RBI giving OD to Govt of India (long live FRBM!) . There are no easy answers to the issue but a process which will require continuous tuning as we go ahead. We also need to have economy which is world competitive and hence, our tax structure needs to be rationalized, lowered and simplified. Let us not start blame game for the problems of GST but recognize the problems and work to find solutions as we go ahead. Unfortunately, Ninan has not offered any solutions in this regard, beyond identifying and analyzing the problems.