The GST is one of the biggest milestone of the Modi Government, in terms of economic reforms, that will prove to be a game-changer
Finally, after 11 years of political logjam, debate and discussion, the biggest tax reform in independent India, also the biggest economic reform since 1991, has been passed in both the Houses of Parliament. The Goods and Services Tax (GST) Bill, which subsumes major Central and State taxes, will create one single indirect tax rate across States, making India a truly unified market.
Come April 2017, the geographical boundaries across States, in terms of taxation, will cease. This is by far one of the biggest milestone of the Modi Government in terms of economic reforms. The NDA Government has been trying for incremental reforms, though little cautiously, after the failure of the land acquisition Bill in 2015, this is a land mark achievement that will prove to be a game-changer in years to come. However, a plethora of issues need to be sorted in terms of fixing the GST rate and other operational issues.
The proposed dual GST will replace the Central Value Added Tax (VAT) system and State VAT system which suffers from cascading effect, thereby putting high tax on consumers. Moreover, it has different input tax credit from the Center and the State and differential State VAT rates. The one per cent tax on inter-State movement of goods and services, which was meant for the development of States has been dropped to favour a common market.
Overall, one single indirect tax rate will create a common market and lead to less effective tax burden on the consumers. However, States managed to exclude lucrative products like alcohol, petroleum and real estate from the crucial Bill.
On the other hand, the successful implementation of GST requires fixing the appropriate GST rate which is the Revenue Neutral Rate (RNR). Though there have been recommendations by the likes of entrepreneur Subroto Bagchi et al, for a neutral revenue GST rate, the report on RNR and Structure of rates for GST (2015), headed by Chief Economic Advisor Arvind Subramanian, recommended that RNR should stand at 15 per cent to 15.5 per cent, with a standard GST rate of 17 per cent to 18 per cent.
The GST is supposed to facilitate seamless input credit, thereby eliminating tax cascading effect and will facilitate flow of goods and services across the States. This will result in economies of scale across the supply chain. Even today, tax compliance cost in India is too high because of layers of taxes and exemptions.
Manufacturing firms can now source their raw materials without any additional tax burden like the Central Sales Tax, with proper input tax credit, and sell their products without any additional taxes. Ultimately, the transaction cost will be lower and consumers will stand benefited. The existing differential tax structure creates distortionary incentives for different players, starting from warehouses to logistics to investment. Now all these skewed production structures, influenced by tax incentives and disincentives, will go, which will also be good for ‘Make in India’.
As the main hurdle of constitutional amendment is over, operations issues of effective implementation will be taken care of in the due course. As a number of countries are adopting simplified tax structure, to attract investment and business houses, the passing of the GST Bill has come on time to boost the Indian economy. The international evidence so far from countries like Australia and Canada that adopted GST like tax reforms, is that they experienced better fiscal finance with price stability in the medium-term. Of course, there is always a fear of price rise immediately after GST implementation, in case GST rate is high in the short-run.
The proposal to give States the freedom to impose the Integrated GST within a band will dilute the purpose of unified GST. There are also issues of balance of power in favour of Center in most powerful GST council with one-third share in voting rights. Though GST would compensate States for any revenue loss for first five years, it is not a good news for the developed States which have invested heavily in infrastructure and other utilities to attract investment and industries for growth.
Of course, the Government needs to ensure IT connectivity across the States. lastly, it was for the first time that all political parties came together and unanimously passed the GST which is truly a big achievement for the Modi Government.
(The author is Associate Professor, Institute of Economic Growth, Delhi)