Much depends on GST roll-out

K.R. Srivats | Updated on February 26, 2011


With the general Budget round the corner, the fiscal consolidation mantra is once again in the air. Will the Finance Minister, Mr Pranab Mukherjee, be innovative like India's cricket captain, Mahendra Singh Dhoni, in trying out some big hits to consolidate the Centre's finances!

There is room to do so, with the Centre's direct and indirect tax revenues showing strong buoyancy this fiscal on the back of revival of the economy.

There is also the bonanza received from 3G spectrum and broadband auction. Continuing with the fiscal consolidation efforts initiated last year, Mr Mukherjee is expected to pick some low hanging fruit like a 2 percentage point hike in Cenvat rate and a 2 percentage point increase in service tax rate. The Centre could also take more steps to usher in central GST, by subsuming excise and service tax.

It should also not come as a surprise if Mr Mukherjee goes about removing excise exemptions, converting more specific duties to ad-valorem rates and extending tax to all services, by extending the prevailing selective tax into a general tax.

The buoyant revenues should be a pointer that the current year's fiscal adjustment may not be a problem. It may even be a breeze for Mr Mukherjee to ensure that the fiscal outcomes — fiscal deficit and revenue deficit – conform to the targets set out earlier.


But as the Prime Minister's Economic Advisory Council (PMEAC) headed by Dr C Rangarajan has pointed out, the Centre faces the formidable challenge of conforming to the Finance Commission's deficit targets in the medium term. According to the targets set by the Finance Commission, the Centre should compress its fiscal deficit to 3 per cent of GDP and increase capital expenditure to 4.5 per cent of GDP by 2014-15. There are pressures to increase expenditures on food security, right to education, universalising healthcare and increase in MGNREGA.

These may require additional spending of 3 per cent of GDP. In the medium term, the Centre may have to raise additional revenues or prune expenditure of about 5 per cent of GDP, and this is going to be a “formidable challenge”, according to the PMEAC.

A significant proportion of the fiscal adjustment has to come from additional tax revenues. Two major reforms that are planned to generate additional revenues are the implementation of direct taxes code (DTC) and introduction of Goods and services tax (GST).


While DTC reform may increase the revenue productivity of direct taxes in the medium term, there may not be significant expansion of the tax base and revenue gains in the short run. So what is the strategy that could help achieve fiscal consolidation goals in the medium term?

Implementation of GST reform is imperative to achieve the fiscal consolidation goals in the medium term, the PMEAC has said. Although there is no consensus between the Centre and the States on the design of a GST system, it is important to implement the reform without much loss of time.

The Centre and the States have taken a good four years discussing the nitty-gritty of the GST system, but all these efforts may not bear any fruit if political considerations hold sway. “Introduction of GST will be a win-win strategy for both the Centre and the States and there is every reason to embrace it,” the PMEAC has said.

So, what are the points of disconnect between the Centre and the States when it comes to GST?

States are mainly concerned about losing their fiscal autonomy. Some also contend that the vertical imbalance would be accentuated with the implementation of GST. Most of all, States are worried about their inability to mobilise resources in the event of uniform rates and some kind of common market.

Loss of power to charge tax rates would result in loss of autonomy. Currently, over 60 per cent of the States' own revenues accrue from VAT. Any loss of autonomy would reduce their fiscal manoeuvrability, many States have pointed out. There is disagreement between the Centre and the States over the taxes to be subsumed under GST.

While the Centre has suggested entry and purchase tax be subsumed under the GST, some State Governments did not agree to give them up as they derive substantial revenues from these taxes. There are differences between the States and the Centre on the treatment of natural gas under GST. ]

Let us hope that all these differences are sorted out at the earliest. Introducing GST is crucial for achieving fiscal consolidation goals in the medium term.

Published on February 26, 2011

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