(MK Venu is Executive Editor of Amar Ujala publications group)The Goods and Services Tax (GST) constitutional amendment bill has been introduced in Parliament even as Finance Minister Arun Jaitley has struck a grand bargain with state Chief Ministers after several days of intense negotiations.
Jaitley showed the right political instinct and gave the states the most generous offer possible to get them on board.
GST is arguably the most radical piece of tax reform which could become the basis of a new cooperative partnership between the Centre and States. If implemented successfully, it will not only streamline and modernise a thoroughly fragmented indirect tax system riddled with multiplicity of rates levied by states, it could politically signal a new era of political/fiscal cooperation between the Centre and States.
This means the politics of GST is as critical as its economic merit, which is quite well- documented.
The politics of GST is that it will help lower the barrier of doubts and suspicion that States have historically erected against an overbearing Centre.
The reason why GST has taken so long to materialise is that States were fearful of losing their fiscal autonomy in levying local taxes which are constitutionally in their domain. So State leaders, while seeing the economic merit of a simplified tax regime, could not shed the historical misgiving that the Centre could be trying to grab some of their turf.
Jaitley has done well to clear most of the residual doubts that the states may have had in this regard. Indeed, this political process -- of states perceiving themselves in a different light, as equal partners in a big leap of reform - is what is most significant. To make this happen, the Centre did well to create a legal-institutional framework to assure states of more than adequate compensation for any potential revenue loss that may occur while shifting to a single GST rate to be shared between the Centre and States.
The new law will also provide for flexibility for States to change the GST rate within a band. All key decisions will be taken by a newly-appointed GST Council consisting of representatives from Centre and States. In a way, the GST Council will act as a platform for states to discuss and negotiate as equal partners any future changes that may be required in the new fiscal architecture.
Full compensation for loss of revenue is provided for during the first three years after shifting to GST. After that, compensation will be scaled down gradually.
Finance Minister Arun Jaitley has wisely not settled for what had initially seemed like a deeply compromised Goods and Services Tax (GST) framework which would exclude big items like Petroleum tax, entry tax, liquor tax and real estate from the proposed single GST rate. Keeping these items out would have been like playing a test match some years ago without Tendulkar and Dravid.
Besides, excluding high revenue yielding items like liquor, petroleum and entry tax would result in a much higher GST rate, defeating the very purpose of having a low-to-moderate tax rate which subsumes all sectors. If the tax base is higher, the rate would be lower.
A committee headed by Vijay Kelkar five years ago had estimated about Rs.26 to 30 lakh crore as the total indirect tax base for levying GST. It was broadly suggested then that the GST rate must ideally be just 12 to 14 per cent, shared equally by the Centre and states. At present if all indirect taxes levied by the a Centre and states are added up, the rate comes to about 27%. So a GST of 14 % has the potential to reduce existing indirect tax by 13 % and this could be the biggest domestic fiscal stimulus that the Indian economy can have against the backdrop of a highly uncertain global economic environment.
However, in an empirical presentation earlier this week by NIPFP, a think tank funded by the finance ministry, it was suggested that the single GST rate will work out to be 25%, going by the then prevailing consensus among the states which wanted to keep petroleum, liquor, entry tax and real estate outside the GST tax base. The presentation made before the new Chief Economic Advisor Dr. Arvind Subramanian resulted in many economists present in the room, including Dr.Vijay Kelkar, stating in no uncertain terms that such a high GST rate would defeat the very objective of having a moderate tax rate which is what would make India competitive globally.
It seems Arun Jaitley understood this fundamental point and decided to stand his ground with the state finance ministers on including the big items like petroleum and real estate in the GST net. Real estate, in my view, is the most critical sector as it has the potential to mainstream the black money economy so rampant in the land and property markets.
So Jaitley has done well to resist the temptation to agree to a half baked GST regime which would not have produced the desired outcome. His offer of a grand bargain to the states must be seen in this perspective.
If Jaitley stays the course in the remaining negotiations with the states, he will have left a lasting legacy.
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