Strong administrative structure must precede GST implementation

Dated 31st December, 2014

Although it is too early to evaluate the reforms initiated by the NDA government, the direction and the speed with which the government has implemented these elicit hopes of better growth in 2015. While the global economy is expected to grow marginally, by 3.1% next year, India’s economy is likely to grow by 5.9%—the second-highest among the world’s large economies—as per a UN report.

The economic survey of India released by OECD expects GDP to grow by 5.4% this fiscal year and by 6.6% in FY16. The reforms have put India on a strong and sustainable growth path.

The Macroeconomic Vulnerability Index (MVI) which adds together the country’s inflation rate, current account deficit and fiscal deficit, constructed by the ministry of finance, indicates that in 2013 India was at the top of the pack on vulnerability with an index value of 22.4, well above that of other countries. Since then, India’s fortunes have improved and it demonstrated the greatest improvement in MVI. Currently, the value of the index is well above 15 (a value below 12 is recognized to be perhaps safer macroeconomic territory). It is expected the index would improve in 2015.

The reforms have been initiated in general and in the area of indirect taxes in particular. This is based on the premise that in addition to important reforms such as liberalizing FDI in insurance, two game-changing reforms are on the horizon: (1) the increasing use of direct transfers, combining Aadhaar with the Pradhan Mantri Jan-Dhan Yojana, which could replace the government interventions in the economy in cereals, oilseeds, sugar, fertilizers, kerosene, coal, power, etc; and (2) the likely introduction of GST.

GST will create a buoyant source of revenue and place the fiscal position on a permanently solid footing. It will help in tax administration and reduce corruption in indirect tax collection. This will serve to make India more of a common market. The elimination of internal barriers to trade should be seen as a positive trade and productivity shock for the Indian economy. Much less recognized is the fact that GST will also be a redistributive exercise, transferring resources to the consuming states.

On many issues, especially GST, the economy-wide impact can only be realized if the states also implement reforms. It is now well recognized that many of the factors affecting economic development in India are no longer controlled by the Centre.

But the structural and administrative aspects of GST at both the central and state levels are very important. While GST rates will be uniform across the country, to give some fiscal autonomy to the Centre and states it has been designed to provide a narrow tax band over and above the floor rates of CGST and SGST. It is important that the variations in the tax rate are kept within limits. The proposed GST introduces the anomaly of having an origin-based tax on interstate trade. It proposes to levy a non-VAT-able Additional Tax, of not more than 1%, on supply of goods in the course of interstate trade or commerce for a period not exceeding two years or more, as recommended by the GST Council. While this seems to be taking care of the revenue loss to the producing states and the quantum of compensation the Centre has to pay, the existence of origin-based interstate tax along with GST needs to be looked into.

Then, there should be a thorough re-engineering of the department of GST at both the levels. Cross-verification of documents must be strengthened under the new regime. There is need for a proper audit plan to cover different economic activities and a large variety of taxpayers, classified according to the level of turnover of goods and services. Finally, the MIS has to be an integrated activity of the SGST and CGST offices.

The government is working on the GSTN, which can dramatically alter tax administration. All these reforms must precede the introduction of GST to realize its full benefits.

(This article is published in Financial Express on 31st, 2014)