Fixing the GST

Fundamental improvements to the flawed structure needed

It has been reported that the Goods and Services Tax (GST) Council, the body comprising the Union finance minister and those of the states, is considering a revision in the indirect tax’s rate structure. In particular, as reported by this newspaper, it is possible that the 5 per cent rate will be raised to 6 per cent. The government hopes that this will increase the effectiveness of the tax, which has been severely underperforming against the target of around Rs 1.2 trillion a month. But this deficit will not be fully bridged by a marginal increase in the lower rate — after all, the 5 per cent rate brings in only 5 per cent of GST collection. While the council’s intention is understandable, it is clear that this will only amount to tinkering around the margins.

GST, together with the broader slowdown, has provoked a fiscal crisis that will require careful management. Although revenue is likely to fall short by a significant margin, raising indirect tax at the moment could further dampen sentiment in the economy. The Union finance minister has assured states that GST compensation will continue to be handed out. The Union government is legally mandated to compensate states if their GST revenue does not grow by an annual rate of 14 per cent. Since this is not happening at the moment — the Union is not making payments, either — compensation arrears are building up. Without the release of the tens of thousands of crores that they are owed, states will be forced to borrow, further driving up the general government deficit and reducing the funds available to the private sector for growth and investment. On top of GST, the government imposes a compensation cess, which is meant to provide for payments to state governments, but even this has been bringing in less than what is required. As has been reported, an increase in the compensation cess is also being contemplated. 

While many welcomed the flawed GST when it was introduced, that approval was conditional on the structure being improved as time went by in order to bring it closer to the ideal, efficient version. This work of rationalisation and simplification cannot be put off any longer. 

Thus, what is necessary instead of further tinkering is a deeper and harder look at how to fix GST and at the government’s fiscal situation overall. More fundamental problems will have to be addressed. It may be the case that, in the absence of a proper invoice matching mechanism that was planned, evasion is growing. If so, however, blindly implementing invoice matching during a slowdown may also be dangerous, given that it might significantly increase transaction costs. The GST Council must go back to the basics and recognise that the economic logic behind GST is that it would make paying taxes so easy that evasion became less widespread. This would require a simple, clear, and transparent tax system, ideally with a single rate. At the very least, rationalising all tax slabs must now be on the agenda, alongside a proper study of what a revenue-neutral, single rate would be, now that there is sufficient data from GST collection.