Rationalise GST now

Counteract coronavirus supply shock with tax reform

The likelihood that the novel coronavirus will cause a significant supply shock to the Indian economy — as well as a rippling demand shock from sectoral hits to some employment-intensive industries — will increase the pressure on the government to pump up the economy. In this context, as things stand today, the government should avoid a stimulus package that would not make any significant difference to a supply shock. Not only would a big stimulus package such as the one designed in 2008-09 at the time of the global financial crisis not address the specific problem that the economy is facing in 2020, but the government’s fiscal position is also far from secure. It has already missed its fiscal deficit target by 50 basis points. However, there is still scope for action. In particular, it can move forward with rationalising goods and services tax (GST). This would act as a positive shock to supply and might go some way in counteracting the effects of COVID-19.

When GST was being planned, it was envisaged as a relatively low single-rate tax that would be easy to pay and reduce the burden on taxpayers as well as remove cascading from the system. It has not lived up to its full potential, partly because of serious politically-minded interventions made during the process of passage. While evasion of GST has proved to be more than possible, many complain that it has become overly complicated, and that the multiple rates reduce its efficiency and effectiveness. So far the government has insisted that multiple rates are politically essential, given the level of inequality in the country — that luxury cars, for example, could not be taxed at the same rate as goods consumed by the “common man”. However, this is economically the wrong way to go about dealing with inequality. Direct taxes and transfers are the correct and efficient route to do so, since they introduce fewer distortions into the economy. Some basic goods could be zero rated, or continue to be zero rated, while the overall GST rate is stabilised at a single figure — perhaps 12 per cent or 15 per cent. 

Certainly, the rationalisation of GST will also affect government revenues. However, a simpler and more transparent system would allow greater collection and reduce evasion. The government will receive a windfall this year from lower crude oil prices. The moment to move on the structural reform agenda is now. The GST Council has done well to address the inverted duty structure in mobile phones. Further rationalisation will give confidence to the market that the government is serious about reforms. It was promised that GST would remain a work in progress, and that the GST Council would act often to improve it. So far, however, the changes have been marginal and haphazard. A more structured and rational approach, which outlines a quick path to a single rate, would pay dividends for the economy in the longer run. It would also be an effective way to manage the immediate effects of a supply shock such as is being caused by the pandemic.