The end of the road for India’s GST?

The fundamental problem is the erosion of ‘trust’ and ‘trustworthiness’ between the States and the Centre

The 43rd meeting of the Goods and Services Tax (GST) Council is to be held on May 28. Representatives of 31 States and Union Territories are expected to attend. They belong to 16 different political parties. Of the 31 representatives, 17 members are from the ruling BJP or its alliance partners. Ideally, this nugget about political affiliations should not matter in a Council set up to decide indirect taxes. But in today’s India, ‘the economic is political’, to paraphrase the American saying.

States are dependent on GST collections for nearly half of their tax revenues. The GST Council was mandated to meet at least once every quarter, but it had not met for two quarters, ostensibly due to the pandemic. Several of the 14 members of the non-BJP group implored the Finance Minister to convene the GST meeting to help them manage their finances but none of the 17 members of the ruling group deemed it necessary. Even the need for a meeting to determine tax revenues for States is evidently a political decision.

Spirit of cooperative federalism

The representative from West Bengal will attend the meeting against the backdrop of the Centre using investigative agencies to selectively target and incarcerate some of the State’s ministers, soon after their election victory. The Kerala representative will attend the meeting in the knowledge that his predecessor complained bitterly about the Centre reneging on its promise to pay guaranteed GST compensation to the States. The Chhattisgarh representative will attend this meeting aware of how the Centre imposed sudden and stringent policy conditions to grant approval to States for extra borrowing in the middle of the pandemic last year. The Maharashtra minister will attend the meeting with a feeling of betrayal over how the States have been forced to pay a much higher price for COVID-19 vaccines than the Centre. The Punjab Finance Minister will be cognisant of how the Centre legislated new farm laws unilaterally that affected Punjab’s farmers deeply. The Rajasthan representative will be aware of how a sudden lockdown imposed by the Centre with no consultations with the States threw millions of Rajasthani migrant workers in disarray. The Tamil Nadu representative will be wary of the Centre’s duplicity in levying cesses that garner significant revenues for the Centre without sharing them with the States. The Delhi representative will be suspicious of the Centre’s motives after it stealthily passed legislation to strip the elected Delhi government of its governance powers. The list is endless. These are not acts in the spirit of ‘cooperative federalism’.

The catchy phrase ‘cooperative federalism’ was introduced into India’s political lexicon to justify the transition to GST in 2017. Sadly, like other catchy phrases such as ‘Minimum government, maximum governance’ and ‘Make in India’, this too has turned out to be hollow. Cooperative federalism has a larger meaning beyond just fiscal federalism. It also entails cooperative political, administrative and governance federalism between the States and the Centre.

The Trust Game

The GST Council is not an inanimate economic body. It is a compact of trust between the States and the Centre, set in the larger context of India’s polity. Behavioural economists, such as the Nobel Laureate, Daniel Kahneman, have articulated the critical role of the twin attributes of ‘trust’ and ‘trustworthiness’ among heterogeneous participants in an economy. Using a tool called ‘The Trust Game’, they have demonstrated that the motive of ‘altruism’ leads to the most optimal economic outcome for everyone in the group while a motive of ‘spite’ leads to the worst outcome for all. The tragedy of the GST Council is that it is afflicted with spite and forced to function under the prevailing cloud of vendetta politics.

The 17 members of the ruling dispensation and the 14 members of the non-BJP dispensation in the GST Council represent exactly one half of India’s population each. However, the non-BJP group contributes a higher share of 60% of overall GST revenues and accounts for 63% of the country’s GDP. With elections to another seven States due next year, these numbers could change dramatically again. If the functioning of the GST Council is subject to the vagaries of elections and consequent vendetta politics, GST will continue to be just a caricature of its initial promise.

The 15th Finance Commission report formally acknowledges that GST has been an economic failure that did not deliver on its early promises. GST, as postulated by technocrats, was supposed to be the panacea for India’s throttled economy to deliver enormous economic efficiency gains, improve tax buoyancy and collections, boost GDP growth and usher in greater formalisation of the economy. Three years after its launch and even before COVID-19, GST had failed on all those promises.

Problems underpinning GST

Economists and commentators point to the multiple rates structure, high tax slabs and the complexity of tax filings as the problems underpinning India’s GST. These were indeed the initial problems in the way GST was implemented, leading to some of its current woes. But now, GST has a more fundamental problem — the erosion of ‘trust’ and ‘trustworthiness’ between the States and the Centre. Technical fixes such as simplification of GST rates and tax filing systems to restore GST to its initial promise is akin to applying a pain balm to an injury that needs surgery.

The States paid a huge price for GST in terms of loss of fiscal autonomy. The promised economic gains are invisible, and India’s federalism has been ruptured. GST in today’s politically acerbic, hate-ridden and divided India is an unviable and unworkable proposition.

GST has endured so far primarily because the States were guaranteed a 14% growth in their tax revenues every year, which minimised their risks of this new experiment and compensated for their loss of fiscal sovereignty. This revenue guarantee ends in July 2022. This can lead to a crumbling of the precarious edifice on which GST stands today.

In a situation where the States have no taxation powers, their GST revenues are uncertain, the supposed economic benefits seem phantom, and the hypocrisy of ‘cooperative federalism’ looms large, what is the incentive for States to continue in a GST regime? When the Prime Minister can impose a draconian lockdown in a ham-fisted manner without consultation or play favourites with critical oxygen supplies during an emergency, there seems very little motivation for the States to cooperate in a chase for an elusive economic goal by sacrificing their significant economic powers of taxation.

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Technocratic cheerleaders of GST failed to factor in India’s unique political economy and its ramifications. Striking a balance among diverse interests of India’s numerous parties in a larger political climate of spite and suspicion to arrive at a uniform tax policy for the nation is a near impossibility. Tamil Nadu’s new Finance Minister P.T.R. Thiagarajan and I had warned of these exact issues in an article in 2017 in this newspaper.

The tapestry of India’s GST was stitched on a fabric of implicit trust and painted with vibrant economic colours. The fabric is now torn and the colours have faded. The loose thread of guaranteed revenues that holds this together is about to snap. The end of India’s grand GST experiment seems inevitable unless there is a radical shift in the tone and tenor of India’s federal politics, backed by an extension of revenue guarantee for the States for another five years.

Praveen Chakravarty is a political economist and Chairman of the Data Analytics department of the Congress party

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