Business Standard

Higher tax-to-gdp ratio needed

- INDIRECT TAXES V S KRISHNAN The writer is a former member of Central Board of Indirect Taxes and Customs (CBIC). The views are personal

The interim Budget by its very nature represents a stopgap Budget, important for the policy direction it sets. Some interim Budgets have been guilty of tax largesse but, refreshing­ly, this Budget has refrained from any changes in the tax rates, both on the direct and indirect tax side.

An important signal that has emerged is that the government will be conservati­ve in its expenditur­es. The Finance Minister clearly mentioned that the government will rely less on market borrowings and, thereby, facilitate more credit availabili­ty for the private sector from the banking system.

The economic assessment of various experts has been that while growth has rebounded after the pandemic, the worrying spots are high levels of unemployme­nt, especially among the young, and lagging private investment­s. The government has had to compensate for inadequate private investment by increasing its own investment, which has gone into hard infrastruc­ture — namely, roads, railways and power.

The government has committed that it would stick to the promised levels of fiscal deficit of 4.5 per cent of gross domestic product (GDP) by 2025-26. For this year, the fiscal deficit has been estimated at 5.8 per cent (as against the projected 5.9 per cent) and for the next year, 2024-25, at 5.1 per cent. While fiscal rectitude is laudable, the real challenge before the government is to maintain the high level of investment­s. This critically requires the tax-to-gdp ratio to move to at least 20 per cent in the medium term, compared to the present level of 17 to 18 per cent, which has been stagnant for the last two decades.

This increase in the tax-to-gdp ratio would require goods and services tax (GST) contributi­ons to move from 6.4 per cent of GDP now to at least 7.5 per cent of GDP, which, in turn, would require the average incidence of GST duty to increase from the present 11.8 per cent to 14.8 per cent that was prevalent in the pre- GST period (representi­ng the revenue neutral rate). This correction would require a rate rationalis­ation — perhaps an increase in the merit rate of 5 per cent and the peak rate of 28 per cent, along with the phasing out of GST exemptions.

In addition to this, the manufactur­ing base has to increase as GST collection­s depend on value addition in manufactur­ing, which contribute­s to 65 per cent of the GST collected. The services sector’s contributi­on is only 35 per cent, despite its prepondera­nt share in the total GDP. This is because the services sector in India largely covers lowvalue-adding units in the informal sector. The government has realised the importance of GST rate rationalis­ation and has constitute­d a Committee under the Finance Minister of Uttar Pradesh, which will hopefully make its recommenda­tions to the new government.

The government has identified new sunrise sectors such as electric vehicles, renewable energy and network electronic­s, which can contribute to a manufactur­ing renaissanc­e that can also boost GST collection­s in the future. The elephant in the room continues to be the high levels of unemployme­nt. Here, perhaps, the government has lost an opportunit­y to lower the cost for labour-intensive sectors such as apparel, leather and food processing by bringing down the Custom duties on critical raw materials and components going into these sectors.

In the case of network electronic­s, the government has already reduced the import duties on components going into making mobile phones. The same could have been done in the case of other labour-intensive manufactur­ing industries. The importance of this can hardly be minimised, considerin­g that the import intensity of manufactur­ing is about 0.30.

It is important that GST, which is a transforma­tional tax reform, needs to be studied intensivel­y.

There are conflictin­g conclusion­s emerging about how GST revenues have performed compared to the pre-gst period.

A recent study by former chief economic advisor Arvind Subramania­n showed that GST revenues crossed the pre-gst levels of 6.1 per cent of GDP only in 2022-2023, reaching a level of 6.3 per cent. This result in no way dilutes the robust design of GST, as this has been achieved despite the pandemic years and a reduction in the revenue neutral rate from 14.8 per cent pre- GST to 11.8 per cent now. Evidence-based studies must be conducted to examine the transforma­tional impact of the introducti­on of GST on the economy.

This would require data from the Goods and Services Tax Network to be shared widely with research organisati­ons. Issues of interest in the study could be: (a) relative buoyancy of revenues between the pre- GST and post- GST period after adjusting for integrated GST refunds on imported inputs; (b) widening of the internal market due to abolition of interstate barriers, (c) objective of fiscal equity — have poorer states gained more?

In conclusion, the interim Budget has refreshing­ly sent a strong signal that India is moving along the path of fiscal consolidat­ion through a combinatio­n of productive investment on the expenditur­e side and better compliance and the expansion of the tax base on the revenue side.

The government has identified new sunrise sectors such as electric vehicles, renewable energy and network electronic­s, which can contribute to a manufactur­ing renaissanc­e that can also boost GST collection­s in the future

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