On Saturday India kept to schedule and formally embraced, doubts notwithstanding, the goods and services tax (GST) regime. Coincidentally it came about in the 70th year since the country’s tryst with Independence.
That moment on 15 August 1947 politically united India. Now it has forged an economic unity, laying the ground for a potentially seamless movement of goods and an era in which multiple taxes imposed as goods move in and out of states will not lead to cascading taxes and erosion of competitiveness. This combination of economic and political unity is a very compelling idea.
This GST initiative is, with warts and all, a totally home-grown reform and not something adapted from the reform text books penned either by the International Monetary Fund or the World Bank. This project has been realised by carefully balancing the distribution of taxation powers between the Centre and states—an incredible pooling of sovereignty where both sides indulged in a give and take. This is the fundamental premise of the grand bargain holding the idea of the Indian GST together.
The blueprint for this grand bargain was provided in the Report of the Task Force on Implementation of the FRBM Act headed by Vijay Kelkar, former finance secretary and chairman of the 13th Finance Commission (Exactly why during the GST launch ceremony on the midnight of 30 June held in the Central Hall of Parliament, first finance minister Arun Jaitley and later President Pranab Mukherjee singled Kelkar out for special praise).
The report submitted in 2004, first diagnosed the problem with the existing system of taxing goods and services. It found that not only was the structure fragmented since it was based on the jurisdiction of the Union government and state governments, services, which accounted for almost half of the country’s gross domestic product (GDP), were not taxed appropriately. As a result it was leading to cascading of taxes and unnecessary distortions.
“The existing tax system introduces innumerable distortions resulting in inefficient resource allocation and adversely impacting GDP (gross domestic product) growth. It also provides an incentive to firms to engage in political lobbying for exemptions and favourable modifications in the tax schedule,” the report noted.
According to the Kelkar task force the goal of a rational tax system is to empower households to engage in undistorted decisionmaking to maximize their gain.
Consequently, it proposed a destination-based value-added tax on all goods and services which taxed consumption: in short the GST. The cascading effect is avoided by ensuring that the tax at each stage is a pass-through and incidence falls on the final point of consumption.
It then went on to propose what it called the “grand bargain”: states will have the power to tax all services. And that both states and the Union government will exercise concurrent yet independent jurisdiction over common tax bases extending to all goods and services.
This is what laid the ground for the pooling of sovereignties and enabled the adoption of the GST. This has been embodied in the construct of the GST Council, the apex decision-making authority on GST and probably India’s first truly federal institution.
It has been constituted in such a way that neither the Centre nor the states will be able to take a decision without the concurrence of the other. The share of the Central government’s vote is a third and the balance is made up by states; further, if any decision is to be voted, then it will require an three-quarter majority to pass muster.
Contrary to expectations in some quarters, the first two days of the GST regime have not led to any disruptions in business. Still early days, but at the least it is safe to conclude that the home-grown reform initiative with such massive ramifications has cleared its first test.