Taking stock of five years of GST

Source: The post is based on the article “Taking stock of five years of GST” published in “The Hindu” on 7^th July 2022.

Syllabus: GS 3 – Indian Economy and issues relating to planning, mobilization, of resources, and growth.

Relevance: To understand the impacts of GST on inflation.

News: The Goods and Services Tax (GST) has completed five years in existence. It was said that GST would be a boon to the economy in terms of higher revenue buoyancy, lower inflation, higher revenue, higher growth, and so on. But five years after implementation India is still facing higher inflation levels.

What is the theoretical impact of GST on inflation?

Firstly, the revenue-neutral rate (RNR) is calculated so that it would not cause higher inflation. But revenue neutrality does not mean that prices would be maintained in the economy. This is because the weight of goods in the consumption basket and their contributions to indirect tax collections are not the same.

Secondly, the effect of GST on the prices of certain goods and services depends on the structure and design of taxation, such as the level of exemptions, the rate structure of GST, the weight of goods and services in the CPI basket, the tax base, the efficiency of the administrative machinery, and so on.

Thirdly, in a 2017 report, the RBI showed that about half of the groups of items that GST covers are not in the CPI basket. So, the effect of GST on prices was expected to be small.

Finally, prior to the GST implementation, it was expected that prices would go down because GST harmonises indirect tax rates and eliminates the cascading effect.

What is the actual impact of GST on inflation?

During the 12 months preceding GST implementation, the Consumer Price Index (CPI) inflation was 3.66%, while it increased to 4.24% post-GST in the next 12 months. A similar pattern was observed in Australia, New Zealand, and Canada. This is because,

First, rise in the tax rate of some goods and services, the inclusion of business activities that were not taxed earlier, or the market structure. This would result in higher prices since the firms would pass on the cost to the consumers.

Second, when market power increases, prices increase, and profit also increases. Further, taking advantage of market power, it is possible that most firms would have passed the taxes to end consumers, resulting in a cost-push inflationary impact of the GST.

GST is found to have a significant positive impact on inflation of commodity groups such as paan, tobacco and intoxicants, clothing and footwear, housing, and miscellaneous sectors (mainly consisting of services).

To be precise GST implementation has resulted in a decrease in inflation of food items and raised inflation of non-food items such as CPI, paan, tobacco and intoxicants, clothing and footwear, housing, miscellaneous, and non-exempted food and beverages.

What should be done to check the GST’s inflationary impact?

It is witnessed profiteering in select segments after GST. To pre-empt this possibility, the government set up the National Anti-profiteering Authority (NAA) to ensure companies did not use GST as an excuse to raise prices. NAA should monitor the prices of critical or essential goods and services to see the price impact of GST.

Similarly, the Competition Commission of India should observe anti-competitive producer behaviour that hurts consumers via excessive price increases. These measures may ensure that producers do not take advantage of the GST.