A case for reassigning GST to States

Source– The post is based on the article “A case for reassigning GST to States” published in The Hindu on 18th January 2023.

Syllabus: GS3- Indian economy and mobilisation of resources

Relevance– Issues related to fiscal policy

News- The article explains the fiscal imbalances between centre and states. It explains the need for assigning the entire GST to states.

What are some facts about GST?

The Union and State governments concurrently levy GST on commodities with 50% as Central GST and 50% as State GST. There is an Integrated GST on inter-State trade, so that 50% of it goes to the final destination State.

The GST is a harmonised tax on commodities across the country. Individual States have little power to unilaterally change this tax. The GST Council gives the Union government a veto to thrust its preferences on the States.

What are some statistics and facts about fiscal imbalances between centre and states in recent times?

The simplest empirical measure of vertical fiscal imbalance is the formula- ‘VFI equals one minus the ratio of the State’s own revenue to own expenditure’.

If this VFI ratio is zero, the States have enough own revenue to meet their own expenditure and there is no need for financial transfers.

If we look at the data for all the States over the periods of the last three Finance Commissions, the VFI ratio shows an increasing trend. For the latest period of 2015-16 to 2020-21, the ratio was 0.530. It means that only 47% of the States’ own expenditure was financed by their own revenue in that period.

In this period, four major changes took place. First, the divisible taxes of the Union government expanded from two to all the Union taxes. It enlarged the revenue base to be shared with the States.

Second, fiscal responsibility legislation was implemented to constrain the fiscal deficits of the States. States directly borrow from the market subject to limits imposed by the Union government.

Third, the Union Planning Commission was dissolved. It led to the withdrawal of Plan grants. Fourth, GST was introduced in 2017.

These changes have considerably altered the States’ revenue structure. States have little revenue autonomy and are more dependent on the Union government.

What is the way forward to reduce fiscal imbalances between centre and states?

CGST and the excise duty on petroleum products should be assigned to the states. There is a need to bring all commodities, including petroleum products, under GST.

The Union government should continue to collect IGST only to settle revenue on a destination basis. This will ensure harmonisation of GST across States.

GST shall continue as a tax determined by the GST Council. However, the veto power of the Union government should be removed. This may once again require some constitutional amendments.

Commodity taxation should be moved to State List II of the Seventh Schedule of the Constitution, with a rider that harmonisation of commodity taxation should be maintained.

The tax base of the GST, namely consumption, is not equally distributed among the States. It creates horizontal fiscal imbalance among the States. Therefore, the Union government should effect equalisation transfers to address this issue of horizontal fiscal inequality.

What will be the impact of these measures?

The assignment of excise duty on petroleum products to the States will hasten the process of integrating taxes on petroleum products into GST. It will remove the cascading effects of the current excise duty on petroleum products.

The reassignment of tax will increase the tax revenue of the States. This will also improve accountability of the States to their people on fiscal matters.

VFI will come down. All the States’ own expenditure can be financed by their own revenue resources. The need for assigning share in Central taxes and grants in aid does not arise.