Higher tax-to-GDP ratio needed

Source: This post has been created based on the article “Higher tax-to-GDP ratio needed” published in “Business Standard” on 2^nd February 2024.

UPSC Syllabus Topic: GS Paper 3 Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment.

News: The article discusses the need for maintaining a higher Tax-to-GDP ratio. It also highlights the importance of increasing GST in this regard, and the steps being taken.

A detailed article on Interim Budget 2024 can be read here.

What are the issues with the Indian economy?

Experts have pointed out that while growth has rebounded after the pandemic, the following are the major issues:

1. High levels of unemployment, especially among the young.
2. Lagging private investments.

In this regard, the government compensated for inadequate private investment by increasing its own investment, however, this puts a strain on the fiscal deficit.

How can the government maintain the high level of investments?

This requires the tax-to-GDP ratio to move to at least 20% in the medium term, compared to the present level of 17-18%.

What would be needed to increase the tax-to-GDP ratio?

This would require GST contributions to move from 6.4% of GDP now to at least 7.5% of GDP.

Achieving it would require the average incidence of GST duty to increase from the present 11.8% to the 14.8% that was prevalent in the pre-GST period.

How can GST be increased?

1) Rate Rationalisation: An increase in the merit rate of 5% and the peak rate of 28%, along with the phasing out of GST exemptions can be implemented.

2) Expanding the Manufacturing Base: It has to increase as GST collections depend on value addition in manufacturing, which contributes to 65% of the GST collected.

3) Revamping the Services Sector: The services sector’s contribution to GST is only 35%. This is because it largely covers low value-adding units in the informal sector.

What has the government done in this regard?

1) A Committee under the Finance Minister of Uttar Pradesh has been constituted for GST rate rationalisation.

2) The government has identified new sunrise sectors such as electric vehicles, renewable energy and network electronics, which can contribute to expanding the manufacturing base.

What should the government do about the problem of unemployment?

Government should 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.

Question for practice:

A higher Tax-to-GDP ratio is necessary for investments in the economy. How can it be achieved?