It is time for a mea culpa from me. Thus far, I have been a supporter – though muted – of the goods and services tax (GST), touted as the single biggest tax reform of this decade. I have now come to believe that we may have been sold a pup by corporate interests and economists who dream of a higher tax-GDP ratio.
GST may be reform, but it comes with serious heartburn. Every major taxation measure does not automatically qualify as reform.
In fact, GST may well be a dud if implemented in its current flawed form where major revenue sources like petroleum are kept out to placate the states. It will create more political and economic trouble between Centre and state than positive vibes. There is good reason to slow down and think the measure through, even if it takes another year or two to get it into the right shape. There is absolutely no case for calling a special session of parliament to pass the GST constitutional amendment right now – which is what the NDA government is said to be considering after the Congress sabotaged the previous one. The Congress filibuster has inadvertently given the government just the right excuse to back off from a potential economic folly.
It is important to first admit the theoretical benefits of GST. Like VAT – value added tax, which is applied to goods by both Centre and states – it is efficient as is self-collecting and self-enforcing. Companies buying supplies from outside parties will insist on tax payment on goods supplied as without this they can’t get setoffs on their own final product sales.
But companies also buy services. The idea of GST is to put services and goods on the same footing, thus making all taxes paid on supplies eligible for setoffs against final sales.
However, the logic is not sound for the simple reason that India is a services economy, with 60 percent of GDP coming from services. And much of this services economy is outside the formal sector and includes ordinary labour providers and traders. This sector is huge on self-employment and jobs. Is it sensible to rush into taxing this sector when it is the biggest single employer in the economy? Do you want to bring the small vegetable trader into a complicated tax system without adequate forethought about consequences?
You can’t force 60 percent of your economy to jump through tax hoops just because some economist thinks this is about efficiency and raising the tax-GDP ratio.
The tax-GDP ratio is another piece of rubbish peddled by economists as some kind of ethereal public policy objective. They want India to raise its tax-GDP ratio, and think GST will help them do that.
I have serious problems with trying to target a tax-GDP ratio through policy. The tax-GDP ratio is the result of higher economic activity, and not a goal to be achieved in itself. Any government that makes business and life easier for its citizens will see a rise in revenues – that should be the role of the state, not the raising of tax revenues per se. The actual level of the tax-GDP ratio is not material as long as the state generates enough money to get its core job done – which is defending the country, running sound fiscal and monetary policies, maintaining an effective judiciary and a responsive legal system, which includes good policing, enabling the flow of investment into social sectors like public health and education, and promoting sensible business practices with impartial and strong regulatory systems, where needed.
Implementing GST to get the tax-GDP ratio is wrong in principle, for a rupee left in people’s hands is better than a rupee collected in the coffers of the state. People spend money better than governments, and if at all there should be a tax-GDP ratio, it should trend downwards over time as the efficiency of government spends improves.
This brings me to my core argument against hasty implementation of GST in the name of reforms: it will reduce jobs growth, and the most productive ones at that. Additionally, it may actually push some segments to opt out of the formal economy and retain cash at the core of business transactions.
Here’s why. Let me illustrate this with an example. Let’s say you are a journalist writing articles on a free-lance basis for newspapers and digital media. Let’s assume you are paid Rs 5,000 per article. If you get covered under GST, and that too at the 20 percent rate that is now being touted, you will have to charge Rs 6,000 for the same article you were earlier prepared to sell for Rs 5,000. Will the media house (the buyer of your services) pay more, or will it reduce purchases of free-lance articles? Will economic activity in the business of freelancing rise or fall when costs and prices go up? The answer would depend on the demand for such services, but broadly speaking, a downward sloping demand curve should hold good. The higher the price, the lower the demand for a service.
But that’s not the only point. Even assuming both buyer and seller are willing, the freelancer will now have to jump through bureaucratic hoops. He will have to register for service tax payment, for almost no benefit, when he will anyway have to pay income tax too at the applicable rate on his income. He will end up paying two taxes even though he is just one guy trying to earn a living.
A free-lancer’s service is an intellectual product, where few tax deductions on input costs are possible. A free-lancer uses electricity (for his laptop, light, fan, etc), mobile services (for conducting his interviews) and a vehicle for his personal movements. Some of these activities attract service tax (mobile services), but not others (petroleum is being kept out of the GST net for now). But will you be able to ask you mobile phone company for a GST payment certificate on your Rs 1,500-mobile bill? Will Uber and Ola give you a certificate of service taxes paid by you for your ride from Churchgate to Andheri on 27 August?
If you do, at one stroke you have just got enmeshed in the government’s tax and accounting chakravyuh. The excise guys can then chase you for every law you may have broken while collecting or remitting tax, for non-maintenance of day-books, etc. You can be harassed endlessly.
Of course, I am aware that free-lancers get an exemption from service tax upto a certain level of income, but isn’t the purpose of GST to avoid exceptions? If free-lancers are exempt, why not the humble raddi-wallah? Or your neighbourhood kirana store? Small traders and kirana shops will be as badly affected by GST as anyone else.
So what will actually happen when GST implementation takes root at these lower levels of the services economy? Many people will try and keep their turnover thresholds below the level at which they will have to register for service tax – in other words, they will rejoin the cash economy, generate more black money. If you are a merchant with a large turnover, you will split it among several companies so that you still stay below the GST threshold, whatever it is. You would make crooks out of ordinary people who are merely trying to generate incomes through sheer enterprise and personal effort.
I can guarantee that traders – one of the BJP’s main support bases – will soon be on the streets once GST is implemented.
As I have stated earlier, the Centre should not be pushing the GST bill as though it is God’s work. It is not. The GST needs better design, and the Centre should not legislate it without all states agreeing to put all important products – especially petroleum products – into the GST pot. This will at least get the GST rate down to sensible levels of 14-16 percent.
If the states are not comfortable with this, it is actually worth abandoning the idea altogether.In a federal setup, not leaving any flexibility for states on revenues is not a great idea. GST may lead to more center-state conflicts than the current system.
And let’s not forget. The centre gets a huge windfall from service tax (Rs 2,09,000 crore budgeted in 2015-16). Service tax revenue has grown 5.5 times since 2006-07. Excise has grown two-fold and customs revenue 2.4 times.
Service tax as it stands now works quite well for the centre, and states anyway get a share of this bounty after the revenue-sharing formula has been revised under the 14th finance commission. Why are we trying to fix what isn’t broke?
GST is not a reform worth investing political capital on in India’s political system.