Expert Speak India Matters
Published on Jun 02, 2017
The world is cheering India’s GST, but we need to remain on high alert

When the GST Council meets on Saturday (June 3), it must know that the transition of Indian tax system to the goods and services tax (GST) is being seen globally as one of the prime drivers of the country’s economic growth. Accordingly, it needs to look beyond the Centre-States fiscal tussles or rate revisions. It must deliver a larger goal: an implementation process that supports entrepreneurs and leverages their dynamism. It must prevent the GST from stifling them and through them hitting economic growth which saw a small dent due to demonetisation but is now back on track.

As good argumentative Indians, we may have reasons to be cynical and even suspicious about the GST system of taxation that is all set for implementation from July 1. But if voices from across the world go, being bullish on GST would be an understatement. In a March 2017 paper, economists Eva Van Leemput and Ellen A. Wiencek argue that the impact of GST on India’s GDP would be between 3.1% and 4.2%, taking it way beyond the most aspired-for double-digit growth.

“We find that the GST is expected to raise overall Indian welfare and is projected to be an inclusive policy in that it would be welfare improving for all Indian states,” they argue in their paper, The Effect of the GST on Indian Growth, in Board of Governors of the Federal Reserve System. “Furthermore, the model suggests that the GST would lead to real GDP gains of 4.2% under the baseline assumptions, driven by a surge in manufacturing output. We also find that the distribution of goods across tax rate tiers matters for the growth outlook. As more goods move to the upper tiers, the real GDP and manufacturing output gains would be dampened.”

What sort of a model is this? Even the most faithful believers and the wishful would find this number way out of range, outlandish. But this duo is not GST’s sole cheerleader. In its India Development Update, released on May 29 and where the paper was cited, the World Bank argues that the GST will increase the formalisation of the Indian economy and through it economic growth. According to the report, India’s GDP will grow at 7.2% in FY2018, from 6.8% in FY2017. “The revision in forecasts reflect a combination of the impact of demonetisation and an investment recovery that has proven more protracted than expected,” the report states. It further puts the growth to 7.7% by FY2020 due to “underpinned by recovery in private investments, which are ‘crowded-in’ by the recent increase in public capital expenditure and improvement in investment climate.”

One reason why the GST system will be a catalyst to economic growth is the removal of barriers to trade within the country, a better tracking of transactions, and through them taxes. “Sellers who are not in the GST chain will be unable to claim input credits, putting them at a disadvantage vis-a-vis registered vendors. As the credit chain will function only if all the transactions are recorded, the post-GST environment would lead to improved disclosure of economic transactions, which in turn, may also have a strongly positive impact on direct tax collection.”

According to Junaid Kamal Ahmad, World Bank country director of India, GST will play a transformative and growth-spurring role in the Indian economy through four channels. First, it will affect business processes, investments and profitability. Second, it will reduce costs of doing business. Third, it will reduce logistics costs of moving goods across states. And fourth, private investments may rise as the distinction between goods and services gets eliminated and capital goods used as an input in provision of services also become eligible for input tax credit. “India remains the fastest growing economy in the world and it will get a big boost from its approach to GST,” Ahmad said.

But he also warns about the four risks to growth. One, continued uncertainties in the global environment, including rising global protectionism. Two, impediments to private investment in the form of corporate debt overhang, increasing NPAs, excess capacities, and regulatory and policy challenges. Three, if private investment falls, it would put downside pressures on India’s potential growth. And four, rapid increases in oil and other commodity prices could lead to a negative terms-of-trade shock.

Two of the risks belong to India and must be fixed internally. The GST, according to the report, is one solution. A smooth implementation of the GST “could prove to be an upside risk to economic activity,” the report states. A better collaboration between the revenue departments of the Centre and the States, through cross-referencing of tax information and better enforcement of tax collection will bring growth catalysers to the fore. It is in the interest of all firms in the GST system to claim input tax credits, it brings consistency in sales. The May 18 Srinagar Consensus has built the political path to growth. What the GST system must now be wary of is the process of GST becoming larger than its purpose and smothering the gains of growth by the administrative asphyxiation of enterprise by tax bureaucracy. How that plays out on ground, in easing doing business for instance, we will know by 2019.

Of the other two, global uncertainties such as geopolitical risks or increased protectionism are now part of a serial black swan phenomenon that economies are beginning to take in stride and learning to ignore. Despite US President Donald Trump’s rhetoric, the $18.6 trillion economy will continue with globalisation --- its irreversibility is known to all. Despite China’s president Xi Jinping attempt to fill in the perceived gap left by the US, the only globalisation the $11.4 trillion economy will continue with is to invest in and feed on smaller economies, using money to fuel its strategic ambitions --- its military ambitions are common knowledge. Brexit aside, the EU remains open for business, even if it means embracing China for now.

Where does that leave India? According to the International Monetary Fund, growth is here. “World growth is expected to rise from 3.1% in 2016 to 3.5% in 2017 and 3.6% in 2018,” its World Economic Outlook April 2017 stated last month --- India is projected to grow by 7.2% in 2017 and by 7.7% in 2018, with medium term growth expected to 8% “due to implementation of key reforms” such as “implementation of the recently approved nationwide goods and services tax.”

The GST reform transcends political parties, ideologies and the Centre-States tussle. It is probably the biggest reform in Independent India that is not only economic but political as well. The process of implementation notwithstanding, it remains the one bright growth spark not only for India but for global growth. That said, GST will not come without teething problems of shifting to an all-digital tax system, the related problems of implementation, and the stifling tax bureaucracy, all of which could give India’s GDP growth a few knocks. So, while voices of the GST being a silver bullet of growth are gathering momentum across the world, let us remain grounded, watch this unfold, and hope the GST Council that meets on June 3 gives it the administrative attention it needs.

The views expressed above belong to the author(s). ORF research and analyses now available on Telegram! Click here to access our curated content — blogs, longforms and interviews.


Gautam Chikermane

Gautam Chikermane

Gautam Chikermane is a Vice President at ORF. His areas of research are economics, politics and foreign policy. A Jefferson Fellow (Fall 2001) at the East-West ...

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Guillermina French

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Guillermina French Fundacin Ambiente y Recursos Naturales (FARN)

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