The GST cut that kicked in on September 22 has been near-universally applauded for its boldness in drastically reducing taxes on most consumption items. It is estimated, officially and by most analysts, that this cut, while large, will only result in a net tax loss of Rs 1 trillion for the next 12 months.
Using unit-level NSS 2022-23 consumption data, the effective GST tax-rate (defined as GST revenue from each item of consumption divided by consumption expenditure) pre-reform was 11 per cent and post-reform 6.2 per cent. This result is also supported by the analysis of PRICE’s ICE 360 survey for 2022-23. We undertook this extensive two-survey analysis precisely because of the huge divergence in our results from official and expert commentary (hereafter the experts) on the tax cut. The experts suggest a base-case loss of Rs 1 trillion, which is less than half a per cent of the pre-reform expectation of Rs 23 trillion GST collection [estimated as 11 per cent of PFCE of 209 trillion in 2025-26]. Our result of a Rs 10 trillion loss is close to 10 times the result obtained by the experts. As the old cowboy movie line goes, “This town isn’t big enough for both of us”, i.e. either the experts are broadly right, or we are broadly right — both cannot be on the same page (or town!).
How did we get our estimate? A recent MoSPI-NSS conference asked the important question — how can unit-level NSS surveys help in the formulation of policy? Our analysis would not have been possible without recourse to extensive analysis of unit-level data. Household-level consumption data from the NSS 2022–23 consumption survey were matched with pre- and post-GST tax rates for 364 consumption items in 37 consumption categories. Tax rates were obtained as published by the GST Council, PIB and other reliable sources in September 2025. Household consumption was defined to be market-purchased consumption (excluding household production).
Results suggest that the tax cut is progressive. For example, the effective tax rate (ETR) on food, which accounts for 43 per cent of total consumption, falls from 9.5 to 3.4 per cent; for education and medical expenditures — 11 per cent of consumption — the ETR declines from 12.4 to 4.8 per cent. For household services — 15 per cent of total consumption — the ETR declines from 39.5 to 11.3 per cent.
For analysis and forecast for 2025-26, we make the safe assumption that the consumption pattern has not changed over the last three years. Projecting all variables (PFCE, GDP, etc.) to 2025-26 yields, as shown earlier, Rs 23 trillion GST collections. If the new effective GST tax rate is 6.2 per cent, as suggested by both the NSS and PRICE’s ICE survey for 2022-23, post-cut tax revenue will approximate Rs 13 trillion [obtained as 062*209 = 13]. Hence, the projected tax loss is 23 minus 13 or Rs 10 trillion.
The experts’ reasoning for their optimistic little tax loss estimate is that they are allowing for all the tax cut effects to play out. Their argument is that there will be increased consumption and compliance, which will result in higher GST revenues. But is this argument correct? Econ 101 suggests that the tax cut will result in an increase in post-GST tax income of Rs 10 trillion. Instead of this money going to the government to spend wastefully, it will be spent “efficiently” by private individuals. This increase in income will be allocated to both consumption and savings, approximately in a 50-50 proportion (middle-class and above have a higher savings rate). Hence, consumption increase is likely to be about Rs 5 trillion, which with a consumption tax rate of 6.2 per cent will result in an increase in GST revenue of Rs 0.31 trillion. Adding this to the base case of Rs 13 trillion yields a net tax collection of Rs 13.3 trillion; adding Rs 1 trillion due to input tax credit not passed on in the new system yields Rs 14.3 trillion. This is still almost Rs 9 trillion less than the government-expert estimate!
For governments around the world, one source of (cold) comfort is the inflation tax. However, the world has changed and is changing. One likely safe assumption is that present and future nominal GDP growth is declining because inflation is declining (not just in India but in the entire world). There is demographics, AI, increases in productivity especially in services, increasing global uncertainty, a lack of real wage increases because of sharp increases in global supply of educated labour, etc. Take your pick, but you will reach the conclusion that inflation is steady to declining — a low inflation trap if you will. All this means that nominal GDP and consumption growth is likely to be in single digits — hence, tax revenue lower than initially assumed.
Is the GST cut a bad policy move? No. One of us (Surjit) has consistently argued that one of the important factors constraining Indian growth was the very high tax-to-GDP ratio. The recommendation of ever-higher tax collection is flawed and leads to lower than potential GDP growth. Given half a chance, most Indian reformers point to China’s growth outperforming that of India. But not one of these growth critics (including experts from the IMF, senior Indian finance professionals, senior government officials and the RBI!) has pointed out that the average all tax-GDP ratio in India is now very high (around 18-19 per cent), whereas the average for East Asian economies is around 13 per cent, and that of China around 15 per cent. A low taxation ratio helps higher growth and productivity. The GST cut, along with the February income tax cut, is likely to reduce India’s tax-GDP ratio to around 15.5-16.5 per cent (close to China’s!) and for this reason alone is a very positive move.
While announcing the tax cut, Prime Minister Narendra Modi made a point of explicitly mentioning the dampening effects of trade tensions as an important reason for the large stimulus. The PM now needs to tread the path of minimum government, maximum governance. And the government needs to deliver on trade, tariff and investment reform. We should realise that self-reliance is not the mantra for growth, and even less of a mantra for Viksit Bharat. Many of us are hoping that the tax reform is a signal that the government is intent on big-bang structural reform. If that does happen, and only if that happens, will India have the correct policy mix for scaling Viksit Bharat.
Bhalla is chairperson of the Technical Expert Group for the first official Household Income Survey for India. Shukla is CEO of PRICE. Views are personal
