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Wednesday, July 06, 2022

Matter of compensation

Centre and states must amicably arrive at GST loss estimate, how to finance it, and road ahead.

By: Editorial |
Updated: May 31, 2021 8:52:12 am
The sharp decline in GST e-way bills in April and May suggests that collections are likely to be subdued at least in the first quarter of the current financial year.

The slide in economic activities due to the imposition of localised lockdowns to deal with the second wave of Covid-19 is likely to further strain the fiscal position of state governments. The sharp decline in GST e-way bills in April and May suggests that collections are likely to be subdued at least in the first quarter of the current financial year. While economic activity may well firm up as the second wave ebbs and the vaccination drive gathers momentum, like last year, collections through the GST compensation cess will not bridge the shortfall measured against states’ protected GST revenues. The issue of how to finance this gap was raised in the 43rd meeting of the GST Council on Friday. Any uncertainty over the states’ revenue stream, especially when they have to ramp up spending, will complicate the task of fiscal management.

The Centre has pegged the total compensation requirement for states this year at Rs 2.7 lakh crore. It says it will borrow around Rs 1.58 lakh crore to compensate states for the shortfall in collections, while pegging revenue through the GST compensation cess at Rs 1.1 lakh crore. However, several issues need debating. For one, the Centre has assumed a revenue growth of 7 per cent like last year to arrive at the compensation requirement. This projection may not materialise. Further, considering that the virus spread and lockdown restrictions have varied across states, the loss across states may not be uniform. There is also the issue of the shortfall from last year that is yet to be adjusted. On its part, the Centre is hopeful that if collections rise to around Rs 1.15 lakh crore per month, then not only will the deficit this year be lower, but it will be able to compensate states by another Rs 30,000 crore for last year. However, this depends on how the economy recovers.

As part of the grand bargain between the Centre and states to ensure the shift to this new indirect tax architecture, state governments were promised protection against any revenue loss (against a growth of 14 per cent) for a five-year period which ends in June 2022. Considering that GST collections have failed to live up to expectations, there is a demand from some states to extend the cess beyond 2022. While the Centre has agreed to call a special session of the GST Council to discuss this issue, states must also show flexibility. The revenue base for the purpose of the calculation, the time horizon for the levy, should be amicably discussed. A guarantee on protecting revenue growth to the tune of 14 per cent may be unreasonable. Linking it to nominal GDP growth may be a better alternative.

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