5 years on, it is time for GST reforms 2.0 - Business Guardian
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Policy&Politics

5 years on, it is time for GST reforms 2.0

Electricity, petrol, diesel, specified petroleum products, natural gas, aviation turbine fuel and real estate are all worthy candidates for inclusion in GST architecture.

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Last Friday, the Goods and Service Tax (GST) arrangement in India turned five. It was a significant landmark in the country’s fiscal history. Launched with considerable fanfare at the stroke of midnight on 1 July 2017, in a joint session of Parliament by then President Pranab Mukerjee, the new indirect taxation regime was born out of a fairy tale wedlock between the Centre and the existing 30 states and 7 union territories.
Almost 15 years of “courting” had preceded the announcement of the alliance, which was to herald a happier life ahead for all parties. Henceforth, the states were to give up almost all their sovereign powers of taxation exercised by way of levying value added taxes (the erstwhile sales tax), and excise duties on agricultural products, food, alcohol, and other defined products. They had also agreed to abolish the entry (octroi) taxes imposed by their municipal bodies. The Centre, in turn, had consented to share its exclusive power to tax services, and the levy of excise duties on manufactures and a variety of other goods. The consummation of the marriage after these vows was to result in a common and uniform indirect tax rate for the entire nation, with the cascading effect of “tax upon tax” disappearing and giving birth to input tax credits and their refunds. The other happy expected outcome was for aggregate annual GST revenue-receipts to experience robust growth when compared to the 17 separate central and state taxes and 13 cesses being subsumed under it.

THE EMERGING TRENDS
In assessing the efficacy of the new but relatively sophisticated arrangement, it is worth recalling the experience of past five years. Ardent proponents had projected that upon stabilisation, its adoption would lead to raising GDP growth by 2% annually. Unfortunately, despite the tax base expanding from 6.39 mn to 13.7 mn taxpayers, that did not materialise in any of the five years. The outbreak of the Covid-19 pandemic in early 2020, and the slowing down of global trade ever since Trump launched his tirade against WTO and China in particular in 2018, can only partially explain the non-fructification of the full benefits of the tax-rationalisation and simplification measures. Neither, have the overall tax collections risen for most of the period under review, with the GST to GDP ratio also remaining flat. Only in the past year, did this rise to 6.25, a level also attained in 2019. Prior to GST, in 2016, this figure was higher at 6.5.
A relevant question to ask is whether the new tax rates are too low in comparison to the taxes and cesses prior to their subsuming. As per RBI, the weighted average GST rate in September 2019 had declined to 11.6% from 14.4% in May 2017. The so called revenue neutral rate (RNR) worked out by Arvind Subramanian, the then chief economist of the Union Finance Ministry, was 15.5%. A deep dive reveals that apart from ab initio exempting 60% of items in CPI, fixing a low taxation rate of 5% for another 15% of items, and having 4 tax-slabs ranging from 5% to 28%, the GST Council has lowered the rates on over 200 products and services since 2018.
Political consideration—first, the 2019 general elections and then the annual exercise of Assembly polls—had prevented the rationalisation of the tax structure. The pandemic also contributed to the inertia. Another cause for not increasing the tax rates was the Centre’s preference for going in for a cess on GST especially on the so called “sin” goods already in the highest tax slab of 28%. Such revenue-yields are not required to be shared by the Centre with the states and were used to effect compensation as per the GST (Compensation to States) Act of 2017 enacted under the 101st constitutional amendment. The recent onset, and the persistence of the 96-month high inflation rate, is yet another reason for the Council not opting to extensively review the prevalent rates.
Yet another drawback in the GST architecture that has contributed to the lower than expected revenue is the exclusion of significant items from the purview of GST right from the beginning. Electricity, petrol, diesel, specified petroleum products, natural gas, aviation turbine fuel and real estate are all worthy candidates for inclusion. Perhaps, their being kept out of the regime was upon the insistence of the state governments to have some discretionary taxation powers. The subsequent levy of surcharge and cess on the applicable excise and other taxes on a few of these also came in handy for the Centre to raise resources exclusively for itself.
That said, their exclusion has adversely impacted the efficacy of the new tax regime. The energy costs for several goods and services constitute a high portion of total costs. Without the input credits, the overall prices of final products remain high and are a real contributor to the unduly high inflation currently being witnessed. Also, without the true costs of each significant input being determined, the inter se optimal substitution of raw materials and intermediates in the production process is eluded.
The issue of the statutory compensation to the states has invited comments. Assuring them a 14% annual increase in receipts over the audited figures of 2015-16 was indeed a generous, as well as shrewd move, by the then Finance Minister Arun Jaitley. It was liberal because only a handful of the 30 states and 7 union territories joining it had actually experienced such a robust growth in the years prior to GST. For a majority of them, it was too attractive an offer to be passed over. Surely it was a deft political move by the Centre in view of the states having to give up their already limited taxation powers. Their genuine concerns and feelings needed to be assuaged, particularly in light of the fact that they stand completely excluded from the levy of direct taxes and customs duties.
After frequent delays in effecting the assured compensation to cover the deficit in revenue-receipts, the Centre has now fully made good on the committed shortfalls. However, almost all states, including a majority of BJP ruled ones, are clamouring for an extension of the compensation scheme. Given its own precarious fiscal situation, the Union Government is understandably not up to accepting this demand. With this backdrop, the states could be expected to make use of the recent apex court judgement in the Mohit Mineral case, terming the GST Council’s decisions as advisory and non-binding. This opens up a window for the states to not fall in line with the proposals of the GST Council, especially those not unanimously passed. Theoretically, within certain parameters of restraint, states could have their individual slabs, specific rates, coverage etc. If this were to occur, the much lauded “one nation one tax” concept justifying a countrywide uniform GST regime would be wounded.

CONSTRUCTIVE FEDERALISM, THE ESSENCE OF GST
A pre-requisite for ushering in the GST regime five years ago was nurturing co-operative and constructive federalism, along with building mutual trust. After all, as described above, the states stood to lose their already limited, but much prised taxation powers. After their concurrence of the new taxation regime, the Centre needed to consistently work on mitigating their loss of power and enhance their ability to face unforeseen contingencies. The response, unfortunately, has been wanting. It was less than helpful in 2020-21, when it invoked the corporate contractual provision of force majeure or a God’s Act as a reason for backing out of fulfilling the constitutionally guaranteed compensation till mid 2022. Instead, it had proposed the states themselves raise the deficit amounts from the open market.
In particular, the fiscal and financial differences with the Centre and the dozen odd non NDA states have further widened. During the pandemic, when the needs of the state governments were higher and the revenue-receipts lower, such tensions only heightened. The Centre is yet to comply with the 14th Finance Commission norm for the sharing of direct taxes for the period 2016-21 viz 42% of the divisible pool. It continues to hover around 35% despite the Fifteenth Finance Commission endorsing it and GOI having expressed its willingness. Not unexpectedly, this has irked the provincial governments since the tax collections accruing to the Centre have consistently grown—both by way of its retentions and the non-shareable surcharges and cess.
Over the last two decades, the Union Government (no matter the ruling party in power) has shown scant urgency to address the genuine fiscal concerns of the states. This has been the case despite their aggregate expenditure accounting for as much as 60% of the overall government spending. Yet the transfers by way of devolved taxes and grants remain disproportionate, ranging at around one-third of direct taxes collected and one-half of indirect taxes subsumed under GST. Given their respective weights in overall revenue, this adds up to them getting about 40% of the revenues accruing to the Centre (excluding the income of surcharges and cess) to discharge their allocated responsibilities. With not much left in their domain to earn by way of taxes or fees, the states end up annually borrowing from the open market almost as much as the Centre. The consequential effects of their deficit financing upon the aggregate national liquidity, lending rates and levels of inflation are no less severe than of the union’s borrowings.
Despite the evident need, the frequency of institutionalised consultation between the Centre and the States has reduced in recent years. For years together, there has been no meeting of the Inter State Council set up statutorily to address contestations. The legal option of going to the apex court, with all the associated rancour and bitterness, remains the commonly followed way. It is time the Inter State Council were empowered to take action, suo moto as well as upon references made to it, and act within a prescribed time limit. Such a need is greater in fiscal and financial matters. This could also ensure that the Council becomes a standing body and convening its meetings would not be left to the whims of a few. Arguably, it is only then that we should see far reaching and progressive fiscal regimes like GST fully materialise and yield their potential benefits.

Dr Ajay Dua, a development economist by training, is a former Union Secretary, Commerce and Industry.
Part 2 of the article discussing the possible way forward will appear next Sunday.

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Policy&Politics

Govt extends date for submission of R&D proposals

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The Government has extended the deadline for submission of proposals related to R&D scheme under the National Green Hydrogen Mission. The R&D scheme seeks to make the production, storage, transportation and utilisation of green hydrogen more affordable. It also aims to improve the efficiency, safety and reliability of the relevant processes and technologies involved in the green hydrogen value chain. Subsequent to the issue of the guidelines, the Ministry of New & Renewable Energy issued a call for proposals on 16 March, 2024.

While the Call for Proposals is receiving encouraging response, some stakeholders have requested more time for submission of R&D proposals. In view of such requests and to allow sufficient time to the institutions for submitting good-quality proposals, the Ministry has extended the deadline for submission of proposals to 27th April, 2024.

The scheme also aims to foster partnerships among industry, academia and government in order to establish an innovation ecosystem for green hydrogen technologies. The scheme will also help the scaling up and commercialisation of green hydrogen technologies by providing the necessary policy and regulatory support.

The R&D scheme will be implemented with a total budgetary outlay of Rs 400 crore till the financial year 2025-26. The support under the R&D programme includes all components of the green hydrogen value chain, namely, production, storage, compression, transportation, and utilisation.

The R&D projects supported under the mission will be goal-oriented, time bound, and suitable to be scaled up. In addition to industrial and institutional research, innovative MSMEs and start-ups working on indigenous technology development will also be encouraged under the Scheme.

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Policy&Politics

India, Brazil, South Africa to press for labour & social issues, sustainability

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The Indian delegation also comprises Rupesh Kumar Thakur, Joint Secretary, and Rakesh Gaur, Deputy Director from the Ministry of Labour & Employment.

India, on Thursday, joined the G20’s two-day 2nd Employment Working Group (EWG) meeting under the Brazilian Presidency which is all set to address labour, employment and social issues for strong, sustainable, balanced and job-rich growth for all. India is co-chairing the 2nd EWG meeting, along with Brazil and South Africa, and is represented by Sumita Dawra, Secretary, Labour & Employment.

The Indian delegation also comprises Rupesh Kumar Thakur, Joint Secretary, and Rakesh Gaur, Deputy Director from the Ministry of Labour & Employment. India has pointed out that the priority areas of the 2nd EWG at Brasilia align with the priority areas and outcomes of previous G20 presidencies including Indian presidency, and commended the continuity in the multi-year agenda to create lasting positive change in the world of work. This not only sustains but also elevates the work initiated by the EWG during the Indian Presidency.

The focus areas for the 2nd EWG meeting are — creating quality employment and promoting decent labour, addressing a just transition amidst digital and energy transformations, leveraging technologies to enhance the quality of life for al and the emphasis on gender equity and promoting diversity in the world of employment for inclusivity, driving innovation and growth. On the first day of the meeting, deliberations were held on the over-arching theme of promotion of gender equality and promoting diversity in the workplace.

The Indian delegation emphasized the need for creating inclusive environments by ensuring equal representation and empowerment for all, irrespective of race, gender, ethnicity, or socio-economic background. To increase female labour force participation, India has enacted occupational safety health and working conditions code, 2020 which entitles women to be employed in all establishments for all types of work with their consent at night time. This provision has already been implemented in underground mines.

In 2017, the Government amended the Maternity Benefit Act of 1961, which increased the ‘maternity leave with pay protection’ from 12 weeks to 26 weeks for all women working in establishments employing 10 or more workers. This is expected to reduce the motherhood pay gap among the working mothers. To aid migrant workers, India’s innovative policy ‘One Nation, One Ration Card’ allows migrants to access their entitled food grains from anywhere in the Public Distribution System network in the country.

A landmark step in fostering inclusion in the workforce is the e-Shram portal, launched to create a national database of unorganized workers, especially migrant and construction workers. This initiative, providing the e-Shram card, enables access to benefits under various social security schemes.

The portal allows an unorganized worker to register himself or herself on the portal on self-declaration basis, under 400 occupations in 30 broad occupation sectors. More than 290 million unorganized workers have been registered on this portal so far.

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Policy&Politics

India to spend USD 3.7 billion to fence Myanmar border

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India plans to spend nearly $3.7 billion to fence its 1,610-km (1,000-mile) porous border with Myanmar within about a decade, said a source with direct knowledge of the matter, to prevent smuggling and other illegal activities. New Delhi said earlier this year it would fence the border and end a decades-old visa-free movement policy with coup-hit Myanmar for border citizens for reasons of national security and to maintain the demographic structure of its northeastern region.

A government committee earlier this month approved the cost for the fencing, which needs to be approved by Prime Minister Narendra Modi’s cabinet, said the source who declined to be named as they were not authorised to talk to the media. The prime minister’s office and the ministries of home, finance, foreign affairs and information and broadcasting did not immediately respond to an email seeking comment.

Myanmar has so far not commented on India’s fencing plans. Since a military coup in Myanmar in 2021, thousands of civilians and hundreds of troops have fled from there to Indian states where people on both sides share ethnic and familial ties. This has worried New Delhi because of risk of communal tensions spreading to India. Some members of the Indian government have also blamed the porous border for abetting the tense situation in the restive north-eastern Indian state of Manipur, abutting Myanmar.

For nearly a year, Manipur has been engulfed by a civil war-like situation between two ethnic groups, one of which shares lineage with Myanmar’s Chin tribe. The committee of senior Indian officials also agreed to build parallel roads along the fence and 1,700 km (1,050 miles) of feeder roads connecting military bases to the border, the source said.

The fence and the adjoining road will cost nearly 125 million rupees per km, more than double that of the 55 million per km cost for the border fence with Bangladesh built in 2020, the source said, because of the difficult hilly terrain and the use of technology to prevent intrusion and corrosion.

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Policy&Politics

ONLY 2-3% RECOVERED FROM $2-3 TN ANNUAL ILLEGAL TRADE THROUGH BANKING: INTERPOL

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However, Stock highlighted the enormity of the challenge, noting that between 40% and 70% of criminal profits are reinvested, perpetuating the cycle of illicit financial activity.

In a press briefing held on Wednesday, Interpol Secretary General Jurgen Stock unveiled alarming statistics regarding the extent of undetected money laundering and illegal trade transactions plaguing the global banking network. Stock revealed that over 96% of the money transacted through this network remains undetected, with only 2-3% of the estimated USD 2-3 trillion from illegal trade being tracked and returned to victims.

Interpol, working in conjunction with law enforcement agencies and private financial sectors across its 196 member countries, is committed to combating the rising tide of fraud perpetrated by illicit traders. These criminal activities encompass a wide spectrum, including drug trafficking, human trafficking, arms dealing, and the illicit movement of financial assets.

Stock emphasized the urgent need to establish mechanisms for monitoring transactions within the global banking network. Currently, efforts are underway to engage banking associations worldwide in setting up such a framework. However, Stock highlighted the enormity of the challenge, noting that between 40% and 70% of criminal profits are reinvested, perpetuating the cycle of illicit financial activity. The lack of real-time information sharing poses a significant obstacle to law enforcement agencies in their efforts to combat money laundering and illegal trade.

Stock underscored the role of Artificial Intelligence (AI) in exacerbating this problem, citing its use in voice cloning and other fraudulent activities. Criminal organizations are leveraging AI technologies to expand their operations and evade detection on a global scale. Stock emphasized the importance of enhanced cooperation between law enforcement agencies and private sector banking groups. Realtime information sharing is crucial in the fight against illegal wealth accumulation.

Drawing inspiration from initiatives such as the “Singapore Anti-Scam Centre,” Stock called for the adoption of similar models in other countries to strengthen the collective response to financial crimes. In conclusion, Stock’s revelations underscore the pressing need for concerted action to combat global financial crimes. Enhanced cooperation between public and private sectors, coupled with innovative strategies for monitoring and combating illicit transactions, is essential to safeguarding the integrity of the global financial system.

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Policy&Politics

FM defends Atal Pension Scheme, highlights guaranteed returns

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Finance Minister Nirmala Sitharaman defended the Atal Pension Yojana (APY) against Congress criticism, asserting its design based on choice architecture and a guaranteed minimum 8% return. She emphasized the scheme’s opt-out feature, facilitating automatic premium continuation unless subscribers choose otherwise, promoting retirement savings. Sitharaman countered Congress allegations of coercion, stating the APY’s guaranteed returns irrespective of market conditions, supplemented by government subsidies.

Responding to Congress’s claim of scheme misuse, Sitharaman highlighted its intended beneficiaries – the lower-income groups. She criticized Congress for its alleged elitist mindset and emphasized the scheme’s success in targeting the needy. Sitharaman accused Congress of exploiting vote bank politics and coercive tactics, contrasting it with the APY’s transparent framework. The exchange underscores the political debate surrounding social welfare schemes, with the government defending its approach while opposition parties raise concerns about implementation and efficacy.

Finance Minister Nirmala Sitharaman’s robust defense of the Atal Pension Yojana (APY) against Congress criticism highlights the ongoing debate over social welfare schemes in India. Sitharaman’s assertion of the APY’s design principles, including its opt-out feature and guaranteed minimum return, underscores the government’s commitment to promoting retirement savings among lower-income groups. The Atal Pension Yojana, named after former Prime Minister Atal Bihari Vajpayee, was launched in 2015 to provide pension benefits to workers in the unorganized sector. It aims to address the significant gap in pension coverage among India’s workforce, particularly those employed in informal and low-income sectors. The scheme offers subscribers fixed pension amounts ranging from Rs. 1,000 to Rs. 5,000 per month, depending on their contribution and age at entry, after attaining the age of 60. Sitharaman’s response comes after Congress criticism alleging the APY’s inefficacy and coercive tactics in enrolment.

Congress General Secretary Jairam Ramesh described the scheme as poorly designed, citing instances of subscribers dropping out due to unauthorized account openings. However, Sitharaman refuted these claims, emphasizing the APY’s transparent and beneficiary-oriented approach. The finance minister’s defense focuses on three key aspects of the APY: Choice Architecture: Sitharaman highlights the opt-out feature of the APY, which automatically continues premium payments unless subscribers choose to discontinue.

This design element aims to encourage long-term participation and ensure consistent retirement savings among subscribers. By simplifying the decision-making process, the scheme seeks to overcome inertia and promote financial discipline among participants. Guaranteed Minimum Return: Sitharaman underscores the APY’s guarantee of a minimum 8% return, irrespective of prevailing interest rates. This assurance provides subscribers with confidence in the scheme’s financial viability and incentivizes long-term savings.

The government’s commitment to subsidizing any shortfall in actual returns further strengthens the attractiveness of the APY as a retirement planning tool. Targeting the Needy: Sitharaman defends the predominance of pension accounts in lower income slabs, arguing that it reflects the scheme’s successful targeting of its intended beneficiaries – the poor and lower-middle class. She criticizes Congress for its alleged elitist mindset and suggests that the party’s opposition to welfare schemes like the APY stems from a disconnect with the needs of marginalized communities. Sitharaman’s rebuttal also addresses broader political narratives surrounding social welfare policies in India.

She accuses Congress of exploiting vote bank politics and coercive tactics, contrasting it with the transparent and inclusive framework of the APY. The exchange underscores the ideological differences between the ruling Bharatiya Janata Party (BJP) and the opposition Congress, with each side advocating for their vision of social welfare and economic development. In addition to defending the APY, Sitharaman’s remarks shed light on the broader challenges and opportunities facing India’s pension sector.

Despite significant progress in expanding pension coverage through schemes like the APY, the country still grapples with issues such as financial literacy, informal employment, and pension portability. Addressing these challenges requires a multifaceted approach involving government intervention, private sector participation, and civil society engagement.

As India strives to achieve its vision of inclusive and sustainable development, initiatives like the APY play a crucial role in promoting economic security and social equity. Sitharaman’s defense of the scheme underscores the government’s commitment to addressing the needs of vulnerable populations and ensuring their financial well-being in the long run.

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Economic

Regulatory steps will make financial sector strong, but raise cost of capital

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India’s financial system regulator, the Reserve Bank of India (RBI), is demonstrating a serious commitment to improving governance and transparency at finance companies and banks, with the RBI’s recent measures aimed at curtailing lenders’ overexuberance, enhancing compliance culture and safeguarding customers.

While the global ratings firm has appreciated the RBI’s “diminishing tolerance for non-compliance, customer complaints, data privacy, governance, know-your-customer (KYC), and anti-money laundering issues”, it has cautioned that increased regulatory risk could impede growth and raise the cost of capital for financial institutions. “Governance and transparency are key weaknesses for the Indian financial sector and weigh on our analysis. The RBI’s new measures are creating a more robust and transparent financial system,” says S&P Global Credit Analyst, Geeta Chugh. “India’s regulator has underscored its commitment to strengthening the financial sector. The drawback will be higher capital costs for institutions,” Chugh cautions.

The RBI measures include restraining IIFL Finance and JM Financial Products from disbursing gold loan and loans against shares respectively and asking Paytm Payments Bank (PPBL) to stop onboarding of new customers. Earlier in December 2020, the RBI suspended HDFC Bank from sourcing new credit card customers after repeated technological outages. These actions are a departure from the historically nominal financial penalties imposed for breaches, S&P Global notes.

Besides, as the global agency points out, the RBI has decided to publicly disclose the key issues that lead to suspensions or other strict actions against concerned entities and become more vocal in calling out conduct that it deems detrimental to the interests of customers and investors. “We believe that increased transparency will create additional pressure on the entire financial sector to enhance compliance and governance practices,” adds Chugh. The global agency has also lauded the RBI’s recent actions demonstrating scant tolerance for any potential window-dressing of accounts.

These actions include the provisioning requirement on alternative investment funds that lend to the same borrower as the bank finance company. Amidst the possibility of some retail loans, such as personal loans, loans against property, and gold loans getting diverted to invest in stock markets and difficulty of ascertaining the end-use of money in these products, S&P Global underlines the faith of market participants that the RBI and market regulator, the Securities and Exchange Board of India, want to protect small investors by scrutinizing these activities more cautiously.

On the flip side, at a time of tight liquidity, the RBI’s new measures are likely to limit credit growth in fiscal 2025 (year ending March 2025). “We expect loan growth to decline to 14 per cent in fiscal 2025 from 16 per cent in fiscal 2024, reflecting the cumulative impact of all these actions,” says Chugh. The other side of the story is that stricter rules may disrupt affected entities and increase caution among fintechs and other regulated entities and the RBI’s decision to raise risk weights on unsecured personal loans and credit cards may constrain growth. Household debt to GDP in India (excluding agriculture and small and midsize enterprises) increased to an estimated 24 per cent in March 2024 from 19 per cent in March 2019. Growth in unsecured loans has also been excessive and now forms close to 10 per cent of total banking sector loans.

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