To its proponents, the much heralded goods and services tax (GST) represents a bright new hope: an India at long last knitted together into a single market. Collapsing hundreds of state-specific taxes into a four-tiered tax slab which applies nationwide would be expected, according to conventional economic theory, to reduce transaction costs and thereby deliver efficiency gains.
But could GST instead be a false dawn? It is being rolled out in a political economy context characterized by skyrocketing economic disparity both between and within major states, as documented by Praveen Chakravarty and myself in these pages and elsewhere. Indeed, we had conjectured (Will GST Exacerbate India’s Income Divergence?, Mint, 8 February) that the putative increase in economic integration in tandem with a reduction in fiscal tools available to the states, simultaneously wrought by GST, might exacerbate, rather than attenuate, interstate differences in income and well-being per person.
Building on this analysis, Chakravarty, writing together with Palanivel Thiagarajan, extended the argument further (The Flip Side Of ‘One Nation, One Tax’, Mint, 4 April), suggesting that the reduced policy space, in the context of the disparate requirements of rich and poor states, may put pressure on the federal nature of India’s polity. As they write: “The big gamble of GST is that the economic benefits to the nation as a whole will trump the fissiparous predilections of India’s political union.”
I had posed the same concern in a somewhat different vein in the last instalment of this column (Why Care About Inequality?, Mint, 27 March): “We need urgently to turn our attention to widening income gaps at the regional level in India, as these will surely begin to colour the political economy of the federation in years to come.”
Chakravarty and Thiagarajan observe pointedly that regional economic divergence and the centralization of economic policy, as epitomized by GST, is occurring in a political economy context in which regional parties (that is, those parties which essentially exist in only one state) are more important than ever.
Thus, even after the Bharatiya Janata Party’s (BJP’s) rout of all other parties in the recent Uttar Pradesh election, a total of 50 or more regional parties hold about as many assembly seats nationwide as the two major national parties, BJP and Indian National Congress (INC), combined. Such regional parties are unlikely to be swayed by national narratives, such as “one nation, one tax”, emanating from Delhi, they contend.
What is more, the preferred, optimal policy mix will vary importantly by level of economic development, and this is a consideration that regional parties, which cater to a specific electoral base in their home state, will be better able to fine tune than national parties operating at the state level, which simultaneously must pay heed to the external impacts of their policy choices on the national party’s electoral prospects throughout the country.
All this suggests that we may expect increased political fragmentation in the years to come, and that this fragmentation will be organically tied to the same underlying forces driving economic divergence in the midst of a push toward greater policy centralization emanating from the Union government—it should be noted, irrespective of which major party is in power.
Policymaking in federal economic/political unions, such as India, inevitably involves a trade-off between what is best for the union as a whole and what is best for its constituent parts. This is true not just in India but in all large federal states such as the US and Canada. Thus, as I have argued in this column, one of the root causes of the US Civil War lay in the different impacts of the national tariff on the northern as against the southern states.
Similarly, the creation of Canada as a confederation of provinces in 1867 tied the new nation into an economic union. The result was, as Canadian-born Nobel economist Robert Mundell has wryly observed, the greatest trade-diverting customs union ever created, with the national tariff, abetted by a new national railroad, disrupting the historical north-south trade pattern and forging a new east-west axis.
A century later, Prime Minister Pierre Trudeau cracked down on secessionists in the French-speaking province of Quebec, going so far as to invoke wartime emergency powers in the “October crisis” of 1970. In the infamous “night of long knives”, in November 1981, Trudeau struck a deal with the nine English provinces, without Quebec, to repatriate Canada’s constitution from Great Britain. Premier René Lévesque, a Quebec nationalist, bitterly observed: “Trudeau represents the centralizing of Canada, literally crushing provinces into a federal mode.”
Grievances festered, resulting in a referendum on Quebec independence in October 1995, which shocked many when it failed by less than a percentage point. In response to the crisis, the intervening quarter-century has seen considerable devolution of powers to Quebec, critically on immigration and cultural policy. The threat of secession has all but disappeared.
In the US and Canada, strong yet accommodative federal governments have largely kept fissiparous tendencies in check. Will the same be true in India?
Every fortnight, In The Margins explores the intersection of economics, politics and public policy to help cast light on current affairs. Read Vivek’s Mint columns at www.livemint.com/vivekdehejia