New Delhi: April 2011 is the deadline for far-reaching tax reforms that are expected to feed into the ongoing fiscal consolidation and, eventually, boost economic growth.

Uniform levy: A toll plaza on the Delhi-Gurgaon expressway. Unlike the states, the Centre wants a single GST rate to cover both merchandise and services. Ramesh Pathania / Mint

Finance minister Pranab Mukherjee’s Budget proposals on both direct and indirect tax were designed to seamlessly flow into the likely architecture of the proposed direct tax code (DTC) and goods and services tax (GST), respectively.

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Of the two, DTC is more under the control of the Union government, Ashok Chawla, finance secretary, said at a press conference following the Budget speech. GST, which aims to create a common market in India, would require state governments to sign on. Currently, the Centre and states are engaged in discussions to roll out GST.

Mukherjee proposed to partially roll back fiscal stimulus measures by increasing the mean Central excise duty by 2 percentage points to 10%, and enhancing indirect taxes on some petroleum products.

The increase in indirect taxes aim to rein in fiscal deficit, reduce government borrowings and create space for loans to drive private investment and growth in the economy.

Graphic: Yogesh Kumar / Mint

Though the immediate impact of the increase in indirect taxes would be to push up the general price level in the economy, the eventual outcome would be to neutralize inflationary pressure which stems from an unchecked fiscal deficit (the excess of expenditure over revenue which is funded through borrowings).

According to Kaushik Basu, chief economic adviser in the finance ministry, the Budget proposals on indirect taxes would add about 0.43% to the inflation rate as measured by the Wholesale Price Index.

“Beyond a point, you are feeding into deficit," Basu said, while explaining the rationale to increase indirect taxes. “Nothing is a free lunch in developing a budget."

Another senior official in the finance ministry, who did not want to be named, said the increase in mean Central excise to 10% was designed to be in sync with the Union government’s design of GST.

The Union government, unlike the states, wants a single GST rate to cover both merchandise and services. Prior to the Budget, services were taxed at 10%, and Mukherjee pointedly remarked that he chose to leave the prevailing service tax rate at the same level.

Studies commissioned by the 13th Finance Commission indicated the roll-out of GST could increase gross domestic product by almost Rs1 trillion by ironing out inefficiencies and lowering costs.

A buoyant economy is expected to create a virtuous cycle by enhancing tax revenues and lowering the fiscal deficit by compressing the extent of expenditure that needs to be met through borrowings.

On the direct tax side, Mukherjee provided benefits on personal income tax and also pushed further along the path to link tax exemptions for companies to investments rather than profits, both of which were suggested by DTC.

The DTC builds on the move in the recent past to simplify tax law, reduce exemptions and introduce moderate rates, all of which have contributed to the recent buoyancy in direct taxes. Mukherjee’s Budget proposal to provide benefits on direct taxes are expected to boost economic growth.

“(The) whole idea is a large part will go into savings. Growth depends critically on the savings rate," Basu said.

According to Budget documents, benefits on personal income tax would also boost private consumption and push economic growth forward.