GST can replicate VAT’s success for state governments

GST can replicate VAT’s success for state governments

New Delhi: Amidst protests and counter protests, a steady transformation is taking place in India’s public finances. After years of mismanagement state governments are finally toeing the fiscal prudence line. Thanks to fiscal responsibility legislation and implementation of value added tax (VAT), the finances of the state government (at the aggregate level) have improved drastically in the last six years.

The revenue deficit as a percentage of GDP has fallen from 2.30 in 2003-04 to around 0.52 in 2009-10. (Read) While gross fiscal deficit has fallen from 4.38% to 3.20% in that time period, the percentage of tax receipts to GDP has improved 83 basis points to 8.86% in 2009-10.

The improvement in state finances of the states is largely attributed to the implementation of VAT. According to Citigroup Global Markets, states now earn more than half of their tax receipts from the VAT.

With VAT proving to be worthwhile, analysts are hopeful that the implementation of the proposed unified Goods and Services Tax (GST) will further improve revenue collection and financial health of the states. The GST proposal received a fresh lease of life after the BJP agreed to nominate Bihar Deputy Chief Minister Sushil Modi as the chairman of the panel. Read Mint’s story...

Rohini Malkani and Anushka Shah of Citigroup Global Markets note:

Going forward, measures to contain expenditure through improved transparency and accountability, as well as higher devolution from the centre, bode well for fiscal consolidation in the coming years. As per 13th Finance Commission recommendations, states must eliminate revenue deficits and achieve a fiscal deficit of 3% of GDP by FY12.

They further add:

States’ experience with implementing VAT has been successful, with VAT being the most important source of tax revenue, contributing more than 50% of their own tax receipts. Looking ahead, introduction of GST would further reduce differences between taxation powers of the Centre and States, as States will have the power to tax the services sector.

Well, it all sounds logical on paper. Will the states find the political will to implement GST soon?