GST Compensation: The Centre should honour its commitment

Chief ministers of at least six states have written to the central government over the last three days asking the latter to reconsider its position on compensating states for the shortfall expected this year in the goods and services tax (GST) collections.

During the course of a GST Council meeting last week, the Narendra Modi government informed states it would not make good the entire shortfall expected this year. Even though there is a legislative framework to compensate states in the event of a shortfall, the Centre, based on the Attorney General’s interpretation of the law, believes otherwise.

A reason for the position taken by the Modi government is that the current year’s situation is caused partly by the outbreak of Covid-19, “an act of God” in its opinion. The Centre does not believe the law envisages a compensation to be borne by it in such a scenario.
Many states believe otherwise. Even if there is a grey area in the legal framework on this issue, they believe the grand bargain arrived at between the Centre and states in 2017 to transition to GST was made possible by an understanding that the Centre would provide a backstop for five years.

At this stage, the Centre should reconsider. It was widely believed that the Centre would provide the backstop. It’s one reason why almost all political parties agreed to support the Constitutional amendments to bring about GST. It was a rare moment when most parties were willing compromise for the greater common good.
It’s interesting that AIAIDMK, which has allied with BJP on many issues over the last few years, did not support the GST Constitutional amendment. With the benefit of hindsight, the AIADMK’s misgivings were not entirely unfounded.

There are three reasons why the Centre should make an effort to compensate states.

The compensation issue is widely viewed as a sovereign commitment. Even Sushil Modi of BJP, deputy chief minister and finance minister of Bihar, said that the Centre is “morally bound” to compensate states.

It is difficult to predict what the consequences will be if the Centre is in future seen as unreliable or prone to reneging.

In the Constitutional arrangement, the Centre has asymmetric powers of taxation and borrowing. It calls the shots. However, a significant share of social and economic development expenses are borne by states. Anything that harms states’ revenues will almost surely hurt poorer people in society.

The Centre can always borrow at finer rates than states. Moreover, as far the market and rating agencies go, the aggregate borrowing and fiscal deficit are what matter.

These reasons should persuade the Centre to be the entity that borrows to underwrite the GST compensation this year. As some states have already suggested, the cess to finance the compensation can be extended beyond the five-year period till the Centre offsets the cost of additional borrowing to underwrite the compensation.

DISCLAIMER : Views expressed above are the author’s own.


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