States vs. the Center at the GST Council
A costly dispute involving $32 billion (Rs. 2.35 lakh crore) and "acts of God"
Hi there, I’m Aman Thakker. Welcome to Indialogue, a newsletter analyzing the biggest policy developments in India. The aim of this newsletter is to provide you with quality analysis every week on what’s going on in India.
A quick reminder: Like last week, this week’s edition of Indialogue also is a very short version of the newsletter (with only the news roundup and reading recommendations). We will return to the regular format next week. Thank you in advance for your understanding, and apologies in advance!
As always, please do not hesitate to send any suggestions, critiques, or ideas to aman@amanthakker.com.
A Very Quick Note on New Developments Along the LAC
Late Sunday night U.S. time/early Monday morning, the Ministry of Defense published a press release claiming Chinese troops had carried out “provocative military movements” aimed at changing the status quo on the South Bank of Pangong Tso on the night of 29/30 August.
The press release said Indian troops pre-empted these military movements, and thwarted Chinese efforts.
Per the press release, it seems that as of 10:35 AM India time (when the press release was published), a “Brigade Commander level Flag Meeting is in progress at Chushul to resolve the issues.”
Little else is known as of now (late Sunday night U.S. time), but safe to say that these developments will likely renew calls for India to rethink its current approach of diplomatic and military talks which, for the last few rounds, have not yielded further progress in key tension points such as Pangong Tso, Gogra-Hot Springs, and Depsang Plains.
Indialogue will likely have more about this latest development next week, and in weeks to come, as more information becomes available. In the meantime, I’ll likely continue to post updates as they happen on Twitter, so please consider following me here.
The Brewing Crisis Between States and the Center over GST Compensation Reaches a Head
India’s states and the central government were slowly headed towards a conflict over the Goods and Services Tax (GST), which was passed and implemented by the Modi government during its first term.
On Thursday, August 27, the conflict reached a simmering point at a meeting of the GST Council, where the Union Finance Minister and various finance ministers of India’s states, met to discuss GST-related issues.
To understand the conflict, we have to go back (briefly) to the structure of the law:
Under the GST, all indirect taxes previously collected by the states would be subsumed into the one GST
Since the GST taxed consumption, and not manufacturing, states which have high manufacturing rates, such as Tamil Nadu and Maharashtra, stood to lose as good produced in that state and consumed in another would be taxed in the latter, leading to revenue loss for the manufacturing states.
The government, therefore, agreed to provide compensation to states for lost revenue.
The rules of the compensation, as spelled out in the GST (Compensation to States) Act, state that the center is obliged to compensate the states for a transition period of five years (2017-22).
Here is how the compensation is calculated: The states calculate their GST revenue for a given year, and compare it to what their projected revenue would have been had their GST revenues compounded at 14% per year, starting with the base year of 2015-16.
Any shortfall between the former and the latter would be compensated by the center.
For 2020-2021, the projected revenue in total for states is slated to top out at Rs. 3 lakh crore (~$40.8 billion). However, the actual collected GST revenue is only Rs. 65,000 crore (~$8.9 billion). Therefore, the states are claiming they are facing a revenue shortfall of Rs. 2.35 lakh crore (~$32 billion).
However, the center seems to be reneging on the deal now.
The center is claiming that there is a difference between the shortfall in GST revenue that was actually caused by the implementation of the new tax, and the wider collapse in revenue due to the impact of COVID-19. The center claims it is only responsible for the former, and not the latter, pegging the compensation amount of Rs. 97,000 crore ($11.5 billion).
In doing so, the center is very narrowly interpreting The Goods and Services Tax (Compensation to States) Bill, 2017, which says:
“Parliament shall, by law, on the recommendation of the Goods and Services Tax Council, provide for compensation for loss of revenue on account of implementation of the goods and services tax for a period of five years.”
Finance Minister Nirmala Sitharam reportedly told the states that COVID-19 was an “act of God,” and therefore could not be claimed to be “on account of implementation” of the GST. Therefore, the center is not responsible for compensation in this case.
However, various observers have pointed out that such an argument runs into trouble when you look at GST collection data since the implementation of the tax.
Scroll.in journalist Shoaib Daniyal points out “It was clear in 2019, months before the first coronavirus case, that compensation would fall short, with the GST Council even discussing the matter in September. In fact, GST has struggled right from the start compared to the tax regime it replaced.”
By all accounts, there are three options now:
The first option is the one preferred by the Center. States would borrow from the Reserve Bank of India, and would earn back the revenues from a a future compensation cess that would extend beyond the five years outlined in the Goods and Services Tax (Compensation to States) Bill, 2017
The second option, preferred by States, is that the Center stick to its commitments and either pay for the compensation through its tax revenues, or borrow money from the market. If this is not possible, some state finance ministers, chief among the Kerala finance minister Thomas Isaac, have said that the GST Council, as an entity, should be the one to borrow the money. However, the legality of the GST Council borrowing money is not yet clear.
The third, and “nuclear,” option is that the states abandon the GST and revert back to the tax system wherein each state can impose and collect their own tax revenues. Reportedly, states such as Maharashtra and Chhattigarh, and the Union Territory of Puducherry, are in favor of such an approach.
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News Roundup
The Ministry of Home Affairs released guidelines for the fourth phase of “Unlocking” India following the nationwide lockdown due to the COVID-19 pandemic. In Phase 4, metros will be permitted to operate starting September 7, and social/political/religious functions can be held with a maximum of 100 people in attendance with mandatory social distancing, face masks, temperature checks, and hand-washing. The new guidelines also mandate that no state or union territory governments can impose their own local lockdowns outside of areas considered “containment zones” without prior consultation with the Centre.
Nearly one month after confirming its participation, the government announced it would withdraw from taking part in the Kavkaz 2020 military exercise in Russia, citing the COVID-19 pandemic. However, sources have said that it is likely that ongoing tensions with China along the Line of Actual Control are behind this decision.
Amy Kazmin and Stephanie Findlay of the Financial Times report that the Indian government is seeking to phase out equipment from Huawei and other Chinese companies in telecom services, including 5G development. While no formal ban has been announced, industry sources have told the reporters that “key ministries have clearly indicated that local telecoms service providers should avoid using Chinese equipment in future investments, including in 5G networks.”
The Maharashtra state government’s energy minister, Nitin Raut, announced that no new thermal power generation plants will be set up in the state.
The Defence Research and Development Organisation (DRDO) has established an expert committee, led by Director of the Indian Institute of Technology - Delhi, Dr. P Ramagopal Rao, to review the charter of duties of DRDO laboratories “to prepare the armed forces for futuristic battlefields.”
External Affairs Minister S. Jaishankar participated in 17th Meeting of the India-Vietnam Joint Commission on Trade, Economic, Scientific and Technological Cooperation with his counterpart, Pham Binh Minh, Deputy Prime Minister and Minister of Foreign Affairs of Vietnam.
On August 26, the National Health Authority released the Draft Health Data Management Policy of the National Digital Health Mission. The aim of the policy is to “ provide adequate guidance and to set out a framework for the secure processing of personal and sensitive personal data of individuals who are a part of the national digital health ecosystem.” The draft is open for comments from the public until September 3, 2020. The full draft of the policy is available here.
The government is reportedly in the final stages of approving two Phalcon airborne warning and control systems (AWACS) for the Indian Air Force from Israel at a cost of around $1 billion. This purchase will supplement the Indian Air Force’s existing three Phalcon AWACS.
Foreign Secretary Harsh Vardhan Shringla held a meeting with various leading think tanks working on foreign policy research and advocacy based in New Delhi.
Defence Secretary Dr Ajay Kumar participated in the 14th India-Singapore Defence Policy Dialogue with his counterpart, Permanent Secretary (Defence) Mr Chan Heng Kee from the government of Singapore. Both sides discussed a number of issues related to bilateral defence engagements.
Three to Read
From cogent analysis to potentially big news that you should keep an eye on, here are a few commentaries and other pieces of writing that I found particularly enlightening:
Yamini Aiyar, president and chief executive of the Center for Policy Research, argues: “There is ample evidence that demand contraction lies at the heart of the Covid-19- induced economic crisis. The State needs to open its purse strings in order to kick-start the economy. But it also needs to urgently change the rules of the game. It is the Indian State’s stubborn refusal to respond generously and effectively to the crisis it confronts that remains the biggest hurdle.”
Dr. Sumit Ganguly, distinguished professor of political science and the Rabindranath Tagore chair in Indian cultures and civilizations at Indiana University, Bloomington, and Dr. Frank O’Donnell, nonresident fellow at the Stimson Center and a postdoctoral scholar in the Rising Power Alliances Project at Tufts University’s Fletcher School of Law and Diplomacy, write: “A disjointed Indian intelligence system appears to have permitted China the crucial time window to initially move forces into the contested areas of Ladakh. India in fact holds a military advantage against China in its border areas, leaving Beijing with only one pathway to create a localized force advantage: through deception. And so it was this year. China’s army began a major military exercise near Indian border areas from January as a distraction, later diverting forces to Ladakh to begin its occupation. Such significant Chinese activities should have merited exceptionally close monitoring and interagency evaluation by Indian intelligence services.”
Dr. Kyle Gardner, non-resident scholar at the Sigur Center for Asian Studies, George Washington University and author of The Frontier Complex: Geopolitics and the Making of the India-China Border, writes: “For more than 100 days, tensions have been high between India and China along their disputed Himalayan border… Even supposing a de-escalation will eventually occur — whether by diplomacy or by seasonal necessity — the likelihood of future cycles of conflict underscores the importance of examining the deeper roots of India and China’s missing border. Central to today’s border dispute is a colonial legacy involving watersheds, “no-man’s lands,” and a surveyor named William Johnson.”
Thanks for reading this latest edition of Indialogue. Please let me know if you have any thoughts or feedback by emailing me at aman@amanthakker.com.