GST WAS LAUNCHED ON JULY 1, 2017 with the promise that it would transform the Indian economy. It was characterized as a second freedom since it would unify the nation. Eight years later, it is time to assess its performance. While the Prime Minister has lauded the tax, the Leader of Opposition in the Lok Sabha Rahul Gandhi, has criticised it since it marginalises the marginals.
Benefits
GST supposedly subsumed seventeen different taxes, thereby simplifying indirect taxation. Further, with a common tax rate applicable across the country, India was to become one unified market, leading to ease of doing business. The cascading effect of taxes was expected to be eliminated, resulting in lower incidence of taxes and reducing inflation. Black income generation was expected to decline, leading to additional tax collection which could help social development. So, growth was expected to accelerate leading to creation of more jobs.
It was slated to reduce inequality by benefiting the poorer states. GST is collected at the last point of sale even though it is applicable at every stage of production and distribution. The consumer pays the entire amount when the final sale occurs. Since the poorer states produce proportionately less than the better off states, their share of consumption in their state GDP (‘GSDP’) is higher, so they were expected to collect proportionately more of GST, thereby causing inter-state disparities to decline.
This expected benefit to the consuming states became a stumbling block for introduction of GST. The producing states, like Gujarat and Tamil Nadu, feared losing tax revenue and opposed GST. To bring them on board, they were promised a 14 percent increase in tax revenue over the base year, 2015-16. Further, the cash cows of petroleum goods and liquor for human consumption were kept out of GST to allow flexibility to the States. The Centre and the States could levy their own excise on these items and collect extra taxes as per their needs. This came in handy during the pandemic when tax collections plummeted.
In brief, the promise was that GDP would rise, inflation would decline, black economy would be checked, inter-state inequality would decline and social sector spending would rise thereby benefitting the marginalised sections. It seemed like a win-win. Did it turn out as promised?
Assessment
Going by official data, did growth accelerate?
Three complications arise in assessing this. First, the pandemic changed the basic parameters of the economy as it experienced its biggest downturn in 2020-21, three years after GST’s introduction. In 2021-22, the economy started recovering but it has remained below the level it should have achieved if the pandemic had not stuck. Second, GST was initiated 7 months after demonetisation which had damaged the economy. So, the GDP base was already low. Third, the three years of pre-pandemic functioning of GST can be termed as transitional for such a complex tax. Similarly, the three post pandemic years are also transitional. So, given these and other complications, both global and local, is it fair to assess the impact of GST on GDP?
Nonetheless, going by the available statistics, the economy’s rate of growth declined from 8 percent in Q4 of 2017-18 to 3.1 percent in Q4 of 2019-20, just before the pandemic struck. Post the pandemic, the economy recovered from a low, therefore a high growth rate was expected. But, it has slowed down significantly in 2024-25. The cause of slowdown in both these periods is due to rising inequality leading to inadequate demand and consequent slowdown in private investment, in spite of increased public investment. And, GST has significantly contributed to aggravating disparities.
Inequality and inflation
GST has adversely impacted the non-agriculture unorganised sector which employs 48 percent of the workers and produces 30 percent of the output. It is mostly outside the GST net. So it does not get input credit which is available to the organised sector. Thus, the cost of production declines for the organised sector but not for the unorganised sector. Further, the organised sector stops buying from it since it has to pay a reverse charge which increases working capital requirement - a double jeopardy for the unorganised sector. Thus demand has shifted to the organised sector which is growing at the expense of the unorganised sector. Consequently, disparities rise and so does unemployment given the automation and mechanisation in the organized sector.
Further, the backward states have a higher share of the unorganised sector in their GSDP. So, a decline of the unorganised sector impacts them more than the advanced states. The benefit of a proportionately greater share of GST is negated by the decline in their growth and higher unemployment. Consequently, inter-state disparities increase.
GST was made revenue neutral. So, in the aggregate, the effective tax rate remained unchanged and even if the cascading effect of taxes decreased, prices did not decline. Given the complexity of GST, the cascading effect, though less, persisted. Further, the growth of the organised sector at the expense of the unorganised sector has given it higher pricing power, as seen post pandemic, and that prevents inflation from declining. Even if the effective tax rate is reduced, profit margins could be raised so that the benefit would not accrue to the consumers as price declines.
Complexity and black
Indian GST is a half-way house and not in its ideal form. But, that is also true for other countries. The ideal form requires one rate of tax on all items.
But that is not feasible in India since indirect taxes are regressive which put an undue burden on the marginalised sections. To reduce regressivity, essentials are exempted or taxed at low rates. It was famously said, ‘A Benz car and Hawai chappals cannot be taxed at the same rate’.
India has a multiplicity of tax rates – in percent, 0, 0.25, 1, 1.5, 3, 5, 6, 12, 18 and 28. Additionally, on luxury items and sin goods there is a Compensation Cess which varies from 11 percent to 290 percent depending on the category. Finally, within a given category like hotel rooms and suites, different rates of tax exist that enable misclassification and tax evasion.
Routinely, fake companies are detected that enable businesses to claim input credit. Several times it has been reported in the Parliament that about Rs. 2 lakh crore of GST evasion is being detected annually. Actual evasion is often a multiple of what is detected. Tax officials have been found to be in cahoots with tax evaders. Manipulation of e-way bills and bribes paid during transportation are being reported.
So, GST has not been able to impact tax evasion. If tax evasion had declined, the tax/GDP ratio and especially the direct tax/GDP ratio should have risen. In 2014-15, indirect tax/GDP ratio was 11 percent and total tax/GDP ratio 16.73 percent. In 2023-24 they were 11.9 percent and 18.5 percent respectively. This small increase can be attributed to the rising share of the organised sector in GDP (from which 95 percent of the GST is collected), rather than better compliance.
Reform needed
GST in its present form is not suited to India given a) the nation’s diversity b) the complexity of the GST introduced and c) the rampant corruption sustained by the ‘triad’ consisting of businessmen, politicians and the executive. The argument that GST was initiated in France in 1954 is specious since the two economies are very different.
Introducing a very complex tax where governance is fraught was bound to lead to failure. So, hundreds of amendments have had to be made in GST since its inception and there are innumerable court cases. GST benefitted the organised sector since it was already computerised and obtained additional markets. The small and micro businesses lost since their account keeping is rudimentary and improvements in it will be unsustainable given their low profits. GST has impacted federalism by taking away the power of the states to fix their tax rates - that undermines the basic structure of the Constitution.
In brief, GST in India has not delivered, not because of faulty or hurried implementation, as some argue, but because it is structurally flawed. The large unorganised sector which lies outside the fold of the government poses an irresolvable problem. So, promises remain unfulfilled and to overcome the difficulties there is need for urgent reform of GST, as this author has been suggesting.