Iffy on federal and economic grounds

Iffy on federal and economic grounds

Despite a solemn assurance to compensate the states for any shortfall in their revenue on account of the transition to the new goods and services tax (GST) regime, the Centre has now taken the stand that the states are welcome to borrow, whether from a special Reserve Bank of India (RBI) window or from the market, to make good the revenue shortfall. The 101st Constitution Amendment, which legislated GST into being, said, ‘Parliament shall, by law… provide for compensation to the states for loss of revenue arising on account of implementation of the goods and services tax for a period of five years.’ The law that was passed for the purpose introduced a cess as a source of revenue for such compensation. But nowhere does the law say that compensation would be paid only from the proceeds of the cess.

When the Centre decided to dip into the green cess on coal to compensate the states for GST shortfall, it accepted the principle that the compensation cess is not the only source of funding the shortfall. For starters, what does compensation mean? Bihar deputy chief minister Sushil Modi said that the Centre is morally obliged to compensate the states for their revenue shortfall. In any case, the current macroeconomic implication is exactly the same, whether the amount of compensation is borrowed by the Centre or by the states — the gross public sector borrowing requirement goes up by that amount. The difference is in who will bear the burden of servicing the debt. The most buoyant taxes are with the Centre, which also has greater leeway to borrow, while the bulk of the spending obligation is on the states, particularly on social sectors. Imposing the additional debt servicing obligation on the states would pre-empt their spending on things that would boost demand, and the economy would be worse off.

Both for the sake of better federal ties and for the sake    of better economic outcomes, the Centre should borrow the amount of GST shortfall and compensate the states.