Speech At The Forty-second meeting of the GST Council

ON 5^th October, 2020 (Video Conference) 

Hon’ble Union Finance Minister Smt. Nirmala Sitaraman Chairperson of the GST Council, my colleague State Finance Ministers, Officers of the Government of India and State Governments.

 1.  Introduction of GST was the culmination of 14-year-long thought process that began in December, 2002 The Empowered Committee of State Finance Ministers had played an exemplary role in this process, converging diverse views and evolving a suitable model for GST. One of the main concerns of the states was the revenue loss which may occur when the states subsume their taxing powers, and when the taxation system changes from origin based to destination based.

 2.  The issue of GST compensation was discussed in the Empowered Committee meetings held on 14th June and 26th July, 2016. The States had unanimously agreed that the compensation should be paid in full for a period of five years. This sentiment of the said States was shared with the Union Finance Minister who was appreciative of the concerns of the States and he assured the Empowered Committee that the Centre is committed to give full compensation for a period of five years.

 3.  The states were rightfully concerned about the compensation to be made statutory, in view of their sour experience with VAT compensation.  So, they were assured of compensation by the central government and it was incorporated in the Constitutional amendment bill and further to allay the fears it was mandated that “parliament shall, by law” provide for compensation, instead of “may”. The above facts are evident from the words of then Finance minister while replying to the debate in the Rajya Sabha the Constitutional amendment bill was discussed on3rd August, 2016.

 

So when Mr. Derek says, 'Please clear our dues', he is right. This was the pre-condition with this Act. What was the second problem they had? The second problem they had was: If we lose money, how do you compensate us? The 2011 Bill did not mention anything about the compensation. So, today, in the 2014 Bill, when we suggested that we would pay compensation for five years, so distrustful were the States of the Centre — my original proposal was full compensation for three years, thereafter, one half for one year, one fourth for the fifth year — that the States said, "Nothing doing, give us full compensation for five years." So, instead of the word 'may', — it was, earlier, "The Parliament 'may' by law provide for compensation" – they said, "We don't even trust your 'may', make it 'shall' because your intention in the past had never been to pay; CST was not paid." That is how 'may' has become 'shall'. ...(Interruptions)... It is unprecedented, but, that is how ‘may' became 'shall'.

 

It cannot be denied that compensation package and the comfort it provide to the states was the deal breaker in implementing GST across the country.

 4.  Accordingly, while the compensation law was discussed in the Council, in the first instance only the modalities of payment of compensation were discussed.  Funding of compensation through Cess came up subsequently and the States had agreed to the levy of Cess after prolonged discussions.  During the discussions in the 5^th GST Council meeting held on 2^nd/3^rd December, 2016, the 7^th GST Council meeting held on 22^nd/23^rd December, 2016 and the 8^th GST Council meeting held on 3^rd/4^th January 2017, the relationship between compensation and compensation Cess was extensively discussed. Apart from Kerala, the Ministers from Andhra Pradesh, Punjab, Uttar Pradesh, Rajasthan, Telangana, West Bengal, Assam, Gujarat, Kerala and Karnataka had elaborately raised the point that the obligation to give compensation should not be restricted to the amount of compensation Cess and in case of any shortfall, the shortfall should be made good by the Centre. In response to these discussions, the then Hon'ble Chairperson and Union Finance Minister had given the following assurance: -(emphasis added)"The Hon'ble Chairperson assured that compensation to States shall be paid for 5 years in full within the stipulated period of 5 years…” In short, the late Union Finance Minister had given a firm assurance to the States that the compensation shall be paid in full within the stipulated period of five years. He added that“….in case the amount in the GST Compensation Fund fell short of the compensation payable in any bimonthly period, the GST Council shall decide the mode of raising additional resources including borrowing from the market which could be  paid by collection of cess in the sixth ear or further subsequent years".  States were assured that compensation will not be restricted to the compensation Cess collected.  Section 10(i) of the compensation Act reflects this position.

 5.  Further, in the 10th GST Council Meeting held on 18 February 2017 the following decision was made by the council, the following assurance was given by the Central Government:

 

“6.3. The Hon'ble Minister from Telangana stated that the Compensation Law should provide that if money fell short in the Compensation Fund, it could be raised from other sources. The Secretary stated that Section 8(1) of the draft Compensation Law provided that cess could be collected for a period of five years or such period as may be prescribed on the recommendation of the Council. He stated that this implied that the Central Government could raise resources by other means for compensation and this could be then recouped by continuation of cess beyond five years. He stated that the other decisions including the possibility of market borrowing for payment of compensation was part of the Minutes of the s" Meeting of the Council (held on 3rd and 4th January, 2017) and need not be incorporated in the Law. The Council agreed to this suggestion.”

 I had narrated the above to unambiguously lay before you the federal decisions taken in the council through consensus regarding compensation, arrived through a democratic deliberative process.

 6.  Even during this pandemic, one has to contemplate on the reasons of the current compensation imbroglio. It was after much deliberation that the 14 per cent growth was guaranteed to the states. But the optimistic mood regarding the buoyancy of GST prevailing then has not been borne out by the actual outcome even after three years. The implementation has been lackluster, with the IT backbone yet to be completed and tax administration handicapped by too many impediments. Further, the pre-election sharp reductions in tax rates without serious examination of the revenue implications have also contributed to the fall in revenue. The current rates are not revenue neutral.

 7. The widening of the Compensation deficit had become evident much before Covid with the sharp decline in GDP growth rate during 2019-20. So much so, the 37^th GST Council meeting at Goa witnessed strange spectacle of the Union Finance Commission Chairman addressing the Council to plead to the states to re-visit the Compensation formula. 14 per cent growth was unsustainable in the macro economic scenario that prevailed in the country. State after state, irrespective of political affiliations, had then rejected the proposal and refused to discuss it. This reflects the true feeling of the Council on the issue. In the 39^th GST Council meeting at New Delhi it was assured that a special meeting of the Council would be convened to discuss the Compensation issue that had taken as serious turn after the reference in the budget speech that the compensation would be limited to fund availability in the Cess fund. However the issue was not including the Agenda of the Council that met after the budget.

 8.  The matter of compensation was raised by the states in the 40^th GST council meeting where it was decided that views of states on how to resolve the compensation deadlock would be gathered and after assimilating the same the centre would do all the due diligence on the mode with which this can be accomplished, get all the opinion, compile and share with the States. But in the 41^st council meeting the states presented their views the centre discussed the opinion Attorney General and placed before the states two options of borrowing. It was also unilaterally decided that the states should opt one within 10days.  This, I believe, has been done in a way with scant regard for democratic deliberations.

 There was no consensus. Once again, may revert to the discussions on the constitutional amendment bill for GST, where the then finance minister while replying to the debate dwelled upon the decision making in the empowered committee and the future decision making in the GST council. He said “GST Council will decide by consensus”. 

 9.  However, the functioning of the GST council in last few years has not lived up to these high principles. In the 41^st council meeting no agenda note is circulated and not even the AG’s opinion shared with states before the meeting. The presentations are made and at end of the meeting two options are put before states and states are asked to choose one of them within a week. In default the states are threatened that choosing none of the option would mean no compensation.  In the circumstances if the avowed principle of consensus is not being upheld, the legal provisions for Dispute Resolution Mechanism within council should be activated without delay.

 10.  Now if you see the options the option 1 introduced a new concept  of dividing the revenue losses ‘ on account of implementation of GST”( the phrase used article 19 of the Constitutional Amendment Act)” and “due to the pandemic”. The compensation on account of “due to the pandemic” would be deferred to year 2022 with no clarity on whether interest for two years would be paid. Events like, recessions, pandemics, demonetization etc. where never the considerations when Compensation formula was devised.  The Compensation law clearly defines how Compensation is to be calculated and it has no reference what so ever to any conditions whether it be Act of nature, gods or man. The phrase “on account of implementation of GST” would only mean “the loss of state autonomy in taxation where they are deprived of raising resources on their own”. Secondly the centre also argued with the states that AG had opined that the central government is not legally bound to compensate the states from CFI. The centre also put forward the argument that an opposition member’s amendment to compensate the states from CFI, to the constitutional amendment bill was rejected by Lok Sabha by voting. Given the history of the discussions, the consensus reached by the states and centre regarding compensation bringing up these type of arguments to coerce the states to accept one of the two options, is a lowest point in the centre-state fiscal relations.

 11.  These actions cannot be viewed in isolation.  There is significant erosion of trust. Circumstances point to a situation where the center’s actions are constricting the state resources and its financial autonomy. Since cesses are kept outside the divisible pool, the states being given only 32% of the Centre’s resources against the promised 42%. Another issue relates to incorrect management of IGST and compensation accounts.  The Central Government incorrectly appropriated a sum of Rs. 88,344.22 crores in 2017-18 and Rs 13944  in 2018-19 from IGST account by crediting it to the Consolidated Fund of India. As a result of the continued adoption of the erroneous process of devolution of IGST to states and retention of un-apportioned balance in the CFI instead of first apportioning IGST between the Centre and States/UTs and then devolving States’ share from the amount apportioned to the Centre, States had overall received less funds on account of IGST. This also implies that tax receipts of the GoI were overstated to that extent and the revenue deficit understated during the year. To this extent, there was an artificial revenue shortfall in the States and the Central Government used the Compensation Fund to make good the short fall. This did not give the correct picture of revenue. This wrong practice continued in 18-19 also, inspite of the fact that the error was pointed out by Accountant General. The much-required amendment in the CST Act which restricts industries from purchasing petroleum products at 2% from other states despite constant request by all states irrespective of political affiliation has not materialized. This is causing considerable revenue loss to the states, petroleum products, being one of the independent revenue sources to the states after the implementation of GST. Now, the latest one is where the states, with their limited borrowing capacity are required to bear the full burden of GST compensation loans.  The borrowings of the states were independent of GST Compensation. Now it gets tied to the compensation.

 12.   In the circumstances, I would like to put forward two cardinal principles on compensation which are non-negotiable.

 i.)    There can be no bifurcation of revenue shortfall for compensation purposes as due to pandemic and due to implementation of GST. Entire shortfall needs to be compensated. It is the constitutional right of the states.

ii.) Compensation cannot be linked to Normal borrowing or Additional borrowing limits allowed to states.

 Both the options presented by the central government infringe upon the above two cardinal principles and therefore not acceptable. And we would out right reject all notions that refuse to make the choice will lose their Compensation till 2022. It is true that central government presented the two options before the Council like, we the states also presented our options. The issue continues to be open for a decision of the Council.

 13. Once we accept the two basic principles enunciated in the above para then we can discuss and try to arrive at the consensus regarding the following issues.

 i)                   Who borrows-Centre/ State or in what proportion

ii)     What amount to be borrowed this year and what amount to be deferred to 2022?

iii)                Repayment through extension of the Cess beyond five years.

iv)                Or any other relevant matter.

 

14. While we discuss the above issues and try to reach a consensus, what can be tentatively arrived at, may be implemented as an interim measure. It`s important that at least a part of the Compensation to the states be paid immediately given the shortfall in the revenues of the states and the financial crunch. What we states are demanding is not for support for any additional expenditure but to maintain our budgeted expenditure. It is against of all principles of macro -economic to enforce a cut in the expenditure of the states that account for 60 per cent of the total expenditure of governments in India. As is well known India has one of the weakest stimulus packages and the worst economic contraction in the first quarter of FY 21. The present attitude of the central government has pushed the economy to the brink of the disaster.

 15. If there is no consensus in the GST Council on the above negotiable issues, the legal provisions for Dispute Resolution Mechanism within council should be activated without delay. Interim payments towards Compensation shall continue in the interim period. I request that the above matters should be subjected to a proper discussion in the GST council.

 Further, the long standing demand of the States to appoint a Vice-Chairperson to the GST Council shall be considered and implemented at the earliest.

 With this, I conclude. I take this opportunity to express my sincere gratitude to the Honb’le Chairperson and all members of the GST Council.

  

Thank You

Centre plays foul on GST compensation

സംസ്ഥാനങ്ങൾക്കുള്ള ജിഎസ് ടി നഷ്ടപരിഹാരത്തുക വിതരണം ചെയ്യാത്ത കേന്ദ്രസർക്കാർ നിലപാടിനെതിരെ ഹിന്ദു ബിസിനസ് ലൈനിൽ എഴുതിയ ലേഖനം

The GST Council has been hailed as a model federal institution, where both the States and the Centre are represented and consensus is arrived through a detailed deliberative processes. So far, there has not been a single instance of voting, despite strong differences of opinion voiced on many issues. They were settled in a spirit of give and take.

But today, the Council is on the brink of a serious disruption of its tradition, with the Centre and States sharply diverging in their stand regarding the payment of GST compensation. The Central government has defaulted on the bi-monthly compensation payment, due in October, without any notice or explanation. Now, in December-end yet another bi-monthly instalmentis due which would make total unpaid compensation to the States around ₹35,000 crore. This has created a serious imbalance in the resources position of States. For day-to-day cash management, States are borrowing from the Reserve Bank of India through ways-and-means advances or by taking overdraft. Due to this denial of compensation, States are forced to cut many essential expenditures.

For those who are unfamiliar, the GST compensation is an integral part of the GST Constitutional Amendment Bill passed by Parliament. The compensation is not an act of kindness; it is provided in the law to insulate State finances from the shortfall in revenues during the transition to GST, especially since most of the States’ powers in commodity taxation were subsumed in the GST. 

Introduction of the GST also implied serious erosion of States’ fiscal autonomy, and there were also serious doubts regarding how much revenue from the new tax will be available during the initial years. The States finally agreed to the GST after being guaranteed a 14 per cent GST revenue per annum. Any shortfall from this revenue path would be compensated by the Centre. For this purpose, a cess was imposed on selected luxury and sin goods, from which compensation would be paid to the relevant States in bi-monthly instalments. In fact, on the suggestion of the GST Council, even the wording in the draft Constitutional Amendment was changed to categorically assert payment of compensation for five years.

The Compensation Act passed by Parliament provided that: “The compensation payable to a State shall be provisionally calculated and released at the end of every two-month period, and shall be finally calculated for every financial year after the receipt of final revenue figures, as audited by the Comptroller and Audit General of India...”

Available funds

During 2017-18, the cess collection amounted to ₹62,612 crore, from which ₹41,146 crore was released as compensation payment, leaving a closing balance of ₹21,466 crore. In 2018-19, ₹95,081 crore was collected as cess, and ₹69,275 crore was released as compensation, leaving a fund balance of ₹47,272 crore. And, during the first six months of the current financial year, ₹41,574 crore was collected as cess and ₹65,151 crore released as compensation. So, at the end of the half-year period, there would be a fund balance of ₹23,695 crore.

This, together with the collection for September-October, should have been more than sufficient to pay for the compensation for that bi-monthly period. Instead, the Central Government has chosen to default on the payment, saying that the compensation collected would not be sufficient for the payment for the subsequent bi-monthly periods. It would appear as if the Centre was itching for a fight with the States.

The whole controversy could have been avoided if the October bi-monthly payment had been made and the GST Council had convened to discuss how to tackle a payment crisis that might occur. In fact, at the last GST Council meet in Goa we had a strange experience; the Union Finance Commission Chairman addressed the Council and suggested that we revisit the compensation package. Small wonder, all States — irrespective of political affiliation — outright rejected the suggestion in the most vehement manner.

Future compensation

Now, by defaulting on the payment, the Centre has succeeded in making the future of the compensation package an agenda of the Council, the suggestion of which was unanimously rejected in the last meet. All I wish to say is that there was no need for the Centre to trek down this painful and controversial route. The payment for October could have been made without any problem, and nobody in the Council could have objected to a discussion regarding a possible shortfall in the compensation fund, if the Centre so desired. This has been the spirit in which the Council has so far functioned.

The simplest solution would be to, if necessary, take a short-term loan to fill up the gap in funds. The compensation cess collection can be extended for an additional year or so, till the borrowed amount is recouped. However, the Central government seems to be toying with the idea of another rejig of the GST rates. Newspaper reports say that the raising of the 5 per cent lower slab has been proposed. This would be a travesty of justice. After drastically cutting the upper slab of 28 per cent on consumer goods to 18 per cent and 12 per cent on the eve of the elections without any regard for the revenue impact, now the suggestion is to raise the rates for necessities to make up for the loss in revenue. The canon of equity in taxation seems to be unfashionable to the ruling dispensation.

What is the outcome of this irresponsible policy of confrontation with the States? These antics are going to convert the slowdown into a great recession. Elementary macroeconomics teaches you that governments must pursue a fiscal expansionary policy. But today, we are seeing a strange spectacle of the Central government enforcing a cut in the expenditure of the States, that account for nearly 60 per cent of overall government expenditure in India.

Central levies to blame for high fuel prices

Businessline article September 2018 

In the post independence period, petroleum prices have been influenced by two major considerations: One, petroleum is a basic intermediate good whose price would have significant implications for prices of other goods and therefore should be relatively stable, insulated from fluctuations of international crude oil prices. Two, its inelastic demand nature made it an ideal commodity for indirect tax.

The first led to a system of administered prices, operated through a special oil pool account funded by the surplus of ONGC and the refining companies, as well as direct government subsidies. The second was responsible for high Central excise duty and high sales tax rates at the retail level, levied by the States. Relatively high tax on petroleum products is a universal feature, but in India it is much higher than in most countries.

With the rising trend in international crude oil prices the subsidy burden of the oil pool account began to mount; it was considered from a prudent public finance perspective that the oil market should be deregulated. It may be noted that though it is true that oil subsidies were rising, the excise revenues from oil was substantially larger than the subsidies. Also, the surpluses of petroleum mining and refining companies were substantial enough for cross subsidisation of the loss-making retail oil companies. But the entry of private players (like Reliance and Essar) into the retail trade made cross-subsidisation untenable, and demands were raised by them for a level playing field. This was the broad backdrop to deregulation of the oil sector.

Misnomer of market prices

The Administered Price Mechanism for petroleum was dismantled, invoking the mantra of “let the market decide the prices”. But the question here is: have markets been allowed to decide?

When OPEC prices showed a downward trend, the Centre chose to increase the excise duty on petrol and diesel. The hike in excise duty was 380 per cent for diesel and 120 per cent for petrol between 2014 and 2017, during which period the rates rose from Rs. 3.56 per litre to Rs. 17.33 for diesel and for petrol from Rs. 9.48 per litre to Rs. 21.48 per litre ( Business Line September 9, 2017).

The C&AG Report No 3 on Indirect Taxes of the Union, has observed that the huge increase in central excise collection from petroleum products during the financial year 2015-16 was due to a sharp increase in per unit tax on petrol and diesel. The excise duty revenue of the central government from petroleum products which was Rs. 88600 crore in 2013-14 peaked to Rs. 2,53,254 crore in 2016-17. Never has indirect tax on any commodity witnessed such a sharp escalation as on petroleum products as during the first two years of the BJP government.

Current situation

From late 2016, the international prices crude oil began to rise and it was expected that the Centre would at least reduce its excise duties so that the retail prices will not be affected. In a most callous fashion the Centre refused to reduce the excise duties, and prodded oil companies to raise their retail selling prices.

The result is the retail selling price of petrol and diesel has increased to an unacceptable level of Rs. 81.28 and Rs. 73.54 per litre respectively (Delhi prices) from Rs. 70.49 and Rs. 56.81 per litre a year back. The Centre did not want to give up any of its additional revenue mobilised from petroleum products; it fears an adverse impact on fiscal deficit at a time when rupee under severe pressure. However, rising fuel prices are stoking an inflationary fire, accentuating the crisis in the unorganised sector and imposing an unbearable burden on the people. Petroleum prices have become a key political issue.

Untenable demand

Therefore, apologists of Central policies have been trying to put the blame on the States. It has been argued that States are benefiting from petroleum price escalation through higher devolution -- after the Fourteenth Finance Commission award -- in the share of central excise duty and the cascading impact on ad valorem VAT rates; hence, it is assumed that they can cut their own levies.

It is true that VAT rates are relatively high but they are historically determined for the present state governments. There has been hardly any increase in State VAT rates in recent years. If the Centre rolls back its excise duty hike, States' revenues would also decline and no State government will ever increase the VAT rate to neutralise the fall in revenue. It may be noted that most States have already reduced VAT rates to moderate the price escalation in petroleum products caused by the Centre's policies.

The ball is in the Centre's court. It must roll back the excise duty hikes. As for the argument that the States benefit from higher devolution from central excise duties (and therefore have leeway to cut their own rates), it simply does not apply with respect to petroleum products.

It can be seen (from the table) that 62.97 per cent and 39.58 per cent of central excise duty with respect to petrol and diesel, respectively, is outside the divisible pool of taxes shareable with the States, as only basic excise duty is shareable with the States. In the Indian context, substantial social sector spending obligations are with the States. Keeping a substantial portion outside the shareable pool, contradicts the argument of the Centre that the higher taxes are for Swachh Bharat and social sector schemes. There is no established connection between higher duties on petroleum products and social sector spending.

A demand has also been made that petroleum products be included in the GST. There is merit in the argument. But before petroleum products are to be subsumed in GST, given fragile State finances, a compensation package has to be finalised as per the GST compensation law. This will be a time consuming process, as the present compensation cess would be inadequate. The solution is for the Centre to immediately roll back its excise duty spikes.

The author is the Finance Minister of Government of Kerala