Though the last word is yet to be spoken on it—state finance ministers are probably going to meet finance minister Arun Jaitley again, after the two meetings on Thursday and Jaitley will probably hold more meetings with the prime minister—chances are the Centre will accede to many of the demands made by the states. The Centre wants to show it has put in place a major reform, and this is its big chance. While giving in to state demands on putting the inter-state GST (IGST) in a divisible pool is a good move, the other concessions have to be weighed carefully in terms of what is being achieved. If Octroi and local body taxes are kept out of GST, this keeps the border checkposts alive, and defeats the purpose of a unified pan-Indian market. Similarly, while agreeing to keep petroleum products outside the GST framework will probably not raise the revenue neutral rate by much, it ensures that petroleum users like refineries don’t get input tax credits. As it is, as FE has reported before, many states have stopped giving full input tax credits on various goods, including if they are transported across state boundaries.

Keeping alcohol outside the ambit of the GST, similarly, robs the Centre of tax buoyancy; and the difference in tax rates across states will also necessitate border checkposts. Land has been kept outside the ambit of the GST, and rough calculations suggest this reduces the taxable GST base by anywhere between 10-15%. Indeed, it is these exemptions that explain the big difference between the 12% single-rate GST the Kelkar committee talked of and the 27% that is being talked of now—to be fair, since two rates are being proposed, 12% and 27%, the comparable number is probably around 18-20%.

While states like Gujarat and Maharashtra are understandably worried about the loss in tax revenues because once GST comes in and input credits have to be given on all items—that was their problem with the Centre’s proposal to zero-rate petroleum products—what they need to keep in mind is the additional taxes they will collect from the services sector under GST. A related point here is that if an average GST rate of 18-20% is to be charged on the services sector, it will be a big blow to the sector which is one of the few growth engines in the economy. When the finance minister meets the state finance ministers—the chief economic advisor is holding a GST meeting on Monday—he needs to impress this upon them. Of course, from the Centre’s point of view, if it is convinced GST will help increase the taxable base through superior information capture of value chains, it may not be a bad idea to accept a 5-year compensation instead of the current 3-year offer on the table—the catch here is that, the more things are kept outside the purview of GST, the higher the revenue neutral rate, and the lower the chances of capturing the full value-chain of production.