At this critical juncture when the next general election is just about a year away and in a month from now, Modi – government will be presenting its last full fledged budget, prime minister faces two major challenges viz: deceleration in GDP [gross domestic product] and slippage in fiscal deficit.
After registering fairly impressive growth during the first three years of its stint [2014-15: 7.5%/2015-16: 8.0%/2016-17: 7.1%], the current year is expected to end with a significantly lower growth of 6.5%. Though, according to the chief statistician, the figure may be revised a bit upward [on receipt of more data], that may not alter the position drastically. However, the government is not unduly perturbed.
In fact, from its perspective, the situation has been evolving as anticipated. During 2016-17, after three quarters of impressive growth, in the fourth quarter, the growth slid to a low of 6.1%. This was due to demonetization announced on November 8, 2016 which at one stroke sucked out 86% of the cash in circulation and its replacement took a couple of months. During this period, industry and businesses especially in informal sector [which is mostly cash based] were severely impacted leading to deceleration in last Qr.
The slide continued during the first Qr of current year with the growth being still lower at 5.7%. This time, it was GST launched from July 1, 2017. This led the dealers to clear the stocks on which taxes were paid under the erstwhile dispensation which in turn, caused a substantial drop in fresh purchase from manufacturers during first Qr. During second Qr, the growth picked up to 6.3%. The momentum of revival has continued during 3rd Qr and will sustain in the last Qr. The chief statistician is hopeful that it will be 7% plus in both Qrs. Yet, if overall growth during 2017-18 is estimated at 6.5%, this is primarily due weighing down effect of the lower numbers in the first two Qrs.
Demonetization and GST are far reaching structural reforms with potential for good dividend in the long-run but have disruptive effect in the short-run [indeed, it is inevitable]. In this backdrop, the overall performance is creditable.
In regard to the second challenge, after sticking to fiscal consolidation glide path for three consecutive years [2014-15/15-16/16-17], the trend during the current year do not augur well. Already, during first eight months viz. April – November 2017, the deficit was 112% of the current year’s target [Rs 547,000 crores]. That the trend is unlikely to be reversed would be clear from the government’s decision to go for additional borrowings of Rs 50,000 crores. This means that the actual deficit would touch 3.5%.
Even as the expenditure is being incurred as provided for in the budget, almost the entire shortfall is in the revenue segment. Of the slippage, most of it is due to shortfall in indirect tax revenue under GST. This defies logic as the raison de atre of this tax reform was to bring about buoyancy in revenue mostly by reining in tax evasion [besides boosting GDP growth]. Given the architecture of GST, the idea was to bring millions of transactions earlier escaping taxman’s eyes within the tax net. This has not happened.
Since, this tax is levied on value addition at each stage in the supply chain with a proviso for credit in respect of tax paid on purchase of inputs, it is incumbent for every entity to be part of GST network [GSTN] or else he won’t get input tax credit. Still, if a dealer decides not to be a part of the supply chain, the transactions done by him will be detected by the authorities as his purchase/sales will be reflected in the returns filed by others with whom he deals. But, this is predicated on matching of the returns filed by different entities. Indeed, matching holds the key to curbing leakages.
Another key feature of GST architecture is the e-way bill which allows tax authorities to electronically track movement of goods. Under it, all goods worth over Rs 50,000 are pre-registered online before they are moved for sale beyond 10 km. This is another safeguard mechanism which will help authorities nab the tax dodger.
Unfortunately, GST Council had deferred implementation of both these provisions. It was only when it was confronted with a steep decline in collection during November, 2017 to about Rs 80,000 crores [from an average of over Rs 90,000 crores during July – October] that it has now decided to implement the e-way bill from February 1, 2018 for inter-state transactions and intra-state from June 1, 2018.
Earlier in November, 2017 it had also given in to the demands for a major re-classification of commodities that involved shifting of 200 items from the 28% slab to classes attracting lower rates viz. 18%/12%. This also led to substantial foregoing of revenue.
The government had also pinned big hope on increase in direct tax collection. According to Modi, about Rs 300,000 crores of unaccounted cash was deposited in banks post–demonetization. Of these, depositors availing of PM Garib Kalyan Yojna [PMGKY] [under it, the person has to pay 50% tax and give 25% as interest free advance for 4 years] were miniscule. Team Modi had pledged to go hammer and tongs after those who did not avail of PMGKY even as tax, interest and penalty on amount deposited by them could yield a big bonanza. This alone would have more than taken care of government’s fiscal concerns and still leave enough money for investment in infrastructure and social welfare. But, it seems timely action in these areas has been caught in the quagmire of bureaucratic red tape and cumbersome procedures.
The short point is that Modi – dispensation has not been able to reap the full potential of demonetization and GST primarily because it has seriously compromised on implementation of key provisions for plugging leakages in revenue and lax machinery for dealing with unaccounted cash. No wonder, it faces real prospects of slippage in fiscal deficit for the first time in 4 years.
How finance minister, Jaitely will handle the situation remains to be seen. During 2018-19 however, the government will have to get over both the weaknesses and ensure that it achieves 3% fiscal deficit as per the glide path.