India’s bold GST reform expands tax base but too soon to celebrate?

It’s been 5 years since India introduced its Goods and Services Tax, and while the government’s revenue collection has soared, some analysts say it may be too soon to celebrate.

India — the world’s fifth largest economy with more than $3 trillion in GDP — has managed to double its tax base since the introduction of GST in July 2017.

While collections have increased and compliance improved, analysts point out that it doesn’t necessarily lead to economic growth.

GST collections grew from around 7.2 trillion rupees, or $90 billion, in the fiscal year 2017-2018 to 14.8 trillion rupees in the fiscal year ending March 2022, government statistics show. 

Even though revenue collection from GST is higher in absolute terms, some question if the growth in collections will endure.

“GST cannot boost growth. Rather, growth boosts GST collection. So, future GST collection will be dependent on the growth performance of the Indian economy. If growth further slows down, then GST collection will be affected negatively,” senior fellow with New Delhi-based think tank Observer Research Foundation Abhijit Mukhopadhyay told CNBC.

“Somehow a thumb rule has emerged that if the monthly GST collection crosses 1 trillion rupees, or $12 billion, then it’s a success,” he said.

Among other things, rising inflation is likely to subdue demand and lead to lower collections, Mukhopadhyay said. “Rise in commodity and food prices has substantially contributed to the GST collection. If inflation keeps increasing, it will eventually have a dampening effect,” he said.

The “good and simple tax,” as Modi has described it, has expanded the numbers of registered GST taxpayers to 13.6 million from around 6 million five years ago, according to figures cited by Indian Finance Minister Nirmala Sitharaman in an article in local media.

Black money has long been known to play a part in India’s economic activity. In 2012, the Indian finance ministry released a “white paper” on black money, defined by the government as “any income on which the taxes imposed by government or public authorities have not been paid.”

Former industry secretary Katoch claims that GST has had an impact on black money.

“Since [GST] has resulted in the formalizing of transactions that previously were of an informal nature, yes, it would have led to a reduction in black or unaccounted cash flows,” he said, adding it’s difficult to estimate the extent of the reduction.

But not everyone agrees.

“Black money is generated in real estate, trade and politics. In all three cases, cash transactions continue. Neither demonetization nor tax reform have had much impact,” Sanjaya Baru, a New Delhi-based economist told CNBC.

Demonetization refers to the controversial move by the Modi government in 2016 to withdraw notes of high denominations as legal tender as a way to flush out black money.

The government had hoped that the tax reforms would increase India’s attractiveness to foreign investors, but this may not have been borne out, according to Baru, who was media advisor to former Prime Minister Manmohan Singh.

“In theory, GST is supposed to make India more attractive to foreign investors, especially in the manufacturing sector,” he said. “In practice, however, [foreign direct investment] in manufacturing has not been very impressive.”

India’s Doing Business ranking by the World Bank climbed to the 63rd place in 2020 from 100th position in 2017 – a jump of 37 places in a span of 3 years.

While it cannot be directly attributed to India’s tax reforms, tax payment is one of nearly a dozen factors used to measure the ease of doing business in the countries ranked.

“The administration’s reform efforts targeted all of the areas measured by Doing Business, with a focus on paying taxes, trading across borders, and resolving insolvency,” the World Bank’s 2020 report said.