Centre softens stand, to borrow for states
The Centre’s move, detailed in a statement from the finance ministry, is likely to put to rest, for now, the controversy over the compensation cess shortfall that had caused a major split in the GST Council, with no consensus being reached after three meetings. It also keeps the concept of fiscal federalism, the core of GST, alive.Updated: Oct 16, 2020, 08:40 IST
The Union finance ministry on Thursday said that the ₹1.1 lakh crore estimated shortfall in Goods and Services Tax (GST) compensation cess will be borrowed by the central government and “passed on to the states as a back-to-back loan”, allying concern of states that they would have to pay higher interest rates if they approach the market individually.
The Centre’s move, detailed in a statement from the finance ministry, is likely to put to rest, for now, the controversy over the compensation cess shortfall that had caused a major split in the GST Council, with no consensus being reached after three meetings. It also keeps the concept of fiscal federalism, the core of GST, alive.
The finance ministry statement added that the borrowing would “not have any impact on the fiscal deficit of the Government of India” and “be reflected as capital receipts of the state government as part of the financing of the respective fiscal deficits”. As a result, this borrowing doesn’t go into what is called general government borrowings (the debt of the Centre and the states).
“It appears that the loan is treated as capital receipts of the state governments, which will have some positive impact on state finances, but we need to see the fine print,” said the finance minister of one of the dissenting states, requesting anonymity.
The minister said it is prudent for the Union government to borrow the entire amount to get a better rate, but there are other concerns – the Centre should have borrowed the entire shortfall (₹2.35 lakh crore) and repay from the compensation cess fund as the financial position of most of the states are precarious.
Kerala finance minister Thomas Isaac welcomed the Centre’s move and asked for consensus on other matters. “I welcome the new announcement that Centre will borrow through special window and provide back to back loans to states in lieu of Compensation. But there is one issue yet to be resolved — how much of compensation is to be deferred 2023? Negotiate this point and reach a consensus,” he said in a tweet.
“Provide full compensation payment of ₹ 2.3 lakh crore this year itself. Since under the new arrangement additional borrowing does not affect the fiscal deficit of the Centre, why should it hesitate to borrow ₹1.7 lakh crore instead of the present offer of ₹1.1 lakh crore?,” he added.
“Right from the beginning, Dr Mitra (finance minister of West Bengal Amit Mitra) was insisting that the Government of India should borrow the basic loan from a single window of RBI rather than 31 states/UT approaching the market, which would have been chaotic,” a senior official in West Bengal government said requesting anonymity.Kerala and West Bengal were among the seven states that were yet to agree to Option 1 of the finance ministry’s proposal that suggested the states borrow this amount from the Reserve Bank of India through a special window. On August 27, the finance ministry presented two options at a meeting of the GST Council.
The Centre had given states the choice of borrowing ₹97,000 crore (the shortfall resulting from GST implementation issues) without having to pay principal or interest or the entire ₹2.35 lakh crore revenue deficit from the indirect tax (including that arising from the Covid-19 pandemic) projected for this fiscal year. The ₹97,000 crore amount was subsequently raised to ₹1.1 lakh crore on October 5.
The states objected, and said the borrowing would have to be done by the Centre. At a subsequent meeting, the amount in Option 1 was raised to ₹1.1 lakh crore. While 10 states originally opposed the plan, this number came down to seven by Wednesday. Still, there was talk of legal recourse, especially by Kerala’s finance minister.
The GST Council is a federal body, chaired by the Union finance minister, and whose members include the finance ministers of the state. This is the body that decides tax rates and other issues related to GST. Until the recent controversy, all its decisions had been arrived on the basis of a consensus.
Economic affairs secretary Tarun Bajaj said that the Union finance ministry has implemented the decision taken by the members of the GST Council. “This move will not have any impact on the fiscal deficit of the Government of India,” he said.
Interestingly, the borrowing has been structured in such a way as to not increase the Centre’s deficit.
“The loan to be borrowed by the central government would be passed on to the states as back-to-back loans and, hence, would not have any impact on the central government’s fiscal deficit. This would still stand as the liability of the states,” Divakar Vijayasarathy, founder and managing partner at consulting firm DVS Advisors LLP, said.
“The dissenting states wanted the central government to absorb the liability without passing it on to states. The Centre has stuck to its ground and borrowing in its name is only for operational convenience, and it should not be construed as the Centre yielding to the states,” he added.
The finance ministry’s statement said it is also likely that states that get the benefit from the “special window are likely to borrow a lesser amount from the additional borrowing of 2% of their GSDP” that has been allowed under the government’s Atmanirbhar Bharat (self-reliant India) relief package.
“Businesses would hope that the spirit of cooperative federalism demonstrated by the GST Council in the past four years continues as they now have to navigate a difficult post-pandemic terrain. It is also necessary that there is clarity on the period for which the compensation cess would be extended and whether it would be in the same terms,” said MS Mani, partner at consultancy firm Deloitte India.