Centre gives in, says will borrow to make up for states’ GST shortfall

GST Shortfall

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GST Shortfall
GST Shortfall

In News:

  • In a change from its earlier position, the Finance Ministry has said that the Centre would borrow from the market to pay the GST compensation shortfall of Rs 1.1 lakh crore to states.
  • This change comes after the Goods and Services Tax (GST) Council had failed to reach an agreement on the issue of borrowings to meet the shortfalls in compensation cess collections.

News Summary:        

Centre will borrow 1.1 lakh crore:
  • Under a Special Window, the estimated shortfall of Rs 1.1 lakh cr (assuming all States join) will be borrowed by the Union government in parts. The borrowed amount will be passed on to the States as a back-to-back loan.
    • The back-to-back loan would be similar to the way funding from multilateral institutions such as the World Bank and Asian Development Bank is passed to states, where the Centre borrows and then lends to states.
  • So, instead of states taking small loans, one big loan will be taken by the Centre and distributed to states on the exact same terms. Thus, the interest rate at which the Centre will borrow, will be passed on to the states.
Reasons for the change:
  • The change in Centre’s decision comes after RBI had expressed concerns over Centre’s decision of asking the states to borrow to meet the shortfall.
  • RBI had also pointed that the Centre can borrow the amount at a cheaper rate compared to the States. The RBI also assured the Centre that it will manage the Centre’s borrowing in the best possible manner.
  • The change has also come from the realisation that the states are in urgent need of funds.
Benefits:
  • The new approach of the Centre borrowing from the market is a far simpler mechanism and may help bring to resolve the conflict with States.
  • It will act as a relief for States, particularly those that have high fiscal deficits, as they would have had to pay higher interest rates if they had to borrow from the market.  
  • This mechanism will also ensure that different States won’t have to pay different interest rates for these borrowings, along with providing loans at a cheaper rate.
  • The current arrangement will not reflect in the fiscal deficit of the Centre and thus will not increase the Centre’s fiscal deficit.
  • The finance ministry has also clarified that the general government (states+Centre) borrowings will not increase after this step.
Response of states:
  • After the current announcement, states earlier opposing the Centre have appreciated the move and said that they are willing to negotiate with the Centre.
  • However, some states have asked the Centre to borrow the whole compensation deficit of Rs 2.35 lakh crore this year itself, instead of borrowing only Rs 1.1 lakh crore.

Background on the plans to cover the shortfall in compensation:

Centre had earlier asked states to borrow:
  • To address the shortfall in compensation cess, the Centre in August gave two borrowing options to the states:
    1. To borrow either Rs 1.10 lakh crore from a special window facilitated by the RBI
    2. To borrow Rs 2.35 lakh crore from market
Some states agreed to borrow while others wanted centre to borrow:
  • After the Centre’s borrowing proposals, around 21 states, had opted to borrow Rs 1.10 lakh crore to meet the GST revenue shortfall in the current fiscal.
  • However, 10 states demand that full compensation should be paid to the states during the current year and the centre should borrow the amount.

About: Compensation Cess under GST

  • Under GST, a compensation cess — ranging from 1-200% — is imposed on sin and luxury goods like cigarettes, pan masala and certain categories of automobiles, over and above the topmost slab of 28%.
  • For example, SUV vehicles (more than 4 metres) are charged 50% GST, of which the GST tax rate is 28% and the compensation cess is 22%.
  • Sin goods are goods which are considered harmful to society.
Reasons for introducing the compensation cess:
  • Compensation cess was introduced to compensate States for the loss in their revenue due to the implementation of GST.
  • Thus, the GST (Compensation to States) Act guarantees all states an annual growth rate of 14% in their GST revenue in the first five years of implementation of GST beginning July 2017.
  • If a state’s revenue grows slower than 14% is supposed to be compensated by the Centre using the funds collected as compensation cess.
Shortfall in compensation cess in recent months:
  • In the recent past, the issue of compensation cess has led to differences between the Centre and states, as states have not been paid their promised compensation since the last fiscal year.
  • As per the Centre, due to the slowdown in economy, the collection of money through compensation cess has reduced significantly.
  • While compensation cess collections this year are expected to be just around Rs 65,000 crore, compensation due to States is around Rs 3 lakh crore. Thus, the states are facing a Rs 2.35 lakh crore revenue shortfall.
  • Shortfall attributed directly to GST Implementation vs Covid:
    • Of the shortfall, as per Centre’s calculation, about Rs 97,000 crore is on account of GST implementation and rest Rs 1.38 lakh crore is the impact of COVID-19 on states’ revenues.
    • Later, at a GST Council meeting, the centre revised the breakup and said that Rs 1.10 lakh crore (earlier calculated as Rs 97,000 crore) of the shortfall is due to GST implementation and the balance due to COVID-19.

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