When Negative Is Positive

The Economic Times     22nd October 2021     Save    
QEP Pocket Notes

Context: Taxation is both a political and economic issue but, the economic aspect is often misunderstood, leading to a complicated taxation structure every few decades.

Issues with current taxation reforms

  • Forgotten Objective of GST i.e. simplification: Close to 1,900 line items are under GST’s purview classified as consumption goods, intermediate goods, etc, apart from classification across various sectors and also there is complex decision-making GST council system.
  • Discussion on subsequent GST reforms have focused on higher rates to generate greater revenues ignoring the nonlinear relationship that tax rates share with revenues.
    • Obsession with increasing revenues by hiking rates ignores taxation economics as it ignores the distortionary impact of high taxes on consumption choices.
  • Greater uncertainty and higher costs for MSMEs due to repeated changes in the GST structure.
  • Excessive focus on redistributive Concerns: During designing a taxation structure focus should be on efficiency i.e. one that can generate the greatest amount of revenues with the least possible costs or economic distortions rather than redistributive concerns, which should be left for the fiscal expenditures.
  • Rigidity as consumption basket of population of shifts drastically as economy grows to create taxation difficulty.
    • Eg: Soft drinks and television which were considered luxury items 30-40 years ago have long since become everyday items.
    • Similarly, coolers and air-conditioners are rapidly becoming a necessity for the lower-middle class.
    • Therefore, there is no rationale today for higher taxes on them when compared to other consumption articles.
  • Dampening recovery prospects after pandemic as hiking rates will subject the economy to yet another adjustment process.

        Way forward: Towards Revenue – negative reform and prioritize efficiency of the taxation structure

        • A complete and comprehensive reform of GST structure that leads to simplification is preferable to repeated small changes
          • Efficient GST with a uniform 15% rate on roughly 75% of items, while exemptions should be given to basic food, medicines, health services and education.
          • Cutting down the overall list of exemptions to reduce distortionary impact that such exemptions have on the taxation structure.
          • Higher rates of 30% or so, inclusive of cess, should be levied on cigarettes and betel nuts, which have severe negative health effects, and goods with high-income elasticity like cars, which raise the buoyancy of taxes and help the reformed system remain neutral.
        • Incentivise greater formalisation and reward it , rather than penalize it by hiking taxes
            QEP Pocket Notes