GST looks set to be a game changer, but there are challenges ahead

UK India Business Council experts analyse what GST will mean for businesses worldwide and the challenges it faces in this 'India Investment Journal' special report. The introduction of GST will be a game changer for India, its economy, and for Mr Modi himself. When surveyed last October, 50 per cent of UK India Business Council members cited GST as the single most important reform they wanted the Modi Government to enact. The mood, now, is naturally positive. Perhaps some of that positivity is because not everyone expected it to happen. For years, political debate around GST in India has been, to say the least, fractious. BJP PM, Atal BIhari Vajpayee, started the ball rolling in 2000 when he set-up an empowered committee to develop a model for GST. The Congress-led governments advanced the agenda between 2004 and 2014, and actually set a target date of April 2010 for the GST's introduction. It proved impossible, though, to get political consensus. Now, 16 years on, an agreement has been reached. Credit for this has to be spread widely. Mr Modi and finance minister Jaitley have been determined, patient and, latterly, effective in building consensus. Other political leaders have played their part too, both within Congress and across the regional parties that dominate in many states. Political leaders have set aside opposition for the sake of opposition, and taken a big decision that will improve India's business environment and therefore lead to higher growth and faster job creation. With 1 million people joining the workforce every month, India needs this growth. So why is GST such a game changer The GST is, according to JP Morgan's Sajjid Chonoy, a 'Free Trade Agreement between India and itself'. It will remove the current web of taxes and tariffs between states, making it much easier to do business across the whole country. India will become a single market for almost all goods and services. Virtuous Cycle It is estimated that the Indian economy will gain $15 billion a year as a result of GST. It will make manufacturing more competitive, which will increase investment, grow exports, and create jobs. More people entering the workforce will drive up consumption, which will increase production and so on. This virtious cycle should also be strengthened with lower prices. As the UK India Business Council's recently published 'Modi Government Progress Report' stated, GST will improve the ease of doing business in India in a number of ways, including:

Harmonisation - GST will untangle the fragmented nature of the market, where exporting goods from one state to another is currently riddled with multiple checks and taxes.
Increased simplicity and transparency in India's tax system.
The deflationary effect, and the virtuous cycle that creates.

However, the GST is not perfect. The Bill excludes alcohol and does not yet apply to key petroleum products, which will continue with their existing tax arrangements. This is a contradiction of sorts, as the purpose of the GST is to create a single market applying to all goods and services. But, at the same time, it is important to note that the EU Single Market doesn't include all services. Another criticism is that GST could be a zero sum game, with gains to manufacturers being provided by losses to the services sector, which is expected to pay higher taxes. While the UK India Business Council would like to see alcohol and petroleum products included in the near future, India's GST is a significant step in the right direction.

What happens next

The government of India has set a deadline to begin the rollout across the country in April 2017. Before then, a number legislative and practical steps need to be taken. On the legislative front, a majority - 15 - of the State Assemblies have to ratify the Bill before the President can sign it. Bihar was quick out of the blocks, ratifying on 16 August. Nagaland followed on 26 August. We are confident that there is widespread consensus, and enough of the other states will follow. The actual GST rate and other modalities will be set by a GST Council, which will contain representatives from the Centre and States. As the Government's Chief Economic Adviser, Arvind Subramanian stated, “This [GST] is a remarkable experiment in cooperative federalism that we have embarked upon. States and Centre are pooling their sovereignty to create [in the GST Council] a new decision making structure. There will be a little bit of trail and error.” Clearly, then, this composition and terms of reference of this body will be critical. It needs to set a tax rate and make decisions in a way that balances the needs of all stakeholders - central government, state governments, consumers, and producers. As we've mentioned, GST has the potential to reduce inflation. But if the tax rate is set too high - at 18 per cent - HSBC believe that consumer price inflation could rise by 0.2 percentage points, although this rise would probably only be transitory. Another concern is that if the rate is too high it will discourage compliance. The GST Council is therefore going to come under pressure to fix a rate of 16-17 per cent. But there is also a pull in the other direction - if the rate is too low it will fail to bring the desired increase in tax receipts - another key goal of the GST. Clearly, governments across India have much to do, and as the stakes are so high they will be under huge scrutiny. Businesses need to prepare too. PwC is advising businesses, especially those with large operations, to leave “considerable time to prepare for GST”. SKP also advise businesses to take precautionary measures, as the GST will “change many earlier assumptions regarding business”.

Improved perceptions

As our report highlighted, there have been many improvements in the business environment since Mr Modi came to power in May 2014. He won with a strong mandate to reform the economy and create opportunities for the hundreds of millions of aspirational young people all across India. But, until the GST Bill passed, there had been no 'Big Bang' reform of the sort that showed that Mr Modi could use his majority in the Lower House to transform India. So, as well as being a game changer for the Indian economy, GST could also be a game changer for Mr Modi himself.