An uncertain transition: As GST compensation ends, state governments need to be provided certainty of revenues | The Indian Express

Clipped from: https://indianexpress.com/article/opinion/columns/an-uncertain-transition-as-gst-compensation-ends-state-governments-need-to-be-provided-certainty-of-revenues-8021329/

If the government decides to step-up tax devolution to the states in the near term, it may reduce the size of state borrowings in the second quarter and embolden states to ringfence their capital spending.

It appears that the calculation of the adjusted borrowing limit required the submission of detailed data by the state governments related to their off-budget borrowings for the last two fiscal years, followed by a thorough assessment of the same by the Centre. (Photo: File/Representational)

The five-year transition period after the adoption of the Goods and Services Tax (GST) on July 1, 2017, came to an end on June 30, 2022. With this, the era of GST compensation that the state governments were entitled to has ended. While many state governments have asked for the compensation period to be extended by a few years, the actual fallout from the end of this critical revenue stream for states is unclear. To tangibly assess the near-term outlook for state finances, we have to rely on the states’ own estimates for their market borrowing requirements for the second quarter of 2022-23.

The indicative calendar of market borrowings by 23 state governments and two Union territories for the second quarter has pegged their total state development loan issuance — the primary source of financing state government deficits — at Rs 2.1 trillion. This projected issuance is 29 per cent higher than the same period last year, and at an eight-quarter high. This high level of issuance projected by states reflects concerns that some of them might rightfully have regarding the uncertainty of their cash flows in the post-GST compensation era. Of these 23 states, Tamil Nadu, Andhra Pradesh, Haryana, Punjab and Gujarat have indicated large increases in borrowings. Most of these states have an above-average dependence on GST compensation.

However, the state issuances this year (in the first quarter only Rs 1.1 trillion was raised by 18 states), will also be impacted by the changes initiated by the central government in determining the net borrowing ceiling of the state governments for 2022-23.

At the time of communicating to states their annual borrowing limits for the ongoing year, we understand that the Centre had informed state governments that their off-budget borrowings for the past two years (2020-21 and 2021-22) would be adjusted from their borrowing ceiling this year. It appears that the calculation of the adjusted borrowing limit required the submission of detailed data by the state governments related to their off-budget borrowings for the last two fiscal years, followed by a thorough assessment of the same by the Centre.

Despite these changes, Andhra Pradesh, Maharashtra, Haryana and Punjab were able to raise bonds in the first few weeks of the first quarter. However, others such as Tamil Nadu, Telangana, Gujarat and Madhya Pradesh entered the borrowing fray only in end-May 2022, indicating perhaps a later receipt of their borrowing permission, either on a full or an ad hoc basis, for the ongoing year.

On the whole, though, states appear to have entered the year with a comfortable cash flow position. This follows from the back-ended release of the tax devolution to states for 2021-22 — nearly half of the full-year amount was released in the fourth quarter. Additionally, the total amount was also well above the revised estimate, providing an unexpected gain to states. This may have allowed them to temporarily withstand the changes related to their borrowing permission. Subsequently, the release of the GST compensation grant of Rs 869 billion for several months in May is likely to have further eased their cash flows.

However, the discontinuation of the GST compensation flows would alter the revenue composition of some states adversely, particularly those with a relatively larger share of such receipts in their overall revenue streams. To offset a portion of the associated revenue loss, we expect such states to enhance their borrowings and/or to undertake some expenditure adjustments in the quarters ahead. An unfortunate sacrifice of capital expenditure simply can’t be ruled out at this stage.

We believe that both the government’s tax revenues and the tax devolution to states budgeted for the year are quite conservative. The gross tax revenues of the central government expanded by a robust 29 per cent in April-May 2022. While the cess on petrol and diesel was reduced towards the end of May 2022, this is not shareable with the states and therefore does not affect their share of central taxes. We assess that the states may be entitled to as much as Rs 9.3 trillion of tax devolution, roughly Rs 1.1 trillion relative to the 2022-23 budget estimate.

If the government does decide to step-up tax devolution to the states in the near term, instead of back-ending it as was done in the last year, it may reduce the size of state borrowings in the second quarter. But more significantly, such revenue certainty, despite the end of the GST compensation era, may embolden states to ringfence their capital spending, providing a positive impulse to the economy.

The writer is Chief Economist, ICRA

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