The soon to be implemented Goods and Services Tax (GST) is expected to harmonize indirect taxes and build a unified Indian indirect tax structure. Currently there are myriad indirect taxes that are levied and collected by the union and state governments. Since each state government has the power to decide its own indirect tax policy (rates, exemption limits, etc.), each state taxes different commodities differently. A commodity, thus, is priced differently across states. This is seen to be inconvenient for traders involved in inter-state transactions and business concerns based across multiple states. GST shall harmonize all these indirect taxes and replace them with a uniform GST rate. With GST, similar commodities shall be taxed identically across states. check more details about “GST and Indian Federalism” from below…
GST and Indian Federalism
Federalism in India
A federation, simply defined, implies a division in sovereign power between the union and constituent provincial governments. Very often, the nature of a federalism practiced by a country is understood in terms of its resemblance to the American system of federalism. Although India does not possess a perfect federal system of government (when compared to the classical western understanding of federalism), it is basically a federation “marked by the traditional characteristics of a federal system, namely, supremacy of the Constitution, division of power between the Union and States and existence of an independent judiciary.”-Ganga Ram Moolchandani v. State of Rajasthan (2001). India is, thus, often understood to be ‘quasi federal’ in nature with a union government more powerful than the states.
Nevertheless, the Supreme Court understands federalism to be an important constitutional principle. In the much famed Kesavananda Bharti v. Union of India (1973) case, Justice Sikri held that federalism was a part of ‘the basic structure’ of the Indian constitution, implying that a constitutional amendment cannot violatethe principles of federalism. Also, in S.R. Bommai v. Union of India (1991) the supreme court held the importance of Indian federalism, ruling that a state emergency would fall under the ambit of Judicial review. More recently, in the NabamRebia v Deputy Speaker(2016) case, the Supreme court quashed the state emergency in Andhra Pradesh upholding federalism.
The implications of GST on Indian federalism
The power of a state government to decide its indirect tax policy independently is a federal power which it derives from the constitution. With implementation of GST, this power of deciding the indirect tax policy would lie with the newly formed constitutional bodyGoods and Services Tax Council (GST Council).
The council consists of representatives of the elected union and state governments. For a proposal to be passed by the council, it requires the approval of 3/4th (75%) of the total votes (of those present and voting). The union government possesses 1/3rd of the votes (33.33%), while all the 31 state governments (the elected governments of all 29 states and the union territories of Delhi and Puducherry that are members of the GST Council) collectively possess 2/3rd of the votes (66.67%). Given that the votes are equally divided amongst all member states, each state possesses (approx.) 2.15% of the total votes.
There is an obvious imbalance in the share of votes between the union and state governments. The union can veto any proposition of the states, even if hypothetically all 31 states agree to it. The union government, on the other hand, requires at most, the assent of 20 states alongside its own to pass a decision. Given that the national political party/ coalition in power at the centre is generally expected to be in power in a significant number of states, the voices of the states led by regional parties (which are not allies of the national political party / coalition in power at the centre) may be ignored in the decisionmaking process of the council.
It is evident from this imbalance in the share of votes, that the elected state governments are set to lose considerable federal powers with regards to indirect taxation. Some have contended conversely, arguing that GST, instead of impinging on Indian federalism, shall promote the spirit of ‘cooperative federalism’- that the states and the union shall ‘co-operate’ for a larger cause. The incumbent union assumes that the GST Council requires the states and the union to engage in positive discourse, to cooperate, and arrive at a mutual consensus, thus furthering a cooperative spirit. However, given the imbalance in the voting structure, it is hard to assume that the decision- making of the council may entertain ‘mutual consensus’
The importance of Indian federalism in the context of indirect taxes
The question remains, however, how serious might the practical implications of such a contraction of federal powers be. Some suggest that an abstract constitutional principle like federalism should not ideally hinder the potential, far more practical economic prospects of any policy. To say so, however, would be to ignore the potential real implications of the so called abstract principle in question.
A state decides its policy based on its unique circumstances and ambitions. To acknowledge the mere existence of such federal units itself is to acknowledge these inherent differences in circumstances and ambitions.Each separate state government possesses unique circumstances (credited to the state’s uniqueness geographically, demog raphically, politically, economically, or otherwise) and consequent unique ambitions that drive its unique policy. The fact that India possesses 31 elected state governments is indicative of the fact that it acknowledges this diversity.
It is important to note here that indirect taxes make up a considerable share of the states’ own tax revenue. Therefore, the initiatives of the individual state governments depend heavily on their indirect tax revenue. It has often been argued by the incumbent union that the indirect tax revenues of state governments would increase post the implementation of GST and that the union government has anyhow assured to compensate the state governments for any shortfall in their indirect tax revenues for a five-year period.
Although, the actual effect of GST on state government revenues can only be known post implementation of GST, it may not be out of place to mention here that manufacturing states (states that produce more than they consume-Gujarat, Tamil Nadu) are likely to lose out considerable indirect tax revenues post the implementation of GST. Besides, the union compensation is only for a five-year period, following which, states may find it difficult to independentlycontrol their revenue inflow attuned to their expenditure.
More importantly, one must appreciate indirect taxes as a mode of directing policy than solely as a source of government revenue. By directing its indirect tax policy, states can control the consumption of specific commodities by taxing merit goods at lower tax rates, taxing luxuries at higher rates etc. For instance, the Kerala state government in 2016 introduced a ‘fat-tax’ on oily consumables to reduce the consumption of fattening food items based on the elected state government’s goals and aspirations.
A state decides its tax policy based on its unique circumstances and ambitions. To acknowledge the mere existence of such federal units itself is to acknowledge these inherent differences in circumstances and ambitions. Given that the demographics, income among other circumstances are not similar across states, a state government may define a unique indirect tax policy as per its unique circumstance. Given that each different state possesses unique characteristics, it is essential that the elected state governments have the flexibility to determine their own tax policy independently.
Which way should we ideally be headed?
Currently, India is experiencing a slow yet evident trend towards centralization. The BharatiyaJanata Party in power at the centre, by itself holds a simple majority in the lower house of parliament-not requiring the support of any of its regional allies. There have been several attempts by the union to undermine the sovereignty of the federal state governments- the attempts of the Union to impose President’s rule in the states of Arunachal Pradesh (2015) and Uttarakhand (2016) are reflective of this trend. Also, the latest state legislative elections in UP see national political parties becoming key contenders, often overtaking regional parties. Although it is unlikely that the objective behind GST was to curb state powers, one may validly suggest that the policy fits into the current centralizing trend we are experiencing.
Historically, in India, the two extremes of centralized and decentralized regimes have not produced desirable results. The Indira Gandhi regime (during the emergency of 1975) established an absolutist, unitary, executivedissolving the powers of all state governments. Although the policies of the government were unidirectional, they were left poorly implemented. The government was unable to meet either its growth or social prospects – The famed ‘GaribiHatao’ initiative is today largely understood to be a failure, the liberalisation of 1991 having believed to have lifted more people out of poverty at a comparatively much faster rate.
The UPA-I and UPA-II regimes of 2004 and 2009 posed polar opposites to the centraliz ed government of 1975. The incumbent union government, then, was a weak coalition heavily dependent on the support of regional parties in the parliament. Resultantly, regional politics heavily influenced national policy making, often undermining national interest. For instance, India jeopardized its economic ties with Sri Lanka due to the hostility of a regional coalition partner (DMK party of Tamil Nadu) while significant policy decisions were hindered on account of ideological differences with another regional coalition partner (Trinamool Congress party of West Bengal).
Experience, therefore, points to the need for striking a sound balance between a centralization and decentralization- giving the union and state governments adequate independence to frame policies within their own sphere, while coordinating and cooperating in issues of national interest.
One must also appreciate that the state legislative Assemblies in India enjoy more democratic legitimacy than the Union parliament- it has been observed, over the years, that state legislative elections have consistently entertained higher voter turnouts than the union parliamentary elections. The principle of federalism, therefore, should ideally be protected.
Given that post implementation of GST- the freedom of the states to determine their own indirect tax policy shall be compromised and that the union can (already) override the states in the GST council, one may validly conclude that the states shall lose considerable federal powers.
GST promises apparent economic gains – increased private investment, spur in economic growth apart from a much- needed economic unity among Indian states. Much like the Indian constitution which being a living, breathing document, adapts to the ever- changing times and circumstances, the understanding of federalism too should adapt to make room for a more cooperative understanding. For true cooperative federalism to prevail, however, there is a need to strike a balance between the powers of the union and the states and regard the elected state governments as rightful equal partners in deciding policy direction.