Oil politics is playing out in states now. State sales tax cuts are becoming contagious. So, it seems that, despite the Centre-announced Rs 5 and Rs 3 rise per litre hike in petrol and diesel, respectively, the actual incidence on the economy will be much lower. This is welcome, not just politically, but in a fiscal sense,too. If there is justification in the Centre for not holding on to the windfall benefits of a rise in excise and customs duty collections, there was equally no case for the states to do the same vis a vis their sales tax. The empowered committee on implementation of Value Added Tax at the states had wrestled unsuccessfully with the issue of bringing taxes on petro products in the Vat fold. That states, influenced by the current political climate, have become wiser is a positive contribution to the economy. States? tax reform, more than that at the centre, will have a progressive impact?sales tax on diesel is prohibitively high in states, and that has always made transport unnecessarily costly.
But the key lesson from states? fuel tax cuts is that they would not have been possible if states had not put their fiscal house in order in the first place. This is where these fuel tax write-offs differ significantly from the impact of a similar move in 1999, when the states paid out a handsome wage increase to their employees on the model of the fifth pay commission for central government employees. That payout brought the state exchequers to their knees. This time around states can afford to shrug it off because, as informal Reserve Bank of India estimates say that they will wipe off their combined revenue deficit in 2008-09. At the end of 2006-07, states? revenue deficit had shrunk to 0.9% of the national GDP, down from 2.3% in the period between 1997 and 2003. This huge improvement was made possible by a rise in states? tax-to-GDP ratio to 6.1% in the four year period between 2003 and 2007, from 5.4% earlier. Of course, let?s remember that since states, unlike the Centre, cannot borrow easily, the impact of a mismatch between their tax revenue and current expenditure is felt keenly on capital investment. That happened in the earlier period. Now that they are fiscally healthy, and can afford good tax cuts, states? should be careful not to invite a repeat of the past.
