Hiking service tax an option, not enough to fix fisc
Given that just meeting the needs of the Seventh Pay Commission (SPC) and the One Rank One Pension (OROP) will cost finance minister Arun Jaitley over R1 lakh crore in FY17, he needs to increase his revenues beyond even what is required to increase government capex and other spending—while the OROP is said to cost R10,000 crore in a full year, SPC will cost R92,500 crore including the Jan-March 2016 arrears. And that’s when, as the mid-year review acknowledges, the economy isn’t firing on all cylinders, a pre-requisite for buoyant tax revenues. While the review notes that tax collections have been a lot more buoyant this year than in the recent past thanks to an increase in the taxable base, the finance minister needs his tax-to-GDP ratio to rise an additional 0.6 percentage points in FY17 to meet just the SPC and OROP—assuming an ambitious 12% growth in nominal GDP as compared to this year’s likely 8.2%. Such an increase in the tax-to-GDP ratio has been achieved only twice in the last decade, in FY08 and FY11—but nominal GDP rose 16.1% in FY08 and 20.2% in FY11.
One option being discussed, as Business Standard reported on Monday, is to hike the service tax rate by a couple of percentage points to 16%—this option is being discussed since the Arvind Subramanian panel has recommended a standard GST rate in the 16.9-18.9% range. Based on this year’s budgeted collections for service taxes, a 2-percentage-point hike can yield around R30,000-35,000 crore extra. And while it is true service tax collections look relatively inelastic—and so will respond positively to a rate increase—and grew by over 35% in FY12 and FY13, growth did fall to 17% in FY14 and to under 9% in FY15, before rising to 38% in H1FY16. Which means that, as the Laffer curve suggests, if the service tax rate is increased too much, the taxable base may not grow by as much as is expected—over the years, growth in service taxes has been more a factor of the increased base than it has been the hike in the rate itself. Also, with the bulk of the benefit from additional excise levies on petroleum products having accrued in FY15 and FY16—in FY16, these will add up to around R60,000-65,000 crore—the FM will be hard pressed to make ends meet since oil prices in FY17 are not going to fall by as much as they did in FY16, limiting his scope for further increases in excise levies.
Which means the government must focus on disinvestments and strategic sales—as compared to a target of R41,000 crore for the former, the government has got only R12,700 crore so far, and nothing against the strategic sale target of R28,500 crore. The government could have sold its shares in ITC, L&T and Axis Bank—housed in SUUTI—but has chosen not to and, unfortunately, these shares have lost a fair bit of value over the year. If the government is unable to realise revenues from the sales of shares in Balco and HZL this year, this must be completed in FY17, apart from selling the SUUTI shares and moving on genuine strategic sales. Significantly higher revenues are needed to ensure the government keeps up the pace of capital expenditure without exerting too much pressure on the fisc.