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The government should pursue indirect tax reforms for fiscal consolidation
February, 02nd 2012

The government reportedly plans to exit from the fiscal stimulus of 2008-09 delivered through cuts in excise duties and service tax. This is welcome.

Just as boosting demand was what the economy required when the global financial crisis struck, the need now is to cut excess demand posed by government consumption. That means fiscal consolidation. An uncertain global environment should not hold back the government from reversing the cut in indirect tax rates in Budget 2012.

Agreed, growth has slowed down due to lower investment and external demand. Our economy is projected to grow by 7.2% in 2011-12 against the original forecast of 9%. However, inflationary expectations continue to be high, making it imperative for the government to exit the stimulus. Large fiscal deficits are simply unsustainable and are part of the environment of uncertainty that deters investment and depresses growth.

So, raising indirect tax rates should be a priority. The government should also move swiftly to a goods and services tax (GST). Rates closer to 10% each for the central and state GST makes sense, to start with. It would be lower than the total cascading indirect tax burden now of around 44% for goods that do not evade tax. A revenue bonanza is certain once all production is captured through the tax net. GST rates can be lowered later.

Reforms in customs duty are also in order to make our industry more competitive. Domestic industry is enjoying more protection now due to a slide in the rupee. Therefore, it is the right time for an across-the-board cut in peak import duty to the Asean level of 5%.

Ideally, customs duties on all goods should be harmonised to a uniform 5%, except for petroleum products, where the duty should be a uniform 2.5% on crude and products. This would lower the huge levels of protection the minimal value addition in refining enjoys.

The duty on crude would generate much needed revenue, to reduce the fiscal deficit. And the lower duty on products would permit independent marketing of fuels through imports, if the government opens up retail of petro-fuels as it should. Such duty changes would help contain inflation as well.

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