Problem with GST council- centre and states not equal: Kerala FM

He points out that no decision can be made in the GST council without the centre as it holds one-third of the votes in the council.

He further said that he is not against a revenue neutral rate (RNR) of around 20 percent as it is essentially a compromise, what is more important is the structure of this rate rather than the actual rate.Below is the verbatim transcript of Thomas Isaac, Saurabh Patel and Sudha Pillai’s interview to Latha Venkatesh on CNBC-TV18. Q: The GST council is the first body where all states are equal. It is not like that in the Lok Sabha and Rajya Sabha where the voting is population-based. What will be the impact of this new found equality between states? Isaac: All states are equal but states and centre are not equal, that is the problem with Goods and Services Tax (GST) council. Now states large and small being equal shouldn't be a problem at all because we have the experience of the empowered committee of finance ministers which were successfully functioning for the last one and half decades and which has successfully implemented fundamental reform with indirect tax through value added tax (VAT) tax very successfully. So, that should not be a problem at all. However, there can be a problem that if centre is not responsive to the kind of concerns for the states there could be problem because no decision can be made in the GST council without centre's consent because you need 75 percent votes for any decision to be made and centre has one third the votes. So, my concern more than the states is with centre and state. Q: You are right that 33 percent of the votes are with the centre so they can block the states wishes if they want. They definitely have veto power. But do you expect the centre to be so highhanded? Isaac: In the empowered committee union finance ministers attended and we were able to reach very broad consensus without much problems. There would be some issues which had been thrashed out longer but by and large successfully carried on. But I am very upset about the agenda notes for the first meeting of the GST council. If states without kind of say, very undignified manner, bureaucratic and arbitrary. Okay, GST council is formed the state finance ministers as members but there is this roll call before every meeting. So, there have been interstate councils or NDC, roll call is not there. This finance minister's meeting have been going on, nobody cared to have a roll call. Seating arrangements, there are conventions but here it is said seating will be determined by chairman. Now we have been functioning without an vote in the entire history of empowered committee. The main issue is the modalities of voting. Not a word about consensus, they need to reach a consensus. The whole tenure of treatment words etc, very disturbing. I discussed with the J&K minister he also says that. Q: The Centre has 33 percent of the votes, but they need to get 75 percent, for that they need 19 out of 31 votes, won’t that make them dependent on the states? Isaac: I don’t think it will be difficult currently, the current political situation said that to get that many support. Q: I agree that there will always be some states which are ruled by the same party as the centre, so that will not be a problem, but do you think that the centre can buy up the votes, attracts the small states by giving them some special package and therefore always have their way? Isaac: I don’t want yet to go in that language discussing the situation, but because I have never thought in that manner, it is a fundamental reform that is coming, there are problems with that, states have made tremendous sacrifice in this and this issue then how to go forward should be discussed, decided and lot of deliberations will have to be take place. It can be just taking vote 1, 2, 3 and go for vote no there has been lot of interaction and deliberation. I have no thought in the stems about centre manipulating in majority, but this agenda note the tenure of words etc, even the ballot paper is designed in the draft agenda note and I was talking to some of my ministries and colleagues and they were also very upset about this. Q: The revenue neutral rate, the centre is still desirous of 18-20 percent vote. Do you think with the help of their own party states, NDA states and some of the small states they can have their way 18-20 percent? Isaac: I am also not against the rate around 20 percent, no state would be that is fine, but then how do you go into a structure of the rate even after arriving at revenue neutral rate. This is essentially a compromise there is no science behind divine number, in fact ranges between 12-24 percent that is a rate made by estimates of respectable people. There is no kind of divine number, but more important is the structure of this rate. Now everybody is talking about two-tier system, on second thought I am thinking of three-tier step. The reason is the numbers of consumer durables etc, which are consumed by upper strata it can suffer a relatively higher rate say 22-24 percent that will enable you to bring down your standard rate whatever middle level rate and unlike Arvind Subramanian who has stood for a lower rate of 11-12 percent on the necessities, I would argue bring it further down. As of now what will happen is that the incidence of tax on consumer durables and so on will be coming down heavily and tax on necessities of consumption would be going up is a highly regressive. There are these kinds of fundamental issues to be discussed yet. Q: You have a lot of experience in the planning commission liaising with states, this is the first body where every state has exactly one vote unlike say Lok Sabha or Rajya Sabha. Does that change the political relationship between centre and states and states and states? Pillai: It doesn't really because you can't have a council which is based on population. I think population has never been a very healthy criterion in growth. So, having one vote in this powerful body is perfectly alright. I have been state finance secretary for three Budgets and then I of course saw the perspective of the central government from the planning commission both as secretary and as member secretary. So, I think the council will as the time goes and in this meeting and subsequent meetings they will have to tackle some of these issues ensuring that manufacturing doesn't come down or that manufacturing states don't suffer. Q: Do you expect an alliance of small states versus large states? Is that a possible way in which you may see things getting battled out? Pillai: I think it is unlikely because many small states are manufacturing states and many big states are not manufacturing states. So, I don't think it is an issue between manufacturing and non manufacturing, it is between destination states and the states where production actually takes place. I think those issues will have to be taken up and resolved but I certainly don't see a conglomerate of small states. Q: You are right in saying that this is at the moment this is manufacturing states versus consuming states war because the balance of power is really shifting to the consuming states. However that is in the initial stages when the revenue neutral rate (RNR) is being set but that is yesterdays battle. The states have been convinced that even if taxing power goes to the consumption states, they will be compensated. What will be the future battles be? Will the future battles be fought on party lines, how might the alliance come? Is it possible that the centre will be able to buy up some of the small states because they do not have too much of stake and it is still one vote, just get those 19 vote and have its way. Can these kind of alliances happen? Pillai: No, not really. I don't think these alliances, if you see the states fisc matters to everybody within the state. I don't think states will go and align themselves politically because I think at this point of time it is the money and the economy and the states fisc that matters. I don't think they will so easily kind of compromise on their economic space so to say. Q: The most important decision is going to be the RNR and Thomas Isaac was explaining that he is okay with the 20 percent or even a sub 20 percent RNR. Can you just explain a little more, you said you are okay with an 18-20 percent standard rate but you would like three slabs of rates. Can you just explain what is in your mind? Isaac: Alcohol, petrol etc are outside the GST now. Once we leave them outside leave them outside. Everybody has agreed upon two rates - one higher and one lower. Higher would be the standard rate for mass majority of products which would come. However I have been arguing for a relatively higher rate, let it be confined to consumer durables which cater to luxury demand and that would enable us to have relatively lower standard rate. Then let us bring down the lower rate further down. I would add 4 percent gold rate, I would agree with economic advisors number 4 percent. If you don't agree with 4 percent for gold then your standard rate will have to go up. Q: How do you think this revenue neutral rate itself will pan out, do you think by November 22 the states will be able to come to a consensus on this an agreement on this? Pillai: I think they will have to come because that’s the timeline now and I think everybody is quite serious about the timeline. As regards to gold rate I remember that in Kerala when I was finance secretary there, we had this 4 percent rate and all the bullion trades were shifting to Tamil Nadu which had a low rate of tax. This is what happens when you have on such commodity you have differential rates of taxation. In some ways commodities like gold and all will benefit or rather the economy will benefit, when the rate is kind of fixed, but I think it is more the services rate which is of concern, because tax cess on services may actually be higher, that I think from the consumer point of view whether that will depressed demand for services that should be the only cause for concern. Q: Are we very clear on how compliance by states will be ensured. What if they do not comply, dispute resolution council of course come to the GST council, but in terms of administration nitty-gritties are we very clear on how any non-compliance by any state will be addressed? Pilliai: I think compliance will have to be ensured. The work is already going on, on information technology measures to ensure that compliance is in place. There are lot of hard work is going on I am aware of that. In terms of issues if the states are not complying and there is some disputes one state has against another one or there is centre state dispute, there is a provision for dispute resolution mechanism, but every state should not have it own dispute resolution mechanism. It should be a single mechanism and there should we have different offices in different parts of the country, otherwise it will become very complex. Q: Do you think with your lot of experience in the states and in the planning commission that we have got something good and things are going to improve both in terms of revenues and the taxable ambit of governments? Pillai: The states that have granted concessions of different kind to industry to come and set up production units or to set up units there definitely they will have some difficulty. Q: But they are getting compensated? Pillai: They will be getting compensated, but we have also been talking for the last 4-5 years I remember distinctively that some states indulge in lot of competitive concessions and that’s never been good for the economy of the state. You have wrong people in for the wrong reason and then at the slightest sign of difficulty they all leave, because they came in for tax concessions or they came in for lands. Now you have to have people who come in to start manufacturing for the right reason. Q: Do you think we are going to get to a sub 20 percent level the revenue neutral rate? Pillai: You have to define luxury that is a very difficult thing and sometimes white goods which maybe luxury according to one set of people may be perceived as necessity. Yes, I think luxury goods can be taxed higher, but then you have to be very clear about how you define luxury. At the end of the day we want our standards of consumption to improve and we want the standards of living to improve that’s the main point. Q: The structure of the GST council itself, one state one vote, for the first time the smaller states with no population strength in their favour are going to be equal to the more populist states. Do you see an alliance of small states versus big states? Patel: This thing has been discussed much in detail since last many years and practically all the states have agreed to this principle. If even the minor and the small states also are getting an equal say there is nothing wrong in it. My experiences in last many years is that most of the decisions, practically all decisions were taken jointly. The majority thought process had always been implemented and the finance minister of the states were arguing that causes very strongly. Many of the secretaries were also arguing their cases very strongly. Q: In the new dispensation, in GST council it is new in the sense all states are equal, that is not how Rajya Sabha and Lok Sabha function, the votes are weighted to population. Now here the centre has 33 percent of votes, it will always have a few states in its favour, the same party will be at the centre and the states at all times, some states will align, it is always possible for the centre to give some sops to the very small states say the north eastern 7 states and get them on their side. My point is, is this new dispensation likely to be used by the centre in such a way. We are not talking of one year, we are talking of the next 75 years. Is it not possible that the centre will be able to bulldoze its way simply by somehow buying up the small states? Patel: There are advantages, disadvantages for everything. If small states are getting a preference, fair enough, no problem. I don't think you can go ahead with GST if you don't have the support of the centre. Finally 33 percent is with the centre. So, for any decision the centre has to vote positively without that you cannot go ahead. GST council the formation from day one is such that all states should have a say in it. I don't think there is anything wrong by giving one vote to one state. You can say that the big states if you give according to the population then they have a majority stake and they can bulldoze the small states. So, it is advantage disadvantage both sides. Q: I am not saying anything is right or wrong. I am only saying whether having already 33 percent of the votes and being able to somehow placket the small states whether the centre will be able to bulldoze its way most of the time? Patel: I don't think so because the states who do not have high population, who are medium sized states you can consider will have a very strong viewpoint. Developed states are naturally going to have a view point. Developing states are also going to have a view point. So, you cannot say that small states and centre will pull together and bulldoze, I don't think that is a possibility. Q: Thomas Isaac was saying that he is quite okay with even an 18-20 percent rate provided gold has a 4 percent rate. He says if gold is not taxed at 4 percent then you may be forced to have a higher RNR. Do you think 18-20 percent will be something that will work? After all the rich states are going to get compensated? Patel: The lower the rate the easier it is for the GST implementation. The higher the rate there is going to be more and more resistance. Coming to gold 4 percent, it has to be anywhere between 2-4 percent. If you have 2 percent it is easier because there is a big industry. You will have to find out what is the total revenue from gold coming to the centre and the states jointly. Say what is the gold consumption and what is the diamond consumption in the country because many of it is going to be exported. Say for example diamonds, rough diamonds are brought in the country and 90-95 percent goes out as polished diamonds. Q: But that is not a problem, they will get duty drawback? Patel: They will get duty drawback but when you bring at 4 percent they are going to lot of refunds from day one. So, that is going to be the issue. As long as the taxation decided by the centre whether 18 percent, 19 percent or 20 percent the states are assured of the compensation. Q: So you don’t think it will be a problem to hammer out a 18 percent? Patel: If they give 18 percent and give compensation there is no issue. If the revenue neutral rate (RNR) is 21-22 percent if the rate they keep it at 18 percent that means the centre will have to bring in more compensation. Q: You expect that the revenue neutral rate will be only above 20 percent, you don’t think it can be managed at 20 percent provided of course gold is taxed at 4 percent, you should be able to manage 20 percent do you think? Patel: Today, no one in the country can exactly give a figure that RNR is 21 percent or RNR is 20 percent. Everyone is giving their own figures and justifying the figures, so every state has a different RNR. Now if you have anything less than RNR, let’s keep gold aside let’s say gold at 2 percent let assume that. Now if you keep RNR if it is 21 percent and if you keep 18 percent rate that means the compensation has to be given by the centre. If centre agrees to it then there is no issue for the states it is very clear. Now if you keep a higher taxation for other products then you helping the centre in reducing the compensation. If you are bringing gold from 2 percent to 4 percent that means the compensation of the centre is going to be reduced in that. Final call of what the taxation compensation centre is ready to keep in their budget provision will decide what the rates are going to be and what is the backing which the centre is going for the rate. See what Isaac is saying is also if you keep gold 4 percent that means the compensation is less, but one thing for the centre and the state has to be clearly known to everyone that more the rates, difficult for the consumer to accept. Q: The other point that Isaac Thomas is making is that he is okay with a lower 18-20 percent GST standard rate provided some consumer durable luxuries are taxed higher. Do you think a three step rate is a workable formula? Patel: Possibilities are there, because there are so many luxurious products, today who are taxed very highly and it is a question of GST council to select. If they select certain products and product above the range of 18 percent and you may get some additional revenue and that also additional revenue may help certain products to be taxed at a lower rate. This is the call which the GST council has to discuss and the states have to give their opinion and the possibilities are there. Q: If some of the states do not comply of course big disputes will come to the GST council, but if there is non-compliance by some states or within some states, how do you tackle it? Patel: I think the way the constitutional amendments were drafted every state will have to comply. It is not mandatorily completely, but it comes in dispute mechanism council and it will be overruled and they will be given clear direction that you will have to follow.