Inflation Impact of GST - RBI Vision
THE Reserve Bank of India in its Monetary Policy Report released yesterday professes:
Internationally, 160 countries have some form of value added tax (World Bank, 2015). The experiences of the United Kingdom, Canada, New Zealand and Malaysia suggest that inflation did increase in the period when GST was introduced. Eventually, the inflation impact moderated over a year, except in the case of United Kingdom where it remained elevated, due mainly to the oil crisis in 1973. Estimates of pass through of changes in the VAT rate to consumer prices for 17 Euro zone countries for the period 1999-2013 show that, on average, the pass-through is much less than full and is highly sensitive to the type of VAT change. For changes in the standard rate, for instance, the final pass-through is about 100 per cent; for reduced rates, however, it is significantly less at around 30 per cent. The short-term effects on inflation depend upon a host of factors, including the tax rate at which GST is implemented, the tax base and efficiency of the administrative machinery.
Looking ahead, inflation developments are likely to be shaped by the implementation of the GST. While the creation of a unified goods and services market in the country would reduce supply chain rigidities, cut down on transportation costs and also bring down costs in general through improvements in productivity, it could also produce a short-lived pass-through to the inflation trajectory. The cross-country experience suggests that, controlling for country-specific characteristics, one-off effects tend to dissipate after a year of its implementation. The impact of the implementation of GST on CPI inflation in India would largely depend on the standard rate that would be decided by the GST Council. The dual rate GST structure with a standard rate of 18 per cent and a low rate of 12 per cent (consistent with a revenue neutral rate (RNR) of about 15-15.5 per cent) is expected to have a minimal impact on inflation. If the standard rate is increased to 22 per cent (consistent with an RNR of 17-18 per cent), the impact on aggregate inflation would be in the range of 0.3-0.7 per cent, concentrated in select groups like healthcare (excluding medicines). As the standard rate increases from 22 per cent to 26 per cent and 30 per cent, the impact on CPI would increase from 0.6-1.3 per cent and to 1.0-1.9 per cent (with input tax credit), respectively. The general consensus is that the impact on consumer price inflation is likely to be moderate if the standard GST rate is at 18 per cent - in fact, overall price levels may go down due to more efficient allocation of factors of production.
RBI states, "By current reckoning, the pass-through of the goods and services tax (GST) will likely commence from April 2017 and last for about 12-18 months, going by the cross-country experience."