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Centre writes to states seeking their choice for borrowings to meet GST compensation shortfall

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The Centre formally proposed two options for borrowings to meet the shortfall in goods and service tax (GST) compensation for FY 2020-21 to states, giving them seven working days to revert with their choice. State finance secretaries will meet Union finance secretary and expenditure secretary on September 1, 2020 for clarifying issues.

States can individually choose the option according to their compensation, borrowing and repayment capacities, the finance ministry said in a statement Saturday. In the first option, state borrowing will be limited to Rs 97,000 crore – the shortfall owing to GST implementation as calculated by the finance ministry – which will be provided through a special window. Finance minister Nirmala Sitharaman had said that this window will be facilitated through Reserve Bank of India.

The cost of borrowing will be close to G-Sec yield, and the loan will not be considered state debt which means that the principal and interest will be paid from the compensation cess. Levy of cess will be beyond the transition period, for as long as required. “In case the cost is higher, GOI will bear the margin between G-secs and average of State Development Loan (SDL) yields up to 0.5% (50 basis points) through a subsidy,” the finance ministry said.

An additional 0.5% of states’ Fiscal Responsibility and Budget Management borrowing limit will be permitted unconditionally, giving states an aggregate of Rs 1 lakh crore. “States can carry forward unutilised extra borrowing ceilings to the next financial year,” finance ministry added. In the second option, state borrowing will be for the full Rs 2.35 lakh crore – shortfall owing to GST implementation (Rs 97,000 crore) and impact of Covid 19 pandemic induced economic slowdown – which will be provided through market borrowing. Centre has specified that interest will be paid from states’ resources, while principal will be paid from the cess fund.

Also, Rs 97,000 crore will not be counted towards state debt, while the rest will be. For each state, 3% of gross state domestic product (GSDP), plus the shortfall and up to 1% of GSDP for meeting reform-linked criteria or 4% of GSDP and up to 1% of GSDP for meeting reform-linked criteria, whichever is higher will be provided. But in this option, the unconditional increase of 0.5% of states’ FRBM borrowing limit would not be available, and states would not be able to carry forward unutilised extra borrowing ceilings to the next financial year.

In both cases, the compensation cess will continue after the transition period until all arrears for the transition period are paid to the states. This means that cess on products such as tobacco and other goods will continue beyond 2022. The finance ministry stated that borrowing by the GST Council is not practically or legally feasible, and not desirable. It added that the options were provided keeping in view the prevailing economic situation where Central revenues were under greater strain than GST revenues.

Customs revenues as well as direct tax collections have been seriously affected, while Central expenditures are stretched, “not only by the pandemic response but also by the needs of national security.” The government faces a very large borrowing requirement this year, the finance ministry said, adding that additional borrowing by the Centre influences the yields on Central government securities and has other macro-economic repercussions.

“The yield on government securities acts as a benchmark for state borrowing as well as private sector borrowing. Hence any rise in Central borrowing costs ipso facto drives up borrowing costs for all borrowers, including not only the states but also the entire private sector,” it noted. It advised that any avoidable borrowing should not be done at the Central level, when it can be done at the state level.

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