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GST likely to cool retail inflation by up to 50 bps: economists

LiveMint logoLiveMint 29-05-2017 Prerna Kapoor

New Delhi: The implementation of the goods and services tax (GST) will ease consumer price index (CPI) inflation by 25 to 50 basis points, several economists said, indicating the impact of GST on retail inflation is likely to be lower than what has been projected by government officials.

The economists said this is because some items in the CPI basket fall in the exempt category while a reduction in tax rate is proposed for several others.

Revenue secretary Hasmukh Adhia, in an interview with PTI on Sunday, said inflation will fall by 2% (at the end of this financial year) after the implementation of GST.

The assessment is ambitious, said economists, who see a minimal or modest impact on CPI inflation from GST.

Under the structure of tax rates revealed thus far, a majority of food items, which constitute nearly 50% of the CPI basket, and services such as education and healthcare, which form over 10%, have been kept in the exempt category. “Most of the items in the CPI basket are taxed at a lower rate under the GST as compared to the existing tax regime. Items like coal, kerosene, mustard oil, refined oil etc have lower GST rate than the current prevailing tax rate,” Morgan Stanley said in a report dated 22 May.

According to Madan Sabnavis, chief economist at ratings company CARE Ltd, inflation will fall by only 25 to 50 basis points after the implementation of the new tax structures.

“With the effective tax rate intended to be brought down on most items, as well as a large portion of the CPI basket being kept in the exempted category, there is likely to be a limited impact of the GST on goods inflation,” said Aditi Nair, principal economist, Icra Ltd.

Although the standard rate for services has been kept at 18%, availability of input tax credit going forward, may soften the impact of GST on services inflation, she said.

Input tax credit facility allows businesses to use credit for taxes already paid on raw materials and input services for meeting the tax liability on their final product or service.

Although services will be taxed at a higher rate under GST as compared to the current regime, the impact is still likely to be disinflationary as the effective tax rate would be lower, as services companies will be able to claim input tax credit for the goods utilized.

The government on 18 and 19 May released finalized tax rates that would apply to the majority of goods and services. The majority of goods will be taxed at the standard rate of 18%. Services like healthcare and education will be exempt, while transportation will be taxed at 5%. Items such as five star hotel accommodation and entertainment will be taxed at 28%.

“The market view of the distinction between the long-term and short term impact of GST on inflation is misleading,” said Soumya Kanti Ghosh, chief economist, State Bank of India. “People are of the view that in short run inflation will rise while in the long run it will come down. But in both short and long run it will be coming down,” he added.

“According to our estimates, GST will have neutral impact on headline CPI. This is because the service component of CPI (combined) is inadequately represented to match the service component of the economy. Service sector component in CPI is around 20% where they account for almost 50% of the total consumption basket in the economy,” added Ghosh.

According to an Icra report dated 21 May, the fitment on other goods has been done in such a manner that the effective tax rate after adjusting for input tax credit and removal of cascading, is similar to or lower than the current effective tax rate.

In addition, the anti-profiteering clause may prevent companies from retaining the benefit of lower GST rates relative to the current effective tax rate.

Economists said while inflation risks related to GST and the monsoon outlook appear to have eased relative to the earlier assessment, the Monetary Policy Committee (MPC) may nevertheless choose to wait for grater clarity on such factors, prior to reducing the policy rate or reversing the stance back to accommodative from neutral.

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