Photographer: Prashanth Vishwanathan/Bloomberg

Global Lesson for India: Expect Pain Before Gain From Sales Tax

  • Inflation typically rises in first year of implementation
  • Consumption slows, but no clear trends in economic growth

As central bank Governor Raghuram Rajan assesses the economic impact of India’s landmark national sales tax, he’ll struggle to find countries that saw immediate benefits.

Rajan is expected to share his views on the goods-and-services tax, known as GST, when he reviews monetary policy for the last time on Tuesday. With implementation set for April 1, 2017, the sweeping new levy will replace a jumble of state taxes that inhibit trade.

The government says the GST will boost revenue in the coming years. History shows, however, that India must brace for some pain before reaping the benefits of a national sales tax.

For answers to all your questions about GST, click here.

Inflation

Prices will mostly depend on the tax rate set later this year. Finance Ministry officials have projected that it will be somewhere around 18 percent to 20 percent, higher than India’s 15 percent levy on services. That is prompting many private-sector economists to predict that inflation will accelerate between 0.2 percentage point to 0.7 percentage point in the first year -- in line with trends in many other countries that have implemented GST.

Consumption

Because the goods-and-services tax is targeted at consumers rather than producers, consumption could take a hit initially before companies pass on cost benefits. Finance Minister Arun Jaitley told CNBC-TV18 that the government would like to keep the overall GST rate revenue neutral, so the impact on specific products would depend on what rates are applied to different sectors.

Growth

Finance Minister Arun Jaitley predicts the GST would add as much as 2 percentage points to gross domestic product in the years ahead, without specifying the time frame. HSBC Holdings Plc forecasts that it will add 0.8 percentage point to economic growth over three to five years, while IHS Markit sees a 0.4 percentage point boost annually over five years.

Global trends, however, are more mixed.

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