Goods and Services Tax (GST)

The federalism test


From UPSC perspective, the following things are important :

Prelims level: Article 293

Mains level: Paper 2- Federalism and GST

The GST has been hailed as the grand bargain and the success story of the federalism. But the economic disruption caused by the pandemic has put it to test. The article deals with the issue of GST compensation.

Compensating the loss of GST revenue: 2 options

  • In the 41st meeting of the GST Council, the Union government had presented the states with two options.
  • The Centre had estimated the states’ total loss of GST revenue at Rs 3 lakh crore, of which, Rs 65,000 crore was expected to accrue from the compensation cess.
  • Of the remaining Rs 2.35 lakh crore, the loss due to the pandemic was estimated at Rs 1.28 lakh crore.
  • The first option was to provide states a special window to borrow Rs 97,000 crore from the RBI, which was later revised to Rs 1.1 lakh crore.
  • Under this option, both the interest payments and the repayments would be made from future collections of the compensation cess.
  • In the second option, the entire shortfall of Rs 2.35 lakh crore could be borrowed from the market and the states would have to bear the interest costs, but the repayments would be adjusted against future collections of the cess.
  • 10 states have rejected both the options and have stated that it is the Centre’s responsibility to compensate the states, and therefore, it should borrow.

Commitment of the Centre

  • The minutes of the 7th and 8th GST Council meeting show that most of the states wanted the Centre to commit on paying compensation from the Consolidated Fund of India (CFI).
  • On that demand the Union Finance Minister had stated that in case the amount in the GST compensation fund falls short of the compensation payable in any bi-monthly period, the GST Council shall decide the mode of raising additional resources including borrowing from the market which could be repaid by the collection of cess in the sixth year or further subsequent years.
  • Thus, there was a clear commitment of the Centre on the issue of compensation and the method of recouping the loss.

Impact on the Centre-State relations

  • The payment of compensation has plunged the Union-state relationship to a new low.
  • First, not recognising the Centre’s commitment will make states wary of any future reforms involving an agreement with the Centre.
  • Second, giving selective press statements to pressurise the states into accepting one or the other option does not infuse confidence.
  • Third, there was a statement by the Union finance ministry officials that the GST Council does not have jurisdiction over-borrowing and borrowing is an individual state and Centre’s decision under Article 293 of the Constitution.
  • If so, why were the two borrowing options presented to the states in the meeting of the Council?

Way forward

  • It is the Centre’s commitment to find the compensation mechanism and borrowing is one of the options — that must be discussed in the Council.
  • Furthermore, if the commitment of the Centre is recognised as admitted by the finance minister in the 7th GST council meeting, the Centre should take the responsibility to borrow.
  • Both interest payments and repayment of the principal liability can be met from future collections from the cess.


This issue is of immense significance for the future of Centre-state relations. But pressuring states on the basis of political strength will have adverse consequences for the country’s federal structure.

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