Arun Kumar

India’s vaccine policy has seen many twists and turns. Production of vaccines in India may be hobbled by the availability of inputs and vaccine shortage is likely to continue. At the current rate of vaccination, assuming no vaccine hesitancy, the target of vaccinating all adults in 2021 looks difficult to achieve.

There are several irrationalities in the vaccination policy. For instance, allowing the private sector to vaccinate. They are getting 25% of the available supplies but vaccinating little, which is leading to inequity. Recently, the Orissa government has asked the Centre to only allow 5% of the vaccines to the private sector which has hardly vaccinated anybody there.

Pricing of the vaccines is another issue. There is suspicion of profiteering by private sector manufacturers. They of course claim that they have had to incur high capital costs to set up facilities and to do the necessary testing. But given the huge economies of scale and the very low cost of production of other vaccines, such as for polio, the price being charged appears to be high. The Supreme Court has called the government’s pricing policy ‘irrational’.

Not lowering goods and services tax (GST) on vaccines is another “irrationality”. It is in the hands of the government alone unlike other issues that are not entirely in its hands. So why is it reluctant to do so?

The GST council has reduced the GST rates on several items and medicines related to COVID-19 but refused to cut GST on vaccines to zero. This has been demanded by various states and concerned citizens. The current justification for not lowering the tax is that companies will not be able to get input credit and that this will not help lower prices of vaccines.

Those proposing the reduction of tax on vaccines however suggest that this will lead to lowering of the prices of vaccines. 

The argument on GST cut on some items, but not vaccines

GST is an indirect tax and a cut in its rate on any item should lead to a lowering of the price of that item. So, does GST work differently from other indirect taxes? Why would a reduction in its rate at some point in the chain of production not lead to a lowering of the price of the final good or service? Could it be that the vaccine manufacturer will not get the input credit on vaccines if the GST rate is brought down to zero and, therefore, the price of vaccines will not fall? This particular feature of GST needs to be analysed.

It needs to be noted that the GST rate on drugs like Heparin and Remdesivir, on instruments like ventilator and pulse oximeter and on items like hand sanitiser, electric furnace and ambulances have been lowered. Further, on Tocilizumab, the tax rate has indeed been brought down from 5% to zero. So, is there a special problem with regard to bringing down the tax rate to zero only on vaccines?

The Union government has also argued that it will buy the vaccine and pay the tax so that the public will get the vaccine free. The argument is that the tax burden will not fall on the public, so why worry? But this is a strange argument. To whom will the government pay the tax? To itself. So, with one hand the government will pay the tax and with the other hand receive it. It will get counted on both the expenditure and the revenue side of the budget and the government’s deficit will not be impacted. Only, there will be an additional administrative cost (however small) both for the producers and the government. So, there will be a net loss.

The private sector will be buying 25% of the vaccines and pay the tax and this will get the government additional revenue. The well-off sections getting vaccinated in the private sector will bear this tax burden and that may be okay since it will be paid by the well-off and the businesses.

So, is tax the major consideration? Then why reduce the tax rate on concentrators and oximeters which only the well-off can afford for personal use. After all, government hospitals are to give free treatment to the poor patients, so they would not have to bear the expense even if the tax rate was not reduced on these items. 

The private hospitals catering to the middle class and the well-off could pay the tax and charge their patients, mostly the well-off. So, there is an asymmetry in the government’s argument when it reduces the GST rate on some items but not on vaccines.

The input credit argument

A major reason for bringing in value-added tax (VAT) and later GST was to reduce/eliminate the cascading effect of tax on tax. This was to lower the effective tax rate on goods and services and thereby lower prices. But, if there is revenue neutrality at each stage then VAT will not lead to a decline in prices and GST is applied as VAT.

Be that as it may, the idea underlying VAT is that in a chain of production, only the value added at each stage is taxed. So, the tax paid at the earlier stage which is included in the value of output is not taxed again. This is rather complicated to calculate and implement.

So, a simplified procedure is followed. Calculate the tax on the value of output at each stage of production and subtract from it the tax paid at the previous stage.

For example, A (vaccine manufacturer) buys Rs 50 of input from B to produce a vaccine and it carries with it a tax of Rs 5 paid by B. Then A will subtract Rs 5 from whatever tax is levied on the final vaccine. Assume that A adds another Rs 50 to make the vaccine so that her final price becomes Rs 100. Now if she is to pay 12% GST on it then she will calculate Rs 12 (on Rs 100) and subtract from it Rs 5 already paid on inputs. So, she will pay Rs 7 as GST. The government collects Rs 12 as the total tax at the two stages. A will charge the consumer Rs 107 for the vaccine.

Note the consumer pays the entire Rs 12 as the tax collected. This is the nature of the indirect taxes – consumer bears the final burden even though the tax is paid at the various stages of production and distribution.

Inverted duty structure

A special problem arises when the tax rate on inputs is higher than on the output. Suppose the tax rate on vaccines is 5% and not 12% in the above example. Then A will be required to pay Rs 5 as GST but since Rs 5 paid by B is to be subtracted, she pays zero tax. So, the sale price would be Rs 100.

Assume that the government brings down the rate of tax on the vaccine from 5% to 0%. Now the Rs 5 tax paid by B cannot be subtracted from the tax to be paid by A (which is 0). So, the price charged by A would be Rs 100. The government will only collect the Rs 5 that it gets from the inputs and the consumer pays this tax. A gets no benefit of input credit paid by B. But does A lose out? No. Do the consumer or the government lose out? No.

Consumers will benefit and the government will lose tax if the tax paid on inputs is also reduced.

One of the principles followed under GST has been that essentials should be taxed at lower rates or at zero rate. So, wheat does not directly bear GST. Now, in a pandemic, vaccines are absolutely essential to control the disease. This has to be one of the highest priority. Otherwise, economic activity cannot fully resume and the danger of waves will keep lurking. So, the entire chain of production of vaccines should be taxed at 0%, including tax on imported inputs. Given the externalities associated with vaccination, it should be treated as a public good and made free for all citizens. The current differential pricing is leading to inequity.

The government can help lower vaccine prices by lowering GST rate on it. There will be some loss of revenue but far more will get collected as the economy recovers faster. If this is accepted, there is a case for exempting the entire chain of vaccine production from taxes. 

Of the several irrationalities in the vaccination policy, the easiest is to cut GST on vaccines since the government is mostly collecting the tax from itself, incurring needless expenditure.

This article first appeared in The Wire: COVID-19 Vaccines and the GST Conundrum

About the Author

Arun Kumar

Dr. Arun KumarMalcolm S Adiseshiah Chair Professor, Institute of Social Sciences, New Delhi.