GOODS AND SERVICES TAX AND ECONOMIC UNCERTAINTY: EVIDENCE FROM INDIA’S MANUFACTURING AND SERVICES SECTORS

Abstract

The Goods and Services Tax (GST) introduced in July 2017 was a major shift in India’s indirect tax regime. It replaced multiple taxes with a single tax structure to increase efficiency, reduce cascading effects and integrate the national market. However, the introduction of GST occurred during a period of high economic policy uncertainty, which raised questions about the overall macroeconomic effects of the reform and whether different sectors would respond differently to uncertainty shocks. This study studies how Economic Policy Uncertainty (EPU) affects sectoral performance in India, focusing on the manufacturing and services sectors before and after the implementation of GST. This study uses monthly time series data from April 2012 to March 2024 and employs a Vector Auto Regression (VAR) framework. The Index of Industrial Production (IIP) and the Nifty Services Sector Index (Nifty_Serv) are used as the main endogenous variables. The Consumer Price Index, call money rate and exchange rate are included as exogenous controls to control for macroeconomic factors that influence sectoral behavior. Impulse Response Functions (IRF) and Granger causality tests are used to measure and analyze the response of each sector to EPU shocks. The quantitative results show that after the implementation of GST, the services sector has a more rapid, larger and more negative reaction to policy uncertainty than prior to the implementation of GST. This is demonstrated by larger fluctuations and longer-lasting negative reactions to uncertainty impulses. On the other hand, during the same period, the manufacturing sector has smaller, delayed and less consistent reactions. Therefore, the results demonstrate that uncertainty is transmitted differently across industries. After the implementation of GST, the services sector is more sensitive and volatile than the manufacturing sector.