The government said on Thursday that it will try to compensate states for the first three years for any loss of revenue they might suffer due to introduction of Value Added Tax regime next fiscal.

"I have worked out a formula on VAT, which will be presented at the National Development Council meeting scheduled this Saturday," Finance Minister Jaswant Singh said in the Rajya Sabha replying to a debate on a Mid-Year Review of Indian Economy and its implications.

VAT is scheduled to be introduced throughout the country from April 1 next.

"Introduction of VAT from April one next year will be the right thing to do," he said adding for rationalisation of taxes to happen, India needs to begin taxing services while simultaneously expanding the tax base.

Recalling that the Union Cabinet, on Wednesday, granted approval to bring a Constitution Amendment Bill on the issue of service tax, Singh said he would be discussing this issue also at the NDC meeting and the legislation can be then introduced in the next session of Parliament.

Brushing aside criticism from members on bringing out a "bland and shallow" mid-year review, Singh pointed out that the exercise was the correct step.

Pointing out that at present, direct taxes account for a mere three per cent of the GDP and indirect taxes for about six per cent, the finance minister said, this proportion needs to be reversed.

"We need to move towards a progressive economy. For this, the direct to indirect tax ratio needs to be reversed even as we strive to expand the overall tax base."

Referring to the Leader of the Opposition Manmohan Singh's remarks that there was a difference of views between the finance ministry and its secretary on rationalisation of pension, the minister said both the views hold validity.

"Rationalisation of pension can be done even as we take care that old and retired people continue to earn a good return on their investments," he said.

Cautioning that no western economy could offer solution on how the "continental sized" Indian economy should be dealt with, the minister said the state will continue to have a role in several key areas of the economy.