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Another look at fiscal transfers (15th Finance Commission and Centre-State relations)
Read more on - Polity | Economy | Schemes | S&T | Environment
- Federalism and efficiency : In large nations, federalism as a governing model is popular, as many find it quite efficient. An assumption is that preferences vary across regions, so best to have a federal structure.
- Pre- and Post- independence India : Before 1947, it was assumed that provincial autonomy must be gained, but post-1947, for reasons of defence and security, a stronger Centre was preferred. Since one party ruled most of India in 1950s and 60s, centralisation grew stronger, and economic planning model also deepened that tendency.
- Fiscal federalism : It is the economic side of political federalism, concerned with giving roles to various levels of governments, and the financial resource to carry those out.
- Central government will provide national public goods, e.g. defence services
- Sub-national govts. (States) will provide goods and services in their limited regions
- Tax assignment will be done appropriately, keeping in mind the mobility of economic agents, goods and resources.
- Central government's responsibility : It has to levy non-benefit taxes and taxes on mobile units or resources. But definitions can be varied. In US and Canada, both federal and state govts. have concurrent powers to levy income tax. But in India, only the Union can do it, but is shared with States.
- Constitutional provisions : There are many Articles specifying the taxing powers of Centre and State. Every Finance Commission tries to correct the vertical and horizontal imbalances in India, as per prevailing circumstances.
- Central transfers to States : These happen through
- Finance Commission recommendations,
- Planning Commission (till 2014), and
- Discretionary grants by Central government.
- Facts and numbers :
- For 2010-11, of the combined revenue receipts in India, Centre : State ratio was 64.68% : 35.32%. Once transfers were done, the ratio changed to 40.20% : 59.80%. That is a clear reverse.
- For 2016-17, the final ratio after transfers was 33.37% : 66.63%.
- Ultimately, we have to assess this ratio in light of the ratio of expenditures. For 2014-15, the Centre : State ratio of total expenditures was 41.14% : 58.86%. So there is a reasonable position.
- 14th FC : It tried many new things in resources allocation. The share of tax devolution was increased to 42% of the divisible pool (from the 32% earlier). That increases the amount of unconditional transfers (doesn't really change overall transfers)
- Pressure on Centre : Centrally Sponsored Schemes have grown in recent years, affecting the States' performance. The Centre is often considered responsible for many things including those that fall in the State, or Concurrent lists! (Example : agrarian distress) The 14th FC worked on "how much to be transferred", and "who transfers what".
- End of the Planning Commission : Before the 14th FC, all other FCs kept in mind that some resource allocation happened via the Planning Commission also. But during the tenure of the 14th FC, it ended and was replaced by NITI Aayog with no powers of resource allocation. If some govt. in future revives the planning commission (with financial powers), then what?
- Time for a Constitutional amendment : We can amend it to ensure that proportion of shareable taxes going to State are fixed at a desired level. And, add the cesses and surcharges to the divisible pool (these are huge now).
- 42% can be the magic number : Fixing the division at 42% of the shareable taxes, including cesses and surcharges, is quite proper. Or we can allow states to levy taxes on personal income, with limitations. (like the US model)
- If we do that : If we really go for that, then some transfers will need to be adjusted. Let us start with fixing the ratio first.
- Problems in horizontal distribution : So far, allocations are driven by 'equity considerations'. That is good. But no one can really make all Indian states "equal". The richer States too have many problems, and may feel cheated due to overuse of equity criterion.
- Summary : The process of fiscal transfers from Centre to States is all about balancing multiple interests and creating equity, and the Finance Commissions of India have done that with grace for a long time now.
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