Table of Contents
THE CONTEXT: Indian states ruled by opposition parties are protesting the central government’s distribution of tax revenues and imposition of borrowing limits, raising concerns about fiscal federalism principles.
- Tax Devolution and Revenue Sharing: Karnataka’s Chief Minister protested the Centre’s alleged discrimination in the devolution of tax revenues. The reduction of Karnataka’s share in the divisible tax pool from 4.713 to 3.647 percent between the 14th and 15th Finance Commission awards is a point of contention. This has financial implications for the state, potentially affecting its ability to fund various programs and meet its expenditure needs.
- Borrowing Limits: Kerala’s Chief Minister has moved the Supreme Court against the Centre’s imposing limits on the state’s borrowing powers. The Centre’s actions are seen as encroaching on the state’s fiscal sovereignty, potentially leading to a financial crisis for Kerala by limiting its ability to manage its budget and fund development projects.
- Off-Budget Borrowing: Karnataka and Kerala have engaged in fiscally questionable practices. Kerala has sought to circumvent its net borrowing ceiling by resorting to off-budget loans raised by state-owned entities. This can lead to understating the state’s debt and deficit figures, potentially masking the true extent of its financial liabilities.
- Fiscal Irresponsibility: The ruling Congress in Karnataka has been criticized for its fiscal irresponsibility, particularly for announcing five assembly poll “guarantee” schemes costing the state exchequer an additional Rs 52,000 crore per year. This could exacerbate the state’s financial strain and impact its fiscal sustainability.
- GST and Fiscal Sovereignty: Implementing the Goods and Services Tax (GST) has replaced major sources of revenue for the states, such as the value-added tax. Although the states accepted this loss of fiscal sovereignty through a consensus-building process, there are concerns about the adequacy of compensation for potential revenue losses under the new tax regime.
- Political Implications: The timing of the protests by Karnataka and Kerala, ahead of Lok Sabha elections, and the fact that both states are opposition-ruled suggests a political dimension to these financial disputes. This could lead to politicizing fiscal federalism issues, potentially affecting the cooperative relationship between the Centre and the states.
THE WAY FORWARD:
- GST COUNCIL 2.0: There is a need for a new grand bargain between the Centre and the states to address the issues of tax devolution and resource transfers. This would involve clear and transparent rules for distributing the Centre’s tax proceeds and grants-in-aid.
- Fiscal Equalization: Commissions must move towards fiscal equalization to address the vertical fiscal imbalance. This would require a sense of direction to achieve a more balanced distribution of financial resources between the Centre and the states.
- Transparent Rules for Resource Transfers: The next Finance Commission should frame clear and transparent rules for distributing the Centre’s tax proceeds and grants-in-aid. This would help ensure fairness and equity in the distribution of financial resources.
- Adherence to Fiscal Responsibility: States should strictly adhere to deficit targets and borrowing limits, while the Centre must desist from levying non-sharable cesses and surcharges on taxes. Addressing Fiscal Irresponsibility: States must exercise fiscal responsibility and avoid fiscally irresponsible actions, such as announcing costly guarantee schemes without adequate financial planning.
- Public Support and Effective Implementation: While guarantee schemes may enjoy popular support, ensuring their effective implementation and assessing their impact on public finances is essential. Public opinion and effectiveness assessments should inform the design and implementation of such schemes.
- Cooperative Approach: Both the Centre and the states need to adopt a cooperative approach to address the genuine concerns about fiscal federalism. This would involve constructive dialogue, consensus-building, and a willingness to find mutually acceptable solutions to the financial issues raised.
The states demand fairer, clearer, and more transparent fiscal rules that govern tax devolution and borrowing practices, coupled with a collective call for responsible financial governance and equitable treatment by the Centre to maintain the federal balance.
UPSC PAST YEAR QUESTION:
Q.1) Explain the significance of the 101st Constitutional Amendment Act. To what extent does it reflect the accommodative spirit of federalism? (2023)
Q.2) How have the recommendations of the 14th Finance Commission of India enabled the States to improve their fiscal position? (2021)
MAINS PRACTICE QUESTION:
Q.1) Examine the issues related to vertical and horizontal imbalances in tax devolution in the Indian federation, considering recent events involving state protests and the Centre’s fiscal policies. Critically analyze the role of Finance Commissions and the potential impact of the Goods and Services Tax (GST) on fiscal federalism.
SOURCE:Spread the Word