Table of Contents
THE CONTEXT: Recently, states in the southern India has raised concerns that they have been facing a decline in their share out of the resources transferred from the Centre to the States, from Twelfth Finance Commission to Fifteenth Finance Commission.
ISSUES:
- Imbalance in allocations: There is a perceived imbalance in the distribution of the central tax pool which is creating north south divide. It has been claimed that all five South Indian states (Andhra Pradesh, Karnataka, Kerala, Tamil Nadu, and Telangana) are receiving much less funds.
- Contributions vs. Returns: Southern states are believed to contribute more to the national tax contribution but receive less in return, raising concerns over fiscal federalism and the principle of equity in the distribution of national resources.
- Fall in shares: There has been a steady fall in the share in the case of the southern states, from 19.785% to 15.800% from Twelfth Finance Commission to the Fifteenth Finance Commission. In a comparison of these two Commissions, the northern and eastern States have also lost. The ‘gainer States’ were the hilly, central, and western States including Maharashtra.
- Criteria of allocation: In India, fiscal transfers like revenue-sharing and grants lies on criteria linked to population & suggested by the Finance Commission. As a consequence, southern states that have managed to control their populations receive comparatively fewer financial resources. The high per capita of southern states also acts as a determining factor for less share of the state from Union tax revenue.
1. The distance criterion
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- The shares of individual states in tax devolution depend on the criteria and the weights used by different Commissions.
- The distance criterion has been accorded the highest weight amongst these criteria. Its weight was reduced from 50% to 47.5% by the Thirteenth Finance Commission and further reduced to 45% by the Fifteenth Finance Commission.
- The main reason for the loss of the southern States is the income distance criterion. Distance criterion means that the farther a State is from the highest income State, the higher its share.
- The main reason for the gain of the hilly States is area/forest criterion. Between these two Finance Commissions, the loss to the southern States due to the distance criterion amounted to 8.055%.
2. On population
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- One other criterion that has caused some controversy is population. Until the Fourteenth Finance Commission, the data for the population in 1971 was used.
- For the Fifteenth Finance Commission, data for the population in 2011 was used. However, in order not to penalise States that showed better performance in reducing fertility rates, the demographic change criterion was introduced.
- The joint impact of these two changes has been marginal for all groups of States.
THE WAY FORWARD:
- Review Allocation Criteria: There is a call for the Sixteenth Finance Commission to reconsider the weightages of the allocation criteria to possibly give more importance to demographic performance and tax efficiency. In finding a solution to this issue there is a need to look at the criteria as which states have been gaining and which are losing their share over time, the criteria of horizontal distribution which has led to some States steadily losing their share; and what can be done to reverse this trend. For example, the income distance criterion and cesses and surcharges are areas that need review.
- Need for Dialogue: There is a need for debate on the redistribution of national resources, moving beyond the positions to uphold the principle of equity.
- Cooperative federalism: There is a need for cooperative federalism, where states work together on projects and initiatives that benefit the entire nation. This can facilitate resource sharing and cooperation among states, regardless of their population.
- Special Grants and Assistance: Special grants and financial assistance programs for states that have successfully controlled their population needs to be implemented. These grants can support development initiatives and compensate for reduced fiscal transfers.
- Sustainable Fiscal Adjustment Plan: There is a need to balance short-term and long-term fiscal objectives by taking into account issues of individual states. It can be done by rationalizing tax structure and administration and diversifying revenue sources.
THE CONCLUSION:
The recent debate over fiscal federalism underscores the need for a cooperative federalism model that respects the contributions and needs of all states. The finance commission must evolve a formula to reward the states that have controlled their population financially. Any step towards fiscal devolution must be based on national consensus and the fears of the southern states must be addressed.
UPSC PREVIOUS YEAR QUESTIONS
Q.1 What are the reasons for introducing the Fiscal Responsibility and Budget Management (FRBM) Act, 2003? Discuss its salient features and their effectiveness critically. (2013)
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 There has been a gradual erosion in fiscal allocation by finance commissions to southern states which is creating a north south divide. Critically examine the statement.
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