In the context of 15th Finance commission ToR, examine the diminishing space of states in federalism. (15 Marks)

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Fiscal relations in India between the union and state governments have undergone significant changes in recent years. The constitution of the 15th Finance Commission (15th FC) and the formulation of its Terms of Reference (TOR), has led to discussions and debates that followed have highlighted many important issues on the very nature of union-state fiscal relations

  • The terms of reference (ToR) of the 15th Finance Commission indicates its push for centralisation and control over state governments.
  • Apart from other controversial features of the ToR, such as those relating to the use of the population base, it involved several points that directly infringed on the policy autonomy of state governments.
  • For example, the commission is supposed to recommend a fiscal road map for “sound fiscal management”, but there is no mention that this should be consistent with “stable and equitable growth”, as it was for previous FCs.
  • Also, for the first time ever, the FC is to examine “whether revenues deficit grants should be provided at all” for state governments.
  • The ToR asks the FC to judge the performance (only for the states, not for the Centre) of fiscal progress according to various indicators such as increasing capital expenditure, eliminating power sector losses, increasing “savings” by adopting Direct Benefit Transfers, promoting digital economy etc.
  • There are numerous problems with this characterisation, including the notion that subsidies (including food subsidies) should be seen only in terms of the fiscal costs and the associated “savings” should be celebrated even when they result from excluding beneficiaries.
  • Another major departure from past practice is the requirement to review the recommendations of the 14th FC that increased the share of the states. Never before has a commission been asked to reconsider the decisions of a previous FC.
  • ToR speaks of controlling “populist measures by the states”, which is not only arbitrary but also interferes directly in policy decisions by the states that may emerge from their democratic mandates and accountability to the people.
  • The additional ToR says that the FC “shall examine whether a separate mechanism for funding of defence and internal security ought to be set up, and if so, how such a mechanism could be operationalised”.
  • This amounts to a clear intrusion of the Centre into the limited fiscal space, by ring-fencing all expenditures related to security from the divisible pool of resources to be shared by the Centre and states, obviously reducing the share of states.

 Way forward

  • to make the FC a permanent body and expand its mandate to undertake the resource allocation role of the erstwhile Planning Commission. 
  • to revive the Inter-State Council as an effective federal decision-making body. 
  • need to arrive at an optimal mix of general and specific purpose transfers without violating the principles of fiscal sustainability at each level of government.

The Finance Commission’s fundamental task is fiscal equalisation across states. The principle of fiscal equalization tries to provide certain levels of resources to each state so that it will be possible to provide an equal provision of public services across all states. 

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