Sunday, July 25, 2021

Funds issue

The terms of reference of every Finance Commission including the present 15th one, constituted to look into the question of devolution of financial assistance to states of the country have been a source of immense controversy. Whenever the terms of reference have been formulated by the ruling party at the Centre without consulting the states, controversies have arisen and have taken their own time to settle the devolution of funds to the states. In the latest bouts of arguments, southern states in particular are of the opinion that use of 2011 census data for this purpose puts them at disadvantage as they have fared better on family planning and social welfare measures in the later years. The Finance Commission has sought address their concerns in its preliminary report by reducing the population weight from 17.5% to 15% and providing a counter-balance by assigning a weight of 12.5% for their demographic performance. But it is surprising that the interim report has left some uncomfortable issues unanswered, which will need to be resolved in the final report. In fact, the Commission will have to assess the financial position of the Centre and states for devolution of funds from the central pool before finalizing the report and address the concerns of states. Firstly, under the current arrangement, states were supposed to be compensated for any shortfall in their GST collections for a period of five years. While there is little clarity over the Centre’s obligation to compensate states if collections from the compensation cess fall short of what is needed to compensate states for their shortfall in revenue, the five-year compensation period ends in 2022. With GST collections falling short of expectations, states have demanded that the compensation period be extended beyond 2022. However, there is no clear indication either on its continuation after 2022, or whether it will be distributed to states, and if so to what extent. This ambiguity poses a grave risk to finances of the states, impacting both stability and predictability of their budgets. It also makes the job of the Commission to project states’ revenue for the balance period difficult, affecting its ability to make a fair assessment of their requirements. Secondly, in its interim report, the Commission has proposed performance-based incentives for states in six areas, some of them include agriculture and power distribution fall on the State list. While this is not a new proposal – the 13th Finance Commission had provided states incentives for reducing infant mortality – how will this be funded? Will the Commission, while keeping overall transfers to states at the existing level, reduce tax devolution to states, thereby creating fiscal space for providing these incentives? Thirdly, the creation of a separate mechanism for funding defense and internal security, if carved out of gross tax revenues, will further reduce the divisible tax pool that is shared with states by the Centre. A cash-strapped Centre will, no doubt, welcome any proposal that provides it with greater fiscal space. But State financial resources are equally under pressure. As a constitutional body, the Finance Commission should impartially assess the fiscal position and expenditure requirements of both the centre and states before finalizing the report. While the discussions on the financial autonomy to states have been going on under the aegis of the NDA-government, there is a need to re-look at the current mechanism. This is particularly required for the reason that the BJP, which is a major component of the current dispensation, has been vying for greater autonomy to states when it was in the opposition. But after it took over the reins of the government in 2014, all those demands have been dumped and discarded for the reason best known to the political master of the policy makers. It would be in the best interest of the country that consultations should be held with the states for devolution of funds to the states keeping in view their needs for different spheres and their performance. This is the only to address the concerns of the states in a truly federal structure to avoid controversies on this issue.