Shifting towards the Centre

This article raises certain issues relating to the Terms of Reference (ToR) of the Fifteenth Finance Commission (FC-XV) which is underway. While the core duties of the Commission are Constitutionally mandated (Article 280(3)(a) relate to tax devolution), Article 280(3) (d) refers to ‘any other matter referred to the commission by the President in the interests of sound finance’.

Over the years the open provision has progressively swelled in size, quite often biased towards the Centre, sometimes imposing the Centre’s will and ideology on a Commission masquerading under the rubric of the ToR. FC-XV is the worst case falling under this type of narrative. Here I examine the ToR with reference to local governance.

Turning to the ToR of FC-XV, some items seem to give wrong signals, while others are unwarranted and even transgress upon the discretionary domain of the Commission. The lack of an integrated view of federal public finance despite the heralding of the third tier 25 years ago continues to persist.

ToR item 6(i) wants the Commission to estimate the revenue potential and fiscal capacity of the Centre and States. There is no logic in leaving aside the local governments (LGs). The tremendous potential of property tax and professional tax in India remain largely untapped. It is instructive to point out that the Economic Survey 2016-17(chapter 14) and Economic Survey 2017-18 (Chapter 4) draw attention to the high under taxation and great potential of property tax which is a very buoyant source of revenue.

Based on the assessment of 36 cities, FC-XIII estimated that by increasing the compliance rate to 80-85 per cent, the property tax collection could be increased from ₹4,400 crore to ₹22,000 crore. This is a pertinent reminder about the huge tax potential.

ToR item 6(iv) wants the Commission to examine the fiscal impact of the “enhanced tax devolution” of the FC-XIV on the union “coupled with the continuing imperative of the national development programme including New India-2022”.

No value judgments

For one, it is improper for a ToR to express value judgments on earlier Commissions which in this case turns out to be a covert directive to the FC-XV to be cautious. If literally taken, by the Commission it will have great consequence on the LGs whose share was increased 3.5 times compared to FC-XIII.

Two, the period of FC-XIV recommendation ends in 2020 and evaluating its fiscal impact is beyond the purview of this Commission. Third, while “the enhanced” share of 42 per cent by FC-XIV was for meeting both Plan and non-Plan revenue expenditure, the 32 per cent of FC-XIII was only for covering non-Plan revenue expenditure.

Four, the so-called ‘national development programme including India 2022’ is evidently a vision if unfolded in the future in which the union, States and LGs are partners.

Nation-building is not an exclusive project of the Centre, particularly when programme-wise targets and financial allocations remain unspecified. In this context, there is a significant omission in item 5.0 regarding the “ sums to be paid to States in need of assistance” under Article 275. This statement that found a place in all the ToR from the first to the FC-XIV is conspicuously left out. This may be seen along with the last sentence of item 5 mandating to “examine whether revenue deficit grants be provided at all”.

While this is in line with the assumptions and projections of the FRBM Review Committee (that its Chairman NK Singh is the Chairman of the FC-XV may be an unintentional coincidence) which seeks a zero revenue deficit, the moot question is whether India can proceed on the philosophy of ‘minimum state and maximum governance’ which envisages a soft tax regime dominated by indirect taxes and state withdrawal from meeting the minimum needs for health, education, water, sanitation, social security and the like at the local level.

It is easy but dangerous to close your eyes and create darkness and ignore the innumerable unforeseen realities like for example the impact on the resources of local governments in Kerala arising from the presence of around three million in-migrants into the State in recent years. By ignoring the problems of 2.5 lakh panchayats you can stay comfortable with your deficit arithmetic. While fiscal profligacy has to be restrained, people’s sustained welfare cannot be reduced to ratios.

No one can forget the momentous recommendation of FC-XIII to connect LGs to Article 275 while at the same time supporting them through “a predictable and buoyant source of revenue” by aligning it with the divisible pool although it now stands abolished.

Worrying signs

While incentivising and disincentivising mechanisms can be deployed as fiscal policy instruments to influence the behaviour of federal constituents, stretching them too far can be counterproductive, especially when they are provided without sufficient planning and forethought. This is precisely what you see in regard to ToR item 7 and the nine sub-clauses that fall under it. These sub-clauses range from incentivising family planning to controlling ‘populist measures’ (definitions of which could be dangerous weapons in the hands of laissez-faire experts).

One, while you incentivise population control [7(ii)] you have abrogated the long standing practice followed since the FC-VII up to FC-XIV to use 1971 population (see ToR item 8), a decision admittedly taken to encourage those States that have already moved below the replacement rate. This unilateral action (item 8) is against the letter and spirit of cooperative federalism.

Two, 7(vii) for providing grants to “local bodies for basic services including quality of human resources and implementation of performance grant system in improving delivery of services” should not be seen as an isolated task. It is important to acknowledge and consolidate the efforts made by FC-XIII and FC-XIV to improve the quality of basic services and build from there. This as well as several other items of ToR will have to take note of the fundamental principle of cooperative federalism that every citizen should be ensured comparable level of basic services (of course with comparable level of taxation) irrespective of her choice of residential jurisdiction.

The much-needed macro-economic goal of “balanced regional development” cannot be left to the States as implied in ToR 6(iii). When the NITI Aayog is silent on the question of inter-regional equity and the Centre has abolished backward grants and other instrumentalities one remains confused about item 5 of the ToR tasked to usher in “inclusive growth in the country guided by the principle of equity, efficiency and transparency”.

What proportion of your growth goes to build schools, hospitals, houses, drinking water to ensure food security and so on to widen the economic and social opportunities to the poor is a critical factor that remains to be addressed. That under the growth-mediated regime actively pursued in recent times, sharp divergence occurs is a grim reality. The federation demands multi-lateral conversation for meaningful progress.

The writer is an honorary fellow at the Centre for Development Studies, Thiruvananthapuram

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