As 16th FC boosts southern share, delimitation may face fewer hurdles

More than three weeks after the 16th FC's recommendations became public, the southern states are no longer complaining about an unfair deal in the way central taxes are distributed among them

Recommendations of the 16th Finance Commission, whose report became public along with the presentation of the Union Budget for 2026-27 on February 1, have elicited a wide range of comments. Most of these comments, however, have a common theme. They point out how the 16th Finance Commission has made no concession to the demand from some states for either increasing the vertical devolution of central taxes to them from the current share of 41 per cent or including cesses and surcharges while determining what should be the divisible pool of taxes.

 

Nor has the Commission accepted the demand made by some states to raise their share in the divisible pool by abolishing the centrally sponsored schemes (CSS). This was an argument for a decentralised way of implementing schemes, to be chosen by the states depending on their specific needs. The states’ logic was that the Union should not force them to run the CSS, in whose formulation the states have little say but, nevertheless, have to share their cost burden up to about 40 per cent. The Union government, therefore, could have reduced the states’spend on CSS and the money saved could have been used to provide a higher share for the states in the divisible pool.

 

Instead of accepting these demands, the Commission has made several significant changes in the devolution formula. It has introduced a new criterion for determining the horizontal devolution of taxes to states. Doing away with the earlier criterion of tax and fiscal efforts, which had a weight of 2.5 per cent, it has now introduced a new parameter to account for the states’ contribution to national gross domestic product (GDP) with a weight of 10 per cent.

 

This rejig has been managed by reducing the weights assigned to area from 15 per cent to 10 per cent, to demographic performance from 12.5 per cent to 10 per cent, and to income distance from 45 per cent to 42.5 per cent. Simultaneously, the weight for population based on the 2011 Census has been raised from 15 per cent to 17.5 per cent. The only parameter for devolution that has remained unchanged is forest area, whose weight is retained at 10 per cent.

 

The broad objective of these changes appears to be to give more weight to a new performance-based criterion such as the contribution to GDP, without losing focus on equity. For the uninitiated, the parameter of area refers to the land size of a state; demographic performance captures a state’s success in controlling the fertility rate; and income distance shows the gap between a state’s per capita gross state domestic product (GSDP) and the average GSDP of the top three states.

 

What the new parameters for horizontal devolution of taxes have meant for the states is where the substantive implications of the 16th Finance Commission’s recommendations lie from a political economy perspective. Recommendations of any Finance Commission invariably have a strong message for the country’s evolving political economy, whether they come in the form of a sharp 10 percentage point increase in the vertical devolution for states, as was done by the 14th Finance Commission, or in the form of a gradual phase-out of revenue deficit grants, as mandated by the 15th Finance Commission. By that yardstick, the 16th Finance Commission is no exception.

 

Remember that the political economy narrative that dominated the discussion while the 16th Finance Commission was engaging with the states was one of angst and concern expressed by southern states over how they were given a raw deal in spite of their relative economic progress. The parameters for income distance and demographic performance were loaded against the more economically prosperous states in southern India. These southern states, therefore, argued that they should not lose out on their share of the divisible pool of central taxes just because they have been fiscally and socio-economically more responsible and prudent.

 

More than three weeks after the 16th Finance Commission’s recommendations became public, the southern states are no longer complaining about an unfair deal in the way central taxes are distributed among them. Consider the following: Of the 28 states, half have got a higher share in the central taxes, according to the recommendations of the 16th Finance Commission. Of these, as many as five states, which have increased their share in the divisible pool, are from southern India — Andhra Pradesh, Karnataka, Kerala, Tamil Nadu and Telangana.

 

Of course, other states like Assam, Gujarat, Haryana, Himachal Pradesh, Jharkhand, Maharashtra, Mizoram, Punjab and Uttarakhand have also gained. But the fact of five southern states increasing their share is politically significant in light of the narrative prevailing before the recommendations became public.

 

They become even more significant if you consider the fact that as many as five northern states will have a lower share in central taxes in the coming five years from April 2026 to March 2031.  These are states where politically and electorally the Bharatiya Janata Party (BJP) has done quite well in the last few years — Bihar, Chhattisgarh, Madhya Pradesh, Rajasthan and Uttar Pradesh. Yes, the losers also include West Bengal and six of the seven northeastern states of Arunachal Pradesh, Manipur, Meghalaya, Nagaland, Sikkim and Tripura. But equally significant is the fact that the BJP-ruled states of Goa and Odisha also see a decline in their share in the divisible pool of central taxes.

 

The southern states have gained, though marginally, also with respect to the 16th Finance Commission’s decision to implement what the preceding Commission had ordained — gradually phasing out the revenue-deficit grants for states that run a gap between their revenue expenditure and revenue receipts even after receiving their share of central taxes under the devolution formula. Between April 2021 and March 2026, just nine states have accounted for over 84 per cent of the total revenue-deficit grants (about ₹2.95 trillion). Only two southern states figure in this list — Kerala and Andhra Pradesh. With the discontinuation of revenue-deficit grants, obviously, the remaining seven states significantly affected by this decision are West Bengal, Himachal Pradesh, Uttarakhand, Punjab, Tripura, Assam and Rajasthan.

 

Clearly, the political economy implications of the 16th Finance Commission’s recommendations are loud and clear. Northern states, many of them ruled by the BJP, have lost their share in central taxes, just as the southern states have gained in their share in the divisible pool. In the tussle over economic gains, the southern states appear to have emerged as victors. What does this augur for the ensuing battle for political power or electoral gains? Now that the 16th Finance Commission’s recommendations have assuaged the southern states’ sense of economic loss, will the BJP-ruled Union government go in for the much-talked about delimitation, a legal process leading to the redrawing of boundaries for Parliamentary and Assembly constituencies, based on changes in population?

 

An amendment made to the Constitution in 2002 had frozen the redrawing of electoral constituencies till the availability of results from the first Census held after 2026. The Union government will soon begin its exercise for a new Census, which should be completed by 2027, paving the way for undertaking a delimitation exercise. Any delimitation exercise undertaken after 2027 would result in greater electoral power for the northern states, as their population has grown much faster than that of the southern states. The big political economy imponderable is whether granting greater electoral power to northern states after delimitation will be more manageable given that the southern states have been given more economic power with a higher share in central taxes. If that indeed turns out to be true, the recommendations of the 16th Finance Commission would be seen as having addressed a major political economy challenge for the Union government.