Editorials: Not sharing enough

One of the important tasks the 13th Finance Commission, headed by former finance secretary Vijay Kelkar, has to look at is whether the current formula for sharing tax revenue between the Centre and states is working well. As pointed out by Urjit Patel on this page last week, the percentage of taxes shared with the states is now around 26, compared with the 12th Finance Commission recommendation of 30.5 per cent. In other words, though various finance commissions have expanded the divisible pool of taxes to be shared (the 10th brought customs duties and corporate taxes into the divisible pool) and the amount to be shared (the 11th Finance Commission raised the level to 29.5 per cent and the 12th raised it further to 30.5 per cent for the period 2005-06 to 2009-10), the actual percentage that is shared has remained constant. The reason for this is simple — the central government has managed to find new ways each time to ensure that the states don’t get their full dues. When some taxes were kept out of the divisible pool, the Centre focused on raising revenue from those sources. Now that the pool has been expanded, it has taken the form of imposing cesses (on education, for instance) and surcharges (on income tax) that are not mandated to be shared. In addition, there are revenues like the money received from telecom licensees, which too are not shared with states. Dr Patel has calculated that, for 2008-09, this non-divisible pool amounts to around 1.5 per cent of GDP. Given the tax-GDP ratio, that’s probably around 15 per cent of the tax base that remains outside the divisible pool, a level that reflects a sharp increase from previous years.

 

It is of course true that buoyant central tax revenue has meant a fiscal bonanza for the states, and it is this that has caused a sharp improvement in the states’ fiscal position in recent years. Also, as the central government points out, part of the money with the Centre gets back to the states by way of centrally sponsored projects. But the problem with this approach came up at the National Development Council meeting last year, when the Eleventh Five-Year Plan was approved. While the states are funding higher shares of their own Plans, the share of grants has been falling, while the share of “tied” aid is rising. In the Eleventh Plan, the chief ministers pointed out, just 12 per cent of the total assistance to states was untied.

While “tied” aid is still “aid”, the larger point is that it assumes the states are not mature enough to handle their own finances and that only the central government knows best. In any case, “aid” is not a substitute for getting your fair share. Apart from the fact that this goes against the spirit of a federal structure, the other issue that arises out of giving money to states through a host of centrally sponsored schemes is that state finances willy-nilly get tied to central projects, since these have a state-funded component. If the Centre respects the federal structure of the fiscal scheme, it has to adhere to the rules, and not find ways to circumvent them. It must be hoped that the Finance Commission will recommend ways to ensure that the states get their fair share of tax revenues.