Fiscal devolution and federalism may be the government’s buzzwords, but India still taxes and spends money in an extremely centralised way.
The Centre and states spend roughly 15-20 times more per capita on average than a rural local body, according to Economic Survey 2017-18.
The centre spent about Rs15,507, while state governments spent an average of Rs20,840 per citizen a year in 2016-17.
Rural panchayats were able to muster up to Rs999 for each resident living within their administrative jurisdiction. City governments spend about Rs6,000 per resident annually.
Even this limited amount of money that cities and panchayats managed to spend on residents was not raised internally through taxes, the survey points out.
As much as 95% of a rural local government’s budget relies on funds devolved from a higher level of government.
As a result, a third of the rural local government’s budget was tied to a central or state government scheme, leaving them with no say on how the money would be spent, the survey said.
Since there is very little direct connection between citizens and the levers of government that deliver various services, India faces a serious accountability challenge, according to the survey.
The ability to spend is directly linked to the potential to raise revenue through taxes. Comparing India to similar federal democracies such as Germany and Brazil, the survey points out that India’s states raise a very low share of their revenue from direct taxes—about 6% as against Brazil’s 19% and Germany’s 44%.
A panchayat does even worse, managing to raise only Rs59 per resident per year as tax revenue.
“A citizen’s stake in exercising accountability diminishes if he does not pay in a visible and direct way for the services the state commits to providing," the survey said.
While it may be true that taxation powers have not been adequately devolved to lower levels of government in India, an analysis undertaken as part of the survey shows that even in cases where states and local governments do currently have the powers to tax, the realization rate is still quite low.
Based on the estimates, only 7% of land tax is collected by states, and rural local governments collect only a fifth of the potential house/property tax.
The limited ability to collect direct taxes is a “broader challenge" affecting all tiers of government, the survey observed.
Given the quality of public service delivery, such taxes are often viewed as a “tribute" to the state rather than a contribution to and acknowledgement of the state in raising the quality of life, resulting in a middle-class exit to private services that only exacerbates the problem.
Breaking this self-reinforcing cycle is perhaps “the heart of the governance challenge in India," the survey said.
“There is a serious weakness in the statistical system at the panchayat level," said N. R. Bhanumurthy, professor at the National Institute of Public Finance and Policy.
Without adequate data and digitization, governments can’t effectively collect tax, he said.
“This is definitely a serious governance challenge because public expenditure efficiency depends heavily on governance at the local level," he added.