Why 15th Finance Commission should provide states greater resources, autonomy

Bengaluru: Should state governments get less fiscal resources or more? That’s one of the most contentious questions the 15th Finance Commission has to deal with. The Finance Commission will also have to decide to what extent states will have autonomy to use those funds.

The 14th Finance Commission had raised the amount of untied transfers from the centre to states while also reducing some of the centre’s obligations to states. The result was a slight increase in aggregate transfers to states and greater autonomy to use them as they wished.

The 14th Finance Commission recommendations have, however, come under fire from critics who argue the centre needs more resources because of rising obligations and that state governments have been myopic and irresponsible in using funds allotted to them.

A Mint analysis of state finances, however, suggests there are four key reasons states should get more resources and autonomy, not less.

First of all, the rise in devolution to states in 2015-16 appeared to be a sharp jump because 2014-15—the year before the 14th Finance Commission recommendations took effect —was an unusually low year for central transfers to states. Aggregate transfer to states as percentage of gross tax revenues of the centre increased from 55% to 57% between 2014-15 and 2015-16.

However, these levels were much higher in previous years, the share being more than 60% in 2010-11 and 2011-12. It is a similar story with untied transfers, which were much higher in the pre-United Progressive Alliance (UPA) era. Thus, what the 14th Finance Commission recommended marked a return to normalcy, rather than a historic shift.

Second, there is very little evidence to suggest that states are fiscally irresponsible. While the combined deficits of major states did witness a spike in 2016-17, it has since returned to normalcy, data from the latest state budgets show. The spike was also driven by state governments taking over debts of power distribution firms under the UDAY scheme launched by the National Democratic Alliance (NDA) government. Historically, it is state governments who have been far more fiscally conservative than the centre, which also explains why states account for a lower share of the public debt compared to the centre.

Third, states seem to have made good use of the relatively higher fiscal resources at their disposal by spending more on social services. The share of state spending on rural and urban development, sanitation and housing has seen sharp jumps in recent years. While the share of spending on health and family welfare has seen a slight increase, that on education has declined.

A 2017 National Institute of Public Finance and Policy (NIPFP) policy brief co-authored by its researchers Pinaki Chakraborty, Manish Gupta, Lekha Chakraborty and Amandeep Kaur showed that states have increased spending on capital expenditure in recent years, primarily to fund capex in social services such as housing and sanitation.

Finally, data shows that it is the poorer states that have led the surge in social sector spending. Most poor states have seen a visible increase in social sector spending, suggesting these states are actively intervening to reduce the brunt of poverty.

To be sure, when it comes to per capita spending on important social infrastructure such as health and education, poor states still lag behind. But that is partly on account of their high population growth.

While there may be a case for the Finance Commission to nudge states to spend more on health and education, there is little evidence to suggest that states are in general less responsible than the centre in managing fiscal resources.

“Distrusting states by not giving them untied funds is not right,” said Gupta of NIPFP. “If the question is about mismanagement of funds, it can happen on any level of the government.”

At a time when the Indian polity is likely to witness the growing clout of regional parties, any move by the current finance commission to undo the steps taken by the previous finance commission to grant more autonomy to states may also invite a severe political backlash.