The role of the 16th Finance Commission should be to eliminate vertical fiscal imbalance in federal relations.
- The 16th Finance Commission of India was constituted on December 31, 2023, with Dr. Arvind Panagariya as its Chairman.
About Vertical Fiscal Imbalance
- About: Vertical fiscal imbalance refers to a situation in a federal system where there is a mismatch between the revenue-raising powers and expenditure responsibilities of different levels of government.
- Expenditure Data: As the 15th Finance Commission, states incur 61% of the revenue expenditure but collect only 38% of the revenue receipts.
- Dependency: Ability of the States to incur expenditures is dependent on transfers from the Union government.
- Calculating VFI in India: VFI = ORR/ORE
- ORR is the sum of the Own Revenue Receipts and the tax devolution from the Union government for all States.
- ORE is the Own Revenue Expenditure for all States.
- If this ratio is less than 1: It implies that the sum of own revenue receipts and tax devolution of the States is inadequate to meet the ORE of the States
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Agenda For The 16th Finance Commission
Focus Areas
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Description
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| Finance Devolution For Cities |
- Contribution of Indian Cities: Cities contribute around 66% of India’s GDP and about 90% of total government revenues and thus, are an important spatial zone for the overall development of India.
- Concerns:
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- Inadequate Infrastructure: India’s economic scale is insufficient to meet rising needs.
- The World Bank estimates that $840 billion is needed for basic urban infrastructure in the next decade.
- Inadequate Devolution: Despite the efforts of five commissions since the 11th Finance Commission, financial devolution to cities remains inadequate.
- Impact on Development: Rapid urbanisation without appropriate fiscal action has adverse effects on development.
- The fiscal health of municipalities is poor, affecting both city productivity and quality of life.
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| About the Taxation System |
- Impact of Goods and Service Tax (GST): It has reduced ULBs’ tax revenue (excluding property tax) from about 23% in 2012-13 to around 9% in 2017-18.
- Intergovernmental transfers (IGTs) to Urban Local Bodies (ULBs): In India, they are about 0.5% of GDP, much lower than the 2-5% typical of other developing nations.
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- Example: South Africa allocates 2.6%, Mexico 1.6%, the Philippines 2.5%, and Brazil 5.1% of their GDPs to their cities.
- IGTs from States to ULBs are very low, with State Finance Commissions recommending only about 7% of States’ own revenue in 2018-19.
- Concerns:
- Persistency of Issues: Although IGTs make up about 40% of ULBs’ total revenue, issues persist regarding their predictability, earmarking for vulnerable groups, and horizontal equity.
- Parallel Agencies: The 13th Finance Commission observed that “parallel agencies and bodies are emasculating local governments both financially and operationally.”
- Example: Programs like the Member of Parliament Local Area Development Scheme and the Member of Legislative Assembly Local Area Development Scheme exacerbate this issue, distorting the federal structure.
- Need For: IGTs are crucial for ULBs, given their financial state and the need for stable support until their own revenues improve.
- Increasing the quantum of IGTs as a percentage of GDP is necessary.
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| Census and Data |
- Concern:
- Reliance on Older Data: In the absence of the 2021 Census, reliance on 2011 data is inadequate for evidence-based fiscal devolution.
- Need For: India’s town figures must be captured by the 16th FC, including the significant migration to Tier-2 and 3 cities.
- India has approximately 4,000 statutory towns and an equal number of Census towns, with an estimated 23,000 villages, all of which are effectively
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