The 2017 rollout of the Goods and Services Tax (GST)—hailed as “One Nation, One Tax”—marked India’s biggest tax reform but also triggered tension between the Centre and states over revenue loss and fiscal autonomy.

Persistent Issues

• Withdrawal of Compensation Mechanism: The Centre guaranteed five years of compensation (2017–2022) for states if their revenue growth fell below 14%, funded by a GST Compensation Cess levied on luxury and sin goods.
  • With the compensation now ended, states say they are still losing revenue and see the withdrawal as losing an important financial support.
• Loss of Fiscal Autonomy: States contend that GST has curtailed their authority to vary tax rates, limiting fiscal flexibility.
• GST Council Dynamics: Although states hold two-thirds voting share, the requirement of a 75% majority and Centre’s approval often restricts states’ influence, leaving them with limited decision-making power.
• Quasi-Federal Fiscal Structure: The Centre controls high-revenue subjects (corporate tax, income tax, defence, foreign affairs), while states manage high-expenditure areas (health, education, policing).
  • This creates a persistent fiscal dependency, where states must rely heavily on central transfers despite being responsible for most essential services.
• Exclusion from Divisible Pool: Revenue from cess and surcharge is retained entirely by the Centre, even though the Finance Commission seeks to ensure fair distribution.
• Fiscal asymmetry: Frequent increases in these levies boost the Centre’s revenue while shrinking state funds.
  • Some states, like Bihar, remain over 70% dependent on the Centre, deepening fiscal asymmetry.

Way Forward

• Enhance State Revenues: States should receive a larger share of central taxes and regain limited power to set and adjust tax rates.
• Increase Personal Income Tax Share: A greater portion of personal income tax revenue should flow to the states to improve fiscal self-reliance.
• Adopt the Canadian Model: In Canada, provinces collect 54% of revenue compared to 46% for the Centre, reflecting their higher expenditure responsibilities. India could emulate this to balance revenue and spending.
• Limit Cess and Surcharge Use: Cess and surcharge revenues must be used transparently and included in the divisible pool to prevent excessive central advantage.

Conclusion

Sustaining India’s fiscal federalism requires rebalancing Centre–State revenue powers under GST.

• Empowering states through greater fiscal autonomy and equitable tax sharing is key to strengthening cooperative federalism.

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