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Strengthening Links between Central and State Finance Commissions

How may the links between the central and state finance commissions be strengthened?


Strengthening Links between Central and State Finance Commissions

A C Minocha

to the Commission to facilitate its task of recommending devolution of funds from the centre to the states for supplementing the resources of local bodies, on the recommendations of the SFCs. The present writer was co-opted by the expert for the task of drafting his report. The expert was handicapped by more or less the same constraints which the Eleventh FC had encountered. The study of the expert was based on the reports of 20 SFCs of which 13 were of the second SFCs and seven of the first generation SFCs.

How are the different stakeholders expected to perform in the direction of strengthening the organic links between the CFC and SFC?

Role of State Government

I have not much to add to what DB has written except to reiterate some of his points and add one or two more. The state government, besides ensuring functional and financial decentralisation in the state, has to be very careful in selecting the members of the SFC so that it does not become a parking place for accommodating tainted and inexperienced politicians or those who could not be accommodated in the state cabinet and also serving g overnment officers. The SFC needs considerable expertise and competence in the domain of public administration, e conomics, finance and law. The creation of the SFC is not a mere constitutional f ormality but is to be viewed as an important institution in terms of its potential to strengthen the process of democratic d ecentralisation. The Twelfth FC has rightly pointed out that “the delays in the constitution of SFC, their constitution in phases, frequent reconstitution, the qualifications of the persons chosen, delayed submission of reports and delayed tabling of action taken reports in the legislature, have in many cases defeated the very p urpose of this institution”. The state governments are expected to rectify these gaps and deficiencies.

The state governments generally pay more attention to the devolution part of the recommendations of the SFCs and no attention or lesser attention to such recommendations, which are designated

How may the links between the central and state finance commissions be strengthened?

his note is intended to supplement the viewpoint of D Bandyopadhyay (DB), expressed in his article, ‘Guiding Role of Central Finance Commission Regarding State Counterparts’, published in the Economic & Political Weekly (May 31, 2008).

DB has rightly highlighted the fact that the organic link between the two constitutionally created bodies, the central finance commission (CFC) and state finance commission (SFC) has been established by the amendment of Article 280 in 1993, which mandates the CFC to suggest “measures to augment the consolidated fund of a state to supplement the resources of local bodies, on the basis of recommendations of the Finance Commission of the state”. Strengthening the organic link between the two is the responsibility of all the stakeholders, the state government, SFC, central government and CFC. DB has attempted to identify the role of each of these stakeholders in strengthening the link and this note attempts to supplement his presentation.

For the first time, the terms of reference (ToR) of the Eleventh Finance Commission (FC) required it to make recommendations in accordance with the constitutional amendment. But the Commission could not adopt the SFC reports as its basis for its recommendations because of a number of constraints, of which the most important was the non-availability of the reports of SFCs. The Commission was so much disgusted that it went to the extent of recommending the deletion of words “on the recommendations of the SFCs”. However, this is a defeatist viewpoint, which neither DB has supported nor we would support.

The Twelfth FC sought the assistance of an expert who was drafted to provide qualitative as well as quantitative inputs

A C Minocha ( was formerly with the Barkatullah University, Bhopal.

september 20, 2008

Economic & Political Weekly


as “beyond the fiscal package”, with the result that administrative decentralisation and capacity creation at the local level have been neglected. Unless the administrative capacity of panchayati raj institutions (PRIs) and municipalities is adequate enough to receive and utilise the financial resources, not much can be expected from devolution of funds recommended by the SFC and other agencies. This point is substantiated by a number of evaluation reports of such programmes and schemes funded by higher level agencies but implemented by local bodies.

Another important deficiency is highlighted by the expert study. “We regret to mention that not a single SFC included in the present study, while reviewing the finances of the state governments and making recommendations for improving the fiscal health of the state government had a focus on the specific purpose of augmenting the consolidated fund of the states and whatever recommendations they have made or intended to improve the overall fiscal health of the states and not for the specific purpose of supplementing the resources of the local bodies. This may be partly due to the fact that this aspect was not included in the ToR of the SFCs.” The state governments are required to rectify this gap.

Role of State Finance Commissions

Now, a few words about the role of the SFC. Besides supporting whatever DB has written about the role of the SFC, we have to add a few more points with a view to improving the competence of the SFCs so that their reports serve as the basis of recommendations of the CFC. The Twelfth FC has rightly said that the importance of the SFC in the scheme of fiscal decentral isation is “that besides arbitrating on the claim to resources by the state government and local bodies, their recommendations would impart greater stability and predictability to the transfer mechanism. The convention established at the national level accepting the principal recommendations of the FC without modification, however, is not being followed in the states. Often, even the accepted recommendations are not being fully implemented, citing resource constraints and this defeats the very purpose of constituting the SFCs. The situation needs a change”.

It should be made incumbent on the SFC to make available their reports on time to the central FC so that assessment of the needs of the states could be made by the central FC on the basis of certain principles. The synchronisation of the availability of the two reports may be ensured either through a central legislation or an appropriate provision in the Constitution.

Estimating the revenue gap on a normative basis is the major task of the SFC. A perusal of the available reports of the SFCs made by the expert revealed that not all SFCs had made estimates of uncovered fiscal gaps and suggested ways and means to fill up such gaps. Moreover, there has been no uniformity with regard to the approach, methodology and principles governing the estimation of revenue gaps. We admit that the lack of uniformity is bound to characterise the reports of different SFCs because of historical variations in the extent of development of democratic decentralisation in different states. But at the same time, we lay stress on the need for coordination between the approach and methodology deployed in the estimation of revenue gap. Since the central FC is expected to depend largely on the reports of the SFCs, it may be desirable on its part to lay down some guidelines for the SFCs.

In the absence of the availability of reliable estimates of revenue gaps made by the SFCs, the expert had to adopt a rule-ofthe-thumb method for arriving at the aggregate amount needed by all the states for the consideration of the central FC to determine its devolution package for local bodies. The expert arrived at the figure of Rs 74,000 crore for the period of five years, 2005-10 or an average annual amount of Rs 14,800 crore. Against this, the Twelfth FC has recommended a sum of Rs 25,000 crore or an annual average of Rs 5,000 crore for the same period as its devolution package, much less than that recommended by the expert.

Since, the Twelfth FC could not exclusively depend upon the estimates of the expert for obvious reasons, it had to depend upon a number of other sources such as: (1) data collected through its own formats circulated among states; and (2) estimates made by specialised agencies for rural local bodies and the Rakesh Mohan Committee for urban local bodies. Had the SFCs performed their constitutional function of making estimates of uncovered gap between revenue and expenditure of local bodies for their respective states on a normative basis, the central FC would have been considerably facilitated in its constitutional task on a sound basis. Hence, a great responsibility devolves on the SFCs.

CFC and Central Government

There is a need for creating an institutional framework at the central level to guide, coordinate and advise the state governments with respect to the constitution and functioning of the SFCs and the implementation of their reports. The absence of such a mechanism has already created a lot of confusion and also made the task of the central FC difficult.

Another point that we highlight is that while evolving “the devolution index”, one more parameter may be included and that is, the extent of resource mobilisation by local bodies as measured by the increase in the percentage of local tax revenue – GSDP in each state and also the expenditure of local bodies as a percentage of combined expenditure of the central and state governments.

The CFC may institutionalise the devolution of funds from the centre to the state governments for supplementing the resources of local bodies in the form of a certain percentage of tax revenue of the centre, on the same footing as that of devolution to the state governments. Such a step would impart greater sense of partnership among local bodies in the central kitty and also create greater interest in the fiscal health of the central government. We expect that the Thirteenth FC while designing the fiscal package for local bodies will consider these points, with the object of strengthening the organic links between the two commissions.

This note is not intended to curtail the autonomy of the SFCs in the performance of their constitutional obligations but to enhance their usefulness and credibility, thereby strengthening the links between the two commissions.

Economic & Political Weekly

september 20, 2008

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