Fiscal Federalism and Regional Inequality in India

In all federal structures, the composing units are not self-sufficient financially. But, in India, the economic dependence of states on the centre is rather high because of widespread disparities in their levels of economic development. The federal transfers to the states through the Finance Commission, Planning Commission and centrally-sponsored schemes are investigated. The role of the union government in equitable direct investment, subsidy, and private investment policy for unbiased regional development is also underlined . The data proves that although the Finance Commission’s transfers are progressive, the share of devolution for low-income states is gradually decreasing. Unfortunately, all other transfers and efforts by the centre are regressive to address the regional inequality issues.

The authors are grateful to Tapas K Sen and EPW’s anonymous referee for their insightful comments and suggestions. They are also thankful to Shaibal Gupta for his continued motivation.

The spirit of cooperative federalism is asserted when the central and state governments are equal partners in development. With two major institutional transformations—implementation of the recommendations of the Fourteenth Finance Commission (FC14) and replacement of the Planning Commission by the NITI (National Institution for Transforming India) Aayog—the financial architecture of India has been redefined. The states now have more funds to spend on their priorities instead of depending on the central government. Now, the national objective is cooperative federalism which has initiated the debate for more equitable federal transfer of funds to the states. The Seventh Schedule (Article 246) of the Constitution delineates “the subject matter of laws made by the Parliament and by the Legislatures of the States” through the Union List (List I), State List (List II), and the Concurrent List (List III). In addition to the usual powers over matters related to interstate commerce, the institutions of macroeconomic policy, and defence, all residual powers are placed in the Union List. The union government has wide authority to intervene in affairs of the states and to exercise supervisory control over them. Matters related to land rights, public health and sanitation, agriculture (including agricultural education), irrigation and water use, roads, and local government are placed in the State List. Population control and family planning, education, minor ports, electricity, and trade and supply of certain basic agricultural commodities have been placed in the Concurrent List.

These lists deal with taxation too. The Union List includes, among others, taxes on income (other than agricultural income), wealth tax, estate duty, excise duties, customs duties, and corporation tax. The State List includes land revenue, excise on alcoholic liquors and narcotics, tax on agricultural income, taxes on sales or purchase of goods, taxes on vehicles, professional tax, luxury tax, entertainment tax, stamp duties, etc. The Concurrent List does not include any important taxes.