New Finance Commission may penalise states for bad show in schemes

The Commission says incentives for states will be decided, among others, by "control or lack of it in incurring expenditure on populist measures"

States offering debt waivers or slipping on centrally funded programmes, such as Swacch Bharat, could get penalised, according to the terms set for the 15th Finance Commission. 

The terms of reference of the Commission, set up by the central government this week, makes these conditions explicit. These yardsticks are new and stringent than the terms of earlier FCs, say experts associated with the earlier ones. FCs are set up every five years by the central government, a requirement of the country’s Constitution, to decide how tax revenues should be shared between the two layers of government.

After the Planning Commission was wound up in 2014, the responsibility to allocate non-tax revenues has also come under the Commission's purview.

The gazette notification for the 15th FC, to be chaired by N K Singh, former MP and erstwhile secretary to former Prime Minister Atal Bihari Vajpayee, says incentives for states will be decided, among others, by “control or lack of it in incurring expenditure on populist measures.” Simultaneously, the Commission could reward a state for “progress made in sanitation, solid waste management and bringing in behavioural change to end open defecation”. 

The terms do not define what would qualify as a populist measure. Since the dictionary meaning of the term is wide, if a state announces a debt waiver or adds expenditure for specific communities, those could be regarded as populist.

Without getting into specifics, former revenue secretary Sumit Bose, secretary to the 13th FC, said the terms of this Commission were far more expansive than envisaged for the earlier ones. “These conditions will nudge the Commission to reintroduce conditional grants-in-aid for states, a practice that was withdrawn by the previous Commission.” 

The 14th FC under former Reserve Bank governor Y V Reddy had erased the distinction between tax and non-tax revenue, allocating 42 per cent of the combined sum to states. It had described the increased devolution as a “compositional shift in transfers, from grants to tax devolution”. This could change after the 15th FC's award to somewhat like the previous formula of unconditional tax transfer and conditional grants of other sources of revenue to states.  

The decision by the Commission headed by Reddy was a response to successive reports of the Comptroller and Auditor General that had criticised the system of grants-in-aid, asserting it expanded subjectivity in the allocation of finance to states. Typically, central ministries handling social sectors were found to have parked substantial funds with states as grants-in-aid that were then left unutilised. 

Among the other measures for which states could be rewarded under the terms of reference of the 15th FC are those related to deepening of the Goods and Services Tax, progress made in “moving towards replacement rate of population growth” and in improvement in ease of doing business.  The Commission is expected to prepare a measurable performance-based incentive scheme for states on the basis of these and other metrics. 

While FCs do lay down measures to decide how resources allocated for states should be divided among them, those have been traditionally related to objective criteria like changes in population, income distance from national average and forest cover.